IFRS 9 and Basel III

Marc Buklis MBA CFA

Managing Director, Consulting and Deals
PricewaterhouseCoopers LLP
June 10, 2015

IFRS 9 - Basel III

June 2015
1

Agenda and Introduction

Regulatory Initiatives - Timeline
IFRS 9 Key Highlights
OSFI and BCBS Guidance
IFRS 9 and Capital - Integration
Questions and Follow up
Marc E. Buklis, Managing Director, Consulting and Deals, PricewaterhouseCoopers LLP
Mr. Buklis is a Managing Director with PwC's Canadian consulting practice, with a specialization in risk, compliance and
technology. Marc has nearly 20 years' experience working with financial institutions on regulatory initiatives for capital,
liquidity and compliance. Marc has worked with large banking organizations in Canada, the United State and Australia
to understand regulatory requirements and to implement solutions fit to each client's needs. Mr. Buklis speaks regularly
on regulatory risk, compliance and technology implementation matters. Mr. Buklis has an MBA from the Joseph L.
Rotman School at the University of Toronto (1998) and a BA in Economics from the University of Toronto (1993). He is
a CFA Charterholder.
This presentation has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should
not act upon the information contained in this presentation without obtaining specific professional advice. No representation or warranty
(express or implied) is given as to the accuracy or completeness of the information contained in this presentation, and, to the extent permitted
by law, PwC does not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or
refraining to act, in reliance on the information contained in this presentation or for any decision based on it.
2015 PwC. All rights reserved. PwC refers to the PwC network and/or one or more of its member firms, each of which is a separate legal
entity. Please see www.pwc.com/structure for further details.
IFRS 9 - Basel III
June 2015
2

Regulatory Initiatives - Timeline

January 2013

July 2014

December 2017

Basel III Capital

Reporting

Final Standard
IFRS 9

BCBS 239 DSIB

Deadline

January 2015

January 2016

November 2017

LCR Reporting

BCBS 239 GSIB

Deadline

Effective Date
IFRS 9 DSIB

NCCF Reporting

IFRS 9 - Basel III

June 2015
3

IFRS 9 Key Highlights

IFRS 9 - Basel III

June 2015
4

IFRS 9 Key Highlights

Impairment
Expected
credit loss
model

IFRS 9
Hedge
accounting

IFRS 9 - Basel III

Classification
and
measurement

June 2015
5

IFRS 9 Classification and Measurement: Equity

Instruments
Yes
Is the equity instrument held for trading?
No
Has the entity elected fair value through
OCI?

No

Yes

Fair value through OCI

with no recycling and no
impairment

Fair value through

profit or loss

Cost exemption for unquoted equity removed.

IFRS 9 - Basel III

June 2015
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IFRS 9 Classification and Measurement: Debt

Instruments
Is objective of the entitys
business model to hold the
financial assets to collect
contractual cash flows?

Yes

No

Is the financial asset held to

achieve an objective by both
collecting contractual cash
flows and selling financial
assets?

Yes

Do contractual cash flows represent solely payments of principal

and interest?
Yes

No

No

Yes
Yes

Fair value
through
P&L

Does the company apply the fair value option to eliminate an

accounting mismatch?
No
Amortised cost
IFRS 9 - Basel III

No
FV-OCI
June 2015
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IFRS 9 Classification and Measurement

Key Judgements and Implementation Issues
Documenting
the business
model (incl
sales)

Contractually
linked
instruments

No separation
of embedded
derivatives

Reclassification
of assets rare

IFRS 9 - Basel III

Liquidity
portfolios

Investments in
equities FVPL
vs FVOCI?

