Bank capital requirements in Switzerland

Capital requirements

Describe the legal and regulatory capital adequacy requirements for banks. Must banks make contingent capital arrangements?

The granting of a banking licence is subject to a minimum equity requirement. The fully paid-up share capital of a Swiss bank must amount to a minimum of 10 million Swiss francs and must not be directly or indirectly financed by the bank, offset against claims of the bank, or secured by assets of the bank. In practice, FINMA determines in each case the appropriate level of capital with regard to the scope of the contemplated activities. Capital adequacy and measurement rules are detailed in the revised CAO, the revised Liquidity Ordinance (LiqO) and the revised FINMA Circular 2015/2 ‘Liquidity risks - banks’ (see question 20).

The current regime provides for minimum capital requirements that call at all times for an aggregate (tier 1 and tier 2) capital ratio of 8 per cent of the bank’s risk-weighted assets. In addition, risk-weighted positions must be covered at a ratio of 4.5 per cent with common equity tier 1 (CET I) capital and at a ratio of 6 per cent with tier 1 capital. Furthermore, banks are to have, from 1 January 2016, a capital buffer in the form of CET I capital between 2.5 and 4.8 per cent of the risk-weighted assets. Finally, under certain circumstances, the Swiss National Bank can request that the Swiss government order that an additional countercyclical buffer of up to 2.5 per cent of all, or certain categories of the risk-weighted assets, be maintained in Switzerland in the form of CET I capital. In February 2013, such a countercyclical buffer was activated at the level of 1 per cent on loans secured against residential properties in Switzerland. On 30 June 2014, as per the request of the Swiss National Bank, the Swiss Federal Council increased the countercyclical buffer at the level of 2 per cent. From 1 July 2016, banks with total assets of at least 250 billion Swiss francs, of which the total foreign commitment amounts to at least 10 billion Swiss francs, or with a total foreign commitment of at least 25 billion Swiss francs, are required to maintain an extended countercyclical buffer in the form of common equity tier 1 capital. Finally, if FINMA deems risks not adequately covered by these capital requirements, it can order banks to maintain additional capital.

In November 2017, the Swiss Federal Council decided to revise the CAO in order to introduce, in addition to the above requirements, a leverage ratio, as well as new risk diversification provisions.

The new leverage ratio entered into force on 1 January 2018. In accordance with Basel III requirements, the revised CAO requires a risk-weighted capital ratio that rises with increasing size, as well as an unweighted capital adequacy requirement for all non-systemically important banks. A safety net in the form of a leverage ratio has been implemented with this capital adequacy requirement based on the leverage ratio. In this context, a minimum core capital (tier 1) to a total exposure ratio of 3 per cent is now required for all non-SIFIs. The revised FINMA Circular 2015/3 ‘Leverage ratio’, which entered into force on 30 June 2018, enables banks to also apply the Basel III standard approach for derivatives when calculating the leverage ratio.

The new risk diversification provisions in the CAO entered into force on 1 January 2019. Under the new rules, risk concentrations will be measured only according to core capital (tier 1), meaning that supplementary capital (tier 2) will generally no longer be taken into account. Moreover, banks will be allowed only very restricted use of models for determining their risk concentrations, as modelling errors have a major impact when calculating these risks. Further changes concern overruns of the upper limits enshrined in the CAO (large exposures exceeding 25 per cent of core capital are generally no longer permitted), the weighting of certain assets, as well as the adjustment of some special rules for systemically important banks. The revised risk diversification provisions in the CAO are supplemented by the revised FINMA Circular 2019/1 ‘Risk diversification - banks’.

In February 2018, the FDF initiated a consultation on further amendments to the CAO. The Swiss Federal Council adopted these amendments to the CAO in November 2018, and they entered into force on 1 January 2019 (see question 20).

As regards quantitative liquidity requirements applied to non-systemic banks, the LiqO was first revised on 1 January 2015 in line with the Basel III requirements in order to introduce two minimum standards: a liquidity coverage ratio (LCR) and a net stable funding ratio (NSFR). The LCR was introduced to ensure that banks hold a liquidity buffer to offset increased net cash outflows under a specified 30-day stress scenario. According to the LiqO, non-systemic banks were to comply with 60 per cent of the LCR’s requirements as of 1 January 2015. By each of the following three years they have to comply with an additional 10 per cent until they have complied with 90 per cent of the LCR’s requirements for 2018 (phase-in until 1 January 2019). The NSFR, which requires non-systemic banks to have sufficient stable funding available to cover illiquid assets, initially had to be implemented in January 2018. However, owing to delays with the introduction of the NSFR in the European Union and the United States, the Swiss Federal Council decided in November 2017, and again In November 2018, to postpone the implementation of the NSFR. The Swiss Federal Council will reassess the situation and decide on the next steps at the end of 2019. It should be noted that the LiqO has been further revised based on practice and feedback since the implementation of the LCR requirement. Since 1 January 2018, the revised LiqO provides for a relaxation of the LCR requirements for small banks. The revised FINMA Circular 2015/2 ‘Liquidity risk - banks’, which also entered into force on 1 January 2018, clarifies, inter alia, the regime applicable to small banks in this context.

With regard to SIFIs, the CAO sets out a specific capital adequacy regime. The latter calls for more stringent requirements as regards the bank’s risk-weighted assets, which broadly comprise a basic requirement of leverage ratio of 4.5 per cent, in line with the Basel III minimum requirements applicable to all banks, an additional component of risk-weighted assets of 12.86 per cent and a surcharge. These requirements must not fall below 3 per cent with respect to the leverage ratio and 8 per cent as regards risk-weighted assets that the SIFI is to maintain at all times. With regard to the surcharge, its size is set with respect to the degree of systemic importance (ie, the total exposure and the market share of the relevant SIFI). As from 1 January 2018, SIFIs may also be subject to a total exposure ratio up to 10 per cent.

