European Commission – legislative proposals for reform of the crisis management and deposit insurance (CMDI) framework

RegCORE Client Alert | Banking Union

QuickTake

On 18 April 2023 the European Commission (the Commission) has adopted legislative proposals to reform the EU’s bank crisis management and deposit insurance (CMDI) framework. The proposals aim at making it easier for authorities to organise an orderly market exit for a failing bank of any size and business model, with a focus on the arrangements for failing smaller and medium-sized banks, which in the EU fall under the framework of the EU’s comprehensive Capital Requirements Regulation (CRR) and the Capital Requirements Directive (CRD), including as applied in the EU’s Banking Union.

The timing of this package of proposed reforms comes at a moment in which – with the failure of several US banks and the take-over of Credit Suisse –  financial market participants are again faced with the reality of various banking crises. Consequently, having an even stronger framework to address identified and/or perceived shortcomings, has been reconfirmed. Crucially, the CMDI’s content of reforms is not influenced in a meaningful way by these recent events, as the package has been in the making for four years. This specific point was underlined by Single Resolution Board (SRB) Chair, Mr. Laboureix, during a speech held on 25 April 2023 Dominique Laboureix’s speech at the Press Breakfast, 25 April 2023, available here.Show Footnote specifying that the Credit Suisse case did not constitute a resolution but rather a financial restructuring of the bank, leading to a sale to a private bank.  Whether the market agrees remains to be seen. Mr. Laboureix also recalled that the resolution framework in the Banking Union has a clear order of bearing losses: first shareholders (CET1 instruments); secondly AT1 and subsequently bondholders. See coverage from our EU RegCORE available here.Show Footnote

The Commission’s proposal makes targeted amendments to the existing reformed versions of the EU’s Bank Recovery and Resolution Directive (the BRRD), the EU’s Deposit Guarantee Scheme (DGS) Directive (the DGSD) and the EU’s Single Resolution Mechanism Regulation (the SRMR) applicable in the Banking Union. This Client Alert assesses the Commission’s proposals from 18 April 2023 and the potential impact on market participants.

Key takeaways from the CMDI proposal

On 16 June 2022, the Eurogroup published a statement European Council, Eurogroup Statement on the future of the Banking Union of 16 June 2022, available here.Show Footnote on the future of the Banking Union. The statement acknowledged the resilience and progress of the EU Single Rulebook but concluded that the Banking Union remains incomplete. A key missing piece, despite being proposed in 2015, remains the European Deposit Insurance Scheme (EDIS) There is currently no consensus on a credible and robust mechanism for providing liquidity in resolution in the Banking Union, in line with international standards.Show Footnote to supplement the DGSD framework and complement the Banking Union’s first pillar, the Single Supervisory Mechanism and Single Resolution Mechanism as the second pillar. Given the political differences on EDIS, the Commission agreed that work on the Banking Union should therefore focus on strengthening the CMDI framework.

Public Interest Assessment

Completing the Banking Union requires reviewing a tension which currently exists between resolution and liquidation regimes. Where the former is harmonised at the EU level, winding-up procedures are very much reliant on national insolvency law.

Small and medium-sized banks are struggling especially with this tension in that they are confronted on one hand with a European resolution framework, designed primarily with Global Systemically Important Banks (G-SIBs) in mind, and an inadequate unharmonized patchwork of national insolvency frameworks on the other. Ramos-Munoz, D., Lamandini, M., & Thijssen, M. (n.d.). A reform of the CMDI framework that supports completion of the Banking Union, IPOL ECON Committee European Parliament May 2023, available here. Show Footnote In order to make the CMDI framework more efficient for those banks, the proposals seek to enhance the scope of resolution by revisiting the public interest assessment (PIA) such that the burden of proof for resolution authorities is increased in demonstrating that resolution is not in the public interest.  

Transfer Strategies and use of DGS

The European Commission’s most recent published proposals aim at enhancing the use of Deposit Guarantee Schemes (DGS) resources for transfer tools as an alternative to the basic pay-out function. These have not been able to unfold their potential as a crisis management tool across the EU although they are particularly important for small and medium-sized banks.

Corporate insolvency law is a challenge for the banking business in as much as the process of asset disposal in the course of liquidation may be too lengthy, resulting in a material deterioration of those assets. Ramos-Munoz, D., Lamandini, M., & Thijssen, M. (n.d.). A reform of the CMDI framework that supports completion of the Banking Union, IPOL ECON Committee European Parliament May 2023, available here.Show Footnote The possibility of covering funding gaps are therefore crucial for the success for a transfer strategy.

Correspondingly, the European Commission’s proposals aim at facilitating DGS interventions in support of transfer tools by ensuring that the value of an asset remains higher in comparison to under liquidation which can minimise the risk for financial stability and reduces the risk for depositors as these become integrated in the acquiring institution as opposed to being paid out by the DGS.Ramos-Munoz, D., Lamandini, M., & Thijssen, M. (n.d.). A reform of the CMDI framework that supports completion of the Banking Union, IPOL ECON Committee European Parliament May 2023, available here.Show Footnote

Creditor Hierarchy

To enable such use of the DGSs, complementary to the banks’ internal loss absorption capacity as first line of defence, it is proposed to amend the hierarchy of claims in insolvency. The effectiveness of DGS funding depends on creditor ranking, that is, depositor preference. The current framework sets out, according to the ‘least cost principle’ that the cost for the DGS of financing such alternative measures (i.e., transfer) cannot exceed the amount resulting from liquidation. Article 11(6) DGSD, available here.Show Footnote The ‘super priority’ currently enjoyed by DGSs under the BRRD reduces the possibility of DGS intervention. Under the proposals, the relative ranking between the different categories of deposits is replaced by a single-tier depositor preference, where the ‘super priority’ of the DGS/covered deposits s removed, resulting in all deposits ranking pari passu (same among themselves) and above ordinary unsecured claims.

The importance of the CMDI reform package has been confirmed by SRB Chair Mr. Laboureix, labelling it currently a key priority of the SRB while applauding the ‘many positive developments’ it embodied. The Chair stressed, however, that it will be crucial, throughout the legislative process, that the different parts of the framework continue to operate as a holistic solution to ensure that troubled banks can effectively be dealt with by the SRB. Overall, the package sends out a clear signal: further harmonisation and expansion of resolution practices in the EU while maintaining the current toolbox.

Objectives of the CMDI framework

The Banking Union is supported by a Single Rulebook composed of a set of EU laws which ensure the consistent application of the regulatory banking framework across the EU. To this end, the current CMDI framework is set out in three EU legislative texts; the BRRD, the SRMR, the DGSD which can be applied at different stages of the lifecycle of banks in distress. It provides for a set of instruments, ranging from preventive, precautionary or resolution Resolution is the orderly restructuring of a bank by a resolution authority when the bank is FOLTF. The objectives of resolution are set out in Article 14 SRMR.Show Footnote to alternative measures under national insolvency proceedings toolbox when the bank is declared failing or likely to fail (FOLTF) and the resolution of the bank (opposed to its liquidation) is in the public interest. There is also the option of national insolvency procedures where they are more suitable and do not harm the public interest or endanger financial stability.

