Section 4A – Capital Requirements and Ratios

4.7 Capital Requirements

(1) A Bank is required to meet minimum risk-based capital requirements for exposure to credit risk, market risk and operational risk, under these rules. The Bank’s capital adequacy ratios (consisting of CET 1 ratio, total tier 1 ratio and total capital ratio) are calculated by dividing its Regulatory Capital by total Risk-Weighted Assets (RWAs).

(2) Total RWAs of a Bank is the sum of:

(a) the Bank’s risk-weighted on-balance-sheet and off-balance-sheet exposures calculated in accordance with the Rules in Chapter 5 of BBR; and

(b) 12.5 times the sum of the Bank’s market and operational risk capital requirements (to the extent that each of those requirements applies to the Bank) calculated in accordance with the Rules in Chapters 6 and 7 of BBR respectively

(3) In this chapter, consolidated subsidiary, of a Bank, means:

(a) a subsidiary of the Bank; or

(b) a subsidiary of a subsidiary of the Bank.

4.8 Required tier 1 capital on authorisation

A Bank must have, at the time of its authorisation and at all times thereafter, Common Equity Tier 1 Capital (CET1 Capital) as defined in Rule 4.14, at least equal to the Base Capital Requirement applicable to it. The AFSA will not grant an authorisation for conducting Banking Business unless it is satisfied that the entity complies with this requirement.

4.9 Required ongoing capital

(1) A Bank must have at all times, Capital at least equal to the higher of:

(a) its Base capital requirement; and

(b) its Risk-based capital requirement.

Note A Bank whose minimum capital requirement is determined by its risk-based capital requirement is subject to the additional requirement to maintain a capital conservation buffer, as defined in Rule 4.31.

(2) The amount of Capital that a Bank must have, in accordance with these rules, is its Minimum Capital Requirement.

4.10 Base Capital Requirement

The Base Capital Requirement is:

(a) for a Bank — USD 10 million; or

(b) for a Broker dealer — USD 2 million.

4.11 Risk-based capital requirement

(1) The Risk-based Capital Requirement for a Bank is the sum of:

(a) its credit risk capital requirement;

(b) its market risk capital requirement; and

(c) its operational risk capital requirement.

(2) The market risk and operational risk capital requirements are required to be calculated according to the rules in chapters 6 and 7 respectively.

(3) The credit risk capital requirement must be calculated as

= 12.5 times the Bank’s risk-weighted on-balance-sheet and off-balance-sheet exposures calculated in accordance with the Rules in Chapter 5 of BBR.

4.12 Capital adequacy ratios

(1) A Bank’s capital adequacy is measured in terms of 3 capital ratios expressed as

percentages of its total Risk-Weighted Assets (RWAs).

(2) A Bank’s minimum capital adequacy ratios are:

(a) a CET 1 Capital ratio of 4.5%;

(b) a Tier 1 Capital (T1 Capital) ratio of 6%; and

(c) a Total Capital ratio of 8%.

(3) The AFSA may, if it believes it is prudent to do so, increase any or all of a Bank’s minimum capital adequacy ratios. The AFSA will notify the Bank in writing about a higher capital adequacy ratio and the timeframe available for the Bank to meet it.

(4) A Bank must maintain at all times capital adequacy ratios higher than the required minimum levels, so that adequate capital is maintained in the context of the Bank’s risk appetite and, risk profile, to absorb unexpected losses arising from its business activities.

Section 4B – Elements of regulatory capital

4.13 Regulatory Capital

(1) The Regulatory Capital of a Bank is the sum of its Tier 1 (T1) Capital and Tier 2 (T2) capital.

(2) T1 capital is the sum of a Bank’s CET 1 capital and Additional Tier 1 (AT1) capital. T1 capital is also known as going-concern capital because it is meant to absorb losses while the Bank is viable.

(3) T2 Capital is defined in BBR rule 4.18. T2 capital is also known as gone-concern capital because it is meant to absorb losses after the Bank ceases to be viable.

(4) For these rules, the 3 categories of regulatory capital are CET 1 Capital, AT1 Capital and T2 Capital.