FVPL is the
residual
category
June 2015
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IFRS 9 Impairment General Model

IFRS 9 impairment guidance will apply to financial assets at amortised cost, financial assets (debt) at FVOCI,
loan commitments, financial guarantee contracts, lease / trade receivables and modified financial assets

Change in credit quality since initial recognition

Recognition of expected credit losses
12 month expected
credit losses

Lifetime expected
credit losses

Lifetime expected
credit losses

Effective interest on gross

carrying amount

Effective interest on amortised

cost carrying amount
(i.e. net of credit allowance)

Interest revenue
Effective interest on gross
carrying amount
Stage 1
Performing
(Initial recognition*)

Stage 2
Underperforming
(Assets with significant
increase in credit risk since
initial recognition*)

*Except for purchased or originated credit impaired assets

IFRS 9 - Basel III

Stage 3
Non-performing
(Credit impaired assets)

June 2015
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IFRS 9 Impairment
General model significant increase in credit risk
Key Judgements and Implementation Issues

Top down
versus bottom
up

Level of
segmentation
/granularity

Basel PDs vs
IFRS 9 PDs

Mapping
internal and
external credit
grades
IFRS 9 - Basel III

June 2015
10

IFRS 9 Impairment
General model significant increase in credit risk
Key Judgements and Implementation Issues

Regulatory PD

IFRS 9 PD

Hard to reconcile!
Through the
cycle
(TTC)

IFRS 9 - Basel III

Point in time
(PiT)

June 2015
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IFRS 9 Hedge Accounting

What has NOT changed?

Basic hedge
accounting models
retained
(i.e. FVH, CFH & NIH)

Hedge accounting
is optional
Detailed rules on
eligible hedged items
and hedging
instruments

Documentation still
needed
Derivatives still
at fair value

IFRS 9 - Basel III

Ineffectiveness
recognized in P&L

June 2015
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IFRS 9 Hedge Accounting

Qualifying for hedge accounting
IFRS 9 qualifying criteria

1. Formal designation
and documentation

2. Only eligible hedging

instruments and hedged
items

3. Meets the hedge

effectiveness
requirements

3.1 Economic relationship between hedged item and hedging

instrument gives rise to offset

3.2 Effect of credit risk does not dominate the value changes
3.3 Hedge ratio results from the quantity of hedged item hedged
and hedging item used to hedge
80-125% effectiveness threshold is removed
IFRS 9 - Basel III

June 2015
13

OSFI and BCBS Guidance

IFRS 9 - Basel III

June 2015
14

OSFI and BCBS Guidance

OSFI and BCBS continue to develop their guidance.

OSFI (January 2015) has advised financial institutions to NOT early adopt IFRS 9 except for DSIBs, due to
the expected significant impact.

OSFI continues to monitor IFRS 9 acceptance and guidance with other jurisdictions and BCBS.

BCBS Guidance on Accounting for Expected Credit Losses (2015) is currently in draft and was issued for
comment by April 30.1

The document provides separate guidance on expected credit losses, expected credit losses and capital
and IFRS 9 adoption.

BCBS guidance outlines 11 principles, of which 3 relate to supervisory evaluation of credit risk
practices, expected credit losses and capital adequacy. Effectively, capital adequacy rests on credit and
accounting processes:

Principle 9: Banking supervisors should periodically evaluate the effectiveness of a banks credit
risk practices.

Principle 10: Banking supervisors should be satisfied that the methods employed by a bank to
determine allowances produce a robust measurement of expected credit losses under the applicable
accounting framework.

Principle 11: Banking supervisors should consider a banks credit risk practices when assessing a
banks capital adequacy.

BCBS Consultative Document, Guidance on Accounting for Expected Credit Losses, 2015, page 1.

IFRS 9 - Basel III

June 2015
15

OSFI and BCBS Guidance - Continued

In addition to the principles, BCBS provides specific draft commentary on several IFRS issues

Topic

Draft BCBS Discussion

Calculation of 12month loss

estimates

Definition of default

Grouping for
collective allowances

IFRS 9 - Basel III

Banks should adopt an active approach to assessing 12-month ECL, with changes
identified on a timely basis
BCBS defines / clarifies 12-month ECL as not the expected 1-year loss, but the expected
lifetime loss due to default within 1 year PD is 1-year PD while LGD is lifetime LGD.
Where a move to lifetime expected loss (LEL) occurs, the change in probability is to be
considered.
In formulating estimates of ECL, all reasonably available factors, including macroeconomic
factors, should be included.
12-month ECL estimates should be updated for each reporting period.
IFRS 9 does not directly define default but requires that it be defined consistently with that
used for internal credit procedures, with a rebuttable presumption that default is not later
than 90 days past due.
BCBS expects the definition to reflect both qualitative criteria for identifying credit
deterioration (unlikeliness to pay) AND an objective indicator of material delinquency (90
days, as in IFRS 9).
Collective or individual assessments are allowed; where collective allowances are allowed,
exposures in the group must share similar credit risk characteristics.
Grouping of exposures should be modified and updated when new information emerges to
show that credit characteristics have changed.
Grouping should not be used to mask changes in credit quality or to mask the weak credit
quality of some exposures included in the group.