The framework ensures a combination of funding sources to manage failures in an economically efficient manner, protecting financial stability and depositors as well as maintaining market discipline while reducing recourse to the public budget and ultimately the cost to taxpayers. The cost of resolving the banks is thus first covered through the bank’s own resources (i.e., shareholders and creditors) amounting to the bank’s internal loss absorption capacity and ultimately reduces moral hazard while improving market discipline. Where necessary, this can be complemented by funds from deposit guarantee schemes (DGS) and resolution financing arrangements - national resolution funds (RFs) or the Single Resolution Fund (SRF) in the EU – which are financed through the industry.

In the EU banking package of 2019 – the ‘risk reduction package’ Risk reduction package, available hereShow Footnote – significant changes were made to this framework in as much as it implemented further elements of the Basel III framework. These included amendments to the resolution regime by implementing the total loss-absorbing capacity (TLAC) requirement developed by the Financial Stability Board (FSB) for global systematically important institutions, adjusting the minimum requirements for own funds and eligible liabilities (MREL) for all EU banks. These revisions improved resolvability by increasing the bail-inable capital available in case of a bank resolution and thereby further reduced the risk of public funds being used for bank resolutions, ultimately creating a closer balance between liability and control.

In late 2020, the Eurogroup agreed to further strengthen the resilience and crisis resolution capacities of the euro area by developing the European Stability Mechanism (ESM) toolkit and establishing a common backstop the SRF. Statement of the Eurogroup in inclusive format on the ESM reform and the early introduction of the backstop to the SRF, published on 30 November 2020, available here.Show Footnote

The 2023 proposed reforms to the CMDI framework

With the 2023 proposed reforms, the Commission is seeking to address a set of limitations that have come to light during recent market turmoil gripping the banking market in March 2023. To fulfil the CMDI’s objectives, it is essential that losses related to the failure of a bank can be met while at the same time the risk of recourse to public funding in minimising.

Experience in the implementation of the CMDI framework, however, demonstrates difficulties in managing the failures of smaller/medium-sized banks. This holds true especially, where there is an implied allocation of losses to depositors which could affect depositors’ confidence and financial stability. Consequently, many failures are still managed with solutions outside of the resolution framework resulting in a reluctance to implement the CMDI framework as intended and oftentimes resulting in recourse to public funding.

Specifically, the effectiveness of the current CMDI framework is constrained by differing rules in the access to various crisis management tools. This in turn makes their use across the Member States more fragmented instead of, as intended, more harmonised. It also restricts access to industry-based funding without exposing depositors to losses. Accordingly, these aspects may (further) feed into a risk of market fragmentation and suboptimal outcomes in the management of bank failures, especially in respect to smaller and medium-sized banks that may be ‘too big to liquidate’ under national insolvency regimes.

The Commission’s proposal for targeted legislative reform aim at overcoming these limitations in the existing CMDI framework, notably by improving the interaction with national insolvency proceedings such that the CMDI framework can unfold its potential even more effectively for all EU banks, regardless of their size, liability structure and business model.

The proposals cover a range of interconnected key policy aspects. They endeavour to provide resolution authorities with an even more effective toolbox in order to ensure that, when a crisis unfolds and financial stability is at stake, depositors remain able to access their accounts. To this end, the proposed reforms aim to simplify the use of industry-funded safety nets, such as the SRF, to enable authorities to shield the depositors in bank crises for instance through the transfer from an ailing bank to a healthy one.

The Commission’s proposals also address other related elements, strengthening the predictability and efficiency of the framework, by facilitating an early triggering of resolution, improving the scope of protection and cross-border cooperation as well as harmonising national options under the DGSD. This package, while perhaps falling short of advancing EDIS, ultimately aims to review the CMDI framework by achieving a level playing field across the EU allowing it to accomplish its objectives more efficiently.

The 2023 proposed amendments to the BRRD

The proposed amendments to BRRD concern, most importantly, early intervention measures, conditions for resolution and the financing of resolution action. Many of the shortcomings of the current framework result from an interplay between the EU’s resolution framework and national rules which gives rise to inadequate incentives. Considering the divergence in national approaches representing a risk to the integrity of the single market, it is proposed that amending rules at Union level can better improve the effectiveness and efficiency of the recovery and resolution framework.

Bolstering early intervention measures and preparation for resolution

In order to ensure that early intervention measures may be used even when the conditions for supervisory measures under CRD or under Directive (EU) 2019/2034 (Investment Firms Directive - IFD) have been met, but those measures not having been taken by the institution or are deemed insufficient to address the identified issues, Arts. 27(1), 28 and 29(1) of the BRRD are proposed to be amended. These amendments aim to remove the ambiguity in the conditions for applying measures such as the removal of management and appointment of temporary managers and provide the authorities with the necessary legal certainty.

In addition, the internal sequencing between early intervention measures, removal of managers and appointment of temporary managers is removed. Under the proposal, these are now all subject to the same triggers although authorities are required to follow the principle of proportionality when choosing the most appropriate measure, given the circumstance. In order to ensure a that a consistent application of the triggers is maintained, the mandate of the European Banking Authority (EBA) to issue guidelines to that end is preserved.

In order to address the challenges observed by competent authorities in applying overlapping measures, the proposal foresees that the early intervention measures contained in Art. 27 of the BRRD which overlaps with the supervisory powers Concerning the examination of the financial situation by the management body, the removal of managers that no longer meet the suitability criteria, changes to the business strategy and to the operational structure of the institution.Show Footnote under Art. 104 CRD or Art. 49 IFD, are removed from the BRRD and retained only in CRD/IFD.

A new Art. 30a is also introduced to extend the interactions and responsibilities of competent and resolution authorities in the run-up to resolution. The underlying rationale of this Art. is to expand the limited provisions in the BRRD requiring cooperation between the authorities when the financial situation of a bank starts deteriorating. Under the proposal, the competent authority is required to notify the resolution authority when adopting certain supervisory measures under CRD or IFD not only when it actually applies the measures but also when it considers that the conditions for early intervention are met. Jointly with the resolution authority, the competent authority should monitor the financial situation of the institution and compliance with any imposed measure. Inter alia, these amendments aim at ensuring that competent and resolution authorities cooperate closely when considering early intervention measures or preparing resolution actions such as to guarantee consistency and effectiveness.

Early warning of FOLTF

Art. 30a BRRD further includes an obligation for the competent authority to notify sufficiently early the resolution authority as soon as it considers that there is a material risk that an institution or entity meets the conditions for being assessed as FOLTF, as laid down in Art. 32(4).

Under the proposal, resolution authorities are empowered to assess, in close cooperation with the competent authority, what it considers to be a reasonable timeframe for the purposes of looking for solutions, of private or administrative nature, that would be able to prevent the failure.    

The public interest assessment (PIA)

The PIA compares using resolution tools against insolvency, with a focus on how each scenario achieves the resolution objectives. The latter include: (i) the impact on financial stability; A wide-spread crisis may result in a different outcome of the PIA than an idiosyncratic failure.Show Footnote (ii) the assessment of the impact on the bank’s critical functions; and (iii) the need to limit the use of extraordinary public financial support.

Bearing in mind that the CMDI framework was designed to avert and manage the failure of institutions of any size, while protecting depositors and taxpayers, authorities may intervene by resorting to the toolbox provided to them by the BRRD (or in the Banking Union as applied through the SRMR), where the bank is considered failing or likely to fail, in the absence of a private solution. Where a resolution is not in the public interest, the bank failure should be carried out by national authorities through orderly national winding up proceedings, potentially with financing from the DGS or other funding sources, as appropriate.