4.14 Common Equity Tier 1 (CET1) Capital

CET 1 Capital is the sum of the following elements:

(a) common shares issued by the Bank that satisfy the criteria in rule 4.15 for classification as common shares for regulatory purpose (or the equivalent for non-joint stock companies);

(b) share premium resulting from the issue of instruments included in CET 1 Capital;

(c) retained earnings;

(d) accumulated other comprehensive income and other disclosed reserves;

(e) common shares, issued by a consolidated subsidiary of the Bank and held by third parties, that satisfy the criteria in rule 4.22 for inclusion in CET 1 capital;

(f) regulatory adjustments applied in the calculation of CET 1 capital in accordance with BBR rule 4.28.

4.15 Criteria for classification as common shares

A capital instrument issued by a Bank is eligible for classification as common equity and for inclusion in CET 1 capital, only if all of the following criteria in sub-rules (1) to (14) below are satisfied.

(1) The instrument is the most subordinated claim in case of the liquidation of the Bank.

(2) The holder of the instrument is entitled to a claim on the residual assets that is proportional to its share of issued capital, after all senior claims have been repaid in liquidation. The claim must be unlimited and variable and must be neither fixed nor capped.

(3) The principal amount of the instrument is perpetual and never repayable except in liquidation. Discretionary repurchases and other discretionary means of reducing capital allowed by law do not constitute repayment.

(4) The Bank does nothing to create an expectation at issuance that the instrument will be bought back, redeemed or cancelled. The statutory or contractual terms do not provide anything that might give rise to such an expectation.

(5) Distributions are paid out of distributable items of the Bank (including retained earnings) and the amount of distributions:

(a) is not tied or linked to the amount paid in at issuance; and

(b) is not subject to a contractual cap (except to the extent that a Bank may not pay distributions that exceed the amount of its distributable items).

(6) There are no circumstances under which the distributions are obligatory. Non-payment of distributions does not constitute default.

(7) Distributions are paid only after all legal and contractual obligations have been met and payments on more senior capital instruments have been made. There are no preferential distributions and in particular none for any other elements classified as the highest quality issued capital.

(8) It is the issued capital that takes the first and proportionately greatest share of any losses as they occur. Within the highest quality capital, each instrument absorbs losses on a going-concern basis proportionately and equally with all the others.

Note This criterion in (8) above would be considered as fulfilled if the instrument includes a permanent write- down mechanism.

(9) The paid-in amount is recognised as equity capital (rather than as a liability) for determining balance-sheet insolvency.

(10) The paid-in amount is classified as equity in accordance with the relevant accounting standards.

(11) The instrument is directly issued and paid-in, and the Bank has not directly or indirectly funded the purchase of the instrument.

(12) The paid-in amount is neither secured nor covered by a guarantee of the Bank or a related party, nor subject to any other arrangement that legally or economically enhances the seniority of the holder’s claim in relation to the claims of the Bank’s creditors.

(13) The instrument is issued only with the approval of the owners of the Bank, either given directly by the owners or, if permitted by the applicable law, given by its governing body or by other persons authorised by the owners.

(14) The instrument is clearly and separately disclosed on the Bank’s balance sheet.

4.16 AT1 Capital

AT 1 Capital is the sum of the following elements:

(a) instruments issued by a Bank that satisfy the criteria in BBR rule 4.17 for inclusion in AT1 Capital (and are not included in CET 1 Capital);

(b) share premium resulting from the issue of instruments included in AT1 Capital, according to (a) above, if any;

(c) instruments, issued by consolidated subsidiaries of the Bank and held by third parties, that satisfy the criteria in BBR rule 4.23 for inclusion in AT1 Capital (and are not included in CET 1 capital of the respective Banks);

(d) regulatory adjustments applied in the calculation of AT1 Capital in accordance with BBR rule 4.28.

4.17 Criteria for inclusion in AT1 Capital

A capital instrument is eligible for inclusion in AT1 Capital only if that instrument meets all of the following criteria in sub-rules (1) to (15).

(1) The instrument is issued and paid-up.

(2) The instrument is the most subordinated claim after those of depositors, general creditors and holders of the subordinated debt of the Bank.

(3) The paid-up amount for the capital instrument is neither secured nor covered by a guarantee of the Bank or a related party, nor subject to any other arrangement that legally or economically enhances the seniority of the holder’s claim in relation to the claims of the Bank’s creditors.

(4) The instrument is perpetual. It has no maturity date and there are no step-ups or other incentives to redeem.