June 2015
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OSFI and BCBS Guidance - Continued

In addition to the principles, BCBS provides specific draft commentary on several IFRS issues

Topic

Draft BCBS Discussion

Assessment of
increases in credit
risk since inception

Modified /
Renegotiated
Transactions

Use of Practical
Expedients

IFRS 9 - Basel III

Impairment calculations must estimate changes in credit quality since inception of the loan:
loan pricing includes credit quality at inception but changes since inception will not be.
Impairment calculations for financial reporting are an important part of credit risk
management and the two should thus be integrated.
Calculations will require both historical and forward looking data. Banks will need systems
capable of consistently handling and systematically assessing the large amounts of
information required and to measure LEL, along with strong governance and controls.
Banks will need to provide clear policy definitions of what constitutes worsening credit.
Banks will need to have a clear view backed by analysis of the linkages from
macroeconomic factors to credit risk.
BCBS believes that modifications or renegotiations can mask increases in credit risk,
resulting in underestimation of ECL or delayed move to LEL measurement.
Where renegotiation has been undertaken, banks must be able to demonstrate whether the
renegotiated asset has improved or restored the ability to collect interest and principal
and reflect credit losses accordingly.
BCBS believes practical expedients in IFRS 9 are inappropriate for large banks
For example:, and 30-days past due presumption.
The allowance to limit the information search for measuring ECL, without undo cost
and effort: Banks should search thoroughly.
The low credit risk exposures exemption from assessment of significant increase in
credit risk since inception: Banks to use this only in exceptional circumstances.
The 30-days past due presumption: credit risk should be assessed BEFORE
delinquency.
June 2015
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IFRS 9 and Capital - Integration

IFRS 9 - Basel III

June 2015
18

IFRS 9 and Basel III Capital Integration Points

IFRS 9

Basel III
Provisions

Impairment
Expected credit
loss model

Classification
and
measurement

ECL and
Parameters

OCI vs P&L
Adjustment
and Capital

Definition and
Components of
Capital
Credit Risk Standardised
Credit Risk IRB
Credit Risk Securitisation

Valuations

Market Risk

Hedge
accounting

Netting and Definitions

Counterparty
Credit and
Netting
Operational
Risk

IFRS 9 - Basel III

Basel III as with Basel II before it

on principle sits on the foundation of
each Banks prudential credit risk
policies and procedures.
IFRS 9 and existing Basel III
implementations will thus interact,
with IFRS forming part of the
foundation.
Specifically, IFRS 9 and Basel III will
also interact around provisions,
calculation of Expected Credit Loss
and Parameters, Valuation and
Netting.
In addition to Capital, other
regulatory reporting such as LCR
also draws on financial reporting
classification and impairment.
Transition to IFRS 9 will involve
assessment of these interactions and
the changes necessary.

June 2015
19

IFRS 9 and High Level Business Functional Model - Impact

Outlined below are key functions that are typically involved in transacting financial products. Transition to
IFRS 9 will need to contemplate relationships across this spectrum.
Products

Equities

Commodities

Bonds

1
Corporate
Finance

Front Office

Research

Market Risk
Management

Risk Mgmt

2
Order/Trade
Matching

Trade
Allocations &
Bookings

Counterparty
Netting

Middle Office

Finance

Operations

Sales &
Trading

Treasury

Credit Risk
Management

Trade Desk
Support

Client Onboarding

Accounting

Client
Relationship
Management

Risk Model
Management

Trade
Enrichment

Front/Back Office
Reconciliation

Management
Reporting

Currencies

Product
Development

FO Risk
Management

Scenario
Analysis

Administration

Legal &
Compliance

Trade
Affirmation

Compliances &
Regulatory
Requirements

Regulatory & Tax

Reporting

Derivatives

Firm Wide
Supporting Services

Trade
Confirmation

Client
Services

Budgeting &
Forecasting

Pre-settlement
Reconciliation

Clearance &
Settlement

Post Settlement
Reconciliation

Collateral
Management
& Allocation

Margin
Management

Asset
Servicing

Reference
Data Mgmt.