Both the BRRD and SRMR leave margin of discretion to resolution authorities when carrying out the PIA, resulting in divergent applications and interpretations that do not always fully reflect the logic and intention of the legislation. Under the proposal, a number of amendments are put forward in order to minimise divergences and to broaden the application of the PIA, and thereby, the scope of resolution;

• Amendments to resolution objectives: in the absence of explicit reference to the impact of their disruption, the current definition of ‘critical functions’ could be interpreted such that functions may only be deemed critical when their discontinuation impacts the national level. To avoid divergent interpretation in what constitutes ‘critical functions’, reference is added in Art. 2(1), point (35) to the ‘national or regional level’ of the impact of the disturbance of their discontinuation to the real economy or financial stability.  A specific reference to support provided by the budget of a Member State is also included, such as to underline that funding through the industry-funded safety nets should be considered preferable to funding through taxpayer money. The proposal complements this with a change in the procedural rules on PIA, requiring the resolution authority to consider and compare all extraordinary public financial support that can reasonably be expected to be provided to the institution in resolution against those in the insolvency counterfactual; if liquidation aid is expected in the case of insolvency, this should lead to a positive PIA outcome (Art. 32(5), second subparagraph). To further clarify that resolution should aim at protecting depositors while minimising losses for deposit guarantee schemes, the resolution objective related to depositor protection is also adjusted. Where insolvency is more costly for the DGS, resolution should be preferred.
• Procedural changes to the comparison between resolution and national insolvency proceedings: In order to further broaden the application of resolution, the proposals foresee an amendment to the first paragraph of Art. 32(5) clarifying that national insolvency proceedings should only be selected as the preferred strategy when they achieve the framework’s objective (see above) better than resolution and not only to the same extent. While insolvency is preserved as the default option, this amendment results in an increased burden of proof for resolution authorities in demonstrating that resolution is not in the public interest. The PIA decisions remain at the discretion of the resolution authority on a case-by-case basis nonetheless.

Use of DGS in resolution

For certain smaller and mid-sized banks, especially those primarily financed with deposits, it can be hard to meet the requirements for accessing industry-financed external funding without bailing in deposits above the coverage level and those excluded from coverage. In certain cases, however, incurring losses on deposits can lead to widespread contagion and financial instability, exacerbating the risks of broader bank runs and, thereby, a serious adverse impact on the real economy.

The Commission is therefore proposing, in order to ensure a higher degree of proportionality of the resolution framework, to enhance the application of transfer tools in resolution for smaller or medium-sized banks. Proposed changes also aim to facilitate DGS interventions in support of such resolution tools where needed to prevent depositors from bearing losses. This is foreseen by amending Art. 109 such as to clarify that DGS can be used to support transfer transactions which include covered deposits, and, under certain conditions, also eligible deposits beyond the coverage level and deposits excluded from the DGS guarantee. To this end, the DGS contribution should cover part of or the entire difference between the value of the deposits transferred to a buyer (or a bridge institution) and the value of the transferred assets. The DGS should also be allowed to contribute to this effect, where a contribution is required by the buyer as art of the transaction to ensure its capital neutrality and to preserve compliance with the capital requirements.

Art. 109(1) BRRD requires that any loss which the DGS comes to bear as a result of an intervention in resolution does not exceed the loss that the DGS would bear in insolvency if it paid out covered depositors and subrogated to their claims. This amount is determined by the DGS on the basis of the least cost test, in accordance with the criteria and methodology set out in DGSD for any possible use of DGS. The same criteria and methodology are applied when determining the treatment that the DGS would have received in case the institution entered normal insolvency proceedings when carrying out the ex-post valuation under Art. 74 BRRD for the purposes of assessing compliance with the ‘no creditor worse off’ principle and determining whether any compensation is owed to the DGS.

Moreover, in order to ensure that the contribution of the DGS is strictly used for the purposes of depositor protection, where appropriate, and not for the protection of creditors that rank below deposits in insolvency, the amount of the DGS contribution may not exceed any shortfall in the value of the assets of the institution under resolution transferred to the buyer (or the bridge institution) in comparison to the value of the transferred deposits and liabilities with the same or a higher priority ranking in insolvency than those deposits.

A clarification is provided in Art. 109(1) BRRD specifying that the DGS can only contribute to a transaction including all deposits if it is concluded by the resolution authority that the eligible deposits exceeding the coverage level provided by the DGS, as well as the deposits excluded from coverage, should be protected from losses and cannot be bailed-in nor left in the residual institution under resolution, which will be wound up.

Lastly, to ensure access to resolution financing arrangements where necessary for the implementation of a transfer strategy paragraph 2b of Art. 109 provides that the DGS contributions in resolution should count towards the 8% total liabilities and own funds (TLOF) requirement for accessing the resolution financing arrangement. If the contribution made by shareholders and creditors of the institution under resolution through reductions, write-downs or conversion of their liabilities, summed with the contribution made by the DGS amounts to at least 8% of the institution’s total liabilities incl. own funds, it will be possible for the resolution authority to use the resolution financing arrangement to finance the resolution action, which must lead to the failing institution’s exit from the market.

It is quite conceivable that the above will, if materialising in the approach advocated, translate into further or even new pressures on banks’ data quality and frequency of reporting. This could mean greater supervisory scrutiny and frequency of data requests in terms of breadth and granularity of what banks report and go beyond what is already required of them in ordinary reporting as well as delivering a single customer view of relevant exposures and how that translates into eligible deposits covered by the DGS protection levels as well as ultimately other deposits.   

Depositor preference

On the ranking of remaining deposits – non-covered non-preferred (i.e., corporate non-SME deposits exceeding the coverage level of EUR 100 000) and excluded deposits (incl. deposits of public authorities, financial sector entities and pension funds – the BRRD is currently silent. In most Member States, the non-covered non-preferred deposits rank alongside ordinary unsecured claims, including senior debt instruments eligible for MREL in insolvency. In the minority of Member States, they rank above ordinary secured claims.

In order to facilitate the use of the DGS in resolution under the least cost test safeguard where this is necessary to maintain financial stability and protect depositors, as well as removing impediments to resolution, Art. 108(1) BRRD is proposed to be amended to introduce a general depositor preference with a single-tiered ranking Stylised view of creditor hierarchy in insolvency under the current framework (three-tier depositor preference) and under the proposed reform (single-tier general depositor preference)] through two key changes.

1. The legal preference in insolvency laws of Member States required by BRRD relative to ordinary unsecured claims is extended to include all deposits. This entails that all deposits, including eligible deposits of large corporates and excluded deposits, rank above ordinary unsecured claims.
2. The relative ranking between the different categories of deposits is replaced by a single-tier depositor preference, where the super preference of the DGS/covered deposits is removed, and where all deposits rank pari passu  and above ordinary unsecured claims.  

For the Commission, a single-tier depositor preference would not impinge on the protection currently enjoyed by overed depositors, who are always insured under the DGSD in case their accounts become unavailable and are mandatorily excluded from bearing losses in resolution.