(5) If the instrument is callable by the Bank, it can only be called 5 years or more after the instrument is paid-in and only with the approval of the AFSA. The Bank must not do anything to create an expectation that the exercise of the option will be approved, and, if the exercise is approved, the Bank:

(a) must replace the called instrument with capital of the same or better quality and at conditions sustainable for the income capacity of the Bank; or

(b) must demonstrate to the AFSA that its capital will exceed the Bank’s minimum

capital requirement after the call option is exercised.

(6) A repayment of principal through repurchase, redemption or other means must be approved by the AFSA. The Bank must not assume, or create a market expectation, that such approval will be given.

(7) In respect of the dividend or coupon payable on the instrument

(a) The Bank has full discretion at all times to cancel distributions or payments;

(b) Any cancellation of a dividend or coupon is not an event of default;

(c) The Bank has full access to cancelled payments to meet obligations as they fall due; and

(d) Any cancellation of dividend or coupon does not impose restrictions on the Bank, except in relation to distributions to common shareholders.

(8) Dividends and coupons must be paid out of distributable items.

(9) The instrument must not have a credit-sensitive-dividend feature under which a dividend or coupon is periodically reset based (wholly or partly) on the Bank’s credit standing.

(10) The instrument must not contribute to the Bank’s liabilities exceeding its assets if such a balance-sheet test forms part of any insolvency law applying in the jurisdiction where the instrument was issued.

(11) An instrument classified as a liability for accounting purposes must have principal loss absorption through conversion to common shares, or a write-down mechanism that allocates losses to the instrument, at a pre- specified trigger point. The conversion must be made in accordance with rule 4.20.

(12) A write-down of the instrument has the following effects:

(a) reducing the claim of the instrument in liquidation;

(b) reducing the amount repaid when a call option is exercised;

(c) reducing or eliminating dividend or coupon payments on the instrument.

(13) Neither the Bank nor a related party over which the Bank exercises control or significant influence has purchased the instrument, nor has the Bank directly or indirectly funded the purchase of the instrument.

(14) The instrument has no features that hinder recapitalisation. For example, it must not require the Bank to compensate investors if a new instrument is issued at a lower price during a specified period.

(15) If the instrument is issued by a special purpose vehicle, the proceeds are immediately available without limitation to the Bank through an instrument that satisfies the other criteria for AT1 capital.

4.18 Tier 2 capital (T2 capital)

T2 capital is the sum of the following elements:

(a) instruments issued by the Bank that satisfy the criteria in rule 4.19 for inclusion in T2 capital (and are not included in T1 capital);

(b) share premium resulting from the issue of instruments included in T2 capital according to (a), if any;

(c) instruments, issued by consolidated subsidiaries of the Bank and held by third parties, that satisfy the criteria in rule 4.24 for inclusion in T2 capital (and are not included in T1 capital);

(d) regulatory adjustments applied in the calculation of T2 capital in accordance with BBR rule 4.28;

(e) general provisions or general reserves held against future, presently unidentified losses (but only up to a maximum of 1.25% of risk-weighted assets for credit risk, calculated using the standardised approach Chapter 5 of BBR).

Note General provisions and reserves are freely available to meet losses that subsequently materialise and therefore qualify for inclusion in T2 capital. In contrast, provisions for identified deterioration of particular assets or known liabilities, whether individual or grouped, should be excluded because they would not be available to meet losses.

4.19 Criteria for inclusion in T2 capital

A capital instrument is eligible for inclusion in T2 capital only if all the criteria in sub-rules (1) to (11) below are satisfied.

(1) The instrument is issued and paid-in.

(2) The instrument is the most subordinated claim after those of depositors and general creditors.

(3) The paid-in amount is neither secured nor covered by a guarantee of the Bank or a related party, nor subject to any other arrangement that legally or economically enhances the seniority of the holder’s claim in relation to the claims of the Bank’s depositors and general creditors.

(4) The original maturity of the instrument is at least 5 years.

(5) The recognition in regulatory capital in the remaining 5 years before maturity is amortised on a straight line basis and there are no step-ups or other incentives to redeem.

(6) If the instrument is callable by the Bank, it can only be called 5 years or more after the instrument is paid-in and only with the approval of the AFSA. The Bank must not do anything to create an expectation that the exercise of the option will be approved, and, if the exercise is approved, the Bank:

(a) must replace the called instrument with capital of the same or better quality and at conditions sustainable for the income capacity of the Bank; or

(b) must demonstrate to the AFSA that its capital will exceed the Bank’s minimum

capital requirement after the call option is exercised.

