HM Treasury Publishes Draft Annex to SRR Code of Practice
Introduction
On 8 October 2013, HM Treasury published a draft annex on the new bail-in option to the Special Resolution Regime (SRR). The bail-in tool is being introduced through amendments to the Banking Act 2009 by the Banking Reform Bill 2013 for the purpose of offering a new stabilisation option to the Bank of England as lead resolution authority. It will be available to failing banks and investment firms, with necessary modifications to building societies via secondary legislation and under specified conditions to banking group companies.
The draft annex to the Code of Practice supports the legal framework for the SRR and provides guidance as to when and how the bail-in tool may be deployed by authorities in practice.
A summary of the key points include:
General and Specific Conditions for Use of SRR Tools (Section 7)
The conditions for use of the bail-in option are identical to those for the stabilisation options set out in the existing Code :
-
the regulator must determine that the institution is failing or likely to fail;
-
it is not reasonably likely that action will be taken by or in respect of the bank to avoid its failure; and
-
the Bank of England is satisfied that exercising the bail-in power is necessary having regard to the public interest.
When choosing between the original resolution tools, the Bank of England will consider the relative merits of the stabilisation options and the bank insolvency procedure given the circumstances in addition to general considerations . The Bank of England may also choose resolution by way of bail-in for situations where the use of another stabilisation power would threaten financial stability or confidence in the banking systems.
Use of the Bail-in Powers (Section 8)
The bail-in option gives the Bank of England the power to cancel or modify the terms of any contract in a resolution scenario for the purposes of reducing or deferring a liability of the bank (“special bail-in provision”). A conversion power also exists that allows for liabilities to be converted into different forms. Certain liabilities are excluded from the scope of the power to make special bail-in provision including:
-
deposits covered by the Financial Services Compensation Scheme (FSCS) or an equivalent overseas scheme;
-
liabilities to the extent they are secured;
-
client assets, including client money;
-
liabilities with an original maturity of less than seven days which are owed to a credit institution or investment firm (save in relation to credit institutions or investment firms which are banking group companies in relation to the bank);
-
liabilities arising from participation in a designated settlement system and owed to such systems, or to operators or participants in such systems;
-
liabilities owed to central counterparties recognised by the European Securities and Markets Authority (ESMA) in accordance with Article 25 of Regulation (EU) 648/2012;
-
liabilities to employees or former employees in relation to accrued salary or other remuneration (with the exception of variable remuneration);
-
liabilities owed to employees or former employees in relation to rights under a pension scheme (with the exception of discretionary benefits); and
-
liabilities to a creditor arising from the provision of goods or services (other than financial services) that are critical to the daily functioning of the bank’s operations (with the exception of creditors that are companies which are banking group companies in relation to the bank).
Prior to taking resolution action or converting liabilities, resolution authorities are expected to carry out a valuation of the assets and liabilities of the institution as is reasonably practicable.
The UK has chosen to exercise the discretion granted to it under the Recovery and Resolution Directive and has included derivatives in the list of liabilities which can be bailed-in. Specific power to make special bail-in provision to derivatives and similar financial transactions can be found in Sections 8.14 – 8.17 of the Annex. The Bank of England will, where appropriate, exercise its power to close-out contracts before they are bailed in with any applicable close-out netting being taken into account. If a liability is owed, it will be excluded from bail-in so far as it is secured and compensation arrangements will follow the “no creditor worse off” principle. This ensures that no person is worse off as a result of the application of the bail-in option than they would have been had the bank gone into insolvency.