In addition, the proposal addresses the argument of cost-efficiency associated with the use of DGS funds in resolution compared to the cost of pay-out of covered deposits in insolvency. It points to empirical evidence in the impact assessment  showing that paying out covered deposits can quickly deplete the financial means of the DGS or that, in some cases, the DGS financial means cannot sustain a pay-out even when the amount of covered deposits is significant. To this end, the CMDI review aims to enable cheaper, more cost-efficient alternative uses of DGS in resolution, when compared to the cost of DGS pay-out in insolvency, to support a transfer of assets and liabilities (incl. deposits) followed by market exit.

Conditions for providing extraordinary public financial support

Under the Commission’s proposals, the BRRD is being made more specific in regard to the conditions on when extraordinary public financial support outside of resolution can be provided and what form it can take. Providing such support in any other situation outside of resolution should not be permitted and should result in the receiving institution or entity being considered as falling or likely to fail.

It follows that extraordinary public financial support outside of resolution should be limited to cases of; (i) precautionary recapitalisation; (ii) preventive measures of DGS aimed at preserving the financial soundness and long-term viability of credit institutions; (iii) measures taken by DGS to preserve the access of depositors, and (iv) other forms of support granted in the context of winding up proceedings.

Precautionary recapitalisation

The Commission considers it necessary to lay down more clearly the permissible forms of precautionary measures provided outside of a resolution scenario and aimed at recapitalising the entity concerned. The granted measures should be temporary in nature because they are supposed to address adverse consequences of external shocks and not used to compensate for intrinsic weaknesses (i.e., linked to an outdated business model).

The use of perpetual instruments, such as Common Equity Tier (CET) 1 should become exceptional and possible only if other forms of capital instruments would not be adequate. This amendment is necessary to ensure that the support remains temporary in nature and calls for stronger and more explicit requirements on determining in advance the duration and exit strategy for the precautionary measures needed; the entity receiving the support should be solvent at the time the measures are applies.i.e., assessed by the competent authority as not being in breach and not likely to breach the applicable capital requirements in the next 12 monthsShow Footnote Should the conditions, under which the support is granted, not be adhered to, the entity receiving the support should be considered as failing or likely to fail.

Art. 32b and market exits

The 2019 Banking Package of reforms introduced a new Art. 32b into BRRD, requiring Member States to ensure the orderly winding up in accordance with the applicable national law of failing banks, which are not resolved due to a negative PIA. The implementation of this provision in national legal frameworks, however, is not sufficient to address all residual risks of failing institutions not exiting the market. In particular, uncertainty persists as to which procedure should apply in such cases, and in particular, whether only normal insolvency proceedings should apply or whether any other national procedures could also apply.

In order to provide further framing and clarity to resolve the existing inconsistency and uncertainty across Member States, an amendment of Art. 32b is proposed which ensures that applicable national procedures lead to the market exit of the bank within a reasonable timeframe. This amendment neither aims at, nor leads to harmonisation of national insolvency rules, and a margin at national level is preserved as to how this market exit should occur (i.e., through a sale or otherwise).

In this context, the proposal foresees to further enhance the role of the withdrawal of the bank’s license when failing or likely to fail is declared, and no resolution ensues. To this end, the new provision of Art. 32b(3) empowers supervisors to withdraw the license solely based on the failing or likely to fail determination, which in itself shall be a sufficient condition for the relevant national administrative or judicial authorities to initiate without delay the applicable national winding-up procedure.

Proposed amendments to MREL

The BRRD provides that institutions established in the EU should meet a minimum requirement for own funds and eligible liabilities (MREL) so as to ensure an effective and credible application of bail-in tool in the context of a resolution scenario. Failure to meet MREL may negatively impact institutions' loss absorption and recapitalisation capacity and, ultimately, the overall effectiveness of resolution. This requirement is part of the necessary steps needed to make institutions resolvable. The BRRD requires that MREL is tailored to bank-specific features, including its size, business model, funding model and risk profile and the needs identified to implement the resolution strategy.

MREL serves to prevent a bank’s resolution from depending on the provision of public financial support, and so helps to ensure that shareholders and creditors contribute to loss absorption and recapitalisation.

MREL is a separate minimum requirement set by resolution authorities that applies to an institution alongside its prudential minimum capital requirements. The calibration of MREL is, however, linked to prudential requirements as some of its components refer to capital requirements (Pillar I, Pillar II, prudential buffer requirements), and capital instruments held by the banks to comply with their prudential requirements are also eligible as MREL.

MREL targets are set by EU resolution authorities (in the Banking Union, the SRB), after consultation with prudential supervisors, and should be complied with by banks at the end of the transitional period, if any. MREL pursues the same regulatory aim of ensuring sufficient loss absorbing and recapitalisation capacity in resolution as the TLAC standard developed by the FSB. TLAC was designed for global systemically important banks (G-SIBs) at the international level, and has been formulated differently in some aspects.

The Commission proposes the following changes to the minimum requirements for own funds and eligible liabilities (MREL) regime.

• MREL for transfer strategies: In view of providing a clearer basis for distinguishing MREL calibration for transfer strategies from the one for bail-in and ensure proportionality and consistent application, a new Art. 45ca is added in the proposal setting out the principles which should be considered when calibrating MREL for transfer strategies – size, business model, risk profile, transferability analysis, marketability, whether the strategy is an asset or share deal and complementary use of asset management vehicle for assets which cannot be transferred.
  These amendments reinforce the principle that MREL should remain the first and main line of defense for all banks, including for those that will be subject to a transfer strategy and market exit, to ensure that losses are absorbed to the maximum extent possible by shareholders and creditors.
• Estimating the combined buffer requirement in case of prohibition of certain distributions: A new paragraph 7 is added to Art. 16a to clarify that the power to prohibit certain distributions should be applied on the basis of the estimation of the combined buffer requirement resulting from the delegated act under Art. 45c(4) that specifies the methodology to be used by resolution authorities to estimate the combined buffer requirement in such circumstances.
• De minimis exemption from certain MREL requirements: The proposal adds a new paragraph to Art. 45b BRRD, allowing resolution authorities to permit resolution entities to comply with the MREL subordination requirements using senior liabilities when the conditions in Art. 72b(4) CRR are met. To ensure alignment with the TLAC framework, resolution entities benefitting from the de minimis exemption may not have their MREL subordination requirement adjusted downwards by an amount equivalent to the 3.5 total risk exposure amount (TREA) allowance for TLAC pursuant to the second sentence of the first subparagraph of Art. 45b(4) BRRD.

Contingent liabilities

The proposal also introduces clarifications regarding the status of contingent liabilities and provisions for the purposes of resolution planning and execution. The amendments take into account the International Accounting Standards Board’s (IASB) International Accounting Standard (IFRS) 37 ‘Provisions, Contingent Liabilities and Contingent Assets’ and introduce references to (i) provisions i.e., liabilities of uncertain timing or amount] and (ii) contingent liabilities. i.e., possible obligations depending on whether some uncertain future event occurs, or present obligations for which payment is not probable or the amount cannot be measures reliablyShow Footnote

Contributions and irrevocable payment commitments

The proposal introduces technical amendments to Arts. 102 and 104 BRRD as well as 69 and 71 SRMR to disconnect the maximum amount of ex post contributions that may be raised from the amount of the regular ex ante contributions, thus avoiding a disproportionately low cap on ex post contribution, as well as to allow for a deferral of the collection of the regular ex ante contributions in case the cost of an annual collection would not be proportionate to the amount to be raised.