(7) The holder has no right to accelerate future scheduled payments of coupon or principal, except in bankruptcy or liquidation.

(8) The instrument does not have a credit-sensitive-dividend feature under which a dividend or coupon is periodically reset based (wholly or partly) on the Bank’s credit standing.

(9) Neither the Bank nor a related party over which the Bank exercises control or significant influence has purchased the instrument, nor has the Bank directly or indirectly funded the purchase of the instrument.

(10) If the instrument is issued by a special purpose vehicle, the proceeds are immediately available without limitation to the Bank through an instrument that satisfies the other criteria for tier 2 capital.

4.20 Requirements—loss absorption at point of non-viability

(1) This rule applies to an AT1 or T2 capital instrument issued by a Bank. It sets out additional requirements to ensure loss absorption at the point of non-viability.

(2) The terms and conditions of an instrument must give the AFSA the discretion to direct that the instrument be written-off or converted to common equity on the happening of a trigger event.

(3) The Bank must be able to issue the required number of shares specified in the instrument if a trigger event happens. The issuance of any new shares because of a trigger event must happen before any public sector injection of capital so that capital provided by the public sector is not diluted.

(4) Trigger event, in relation to the Bank that issued the instrument, is the earliest of:

(a) a decision of the AFSA that a write-off (without which the Bank would become non-viable) is necessary; and

(b) a decision by the relevant authority to make a public sector injection of capital, or give equivalent support (without which injection or support the Bank would become non-viable, as determined by that authority).

(5) If the Bank is a member of a financial group and the Bank wishes the instrument to be included in the group’s capital in addition to its solo capital, the trigger event must be the earliest of:

(a) the decision in sub-rule (4) (a);

(b) the decision in sub-rule (4) (b);

(c) a decision, by the relevant authority in the Bank’s home jurisdiction, that a write- off (without which the Bank would become non-viable) is necessary; and

(d) a decision, by the relevant authority in the jurisdiction of the financial regulator that regulates the parent entity of the Bank, to make a public sector injection of capital, or give equivalent support, in that jurisdiction (without which injection or support the Bank would become non-viable, as determined by that authority).

(6) Any compensation paid to the holder of an instrument because of a write-off must be paid immediately in the form of common shares (or the equivalent for non-joint-stock companies).

(7) If the Bank is a member of a financial group, any common shares paid as compensation to the holder of the instrument must be common shares of the Bank or of the parent entity of the group.

Section 4B – Treatment of Minority interests

4.21 Introduction

This section sets out the criteria and formulae for the treatment of minority interests in a Bank’s regulatory capital.

4.22 Criteria for third party interests— CET 1 capital

(1) For rule 4.14 (e), CET1 capital issued by a consolidated subsidiary of a Bank and held by a third party as a non-controlling interest, may be included in the Bank’s CET 1 capital if:

(a) the share would be included in the Bank’s CET 1 capital had it been issued by the

Bank; and

(b) the subsidiary that issued the share is itself a Bank or a Broker Dealer (or an equivalent entity in its home jurisdiction).

(2) The amount to be included in the consolidated CET 1 capital of a Bank is calculated in accordance with the following formula:

NCI – ((CET1s – Min) × SS)

where:

NCI is the total of the non-controlling interests of minority shareholders in a consolidated

subsidiary of the Bank.

CET1s is the amount of CET 1 capital of the subsidiary.

Min is the lower of:

(a) 7% of the total RWAs, as defined in BBR Rule 4.7 (2), of the subsidiary; and

(b) 7% of the share of consolidated RWAs of the group attributable to the subsidiary.

SS means the percentage of the shares in the subsidiary (being shares included in CET 1 capital) held by those third parties.

4.23 Criteria for third party interests—AT1 Capital

(1) For rule 4.16 (c), an instrument (including a common share) issued by a consolidated subsidiary of a Bank and held by a third party as a non-controlling interest may be included in the Bank’s AT1 Capital if the instrument would be included in the Bank’s AT1 Capital had it been issued by the Bank.

(2) Subject to (3), the amount to be included in the consolidated AT1 Capital of a Bank is calculated in accordance with the following formula:

NCI – ((T1s – Min) × SS)

where:

NCI is the total of the non-controlling interests of third parties in a consolidated subsidiary of the Bank.

