Effects of CRD IV on a €125k IFPRU Limited

Effects of CRD IV on a €125k IFPRU Limited Licence Investment
Firm
Introduction
MiFID Investment Firms which, among other MiFID Activities, Safeguard and Administer Client
Assets/Money but do not Deal on Own Account, are subject to the new Capital Requirements
Directive (CRD IV) with effect from 1 January 2014. This paper highlights and summarises the key
affect of this on and requirements of this on such Firms.
The key areas of note which may have impact on these Firms are the removal of Tier 3 capital,
ending of the ability to use the Simplified approach to calculate Credit Risk Weightings, the change
the in the method of calculating Regulatory Capital Requirements (including additional Buffers),
Country-by-Country Reporting and the requirement to make certain regulatory reports in a
specified data format (XBRL).
What is CRD IV
CRD IV is the EU implementation of Basel III which is a global Accord via the Basel Committee on
Banking Supervision in response to the financial crisis. Basel III contains a package of proposals to
increase the prudential soundness of Banks, and its implementation in the EU is designed to also
cover certain MiFID Investment Firms (approx. 1,500 out of the 2,400 MiFID Firms in the UK, who
are prudentially regulated by the FCA).
CRD IV entirely replaces previous CRD (i.e. CRD, CRDII, CRDIII, BCD and CAD) and introduces
entirely new prudential requirements; however, many remain essentially the same. CRD IV increases
the quality of capital that Firms are required to hold, and introduces Systemic and Cyclical Capital
Buffers for some Firms. It also introduces a substantially revised EU wide liquidity regime.
Governance requirements are also being introduced as part of CRD itself for the first time, including
the introduction of “bonus limits”
How is it implemented?
The ‘CRD IV Package’ is comprised as:


the Capital Requirements Directive (Directive 2013/36/EU)
the Capital Requirements Regulation (Regulation (EU) No 575/2013).
The Capital Requirements Regulation (‘CRR’) is directly binding on ‘in scope’ Firms, and does not
need to be implemented by the FCA (or via UK Regulation). However, the FCA is transposing the
Directive in to the FCA Handbook, along with a limited number of discretionary policies and
Derogations available to Member States in the CRR.
In scope Firms must, therefore, refer directly to the CRR, supplemented by EBA technical standards
and the FCA’s rules/guidance in a new Sourcebook, the Investment Firms Prudential Sourcebook
(‘IFPRU’).
When will it be implemented?
The CRDIV Package came into force on 1 January 2014, however, for some rules there may be
transitional provisions which will delay the full implementation of that element.
Key Changes
Key changes resulting from the CRDIV Package are as follows:
1. Change to Prudential Category and Prudential Rules applicable to Firms. From 1 January
2014 MiFID Limited Investment Firms will be classified as IFPRU 125K Limited Licence
Investment Firms and become subject to the requirements laid down in the IFPRU
Sourcebook as well as the CRR requirements as detailed above.
2. Treatment of Deferred Tax Assets – Deferred Tax Assets are to be deducted from
Common Equity Tier One (‘CET1’) Capital where they derive from future profits. But the
full impact of this provision is deferred until 31 December 2017 or 2023. Between 1 January
2014 and 31 December 2023, for DTA’s which are derived up to 31 December 2013, and to
31 December 2017 for DTA’s which are derived post 31 December 2013, these DTA’s are
subject to Transitional Provisions which have been confirmed as applicable in the UK
respectively in IFPRU TP4.6 and TP4.7).
3. CRDIII Tier 3 Capital - Tier 3 Capital will no longer be eligible capital. IFPRU Firm’s with
Short Term Subordinated Debt will no longer be able to include this within the Firm’s
Capital (currentlty permitted at Upper Tier 3).
4. Changes in way in which the Own Funds Requirement (i.e. that previously known as the
Capital Resource Requirements) are calculated – will be now based on Risk Weighted
Exposures.
5. The FCA’s Simplified approach to Credit Risk, as set out in BIPRU 3.5, is not permitted
within CRR, instead Firms will need to use the Standardised Approach.
6. Bonus Limits – this limits the amount of Variable Remuneration that can be paid as a
proportion of Fixed Remuneration (1:1 to 1:2 ratio of Fixed to Variable Remuneration) but
this is subject to the application of proportionality provisions.
7. CRD Capital Buffers – Limited Licence IFPRU Firms are not subject to these buffers.
8. The implementation of a new basis of Regulatory Reporting – CoRep and, possibly, FinRep.
Prudential Categorisation
Firms which were classified as a €125k BIPRU Limited Licence Investment Firms are now classified
as IFPRU Limited Licence Investment Firms from 1 January 2014.
