This is only applicable:
- to firms to which CRD IV applies
- to firms that apply International Financial Reporting Standards (IFRS) and so is not applicable to firms that apply UK Generally Accepted Accounting Practice (GAAP)
- for ICAAPs based on accounts as at 31 December 2016 or a later date before 31 December 2017.
Background
IFRS 9 was issued in July 2014 and sets out new rules for accounting for financial instruments, replacing the current rules in IAS 39. Following endorsement for use in the EU, IFRS 9 is effective for annual periods beginning on or after 1 January 2018. The most significant change for banks and building societies relates to the introduction of a forward-looking expected credit loss (ECL) model.
In March 2016, recognising the lead time needed for implementation, we said that firms should not model the impact of IFRS 9 as part of their ICAAP obligations in 2016, but that further guidance would follow on how to incorporate IFRS 9 from 2017 onwards.
This clarification covers the information firms should consider and include in their ICAAP reports (ICAAPs) produced in 2017. The aim is to encourage firms applying IFRS to prepare forecasts for 2018 onwards on an IFRS 9 basis, to reinforce the need to be prepared for the new accounting standard, and to help the firms and PRA size and plan for the impact of IFRS 9. We have an interest in consistent, proportionate and high-quality implementation of IFRS 9, and this clarification recognises that firms will be implementing IFRS 9 processes and practices during 2017 and the quality of information will improve with time. However, firms remain responsible for being prepared for the impact of IFRS 9 on capital resources from 1 January 2018.
In March 2017, the Basel Committee on Banking Supervision released details of standards for transitional arrangements to phase-in the impact of ECL accounting on capital resources. Firms are asked not to factor possible transitional arrangements into their capital estimates at this stage.
This clarification doesn't change the way we set the PRA buffers in 2017 – see Policy Statement 17/15 'Assessing capital adequacy under Pillar 2'. These will remain subject to supervisory decision on a case-by-case basis and will reflect a range of firms’ specific considerations, including the quality of the data used in the ICAAP.
Separate communication is being provided to firms participating in concurrent stress testing and in scope of structural reform. We intend to publish additional clarification for firms participating in concurrent stress testing in due course.
Clarification
For ICAAPs based on accounts as at 31 December 2016 or a later date before 31 December 2017, at a minimum:
- Firms should continue to submit a full set of forecasts on an IAS 39 basis.
- Firms should separately provide reasonable estimates of the day-one impacts of adopting ECL accounting on the balance sheet and capital resources, broken down by material portfolios where possible. (The day-one impact refers to the impact at the start of the annual period beginning on or after 1 January 2018 when the firm expects to first apply IFRS 9). Firms should briefly describe the economic conditions assumed at the time of implementation and discuss how different (e.g. worse) macroeconomic conditions at implementation may affect their impact figures. Firms should not, in their projections under the base case, factor into their estimates using their PRA buffer to absorb the impact of IFRS 9 at implementation. (The PRA buffer is only intended to be used in circumstances beyond the firm's normal and direct control, as set out in paragraphs 5.33-5.36 of Supervisory Statement 31/15 'The Internal Capital Adequacy Assessment Process (ICAAP) and the Supervisory Review and Evaluation Process (SREP)', and is assessed on a firm-by-firm basis). Firms unable to provide this information when submitting their ICAAP should contact their supervisors to discuss a suitable deadline to provide the information at a later stage.
- Firms should discuss in their ICAAP the expected impact of IFRS 9 on their capital plans and stress tests. This should be a qualitative, and where possible a quantitative, assessment of the impact of IFRS 9 on firms' capital needs and implications for capital planning over the ICAAP's horizon.
- Firms should not factor possible transitional arrangements for ECL accounting into their estimates.
Where possible and on a reasonable effort basis, firms that have made sufficient progress in incorporating IFRS 9 into their capital planning and stress testing models should also provide the following additional information:
- Estimates of the forecast impact of adopting ECL accounting on impairment changes and the corresponding impacts on capital resources, over the ICAAP horizon, using firms' own methodology.
- Estimates of how the day one and projected impairment charge impacts might evolve under a severe stress scenario, using firms' own methodology. To benchmark the severity of the stress, firms can refer to the annual cyclical scenario published by the Bank of England or the 2017 stress scenario above.
- Firms unable to provide this additional information when submitting their ICAAP should make that clear in the ICAAP. They may be contacted by their supervisors to agree a suitable deadline to provide the information at a later stage.
Where we deem preparations for implementation of IFRS 9 to be insufficient, we may take action on a firm-by-firm basis.