IMPACT ON BANKS AND THEIR RESPONSES
MAS Notice 612 (the Notice or MAS 612) applies to all banks in Singapore and sets out regulatory requirements relating to how banks should maintain their credit files, grade their credit facilities and provide for loan losses. A previous version of the Notice dated 11 March 2005 was issued in response to FRS 39: Financial Instruments – Recognition and Measurement (FRS 39) which first became effective for banks in Singapore from 1 January 2005. The Notice provided supervisory guidance on provisioning for loan impairment, to help banks implement FRS 39 for financial reporting purposes.
Since 1 January 2018, FRS 39 has been replaced by FRS 109: Financial Instruments (FRS 109). FRS 109 introduces a new approach for the estimation of allowance for credit losses based on the Expected Credit Loss (ECL) model, which includes more forward-looking information and addresses the issue of delayed recognition of credit losses on loans and other financial instruments under the incurred loss model. Banks in Singapore are now required to apply FRS 109, or SFRS(I) 91 for locally-incorporated banks listed on the Singapore Exchange, in the preparation of their financial statements for periods beginning on or after 1 January 2018. As a result, a revised MAS 612 (dated 29 December 2017) was issued to incorporate amendments relating to the changes in the recognition and measurement of allowance of credit losses that are introduced in this new standard.
CHANGES/NEW REQUIREMENTS OF MAS NOTICE 612 ISSUED, EFFECTIVE FROM 1 JANUARY 2018
A summary of the key changes under the revised MAS 612 are in Table 1.
Table 1 Changes/New Requirement of MAS Notice 612
INTERPLAY BETWEEN MAS NOTICE 612 AND FRS (FRS 39 AND FRS 109)
While both the previous and revised versions of MAS 612 are based on the prevailing accounting standards (that is, FRS 39 and FRS 109 respectively), to a large extent, they prescribe certain rules that modify the requirements of the accounting standards in order to meet MAS’ prudential objectives. Examples of these modifications include minimum loss allowances (over and above the amounts determined under the accounting standards) as well as the option for a bank or merchant bank whose head office is incorporated outside Singapore to carry its collective impairment provisions/loss allowance for non-credit-impaired exposures at its head office instead of its local books.
Under the revised MAS 612, however, minimum loss allowances for non-credit impaired exposures is achieved via the RLAR approach, under which the profit and loss (P&L) statements of banks will fully reflect credit loss allowance based on accounting standards. Hence, compared to the previous MAS 612 where additional loss allowances are recognised through P&L, the new approach represents a better alignment with the accounting standards, and is in line with the direction of Singapore progressing towards full convergence with IFRS.
HOW HAVE BANKS RESPONDED TO THE NEW REQUIREMENTS
Compared to the previous MAS 612 regime where banks may adopt the “simplified method” by recognising collective impairment provisions at 1% of the loans and receivables net collaterals and after deducting any individual impairment provisions, there has been a change under the revised MAS 612. Every bank is now expected to comply with the impairment requirements for the recognition, measurement and disclosure of loss allowance in accordance with the accounting standards. This means that all banks have to first calculate the ECL under FRS 109; in the case of foreign bank branches and merchant banks, they may subsequently elect to maintain loss allowances at 1% of non-credit impaired exposures only if it results in higher loss allowances.
Meanwhile, the industry is in varying degrees of readiness in complying with the ECL requirements of the new standard with some banks facing more challenges than others, particularly foreign bank branches which generally require head office support for the complex modelling requirements.
The calculation of ECL is highly judgemental and relies on modelling and unobservable inputs. Year 2018 is the first year of adoption so there is a lack of track record or comparison to benchmark the calculation to. There is also diversity in practice relating to judgemental areas of the ECL model, such as the methodology used for weighting of economic scenarios and definition of staging thresholds.
In 2018, banks will continue to refine their impairment model, driven by a combination of known modelling challenges, industry developments, recalibrations and back testing.
The revised MAS 612 is a response to the new accounting standard governing credit loss provisioning based on the ECL model. While the prudential requirements of the revised Notice are viewed favourably as being more aligned with accounting requirements and moving Singapore closer to international practice, there remain challenges in the implementation of the new accounting standard itself. Therefore, as banks continue to finetune their ECL models in the initial years of implementation, it will take some time for FRS 109 adoption to mature before the impact of the new requirements can be fully understood and assessed meaningfully.
Lian Wee Cheow is Chairman, ISCA Banking and Finance Committee, and Partner, PricewaterhouseCoopers LLP. Lee Bing Yi is Senior Manager, PricewaterhouseCoopers LLP.
1 Locally-incorporated banks listed on the Singapore Exchange may choose to assert dual compliance with SFRS(I) and IFRS from 1 January 2018.