On 4 October 2017 the ECB published an addendum to its Guidance to Banks on non-performing loans (click here to read our earlier report on the guidance). On 5 October 2017, the EBA published its work programme for 2018 which included further work to assist in the resolution of non-performing loans. Both of these documents show the level of importance placed by EU authorities on the reduction of NPL levels held by European institutions. Expect more “encouragement” for banks to deal, one way or another, with their NPLs in 2018.

Addendum to the ECB Guidance to banks on non-performing loans: prudential provisioning backstop for non-performing exposures

As well as adjusting their provisioning levels to comply with IFRS 9, banks which are directly supervised by the ECB are now faced with the possibility that the ECB will introduce quantitative supervisory guidance to supplement its NPL guidance issued in March 2017 which is designed to foster better provisioning practices for NPLs in the future.

The addendum was published for consultation on 4 October and the consultation period runs to 8 December. It will apply to all significant institutions (SIs) which are directly supervised by the ECB and is “non-binding”. However, SIs will be required to explain any deviations annually – a form of comply or explain regime. The addendum was accompanied by some FAQs, but the highlights are as follows:

  • The guidance applies to those loans which are reclassified from performing to non-performing after 1 January 2018.
  • NPL exposures are divided into unsecured, partially secured and fully secured.
    • Even if categorised as fully secured, if the collateral hasn’t been realised for seven years from the date the loan was reclassified as non-performing, the exposure should be treated as unsecured from a prudential perspective. It is immaterial whether the lack of realisation was for a reason outside the bank’s control such as extended court proceedings, or not.
    • unsecured exposures and the unsecured part of a partially secured exposure should be given a prudential provisioning level of 100% after 2 years of being classified as non-performing. That level should be reached gradually from the moment of classification. Similarly, for secured loans, banks should take a gradual, linear approach so that they reach 100% prudential provisioning seven years after classification.
    • the timeframes are to be seen as a way of ensuring banks do not build up aged NPLs with insufficient provision coverage. Proper compliance with current (or soon to be current) accounting and regulatory regimes (including the capital requirements under the CRD) should mean that the backstop dates should have no effect. In other words, the addendum will not result in further provisioning requirements provided the SI is already in compliance with accounting and regulatory regimes.

The FAQs document also looks at what progress has been made, following the introduction of the guidance in march 2017, by SIs to reduce stocks of NPLs. The view is that many banks have made notable progress and submitted credible strategies including reduction plans. However, “…some banks are still not sufficiently focussed and ambitious in reducing their elevated NPL levels”.

EBA work programme for 2018 (in so far as it affects NPLs)

On 5 October 2017, the EBA published its work programme for 2018. The work programme describes the EBA’s objectives for 2018, its expected results and main outputs, which are defined under the EBA’s seven strategic areas for 2017-2020 outlined in its work programme for 2017. One of the strategic areas identified is to identify and analyse trends, potential risks and vulnerabilities, and support efforts to resolve non-performing loans. The report states “NPLs are an impediment to growth in the real economy, and it is important that coordinated efforts are made to resolve the existing stock of NPLs. The EBA will continue to work to improve the functioning of secondary markets for NPL disposals, by developing standardised data templates and disclosures, a blueprint for asset management companies, and guidelines for supervisors and banks on the management of non-performing assets.” The EBA has said previously that a Europe-wide AMV might prove too difficult to establish, so it is interesting to see that it is taking further its proposal to develop a blueprint for Member States to follow when establishing national AMVs.

The report goes on: “The EBA will launch the EU-wide stress test in early 2018. The stress test exercise will be accompanied by disclosure of detailed data on EU banks’ balance sheets, covering their composition of capital, leverage ratios, RWAs by risk type, sovereign exposures, credit risk exposures and non-performing and forborne exposures. The data will also cover market risk and securitisation exposures. One of the key priorities for 2018 is contributing to the Council of the EU’s action plan to tackle NPLs in the EU.”

Finally, one of the priorities identified in the programme is for the EBA to contribute to the European Council’s action plan to tackle NPLs in Europe.