BRRD2 Art. 45f(6) defines the boundaries for the approach to be developed by EBA, i.e. it shall consist of a deduction regime or an equivalently robust approach and shall ensure an outcome equivalent to that of a full direct subscription by the resolution entity.
The aim is to have sufficient capacity available at the level of each entity, and in particular to avoid any double counting at the level of the intermediate entity. Furthermore, it is our understanding that the proposed approach only applies to MREL (subject to BRRD Art. 45f) and not to COREP reporting (subject to CRR Art. 49.2), hence introducing different amounts of own funds and RWA for MREL purposes compared to own funds.
It is our understanding that the approach aims for a MREL ratio of the intermediate entity on its own, as if its subsidiaries were non-existing. The current EBA proposal does not satisfy this aim to avoid double-counting at the level of the intermediate entity. The root cause is to be found in the fact that intragroup exposures to its subsidiaries other than internal MREL (e.g. funding provided to them) remain risk weighted in the MREL of the intermediate entity on an individual basis. As a consequence, there is a double-counting of the MREL requirement for the subsidiaries at the level of the intermediate entity (as the MREL need based on the balance sheet of that subsidiary is already deducted from the available MREL). The more a subsidiary depends on intragroup funding, the more the MREL requirement of the intermediate entity will increase. In particular in a SPE context, such amounts can be material given the centralized ALM and liquidity management.
This issue is demonstrated in the attached file, using an illustrative example in which all businesses are capitalized at 25% MREL as % of RWA. Assuming the EBA/CP/2020/18 approach, the resolution entity (consolidated level), the intermediate entity (consolidated level) and the subsidiary (individual level) all have a 25% MREL ratio. However, the intermediate entity (at individual level) does not and shows a lower MREL ratio (due to the RWA on intragroup funding).
The issue can be remedied by assigning a 0% risk weight on all intragroup exposures. Article 2 pt. 3 could be rephrased as follows: “The Resolution Authority shall request from the Competent Authority the application of a risk weight of 0% by the intermediate entity to all intragroup exposures for the purpose of Article 45f of Directive 2014/59/EU.”
Furthermore, the illustrative example also demonstrates the need not only to adjust RWA but also all other metrics used as denominator to express MREL, i.e. the leverage ratio exposure amount (LRE) and total liabilities and own funds (TLOF). In the illustrative example, all business are at 12.5% MREL as % of TLOF. Similarly as argued above, all intragroup exposures need to be excluded from the LRE and TLOF amounts of the intermediate entity on an individual basis when a deduction approach is applied in the numerator (available MREL). Appropriate wording to achieve this should be added in the RTS.
Given the above issues, there might be a more simpler approach: intermediate entities should comply with MREL on a sub-consolidated basis instead of on an individual basis. This view already exists and by design adequately reflects the situation of the intermediate entity (all intragroup flows are eliminated). Such decision currently is at the discretion of the competent resolution authority. From a level playing field perspective, we suggest making the sub-consolidated approach mandatory for intermediate entities.
KBC has a HoldCo structure: KBC Group is the resolution entity (issuing capital & MREL externally) and down-streams this to KBC Bank and KBC Insurance. KBC Bank and KBC Insurance both have their own business activities and are also the parent entity for the subsidiaries in respectively banking and insurance.
KBC Bank is to be considered as a “intermediate” entity based on EBA/CP/2020/18. As such, all internal MREL down-streamed to subsidiaries will be in scope for the deduction approach at the level of KBC Bank. A similar situation may arise at lower levels (e.g. CSOB), where a subsidiary has to further down-stream MREL (to subsidiaries of CSOB).
It is KBC’s intention to downstream MREL along the existing legal structure rather to issue directly to the resolution entity. As such, the group structure is not affected in case a bail-in is implemented. Directly issuing from subsidiaries to the resolution entity would imply a change of ownership for the subsidiary when a bail-in is applied.
The proposed deduction approach creates an estimated € 3.4 bn. additional MREL need at KBC Bank on an individual basis, of which €2.9 bn. relates to the remaining double counting in MREL requirements as explained under question 1 (without mitigating actions). This would require KBC Group to issue significantly more MREL than needed on the basis of its consolidated figures.
Typically, HoldCo structures (such as KBC) are affected significantly by this consultation paper; we expect the impact for OpCo structures to be far less material because the deduction approach only applies at intermediate levels; it does not apply at the resolution entity level. As such, the proposed approach does not safeguard a level playing field: identical businesses should have the same MREL, irrespective of the legal structure (OpCo or HoldCo).
The illustrative example in the attached file demonstrates the unlevel playing field. The example compares two identical business, all capitalized at 25% MREL: one is organised in a OpCo structure (left side), the other is organised in HoldCo structure (right side). In a HoldCo approach, the intermediate entity is subject to MREL on an individual basis. When moving to an OpCo approach (i.e. through a merger of the holding company with the intermediate entity), the former intermediate entity becomes the resolution entity and hence subject to MREL at a consolidated level. Although the business are identical (there is no difference in the consolidated figures), the MREL need changes. In the HoldCo structure, the intermediate entity does not reach 25% MREL (on an individual basis), while it does so in the OpCo approach (consolidated level). As suggested under point 1, the issue can be remedied by (i) assigning a 0% risk weight on all intragroup exposures and excluding intra-group exposures from LRE & TLOF for the purpose of the MREL ratio or (ii) by requiring intermediate entities to comply with MREL on a sub-consolidated basis.
We do not have intermediate entities that are un-regulated or located in a non-EU jurisdiction.
The CA only requires a sub-consolidated MREL for CSOB in Czech Republic and for K&H in Hungary; in both cases P2R & CBR do apply (while there is no P2R at their individual level).
In case the proposed change cfr. point 1 is not withheld, legislation would not be neutral re. OpCo vs. HoldCo approaches: the proposed deduction approach may be a strong incentive to abandon HoldCo structures. However, in our opinion, HoldCo structures are more simple to resolve (with less potential NCWO issues).
Implementing a switch of the point of entry from the HoldCo level to the Opco level is a complex operation with a lot of stakeholders to be involved.
We are available to organise a conference call to further clarify and discuss the issues raised in this response.