T1s is the amount of Tier 1 capital of the subsidiary.

Min is the lower of:

(a) 8.5% of the total RWAs, as defined in BBR Rule 4.7 (2), of the subsidiary; and

(b) 8.5% of the share of consolidated RWAs of the group attributable to the subsidiary.

SS means the percentage of the shares in the subsidiary (being shares included in additional tier 1 capital) held by those third parties.

(3) A Bank must determine the amount of qualifying T1 Capital of a Subsidiary that is included in consolidated AT1 Capital by excluding the minority interests of that Subsidiary that are included in consolidated CET1 Capital, in accordance with BBR rule 4.22.

4.24 Criteria for Minority interests—tier 2 capital

(1) For rule 4.18 (c), an instrument (including common equity or any other T1 Capital instrument) issued by a consolidated subsidiary of a Bank and held by a third party as a non-controlling interest may be included in the Bank’s T2 Capital if the instrument would be included in the Bank’s T2 Capital had it been issued by the Bank.

(2) The amount to be included in the consolidated T2 capital of a Bank is calculated in accordance with the following formula:

NCI – ((T2s – Min) × SS)

where:

NCI is the total of the non-controlling interests of third parties in a consolidated subsidiary of the Bank.

T2s is the amount of tier 2 capital of the subsidiary.

Min is the lower of:

(a) 10.5% of the total RWAs, as defined in BBR Rule 4.7 (2), of the subsidiary; and

(b) 10.5% of the share of consolidated RWAs of the group attributable to the subsidiary.

SS means the percentage of the shares in the subsidiary (being shares included in tier 2 capital) held by those third parties.

(3) A Bank must determine the amount of qualifying Total Capital of a Subsidiary that is included in consolidated T2 Capital by excluding the minority interests of that Subsidiary that are included in consolidated CET1 Capital and consolidated AT1 Capital, in accordance with BBR rules 4.22 and 4.23.

4.25 Treatment of third party interests from special purpose vehicles

(1) An instrument issued out of a special purpose vehicle and held by a third party must not be included in a Bank’s CET 1 capital. Such an instrument may be included in the Bank’s AT1 or T2 Capital (and treated as if it had been issued by the Bank itself directly to the third party), if:

(a) the instrument satisfies the criteria for inclusion in the relevant category of regulatory capital; and

(b) the only asset of the special purpose vehicle is its investment in the capital of the Bank and that investment satisfies the criterion in rule 4.17 (15) or 4.19 (10) for the immediate availability of the proceeds.

(2) A capital instrument described in sub-rule (1) above that is issued out of a special purpose vehicle through a consolidated subsidiary of a Bank may be included in the Bank’s consolidated AT 1 or T2 Capital if the instrument satisfies the criteria in rule 4.23 or 4.24, as the case requires. Such an instrument is treated as if it had been issued by the subsidiary itself directly to the third party.

Section 4C Regulatory adjustments

4.26 Valuation approaches and related adjustments

(1) A Bank must use the same approach for valuing regulatory adjustments to its capital as it does for balance-sheet valuations. An item that is deducted from capital must be valued in the same way as it would be for inclusion in the Bank’s balance sheet.

(2) The Bank must use the corresponding deduction approach and the threshold deduction rule in making adjustments to its capital.

4.27 Definitions for Section 4C

In this Section:

entity concerned means any of the following entities:

(a) a Bank;

(b) any other financial or insurance entity;

(c) an entity over which a Bank exercises control.

significant investment, by a Bank in an entity concerned, means an investment of 10% or more in the common shares, or other instruments that qualify as capital, of the entity concerned.

investment includes a direct, indirect and synthetic holding of capital instruments.

4.28 Adjustments to Common Equity Tier 1 Capital (CET1 capital)

(1) Form of adjustments: Adjustments to CET 1 capital must be made in accordance with this Rule. Regulatory adjustments are generally in the form of deductions, but they may also be in the form of recognition or derecognition of items in the calculation of a Bank’s capital.

(2) Goodwill and intangible assets: A Bank must deduct from CET 1 capital the amount of its goodwill and all other intangible assets (except mortgage servicing rights). The amount must be net of any related deferred tax liability that would be extinguished if the goodwill or assets become impaired or derecognised under IFRS or any other relevant accounting standards.

