Notice of Proposed Rulemaking: Proposal on Regulatory Capital and Implementation of Basel III

Notice of Proposed Rulemaking: Proposal on Regulatory Capital and Implementation of Basel III

The Office of the Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve System (FRB) and the Federal Deposit Insurance Corporation (FDIC) - collectively, “the agencies” - have put forth proposals to implement a new international capital regime, Basel III. Three notices of proposed rulemaking (NPRs) have been published1 and will eventually replace the current rules that banks and federal savings institutions use to maintain capital adequacy. The table on the next page shows the timeline for implementing these changes.

In the NPR on Regulatory Capital and Implementation of Basel III, the agencies are proposing to revise their risk-based and leverage capital requirements consistent with agreements reached by the Basel Committee on Banking Supervision (BCBS), and in accordance with requirements mandated by section 171 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which calls for somewhat stricter limits. The proposed revision would include:

  • Implementation of a new common equity Tier 1 capital requirement
  • A supplementary leverage ratio that incorporates a broader set of exposures in the denominator measure
  • Application of limits on a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a certain amount of Tier 1 capital in addition to its necessary minimum risk-based capital requirement
  • Establishment of more conservative standards for including certain instruments in regulatory capital

Impact on Banks

In our experience, organizations face multiple challenges with the implementation of new regulatory requirements, including the following:

  • Addressing new minimum capital requirements, regulatory capital buffer and requirements for overall capital adequacy
  • Addressing revisions to the definitions of Tier 1 and Tier 2 capital, capital instrument of mutual banking organizations, grandfathering of certain capital instruments and agency approval of capital elements
  • Making changes to calculations of risk-weighted asset amounts related to the Basel III regulatory capital requirements
  • Addressing additional regulatory amendments, including the revised capital conservation and countercyclical buffer, and non-qualifying capital instruments
  • Comments on this NPR must be submitted by October 22, 2012. Affected financial institutions should estimate the impact on their organization and write a comment letter to the regulatory agencies about their concerns, if appropriate.

Our Point of View

Significant updates to capital processes will be needed once the rule is finalized. Institutions will have to revise the following points to address changes in the agencies’ current capital framework:

  • Minimum capital requirements and regulatory capital buffer
  • Leverage ratio and particularly the Supplementary Leverage Ratio for Advanced Approaches Banking Organizations
  • Capital conservation buffer
  • Countercyclical capital buffer
  • Prompt corrective action requirements
  • Supervisory assessment of overall capital adequacy
  • Tangible capital requirement for federal savings associations (this is a discussion of a statutory capital requirement unique to federal savings associations)
  • Capital components and eligibility criteria for regulatory capital instruments
  • Regulatory adjustments and deductions

In Closing

Many changes are coming in the way capital is calculated. The changes will impact operations, including the way banks evaluate risk-adjusted returns on business segments and allocate capital to strategic initiatives. Some banks will be forced to exit businesses that attract significantly more capital under the new rules than they did before.

Banks’ ability to pay out dividends is also affected as the agencies are proposing a relationship between the capital conservation buffer and the maximum payout ratio. The maximum dollar amount that a banking organization would be permitted to pay out in the form of capital distributions or discretionary bonus payments during the current calendar quarter would be equal to the maximum payout ratio multiplied by the banking organization’s eligible retained income.

How We Help Companies Succeed

Our Risk and Compliance professionals can help your institution develop and maintain an understanding of what regulatory institutions are seeking from the revisions and facilitate a smooth transition to the new regulatory capital requirements. Protiviti is well positioned to assist clients in working through these changes in the way capital is calculated. Our approaches could include, but are not limited to:

  • Understanding the enhancements to the risk-sensitivity of the agencies’ capital requirements, calculation of risk-weighted assets and advanced approaches to market risk
  • Understanding enhanced risk measurements and implementing new risk estimation methods, as well as estimating, forecasting and implementing control actions
  • Developing and validating forecasting tools needed to plan dividends and capital for future years
  • Estimating Probability of Default (PD), Loss Given Default (LGD) and Exposure at Default (EAD) for a variety of risks, including, but not limited to, credit risk, market risk and operational risk, based on the new rules
  • Helping clients in modeling and identifying high-risk and subprime loans and consumers within the portfolio, based on new credit risk rules
  • Implementing the new regulations regarding capital rules, Prompt Corrective Actions (PCA), leverage ratios, restrictions and other prudential requirements
  • Implementing regulatory restrictions and other prudential requirements related to section 619 of the Dodd-Frank Act (the Volcker Rule), applicable to any banking entity that engages in proprietary trading or has certain interests in, or a relationship with, a hedge fund or a private equity fund
  • Revising and implementing new risk reporting to address the ability to monitor capital and its components
  • Making enhancements to data quality and governance frameworks to ensure accurate reporting


Cory Gunderson
Managing Director – U.S. Financial Services Practice Leader Global Leader – Risk and Compliance Solutions
Shaheen Dil, Ph.D.
Managing Director – Model Risk and Capital Management Practice
Matthew Moore
Managing Director – Risk and Compliance Solutions
Yimin Yang, Ph.D.
Director – Model Risk and Capital Management Practice
1Federal Register, Vol. 77, No. 169, Thursday, August 30, 2012.

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