There is a further sub-categorisation of IFPRU Firm; Significant IFPRU Firm. An IFPRU Firm will only
fall within this definition if it meets any one, or more, of the following conditions:a. Total Assets exceeds £530 million;
b. Total Liabilities exceeds £380 million;
c. the Annual Fees and Commission Income it receives in relation to the
Regulated Activities carried on by the Firm exceeds £160 million in the
12 month period immediately preceding the date the Firm is required to carry out
the assessment on a rolling basis;
d. Client Money that it receives or holds exceeds £425 million; and
e. Assets belonging to its Clients that it holds in the course of, or connected with, its
Regulated Activities exceeds £7.8 billion.
Falling outside of the definition of Significant IFPRU Firm means that certain more onerous
requirements will not apply to these standard IFPRU Investment Firms.
CRDIII Tier 3 Capital
As mentioned above CRDIII Tier 3 Capital will no longer be eligible as Own Funds (i.e. Regulatory
Capital) for all Firms, not just IFPRU Firms. Therefore, Short Term Subordinated Debt (i.e. with an
initial term of between 2 and 5 years) will no longer count towards Total Own Funds.
Changes in calculation basis of Own Funds Requirement
The mechanics of the Own Funds Requirement calculation will differ with IFPRU Firms having to
translate their capital requirements into a Risk Weighted Exposure (‘RWE’) equivalent. IFPRU Firms
are then required to hold at Common Equity Tier 1 Capital of at least 4.5% of RWE, at Tier 1
(which is the sum of CET1 and T1 qualifying assets) 6% of RWE and of Total Own Funds (which is
the sum of all eligible Own Fund incl. eligible Tier 2) 8% of RWE. To clarify, a Firm may meet all of
its Own Fund Requirements via CET1, they are not required to maintain different categories of
Capital in order to meet these obligations. We have demonstrated these requirements and
calculations on the attached spreadsheet and can provide further advice and guidance in relation to
the method behind these calculations.
Standardised approach to Credit Risk
Firm’s which were previously permitted to use the Simplified approach to establishing its Credit Risk
Exposure Weighting will now need to move to, at least, the CRR’s Standardised approach from 1
January 2014.
Under the Standardised approach Firms are required to weight Exposures by taking account of the
entity to which it is exposed to in line with that entities Credit Rating. As the majority of Firm’s
Exposures are to Institutions then the overall capital requirement should not likely increase
materially.
Cyclical and Systemic Capital Buffers
The Directive introduces formal Cyclical and Systemic Capital Buffers as a response to the financial
crisis, both to provide a greater ‘cushion’ to absorb losses and to help address the pro-cyclical
mechanisms that contributed to its origins and aggravated its effect. There are up to five possible
separate capital buffers, which together make up the Combined Buffer (CB) requirement; the
Combined Buffer must then be met by holding sufficient Common Equity Tier 1 (CET 1) capital.
None of these Capital Buffers will apply to IFPRU Limited Licence (or Limited Activity) Investment
Firms as the UK adopted the Derogation permitted which permitted this under CRR.
Variable Remuneration Limit
Variable Remuneration will limited to a proportion that represents 100% of Fixed Remuneration (or
200% of Fixed Remuneration where certain conditions are met). The FCA has issued
Proportionality Guidance where it may be possible to disapply the Variable Remuneration Limit on
grounds of ‘proportionality’.
Country by Country Reporting
IFPRU Firms will be subject to CRR Art. 89. This requires Institutions to disclose certain
information publically. The UK has issued its Country by Country Reporting Regulations. In
summary the items which each Institution and by any of its Branches and Subsidiaries (if it has them),
must disclose at each level are;






Names, nature of activities and geographical location (of the Institution and at
Subsidiary/Branch level);
Turnover;
Number of employees on a full time equivalent basis;
Profit or loss before tax;
Tax on profits or loss; and
Public subsidies received.
Regulatory Reporting
IFPRU Firms will, automatically, be subject to CoRep and, possibly, FinRep. CRDIV requires all EEA
States adopt the EU’s existing Regulatory Reporting process (the UK has, hitherto, opted out of
this). However, Firms, may well not be subject to FinRep, as these are only required at
Consolidation Group level, not at solo level, where its Shares are Admitted to Trading on a
Regulated/Prescribed Market and adopts IFRS Accounting Standards.
However, all IFPRU Firms will be subject to CoRep. These Firms will need to submit the new CoRep
Templates, electronically via GABRIEL, in XBRL format. Kinetic Partners can provide details of a
number of companies which can assist with the translation of a Firm’s existing Capital spreadsheet
into the correct format. The first CoRep reporting will commence from Reporting Date 31 March
2014, on this first occasion, this report will need to be submitted no later than 30 May 2014.
Ordinarily, thereafter, CoRep Reports must be submitted by defined dates, which are,
approximately, one month after its corresponding Reporting Date.
The table below details the changes for IFPRU Firms. We have highlighted in red those reporting
requirements that are applicable to IFPRU Firms.