(3) Deferred tax assets:

(a) A Bank must deduct from CET 1 capital the amount of deferred tax assets (except those that relate to temporary differences) that depend on the future profitability of the Bank.

(b) A deferred tax asset may be netted with a deferred tax liability only if the asset and liability relate to taxes levied by the same taxation authority and offsetting is explicitly permitted by that authority. A deferred tax liability must not be used for netting if it has already been netted against a deduction of goodwill, other intangible assets or defined benefit pension assets.

(4) Cash flow hedge reserve: In the calculation of CET 1 capital, a Bank must derecognise the amount of the cash flow hedge reserve that relates to the hedging of items that are not fair valued on the balance sheet (including projected cash flows).

(5) Cumulative gains and losses from changes to own credit risk: In the calculation of CET 1 capital, a Bank must derecognise all unrealised gains and unrealised losses that have resulted from changes in the fair value of liabilities that are due to changes in the Bank’s own credit risk.

(6) Defined benefit pension fund assets:

(a) A Bank must deduct from CET 1 capital the amount of a defined benefit pension

fund that is an asset on the Bank’s balance sheet. The amount must be net of any related deferred tax liability that would be extinguished if the asset becomes impaired or derecognised under IFRS or any other relevant accounting standards.

(b) The Bank may apply to the AFSA for approval to offset from the deduction any asset in the defined benefit pension fund to which the Bank has unrestricted and unfettered access. Such an asset must be assigned the risk-weight that would be assigned if it were owned directly by the Bank.

(7) Securitisation gains on sale:In the calculation of CET 1 capital, a Bank must derecognise any increase in equity capital or CET 1 capital from a securitisation or resecuritisation transaction (for example, an increase associated with expected future margin income resulting in a gain-on- sale).

(8) Higher capital imposed on overseas branch

(a) If a Bank has an overseas branch, the Bank must deduct from CET 1 capital whichever is the higher of any capital requirement imposed by the AFSA or the financial regulator in the jurisdiction in which the branch is located.

(b) This rule does not apply if the overseas branch is a consolidated entity of the Bank.

A branch is a consolidated entity if it is included in the Bank’s consolidated returns.

(c) Despite sub-rule (b) above, if the financial regulator in the jurisdiction in which a branch is located imposes a capital requirement for the foreign branch, a banking Bank must deduct from CET 1 capital the amount of any shortfall between the actual capital held by the foreign branch and that capital requirement.

(9) Assets lodged or pledged to secure liabilities

(a) A Bank must deduct from CET 1 capital the amount of any assets lodged or pledged by the Bank if:

and

(i) the assets were lodged or pledged to secure liabilities incurred by the Bank;

(ii) the assets are not available to meet the liabilities of the Bank.

(b) The AFSA may determine that, in the circumstances, the amount of assets lodged or pledged need not be deducted from the Bank’s CET 1 capital. The determination must be in writing.

(10) Acknowledgments of debt

(a) A Bank must deduct from CET 1 capital the net present value of an acknowledgement of debt outstanding issued by it to directly or indirectly fund instruments that qualify as CET 1 capital.

(b) This rule does not apply if the acknowledgement is subordinated in rank similar to that of instruments that qualify as CET 1 capital.

(11) Accumulated losses: A Bank must deduct from CET 1 capital the amount of any accumulated losses.

4.29 Deductions from Regulatory Capital

(1) Deductions using corresponding deduction approach:

(a) The deductions that must be made from CET 1 capital, AT 1 capital or T2 capital under the corresponding deduction approach are set out in the rules 4.30 to 4.36. A Bank must examine its holdings of index securities and any underlying holdings of capital to determine whether any deductions are required as a result of such indirect holdings

(b) Deductions must be made from the same category for which the capital would qualify if it were issued by the Bank itself or, if there is not enough capital at that category, from the next higher category.

(c) The corresponding deduction approach applies regardless of whether the positions or exposures are held in the banking book or trading book.

Note If the amount of T2 capital is insufficient to cover the amount of deductions from that category, the shortfall must be deducted from AT1 capital and, if AT1 capital is still insufficient, the remaining amount must be deducted from CET 1 capital.

(2) Investments in own shares and capital instruments

(a) A Bank must deduct direct or indirect investments in its own common shares or own capital instruments (except those that have been derecognised under IFRS). The Bank must also deduct any of its own common shares or instruments that it is contractually obliged to purchase.