The treatment of irrevocable payment commitments is also clarified in Art. 103 and Art. 70 SRMR as regards to, both, their use in resolution and the procedure to follow in case an institution or entity ceases to be subject to the obligation to pay contributions.

Further mandates for the EBA

The EBA has developed common standards to supplement the provisions set out in BRRD and harmonise authorities’ practices across the Union. The proposals foresee new roles and responsibilities for EBA in light of reporting on the existing practices, fostering convergence and promoting a high level of preparedness among the competent and resolution authorities.

In particular, new mandates are proposed by the Commission to be awarded to the EBA to monitor the actions taken by resolution authorities to ensure an effective implementation of the framework and assess possible divergences among Member States in the areas of resolvability assessments and the operationalisation of resolution tools and powers. A further new role is introduced for EBA to foster convergence and exchanges between competent and resolution authorities through the coordination of EU-wide exercises to test the application of the framework, in recovery and resolution.

The proposal seeks to expand the existing regulatory technical standards (RTS) on the estimation of the additional own funds requirement and the combined buffer requirement, which have been adopted through Commission Delegated Regulation (EU) 2021/1118, such as to capture not just resolution entities but also entities that have not been identified as resolution entities.

Other proposed changes

The Commission’s has also proposed the following further changes to the BRRD:

• Annual update of recovery plans: To reduce the administrative burden on institutions as regards obligations to update recovery plans on an annual basis, a third subparagraph is added to Art. 5, paragraph 2, which provide that supervisors shall have the discretion to waive the requirement to update certain parts of the plan for a given cycle in the absence of any changes to the legal or organisational structure of the institution, its business or its financial situation. Resolution authorities have to identify measures to be taken with respect to group entities when drafting group resolution plans. In order to reduce the inconsistency of intensity and level of detail underlying this work with respect to subsidiaries that are not resolution entities, a new Art. 1281) is introduced in the BRRD allowing resolution authorities to follow a simplified approach, where appropriate, when carrying out this task.
• Clarifications to Art. 44(7) BRRD: In order to mitigate the uncertainty related to the condition and sequence of resorting to the resolution financing arrangement and alternative financing sources, paragraph 7 of Art. 44 BRRD and 27 SRMR are amended to provide legal clarity and additional flexibility to use the RF beyond the 5% TLOF.
• Resolution colleges: To ensure alignment with Art. 51(3) of CRD which provides for the establishment of colleges of supervisors by the competent authorities supervising an institution with significant branches in other Member States, a new paragraph 6a is added to Art. 88 BRRD in order to facilitate the cooperation and exchange of information between the home and host supervisors. The paragraph provides for the setting up of resolution colleges in these cases to facilitate the cooperation an exchange of information between the home and host resolution authorities.
• Ranking of resolution financing arrangements’ claims: Art. 37(7) BRRD provides that the resolution financing arrangement should be able to recover any reasonable expenses properly incurred in connection with the use of resolution tools and powers from the institution under resolution as a preferred creditor. However, BRRD did not lay down how the resolution financing arrangement ranks vis-à-vis other preferred creditors. The new paragraph 9 added to Art. 108 BRRD clarifies that those claims of the resolution financing arrangement should rank above the claims of depositors and of DGSs. In addition, a new paragraph 8, added in Art. 108 BRRD specifies that, where the activity of the institution under resolution is partially transferred to a bridge institution or a private purchaser with the support of the resolution financing arrangement it should have a claim against the residual entity.
• Information exchange: In order to allow the SRB, the European Central Bank (ECB), acting int its SSM role and other members of the European System of Central Banks, as well as EBA, the resolution authorities and national competent authorities (NCAs) to provide the Commission with all information necessary for the performance of its tasks related to policy development, Art. 128 BRRD is amended accordingly.

The 2023 proposed amendments to the SRMR

Although supervised firms, in particular Banking Union supervised institutions, made significant progress over recent years towards improving their resolvability by dedicating significant resources, in particular through enhancing loss absorption and recapitalisation capacity besides filling up resolution financing arrangements, the current EU resolution framework of the BRRD and the SRMR in the Banking Union is hardly ever used.

The Commission’s proposals are a response to the necessity of ensuring a more effective and coherent application of the current EU resolution framework in place. It should be possible to apply this framework whenever it is in the public interest, including for smaller and medium-sized institutions which are primarily funded through deposits and do not have access to sufficient other bail-in liabilities.

Early intervention measures and preparation for resolution proposed in SRMR

Art. 13 SRMR is proposed to be replaced by a new set of articles (Arts. 13 to 13 c) reflecting the corresponding BRRD provisions on early intervention (Arts. 27 to 29 BRRD), in order to provide the ECB, in its SSM role, with a directly applicable legal basis for the exercise of those powers. The proposals specify that the prior adoption of early intervention measures, or even the meeting of the conditions for early intervention, are not preconditions to start the preparation for resolution or to exercise the related powers.

The new Art. 13c builds on the former Art. 13 and provides additional details on cooperation in the run-up to resolution, concerning the type of information that should be exchanged, the situations in which the ECB-SSM or the NCA need to exchange information and the type of arrangements that the Board may put in place for resolution.

Early warning of FOLTF for SRMR

Under the proposal, Art. 13c now includes an obligation for the ECB (or NCA, in relation to less significant cross-border groups under the SRB’s direct remit) to notify sufficiently early the SRB as soon as it considers that there is a material risk that an institution or entity meets the conditions for being assessed as failing or likely to fail, laid down in Art. 18(4).

In line with recent case law of the Court of Justice of the EU (the CJEU),Order of 6 May 2019, ABLV Bank / ECB, T-281/18, EU:T:2019:296, paragraphs 34 to 36, and Judgment of 6 May 2021, ABLV Bank / ECB, C-551/19 P and C-552/19 P, EU:C:2021:369, paragraphs 62 to 71.Show Footnote where the PIA results in the need to resolve the institution or entity, the SRB should adopt a resolution scheme. Moreover, the SRB has the exclusive power to assess the conditions required for the application of resolution action, subject to the endorsement of the resolution scheme by the Commission and, where applicable, non-objection by the Council.

Proposed changes to the PIA for purposes of SRMR

The SRMR leaves margin of discretion of the SRB when carrying out the PIA, which leads to divergent applications and interpretations that do not always fully reflect the logic and intention of the CMDI framework. The proposal stresses that the PIA has been applied rather restrictively in the Banking Union in some cases. In order to minimise divergences and widen the application of the PIA, (i.e., broadening the scope of resolution) the proposal includes the following legislative amendments:

• Amendments to the resolution objectives: The resolution objective is amended to include a specific reference (in Art. 14(2)(c)) to support provided by the budget of a Member State, to indicate that funding provided by industry funded safety nets should be considered preferable to funding provided by taxpayers’ money. This is complemented with a change in the procedural rules on PIA, requiring the Board to consider and compare all extraordinary public financial support that can reasonably be expected to be provided to the institution in resolution against those in the insolvency counterfactual. If liquidation aid is expected in the insolvency counterfactual, this should lead to a positive PIA outcome (Art. 18(5), second subparagraph of SRMR); and  
• Procedural changes to the comparison between resolution and national insolvency proceedings: under the current SRMR, the Board is expected to choose insolvency unless opting for resolution would better achieve the resolution objectives. Article 18(5) SRMR currently provides that resolution shall only be chosen when winding up the institution under normal insolvency proceedings would not meet the resolution objectives to the same extent.Show Footnote The proposal introduces an amendment to Art. 18(5) SRMR to clarify that national insolvency proceedings should be selected as the preferred strategy only when they achieve the framework’s objectives better than resolution (and not to the same extent).