Account
Administration

Fails
Management

Customer Report
Distribution

Regulatory &
Compliance
Management

Customer
Billing

Facilities
Support

Business
Continuity
Planning

Back Office

IFRS 9 - Basel III

The front office,

which interacts
with clients;

The middle office,

which provides key
analytical and
financial support
for transactions;

The back office,

which processes
settlements and
maintains the
books and records
of the firm

Internal
Audit

Human
Resources

Product
Control

Processes for creation

and trading of
financial instruments
are typically broken
into

Technology

June 2015
20

IFRS 9 will have

impacts at each level,
as shown in blue.

IFRS 9 Compared to Capital Systems

Additional data elements required to support classification:

Revised treatment for liquidity buffer may impact capital

Valuation methods and income treatment

Increase in reported capital due to changes to expected loss

Stage of impairment

New disclosures

Hedge classification including aggregate positions

Potential for new types of hedging strategies

Source Data Extracts

Revised engine capability and processes for valuation

Revised calculation for impairment and expected loss

Calculation of results for new disclosures

Users Risk and Front Office

Data Storage

Data Landing and

Transformation:

Control: Source
Consolidation or
Reconciliation

Control:
Consistency of
Tranformation

Credit /
Regulatory
Reporting

Position
Data

Data Landing /
Consolidation
Data Transformation
Data quality and
completeness

Risk and Capital Calculation

Capital or Risk
Engine

Static
Reference
Data

Parameter Estimation
Market
Data

Market Data
Source / Services

Data Governance
IFRS 9 - Basel III

Credit Risk
Reporting

Credit Exposure
Credit Capital
CVA

PD
LGD
EAD
Estimation
EE
Tool
Margin Period of Risk

Scenario Generation
Market
Credit
Liquidity
Sensitivity Scenario
Stress
Toolset

Impairment
Financial
Reporting

Control: Results
Reconciliaion

Need for sharing

resources trained
in credit
calculation or
expansion of team

Addition of new data elements and rules to data governance

processes
Reinforce integration of risk and finance data governance.
June 2015
21

IFRS 9 and Capital Summary and

Implementation Considerations

Operating
Model

IFRS 9 will require the capture of additional data required to classify credit risk and stage of
impairment, hedging characteristics and pricing.
IFRS 9 will thus impact operational processes and systems from deal capture, deal valuation,
settlement and risk management.

The particular needs of expected loss and impairment calculations for data and analytical
systems - resemble the needs that drive centralized capital and liquidity risk calculations.
Banks that do not have appropriate systems and parameter generation will need to build or
acquire this capability.
Expected Loss Large banks that have appropriate capital processes and systems will need to consider how to
and Capital
leverage them, possibly with multiple sets of parameters or how to explain the differences.

Governance

IFRS 9 - Basel III

IFRS 9 will involve new data, attributes and disclosures.

For all new data feeding the disclosures, plus any new critical data elements that will ink to
existing credit and capital reports, Banks will need to consider all appropriate governance as per
BCBS 239: data ownership and stewardship, understanding of data lineage, rules and quality, etc.

June 2015
22

Questions and Follow Up

Thank you for your time today. For further information, please contact:
Marc Buklis, Managing Director, Consulting and Deals
PricewaterhouseCoopers LLP
marc.e.buklis@ca.pwc.com
+1-416-728-0639 or +1-416-687-8611

This presentation has been prepared for general guidance on matters of interest only, and
does not constitute professional advice. You should not act upon the information contained in
this presentation without obtaining specific professional advice. No representation or warranty
(express or implied) is given as to the accuracy or completeness of the information contained
in this presentation, and, to the extent permitted by law, PwC does not accept or assume any
liability, responsibility or duty of care for any consequences of you or anyone else acting, or
refraining to act, in reliance on the information contained in this presentation or for any decision
based on it.
2015 PwC. All rights reserved. PwC refers to the PwC network and/or one or more of its
member firms, each of which is a separate legal entity. Please see www.pwc.com/structure for
further details..