Data items replaced for
CRDIV Firms
Data items that remain for Data items unaffected by
CRDIV Firms but
COREP/FINREP
application differs under
CRDIV rules
FSA003 - Capital Adequacy (is
FSA005 - Market Risk: Only 2
replaced by COREP Own Funds) data elements for Capital Addons will be completed
FSA004 - Credit Risk
FSA006 - Market Risk (supp.):
Retained to support RNIV
FSA005 - Market Risk
Framework
FSA007 - Operational Risk
FSA045 - IRB Portfolio Data:
Guidance will change
FSA028 - Non EEA Sub groups
FSA018 – UKIGs Large
CRD:
FSA001 Balance Sheet
FSA002 Income Statement
FSA014 - Forecast data
FSA015 - Sectoral analysis
FSA016 - Solo consolidation
FSA045 - IRB Portfolio Data
FSA046 - Securitisation
FSA058 – Securitisation
FSA017 - Interest rate gap
exposures: Guidance will
change as this will be applied to
entities with Core UK Group
FSA019 - Pillar 2 Questions
and Non-Core LE Group
Waiver
LIQUIDITY
FSA011, 047 – 055
COREP LE
FSA008 - Large Exposures
(Applies to PRA Firms Only At Non CRD:
Present)
FSA029 - 042
Payment Services:
FINREP - CONSILIDATED
RETURNS WHEN USING
IFRS
FSA056 / 057
FSA001 Balance Sheet
RMAR
FSA002 Income Statement
Complaints
MLAR
all other data items not
explicitly mentioned are
unaffected
Limited Licence Pillar 1
Capital
Eligible LLP Member/Eligible Partner/Ordinary Share Capital CRR Part 2, Chapter 2
3,000,000
Share Premium Account CRR Part 2, Chapter 2
2,000,000
CET1
Audited Reserves CRR Part 2, Chapter 2
4.50%
1,500,000
0
Intangible Assets CRR Part 2, Chapter 2
(200,000)
Deferred Tax Assets CRR Part 2, Chapter 2
[xxxxxx] CRR Part 2, Chapter 2
(234,000)
0
Perpetual Non-Cumulative Prefs CRR Part 2, Chapter 3
200,000
Deductions CRR Part 2, Chapter 3
(20,000)
Deductions
T1
6.00%
6,066,000 Net CET1
0
Qualifying Long Term Subordinated Debt CRR Part 2, Chapter 4
100,000
Deductions CRR Part 2, Chapter 4
(50,000)
T2
6,500,000 Total CET1
180,000 Total T1
0
Total Capital
50,000
6,296,000 Total Capital
8.00%
Risk
Requirement
CRR Reference
Requirement
Element
Exposure
Weighted
RWE
Exposure
Factor
('RWE')
Credit Risk
Trading Book
Risk Weighted Exposure Amount
CRR 92(3)(a)
CRR Title II
2,771,243
2,771,243
100%
Market Risk Own Funds Requirement
CRR 92(3)(b)
CRR Title IV
0
0
1250%
Large Exposure Concentration Risk Own Funds Requirement
CRR 92(3)(b)
CRR Art. 395/401
0
0
1250%
Foreign Currency Own Funds Requirement
CRR 92(3)(c)
CRR Art. 351
0
23,456
1250%
CRR 92(3)(c)
CRR Title V
0
0
1250%
Commodity Risk Own Funds Requirement
CRR 92(3)(c)
CRR Art. 356
0
0
1250%
Own Funds Requirement
CRR 92(3)(d)
CRR Title VI
0
0
1250%
Annex II and Credit Derivatives Risk Weighted Exposure Amount
CRR 92(3)(f)(i)
CRR Title II
0
0
100%
Repo, Securities/Commodities Lending and Borrowing Risk Weighted Exposure Amount
CRR 92(3)(f)(ii)
CRR Title II
0
0
100%
Margin Lending on Securities/Commodities Risk Weighted Exposure Amount
Long Settlement Risk Weighted Exposure Amount
CRR Title II
CRR Title II
0
0
0
0
100%
100%
Non-Trading Book Settlement Risk Own Funds Requirement
Derivative Risk
Credit Risk
CRR 92(3)(f)(iii)
CRR 92(3)(f)(iv)
Variable Capital RWE Amount
FOR
CRR 97
3,578,600
Higher RWE Amount (Higher of (a) and (b))
ICG
Tier Capital
CET1 Ratio
T1 Ratio
Total Capital
Printed 04/02/2014 @ 13:39
140.00%
Capital Requirement
2,818,148
2,794,699
(a)
44,732,500
(b)
44,732,500
62,625,500
Capital Held
Surplus Capital Actual Ratio Surplus Ratio
6,066,000
3,247,853
13.56%
9.06%
3,757,530
5,010,040
6,246,000
6,296,000
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2,488,470
1,285,960
13.96%
14.07%
7.96%
6.07%
CRDIV ICAAP Summary Limited Licence Firm

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