Use of DGS in resolution in the context of SRMR

The Commission’s proposal introduces an amendment to Art. 79 SRMR to specify that the DGS to which the credit institution is affiliated should be used for the purposes and under the conditions laid down in Art. 109 BRRD. In addition, the second and third subparagraphs of Art. 79(5) SRMR, which mirror the conditions under the current Art. 109(5), second and third subparagraphs BRRD, are deleted.

Given that resolution decisions within the Banking are taken by the Board, while the financing might be provided from national DGS resources, the reference to Art. 109 BRRD in the first paragraph of Art. 79 SRMR also ensures that the enhanced role of the DGS under BRRD should apply in the decision-making process for banks under the Board’s remit. In particular, the calculation of the cost of repaying depositors for the purpose of capping the amount of the DGS contribution to resolution remains at national level under the responsibility of the DGS based on the least cost test (LCT).

Conditions for providing extraordinary public financial support in the SRMR

Existing rules ensuring that public funds in the form of extraordinary public financial support are not used to support institutions or entities that are not financially viable are not sufficiently precise. The provision of extraordinary public financial support outside of resolution should be limited to cases of precautionary recapitalisation, preventive measures of DGS aimed at preserving the financial soundness and long-term viability of credit institutions, measures taken by DGS to preserve the access of depositors and other forms of support granted in the context of wining up proceedings.

Where an institution receives extraordinary public financial support outside of any other situation than resolution, this should result in its being considered as failing or likely to fail.

Proposed changes to MREL in SRMR

In the same manner as changes proposed to the BRRD, the Commission has proposed the following MREL driven changes for SRMR:

• MREL for transfer strategies: the proposal introduces a new Art. 12da which is added in the SRMR and sets out the principles which should be considered by the SRB when calibrating MREL for transfer strategies: size, business mode, risk profile, transferability analysis, marketability, whether the strategy is asset or share deal, complementary use of asset management vehicle for assets which cannot be transferred, and the amount which DGS is expected to contribute to finance the preferred strategy in resolution;
• Estimating the combined buffer requirement in case of prohibition of certain distributions: a new paragraph 7 is added to Art. 10a in the SRMR to clarify that the power to prohibit certain distributions should be applied on the basis of the estimation of the combined buffer requirement. The latter resulting from the delegated act under Art. 45c(4) SRMR, specifies the methodology to be used by resolution authorities to estimate the combined buffer requirement in such circumstances; and
• De minimis exemption from certain MREL requirements: The proposal adds a new paragraph 10 to Art. 12c SRMR, allowing the SRB to permit resolution entities to comply with the MREL subordination requirements using senior liabilities when the conditions in Art. 72b(4) CRR are met.
  To ensure alignment with the TLAC framework, resolution entities benefitting from the de minimis exemption may not have their MREL subordination requirement adjusted downwards by an amount equivalent to the 3.5% TREA allowance for TLAC pursuant to the second sentence for the first subparagraph of Art. 12c(4) BRRD.

Other changes proposed to SRMR

The Commission is proposing the following further targeted changes to SRMR:

• Amendments to resolution planning: the proposal introduces a new subparagraph in Art. 8(10), which will allow resolution authorities to follow a simplified approach, where appropriate, when carrying out this task;
• Clarifications on Art. 27(9): reflecting the amendment of paragraph 7 Art. 44 BRRD, Art. 27 SRMR is amended to provide legal clarity and additional flexibility to use the RF beyond the 5% TLOF:
• Governance of the SRB: an amendment to Art. 56 is proposed in order to establish the possibility of the Chair, the Vice-Chair and the permanent members of the Board to serve a second term in office, in the same capacity as during their first term. The procedure for renewal has been designed taking into account the procedure applicable to the renewal of the Chairpersons of the European Supervisory Authorities. In order to grant the Vice Chair a voting right and to accommodate this voting right throughout SRMR, further amendments are proposed to Art. 43, 53 and 55 SRMR;
• Ranking of SRF claims: the new paragraph 6 added to Art. 76 clarifies that in each Member State, the claims of the Board should have the same ranking as the claims of the national resolution funds pursuant to the new Art. 108(9) BRRD. Furthermore, paragraph 5 is introduced in Art. 76 providing that the Board should have a claim against a residual entity, where the activity of the institution under resolution is partially transferred to a bride institution (or a private purchaser with the support of the SRF). Although the existence of such a claim should be assessed on a case-by-case basis, it should be connected to the use of the SRF to bear losses in lieu of creditors; Such as when the SRF is used to guarantee assets and liabilities transferred to a recipient or to cover the difference between the transferred assets and liabilities.Show Footnote
• Allocation of responsibilities: the proposal seeks to clarify that the following tasks fall within the responsibility of the NRAs, in the case of entities within their remit: resolution planning, resolvability assessment, assessment of simplified obligations, MREL setting or adoption of resolution schemes. The proposal seeks to clarify further, in Art. 10a(1), that the SRB is able to instruct the relevant NRA to exercise the power to prohibit certain distributions, in as much as there is currently no procedure regarding the exercise of this power. In addition, the proposal seeks to clarify, in Art. 12, that the SRB is directly responsible for granting the permission to call, redeem, repay or repurchase eligible liabilities instruments for entities under its direct remit. To this end, an amendment in Art. 8 is proposed to clarify that the SRB is able, where it deems necessary, to instruct NRAs to require an institution or entity to maintain detailed records of the financial contracts to which the institution is a party.
  It is further clarified in Art. 18(11) that the SRB is able to instruct NRAs to exercise their power to suspend some financial obligations following the determination that the institution or entity is failing or likely to fail, pursuant to Art. 33a of Directive 2014/59/EU. Amendments to Art. 18 also clarify the division of tasks between the ECB and the national competent authorities as regards the failing or likely to fail assessment. The assessment of whether an institution or entity is failing or likely to fail is to be performed by the ECB for the significant institutions and by the relevant national competent authority for the less significant institutions and entities for which the SRB adopts the resolution scheme. It is specified in Art. 31 that NRAs should consult the SRB before they act in accordance with Art. 86 of the BRRD, which provides that normal insolvency proceedings in relation to institutions and entities within the scope of the BRRD shall not be commenced except at the initiative of the resolution authority and that a decision placing an institution or an entity into normal insolvency proceedings shall be taken only with the consent of the resolution authority; and  
• Disclosures: the proposal seeks to amend Art. 88 SRMR in order to allow the SRB to disclose information that is not directly collected from institutions and entities within its remit but results from its own analyses, assessments and determinations when this would not undermine the protection of the public interest as regards financial, monetary or economic policy and that there is an overriding public interest in the disclosure.

