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EBA consults on NPL Guidelines

EBA consults on NPL Guidelines

The European Banking Authority (EBA) has issued for consultation its Draft Guidelines (PDF 921 KB) on the management of non-performing and forborne exposures. The proposed guidelines specify sound risk management practices for managing non-performing exposures, forborne exposures and foreclosed assets.

Responses are due by 8 June 2018. The EBA aims to finalise the proposed guidelines during the summer of 2018 and to implement the guidelines by 1 January 2019.

The proposed guidelines focus on a bank's strategy for reducing non-performing exposures (NPE); governance and operations of a NPE workout framework; internal control framework and NPE monitoring; and early warning processes and collateral valuation.

The development and operationalisation of an NPE strategy is the core building block of the guidelines for banks' NPE management. The NPE strategy should be built on an assessment of the operating environment, should set out time-bound realistic, yet ambitious reduction targets and consider all available strategic options to reduce NPEs. The guidelines also outline the key elements of the governance and operations of a NPE workout framework, including decision making, the NPE operating model, internal control framework, and NPE monitoring and early warning processes.

The proposed EBA guidelines will apply to all credit institutions in the EU. They are very similar to the European Central Bank's (ECB) NPL guidance that was finalised a year ago, although the ECB's guidance applies only to banks that are directly supervised by the ECB.

There is a threshold 5 percent NPL ratio for the applicability of the guidelines relating to strategy and the operational framework for delivering NPE reductions, but national supervisors are also given discretion to apply these elements of the guidelines to other banks if they detect signals of deteriorating asset quality.

More generally, although the guidelines refer to proportionality this is loosely defined. It therefore remains unclear which guidelines will apply to each bank (in the banks is below the 5 percent threshold), and how intensively they will be applied to smaller banks. This is also likely to differ across EU member states.

Banks that are directly supervised by the ECB will already be familiar with the substance of the EBA's proposed guidelines, and some of them will already be subject to supervisory pressure to reduce their NPLs. However, the ECB guidance has proved to be (and remains) challenging for many of these banks, particularly in demonstrating that a bank's NPE strategy is robust and can be implemented, and in ensuring that the necessary data are available and accurate.

Banks not directly supervised by the ECB are likely to struggle to implement the EBA guidelines.

Banks with significant NPEs in their portfolios should:

  • Analyse potential gaps in their NPE strategy and management against the EBA's proposed guidelines;
  • Assess the effectiveness of their strategies and operational arrangements to manage NPEs, including the range of options for reducing their NPEs (outsourcing of workout function, joint ventures, structured credits and clean sales) and the required resources in terms of people and skills, data and IT systems enhancement, and collateral valuations;
  • Ensure they can meet the enhanced supervisory reporting and public disclosure requirements; 
  • Continue to focus on measures to reduce the flow of new NPEs, including pricing and credit underwriting processes; and 
  • Identify interdependencies with current implementation projects (for example for IFRS 9, definitions of default, and risk data aggregation and reporting) and align these with the actions needed to ensure compliance with the EBA guidelines. 

KPMG member firm experts have already developed and utilised a gap analysis tool for banks to assess themselves against the ECB guidance on NPLs. This tool is being revised to cover the EBA's proposed guidelines.

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