(b) The gross long positions may be deducted net of short positions in the same underlying exposure only if the short positions involve no counterparty risk. However, gross long positions in its own shares resulting from holdings of index securities may be netted against short positions in its own shares resulting from short positions in the same underlying index, even if those short positions involve counterparty risk.

(3) Reciprocal cross holdings: A Bank must deduct reciprocal cross holdings in shares, or other instruments that qualify as capital, of an entity concerned.

(4) Non-significant investments—where the Bank does not own more than 10% of issued common equity of the entity

(a) This rule applies if:

(i) a Bank makes a non-significant investment in an entity concerned;

(ii) the entity concerned is an unconsolidated entity (that is, the entity is not

one that is included in the firm’s consolidated returns);

(iii) the Bank does not own more than 10% of the common shares of the entity concerned; and

(iv) after applying all other regulatory adjustments, the total of the deductions required to be made under this rule is less than 10% of the Bank’s CET 1 capital.

(b) A Bank must deduct any investments in common shares, or other instruments that qualify as capital, of an entity concerned.

(c) The amount to be deducted is the net long position (that is, the gross long position net of short positions in the same underlying exposure if the maturity of the short position either matches the maturity of the long position or has a residual maturity of at least 1 year).

(d) Underwriting positions held for more than 5 business days must also be deducted.

(e) If a capital instrument is required to be deducted and it is not possible to determine whether it should be deducted from CET 1 capital, additional tier 1 capital or tier 2 capital, the deduction must be made from CET 1 capital.

(5) Non-significant investments—aggregate is 10% or more of Bank’s CET 1 capital

(a) This rule applies if, after applying all other regulatory adjustments, the total of the deductions required to be made under rule 4.29 (4) is 10% or more of the Bank’s CET 1 capital.

(b) A Bank must deduct the amount by which the total of the deductions required to be made under rule 4.29 (4) exceeds 10% of the Bank’s CET 1 capital. This amount to be deducted is referred to as the excess.

(c) How much of the excess gets to be deducted from each category of regulatory capital under the corresponding deduction approach is calculated in accordance with the following formula:

where: Excess * A / B

A is the amount of CET 1 capital, additional tier 1 capital or tier 2 capital of the Bank, as the case may be.

B is the total capital holdings of the Bank.

(6) Significant investments

(a) This rule applies if:

(i) a Bank makes a significant investment in an entity concerned;

(ii) the entity concerned is an unconsolidated entity (that is, the entity is not

one that is included in the Bank’s consolidated returns); and

(iii) the Bank owns 10% or more of the common shares of the entity concerned.

(b) A Bank must deduct the total amount of investments in the entity concerned (other than investments in common shares, or other instruments that qualify as CET 1 capital, of the entity).

(c) The amount to be deducted is the net long position (that is, the gross long position net of short positions in the same underlying exposure if the maturity of the short position either matches the maturity of the long position or has a residual maturity of at least 1 year).

(d) Underwriting positions held for more than 5 business days must also be deducted.

(e) If a capital instrument is required to be deducted and it is not possible to determine whether it should be deducted from CET 1 capital, AT1 capital or T2 capital, the deduction must be made from CET 1 capital.

(7) Banks may use estimates or exclude deductions

(a) If it is impractical for a Bank to examine and monitor the Bank’s exposures to the capital of entities concerned (including through holdings of indexed securities), the Bank may apply to the AFSA for approval to use an estimate of such exposures. The authority will grant such an approval only after the Bank satisfies the authority that the estimate is conservative, well-founded and reasonable.

(b) A Bank may also apply to the AFSA for approval not to deduct an investment made to resolve, or provide financial assistance to reorganise, a distressed entity.

4.30 Deductions from CET1 capital

(1) In addition to the other deductions to CET 1 capital under this Chapter, deductions may be required to CET 1 capital under the threshold deduction rule.

(2) The threshold deduction rule provides recognition for particular assets that are considered to have some limited capacity to absorb losses. The following items come within the threshold deduction rule:

(a) significant investments in the common shares, or other instruments that qualify as CET 1 capital, of an unconsolidated entity concerned;

(b) mortgage servicing rights;

(c) deferred tax assets that relate to temporary differences (for example, allowance for credit losses).