The 2023 proposed amendments to the DGSD

The proposed amendments to the DGSD build on and clarify the mandate of DGSs to better protect deposits in the context of reimbursement of depositors. They also enhance the role of the DGS outside of situations in which depositors are repaid by the DGS following the failure of a bank for the purpose of bank crisis management with the view to maintain depositor confidence and financial stability. The amendments introduce specific requirements to simplify the day-to-day activities of DGS and deal with administratively complex situations, including aspects of the level of temporary high balances, the treatment of safeguarding accounts, anti-money laundering (AML) prevention, eligible assets, the investment strategy and the cooperation between DGSs.

The proposed amendments have to be transposed within two years after entry into force of the amending Directive. The new rules regarding the application of safeguards on the use of preventive measures by DGSs under Art. 11a require organisational changes and gradual building up of operational capacities of the DGSs and the designated authorities which justify a longer implementation period. Considering specificities of the Investor Protection Schemes (the IPS) which are recognised as DGS, this implementation period may be extended in cases justified by the competent authorities on prudential grounds.

Changes to subject matter and scope (Art. 1 DGSD) and changes to terms and definitions (Art. 2 DGSD)

In view of the enhanced possibilities for the use of DGS for financing preventing measures, transfer strategies in resolution and alternative measures in insolvency, Art. 1 is amended to clarify that the mandate of DGS includes the coverage and repayment of deposits and the use of DGS funds for measures to maintain access of depositors to their deposits. To this end, paragraph 2(d) is amended to specify that branches of credit institutions established in third countries are covered by the DGSD.

Under the proposals, Art. 2 is amended to introduce definitions on the clients’ funds deposits and AML and terrorist financing which are consistent with the new provisions introduced under the proposal following EBA recommendations in its opinions.

Harmonising eligibility of deposits for a DGS repayment (Art. 5 DGSD) and coverage level of depositor protection (Art. 6 DGSD)

A divergent implementation of the definition ‘public authorities’ led in a different scope of protection of deposits across member States. To address the resulting difficulties for credit institutions and DGS, Art. 5 is amended such as to include all public authorities with the objective of harmonising and enhancing their protection. The Art. also clarifies that deposits related to terrorist financing are excluded from the scope of protection of the DGS.

The proposals seek to harmonise the minimum level of protection for temporary imbalances and the related protection period as well as clarify the scope of protected deposits held in view of real estate transactions, by amending Art. 6 accordingly.

Clarifying the burden of proof (Art. 7a and Art. 8 DGSD)

To clarify the procedural aspect of eligibility or entitlement to the deposits, a new Art. 7a is introduced which leaves the burden of proof with the depositors and account holders to prove that they are absolutely entitled to the deposits in beneficiary accounts or accounts with temporary high balances.

To reflect this and to provide more time for the verification of eligibility for repayment, Art. 8 is also amended to allow DGS to apply a longer period of up to 20 working days in the case of repayment of beneficiary accounts, client funds, ad temporary high balances from the date on which a DGS received the complete documentation allowing the examination of claims and verification of conditions for repayment. The amendment also foresees the DGS to be able to set a threshold for the repayment of dormant accounts.

Introducing new harmonised scope on segregated accounts (Art. 8b DGSD) and AML prevention (Art. 8c DGSD)

Certain financial institutions i.e., investment firms, payment or e-money institutions.Show Footnote are required to safeguard funds which they collect from their clients via, inter alia, placing them on segregated accounts with credit institutions. The proposal introduces a new Art. 8b which sets rules on harmonising the scope of deposit protection to such funds deposited on behalf and for the account of their clients, for the purpose of segregation. This article also details the modalities for the repayment of the account holder or the client and lays down an empowerment to the EBA to draft regulatory technical standards for the identification of clients.

A further new Art. 8c is introduced with the objective to avoid repayment of deposits where the outcome of customer due diligence reveals that there is a suspicion of money laundering or terrorist financing as well as to ensure smooth exchange of information between the designated authority and the DGS in these cases.

Clarifying claims against residual institutions in context of transfer strategies (Art. 9 DGSD)

Art. 9 is amended to specify that the DGS has a claim against the residual institution or entity in its subsequent winding-up proceedings under national law, where the funds of the DGS are used in the context of transfer strategies in resolution and as an alternative in insolvency proceedings. The proposals foresee this claim to rank at the same level as deposits under national insolvency rules to ensure that the shareholders and creditors left behind in the residual institution or entity effectively absorb the losses of the institution and to improve the possibility of repayments in insolvency to the DGS.

Revising reference period for calculation of target level (Art. 10 DGSD)

The proposal introduces an amendment to Art. 10 in order to specify the reference period for the calculation of the target level and the fact that only money directly contributed to the DGS or recovered by the DGS are eligible to fulfil the target level. This revision is in line with the current applicable rules under EBA’s guidelines. Essentially the objective is to clarify that money which is collected amid loans is not eligible to reach the target level.

As the option of raising the available financial means through the mandatory contributions paid by member institutions to existing schemes of mandatory contributions established by a Member State has not been used by any Member State, paragraph 4 of Art. 10 is deleted.

An additional new paragraph 11 is added to Art. 10 which provides for the flexibility of DGSs to use alternative funding arrangements before available financial means and funds collected through extraordinary contributions. Such flexibility would enable DGSs to avoid having to immediately raise extraordinary contributions where raising such contributions would endanger financial stability (i.e., in a systemic crisis). It further clarifies requirements ensuring the sound management of DGS funds and mandates the EBA to develop guidelines on the diversification of the DGS’ investment strategy. It also provides for the possibility to place DGS funds on a segregated account at the national central bank or national treasury.

Distinguishing between preventive and alternative measures (Art. 11 DGSD)

The proposals amend Art. 11 to clarify that preventive measures are DGS interventions of financial support of a bank in distress (i.e., guarantees, cash injections, participation in capital increase) before the bank meets the conditions for failing or likely to fail with the objective to preserve its financial soundness. Alternative measures, however, are DGS interventions supporting the transfer of deposits and assets of the failing bank to another bank (i.e., in the form of a cash contribution to fill the gap between asset and deposit guarantees) in the context of insolvency to preserve the access of deposits to their money.

Further amendments to Art. 11(a) also establish a set of safeguards for preventive measures and allocate the responsibilities among authorities for assessment of their fulfilment. Art. 11(b) provides for conditions underlying the plan that a credit institution has to draft and submit to its competent authority in order to justify the need for using DGS funds to ensure or restore compliance with prudential requirements.

In Art. 11(c) requirements for credit institutions which did not comply with their commitments or fail to repay precious preventive measures are established. To this end, EBA is mandated to develop guidelines on the content of the plan needed for the efficient implementation of a preventive measure and to ensure convergence of the supervisory practices on its approval by the competent authority.

In the scenario of recourse to DGS funds for the purpose of alternative measures referred to in Art. 11(5), Art. 11(d) provides for the conditions for the marketing of bank assets, rights and liabilities. A new Art. 11e clarifies and harmonises the approach to perform the least cost test, which determines by which maximum amount a DGS may intervene outside pay-out, to finance preventive, resolution and alternative measures. A pay-out can generate direct and indirect costs for the DGS and its members. The EBA is mandated to develop draft regulatory technical standards specifying the methodology for least cost test completion.