SIFIs also have to satisfy countercyclical equity buffers and leverage ratio requirements. In addition to capital, liquidity, organisational and risk diversification requirements, the applicable regime also entails provisions that allow the government to order adjustments to the remuneration system of a bank which would have to rely on government funding.

How are the capital adequacy guidelines enforced?

Enforcement of the capital adequacy requirements is part of the ongoing supervision process aimed at ensuring that the requirements of the banking licence are met. Compliance with capital adequacy requirements has to be reported to the Swiss National Bank on a quarterly basis and is one of the topics addressed in the long-form reports issued by the bank’s external auditors on a yearly basis (see question 9).

What happens in the event that a bank becomes undercapitalised?

FINMA benefits from an exclusive competence to intervene in the event of a bank’s undercapitalisation.

Upon the occurrence of a risk of undercapitalisation or insolvency, FINMA can take various protective measures, such as a moratorium of claims. Further, in case of need, FINMA may appoint a trustee in charge of the bank’s reorganisation. The latter is then to propose to FINMA a reorganisation plan with the purpose of protecting the bank’s creditors. Such a scheme generally aims to recapitalise the bank, for example, through converting debt into equity. As a result of the financial crisis, FINMA was also granted additional powers with a view to increasing the likelihood of successful restructuring of a distressed bank. FINMA may order the transfer of all, or part of the bank’s activities, to a ‘bridge bank’, compel a conversion of certain convertible debt instruments issued by the bank (eg, contingent convertibles) or a reduction (or cancellation) of the bank’s equity capital, or both, and, as an ultima ratio, order the conversion of the bank’s debt obligations into equity. FINMA is also authorised to liquidate insolvent banks, in particular if no reorganisation is possible. These measures are set out in more detail in the FINMA-Bank Insolvency Ordinance.

Moreover, in the context of the entry into force of the Federal Act on Financial Market Infrastructure, the Federal Banking Act and Ordinance have been amended in order to allow FINMA to couple any protective measure or reorganisation measure with a temporary stay of any contractual termination or termination right of a counterparty with respect to any contracts or the exercise of certain netting, realisation and transfer rights (which prevail in the absence of a stay ordered by FINMA) for up to 48 hours. In this context, the Banking Ordinance generally requires, for enforceability purposes, that banks only enter into new agreements or agree to amendments to agreements, which are subject to foreign law or provide for a foreign jurisdiction, provided the counterparty acknowledges FINMA’s stay right. This obligation has been further specified in the revised FINMA-Bank Insolvency Ordinance, which entered into force in April 2017. According to this revised text, agreements entered into by foreign group entities are only subject to this obligation if the respective financial contract was guaranteed or otherwise secured by a bank or securities dealer whose seat is in Switzerland.

What are the legal and regulatory processes in the event that a bank becomes insolvent?

FINMA benefits from the power to intervene in the event a bank becomes insolvent. See questions 13 and 18 for the intervention tools that are available to FINMA.

Have capital adequacy guidelines changed, or are they expected to change in the near future?

In addition to the special capital adequacy regime and the leverage ratio regime imposed on Swiss SIFIs (see question 16), FINMA implemented capital adequacy and liquidity rules in line with international standards (see question 16). In order for banks to build up the required capital and replace or phase out capital that no longer qualifies under the new rules, transitional rules provide for an implementation schedule over a time period stretching to 2019.

The evolution of the standards issued by the Basel Committee on Banking Supervision, changes to the Banking Ordinance and the CAO, as well as amended international accounting standards, have necessitated changes to a number of FINMA circulars (ie, 2008/6 ‘Interest rate risks - banks’, 2011/2 ‘Capital buffer and capital planning - banks’, 2013/1 ‘Eligible capital - banks’, 2016/1 ‘Disclosure - banks’, 2017/7 ‘Credit risks - banks’). A consultation was opened until the end of January 2018 for this purpose. The FINMA Circular 2008/6 ‘Interest rate risks - banks’ has been replaced by the new FINMA Circular 2019/2 ‘Interest rate risks - banks’, which entered into force on 1 January 2019. The FINMA Circulars 2011/2 ‘Capital buffer and capital planning - banks’, 2013/1 ‘Eligible capital - banks’, 2016/1 ‘Disclosure - banks’ and 2017/7 ‘Credit risks - banks’ were all amended in June 2018. The revised versions of these Circulars entered into force on 1 January 2019.

This revision package is one of the last steps in the national implementation of the Basel III standards. The implementation of the net stable funding ratio (NSFR) (see question 16) and the revised standards published by the Basel Committee in December 2017 are still pending. These will be handled under the lead of the FDF via amendments to the relevant Federal Council ordinances and associated FINMA circulars.

In February 2018, the FDF initiated a consultation on further amendments to the CAO. In November 2018, the Swiss Federal Council adopted the relevant amendments to the CAO, which entered into force on 1 January 2019. The revision focuses on capital requirements for any restructuring and resolution (gone concern requirements). Following the introduction of such gone concern capital requirements for UBS and Credit Suisse in 2016, these now also apply to the domestically focused systemically important banks (ie, PostFinance AG, Raiffeisen and Zürcher Kantonalbank). The amended CAO also provides for new rules for the treatment of systemically important banks’ stakes in their subsidiaries (see question 5).