(3) Instead of full deduction, the items that come within the threshold deduction rule receive limited recognition when calculating CET 1 capital. The total of each of the items in subrule (2) do not require adjustment from CET 1 capital and are risk-weighted at 300% (for items listed on a recognised exchange) or 400% (for items not so listed) provided that:

(a) each item is no more than 10% of the Bank’s CET 1 capital (net of all regulatory adjustments except those under this Subdivision); or

(b) in total, the 3 items are no more than 15% of the Bank’s CET 1 capital (net of all

regulatory adjustments except those under this Subdivision).

(4) A Bank must deduct from CET 1 capital any amount in excess of the threshold in sub- rule (3) (a) or (b) above.

Section 4D Capital Buffers

4.31 Capital conservation buffer

(1) A Bank whose risk-based capital requirement is higher than its base capital requirement must maintain a minimum capital conservation buffer of:

(a) 2.5% of the Bank’s total risk-weighted assets; or

(b) a higher amount that the AFSA may, by written notice, set from time to time.

(2) A Bank’s capital conservation buffer must be made up of CET 1 capital above the amounts used to meet the Bank’s CET 1 capital ratio, T1 capital ratio and regulatory capital ratio in rule 4.12.

4.32 Capital conservation ratios

(1) If a Bank’s capital conservation buffer falls below the required minimum, the Bank must immediately conserve its capital by restricting its distributions.

(2) This rule sets out, in column 3 of table 4A, the minimum capital conservation ratios for Banks that are required to maintain a capital conservation buffer. Capital conservation ratio is the percentage of earnings that a Bank must not distribute if its CET 1 capital ratio falls within the corresponding ratio in column 2 of that table.

(3) A Bank must have adequate systems and controls to ensure that the amount of distributable profits and maximum distributable amount are calculated accurately. The Bank must be able to demonstrate that accuracy if directed by the AFSA.

(4) If the Bank is a member of a financial group, the capital conservation buffer applies at group level.

Table 4A Minimum capital conservation ratios

4.33 Powers of the AFSA

(1) The AFSA may impose a restriction on capital distributions by a Bank even if the amount of the Bank’s CET 1 capital is greater than its CET 1 capital ratio and required capital conservation buffer.

(2) The AFSA may, by written notice, impose a limit on the period during which a Bank may operate within a specified capital conservation ratio.

(3) A Bank may apply to the AFSA to make a distribution in excess of a limit imposed by this Part. The authority will grant approval only if it is satisfied that the Bank has appropriate measures to raise capital equal to, or greater than, the amount the Bank wishes to distribute above the limit.

4.34 Capital reductions

(1) A Bank must not reduce its capital and reserves without the AFSA’s written approval.

(2) A Bank planning a reduction must prepare a forecast (for at least 2 years) showing its projected capital after the reduction. The Bank must satisfy the authority that the Bank’s capital will still comply with these rules after the reduction.

4.35 Authority can require other matters

Despite anything in these rules, the AFSA may require a Bank to have capital resources, comply with any other capital requirement or use a different approach to, or method for, capital management. The authority may also require a Bank to carry out stress- testing at any time.

Section 4E Leverage Ratio

4.36 Application

The rules in this section apply only to Banks. For the sake of clarity, the rules in this section apply only to Banks licensed by the AFSA to conduct the Regulated Activity of “Accepting Deposits”.

4.37 Calculation of Leverage Ratio

(1) A Bank must calculate its Leverage Ratio in accordance with the following formula:

Leverage Ratio = Capital Measure ÷ Exposure Measure

Where:

(a) “Capital Measure” represents T1 Capital of the Bank calculated in accordance with BBR rule 4.13; and

(b) “Exposure Measure” represents the value of exposures of the Bank calculated in accordance with (2) of this rule.

(2) For the purpose of determining the Exposure Measure, the value of exposures of an Bank must be calculated in accordance with the International Financial Reporting Standards (IFRS) subject to the following adjustments:

(a) on-balance sheet, non-derivative exposures must be net of specific allowances and valuation adjustments (e.g. credit valuation adjustments);

(b) physical or financial collateral, guarantees or credit risk mitigation purchased must not be used to reduce on-balance sheet exposures; and

(c) loans must not be netted with deposits.

Note Detailed guidance specifying the methodologies, parameters and formulae for calculating the Leverage Ratio are set out in Section D of Chapter 4 of the CAG issued by the AFSA.