Memorandum To: CRSG

Date: 15 August 2005

From: Maria Khan
cc: Basel Implementation Project Board.

Approvals Process Working Group.

Subject: Response to BBA's FAQs

This paper outlines our draft responses to BBA's FAQs concerning the Approvals Process and Rollout. The CRSG is asked to comment on these proposed answers before they are formalised for publication on the FSA website.

BBA FAQ: Question 1

Firms would appreciate guidance on how the IRB Waiver Application process will work when they intend to apply for Advanced IRB on 1 January 2008, with a 3 year roll out plan which envisages some businesses transitioning to AIRBA through Foundation. An example of the scenario we have in mind is given below:-

 
1 Jan 2008 2009 2010 2011
Standardised 20% 20% 15% 5%
FIRBA 20% 10% 5% 5%
AIRBA 60% 70% 80% 90%

 

In these circumstances, would a firm need to complete an application in 2005 for the businesses initially on FIRBA with a further application in 2006 for the AIRB portfolios, or would one waiver application in 2006 suffice?

If a firm wanted to adopt FIRBA in 2007 voluntarily (or, in the case of an overseas business, was forced to do so by a host regulator) would it be necessary in those circumstances to submit two waiver applications to the FSA?

Are there any circumstances where the FSA could envisage asking for two waiver applications during the roll-out period, for example major takeovers or mergers?

What is the position for the Standardised and FIRBA portfolios in 2007? Can they stay on Basel 1 until 2008 and firms calculate capital using Basel 1 or would they have to convert to Basel 2 in 2007?

BBA's Ideal Answer

Firms wanting to adopt the advanced IRB roll-out approach from 2008 need only submit one waiver application in 2006, even if some portfolios will be on Foundation IRB for a transitional period. Firms in this position can continue to calculate capital using Basel I during 2007.

FSA Response

Question 1.a)

The question implies that, during the roll out of an AIRB approach, firms might have simultaneously had some portfolios on Foundation and some on Advanced. We assume that Retail portfolios are treated as either Standardised or Retail IRB only (i.e. use of own estimates of PD, LGD and EAD) and that the portfolios envisaged being on FIRB are non-retail only.

Policy Response: In such a case it would be permissible for firms to achieve AIRB roll-out for non-retail portfolios by first rolling out to FIRB (without using this for capital calculations) and subsequently to Advanced. BIPRU 4.2.17(4) envisages that firms could be using Standardised, Foundation and Advanced approaches simultaneously. However, institutions with AIRB approval would not to retain a certain proportion of their portfolio on FIRB permanently [BIPRU 4.2.17(4)]. The only exception to this would be for portfolios falling under the permanent partial use exemptions, as these could remain on FIRB permanently.

Proposed Response

The question appears to be based on an assumption that no use of IRB will be made during 2007. In that case, Wave 7 is the appropriate timeline for applications, and just one application need be made. The firm can, if it wishes, propose a roll-out plan under which non-retail portfolios move first from Standardised to Foundation and then from Foundation to Advanced. As per BIPRU (4.2), institutions will be allowed to have a mixture of all three approaches (partial use) during the rollout period. However, they will not be able to continue with such a combination permanently except to the extent permitted under the 15% permanent partial use exemption in BIPRU 4.2.28. For Retail portfolios there is no distinction between Foundation and Advanced and so the roll-out plan would need to see these portfolios move directly from Standardised to the Retail IRB approach, i.e. using own estimates of PD, LGD and conversion factor simultaneously.

Question 1.b)

Proposed response

As retail portfolios would need to move directly from the standardised to Retail IRB approach, the response assumes that this question relates to non-retail portfolios that want to use FIRB in capital calculations in 2007 and subsequently move on to the AIRB approach.

Firms can make a single application in Wave 1 (or Wave 3 or 4 if appropriate) including the application for Advanced. A decision will be first made on the Retail and FIRB for non-Retail components; a separate subsequent decision will be made on the AIRB elements application in accordance with Wave 6 or Wave 7: decisions on the use of LGD and conversion factors for non-Retail will not be made until mid 2007. This means that the FSA reserves the right to either ask for updated information or for a fresh application to be made, in respect of the LGD and conversion factor elements.

If a firm wishes to use Retail IRB from 1/1/2007 and Foundation or Advanced non-Retail for 1/1/2008, the firm should make clear in its initial application, including in the rollout plan submitted with the application, what it plans to do with its non-Retail portfolios. The FSA may choose to make a decision on the non-retail portfolios on the basis of the application pack and its review work. An alternative is for the FSA to make a decision to grant approval for Retail only, but to attach a condition to the waiver to effect that firm will need to apply for and gain IRB approval covering its non-Retail portfolios. Firms who are considering such a split rollout procedure should consult with their line supervisor.

Question 1.c)

Proposed response

We expect to deal with mergers and acquisitions on a case by case basis and as part of the wider assessment of the M&A. As outlined in BIPRU (4.2.31 G), banks cannot be permitted to remain on a mixture indefinitely. We anticipate that when an IRB institution takes over a non-IRB one, the extension of the IRB approval to cover the acquired institution could be covered by the submission of an acceptable rollout plan. When a non-IRB institution takes over an IRB institution, a new application will need to be submitted by that institution, if the firm wishes to use IRB on a consolidated basis. In the case of a merger of equals, a new application may or may not need to be submitted, depending on the circumstances and characteristics of the merger.

Question 1.d

Proposed Response

Where firms wish to use the Standardised approach during 2007, they have the option of using the Basel 1 calculations instead of the new Standardised approach for that year. The question is not relevant to portfolios on FIRB during 2007.