Driving DGS protection of depositors of branches in another Member State (Art. 14 DGSD)

The proposals foresee an amendment to Art. 14 to clarify that DGS’s protection also covers depositors located in Member States where their member credit institutions exercise the freedom to provide services. It sets the conditions to give a DGS in a host Member State the possibility to reimburse directly depositors of a branch belonging to a credit institution from another Member State or to operate as a point of contact for depositors at credit institutions that exercise the freedom to provide services.
The EBA is mandated to develop guidelines on the respective roles of home and host DGSs and on the circumstances and conditions under which a home DGS should decide to reimburse depositors at branches located in another Member State. The amendment to Art. 14 furthermore specifies the rules applicable to the calculation of funds to be transferred when a member institution changes its DGS affiliation form one Member State to another.

Third-country branches DGS membership requirement (Art. 15 DGSD)

An amendment to Art. 15 requires that branches of credit institutions established in third countries join a DGS within a Member State if they want to provide banking services and take eligible deposits in the EU. Specifically, it enshrines this membership requirement and ensures equal protection for depositors in the EU branches of third country banks and in EU banks and their branches in different Member States.

A new Art. 15a also would allow DGS coverage of depositors belonging to branches of member institutions located in third countries if the collected funds are above the minimum target level – so to avoid that DGS funds are exposed to economic and financial risks in third countries.

Improving information on deposit protection (Art. 16 DGSD)

An amendment to Art. 16 is introduced, in order to harmonise information which banks have to provide to their clients on an annual basis on how their deposits are protected. It also enhances the information requirements of depositors in case of merger or other major reorganisation of the credit institution, change of DGS affiliation or unavailability of deposits due to he critical financial situation of the bank.

A new Art. 16a is also introduced to strengthen reporting requirements and the exchange of information from the credit institution to the DGSs and from the DGSs and the designated authorities to EBA.

Other proposed changes to DGSD

Other proposed changes include:

• Paragraph 8 of Art. 4: is consolidated in the new Art. 16a on exchange of information between credit institutions and DGS and reporting by authorities (see below);
• Paragraph 5 of Art. 7 is deleted: considering the divergent interpretations of the existing options related to the deduction from the repayable amount of liabilities of depositors that have fallen due, paragraph 5 of Art. 7 is deleted to harmonise the rules for the calculation of the repayable amount. Following EBA opinion, paragraph 7 is amended to take into account situations where the interest rate is negative; and
• A new Art. 8a is inserted: to ensure that depositors, above a threshold of Euro 10,000, are reimbursed via credit transfers in line with the AML/CFT objectives.

Proposed amendments to the Daisy Chain Act

The EU MREL framework was previously amended by Regulation (EU) 2022/2036 of the European Parliament and of the Council (the Daisy Chain Act), Regulation (EU) 2022/2036 of the European Parliament and of the Council of 19 October 2022 amending Regulation (EU) No 575/2013 and Directive 2014/59/EU as regards the prudential treatment of global systemically important institutions with a multiple-point-of-entry resolution strategy and methods for the indirect subscription of instruments eligible for meeting the minimum requirement for own funds and eligible liabilities (OJ L 275, 25.10.2022, p. 1–10).Show Footnote which established methods of indirect subscription of those instruments which are eligible for meeting the internal MREL. Upon a technical assessment conducted by EBA, the regulation introduced a deduction mechanism Also referred to as ‘full holdings-based deduction approach’.Show Footnote for the indirect subscriptions of internal MREL through intermediate entities in a chain of ownership (i.e., between the ultimate subsidiary and the resolution entity) such as to ensure the effective application of internal loss transfers in the MREL framework. This mechanism obliges intermediate entities to deduct from their own internal MREL capacity the holdings of internal MREL eligible instruments which were issued by other entities and are part of the same resolution group.

Upon analysing the deduction mechanism, the Commission found that targeted amendments to the BRRD and the SRMR regarding the scope of application of internal MREL requirements and the treatment of liquidation entities are necessary and appropriate. The proposed amendments aim at contributing to the resolvability of banks by improving the functioning and proportionality of the deduction mechanism and will seek to ensure that it does not create level playing field issues between different banking group structures.

To achieve a reduction in the regulatory burden while preserving the possibility for the resolution authorities to still determine MREL for liquidation entities in certain exceptional cases, the second and third subparagraphs of Art. 45c(2) BRRD are replaced with a new paragraph 2a, which sets a new general rule that resolution authorities should not determine MREL for liquidation entities. Respective amendments are introduced in Art. 12d SRMR, with the deletion of the second and third subparagraphs of paragraph 2 and the insertion of a new paragraph 2a.

Liquidation as part of daisy chain structures

The proposal introduces new Art. 44c(2a) BRRD and Art. 12d(2a) SRMR which explicitly provide that holdings of own funds instruments or liabilities issued by liquidation entities that would no longer be subject to an MREL decision should not be deducted by the intermediate parent under the daisy chain deduction rules. Consequently, intermediate entities holding own funds instruments and liabilities issued by liquidation entities will need to apply risk weights to those exposures and to include them in their total exposure measure. Exposures as such are taken into account when calculating the total risk exposure amount as well as the total exposure measure of the intermediate entity, such that the applied risk weights ensure that the intermediate entity will be required to hold a certain amount of internal MREL that will reflect those exposures to the liquidation entities.

Moreover, Art. 45i is amended to introduce a statutory reporting regime in the legal text for liquidation entities for which an MREL decision has been adopted. i.e., those entities the MREL of which exceeds the loss absorption amount.Show Footnote

Consolidated internal MREL

The analysis carried out by the Commission according to the review clause introduced by Regulation (EU= 2022/2036 has concluded on the appropriateness of allowing certain intermediate entities, belonging to either HoldCo or OpCo structures, to comply with internal MREL on a consolidated basis.

As a result, the proposal puts forward amendments to Art. 45f(1) BRRD and Art. 12g(1) SRMR to give the resolution authority the discretionary power to set internal MREL on a consolidated basis to a subsidiary of a resolution entity. This possibility is made available regardless of the type of banking group structure to which that intermediate entity belongs. This possibility is subject to two important safeguards;

1. For Holdco structures the intermediate entity should be the only direct subsidiary of a resolution entity which is a Union parent financial holding company or a Union parent mixed financial company. It must be established in the same Member State and is part of the same resolution group; and
2. In both cases, it must have been concluded by the resolution authority that compliance with internal MEL on a consolidated basis does not negatively affect the resolvability of the resolution group to which the subsidiary belongs, nor the application of the write down and conversion powers to that subsidiary or to other entities in the same resolution group.

The possibility which is now introduced in Art. 45f(1) BRRD and Art. 12g(1) SRMR does not imply the granting of waivers of internal MREL to the subsidiaries of the entity concerned. Waivers of internal MREL should only be possible where the existing conditions in Art. 45f(3) or (4) BRRD and Art. 12h SRMR are met.

In view of corresponding provisions already being in force, and becoming applicable in the Union on 1 January 2023, it is emphasised that the proposed amendments need to be made in a timely manner. The need for an expedited adoption is stressed by the fact that banking groups need clarity on the deduction mechanism to decide how best to preposition their internal MREL capacity in view of the general MREL compliance deadline that is also set to 1 January 2024.

The proposals also introduce a new paragraph 2a in Art. 45f BRRD and in Art. 12g SRMR which clarify  that, where the subsidiaries included in the scope of consolidation of any entity required to comply with consolidated internal MREL have issued eligible liabilities to other entities of the same resolution group but which are outside that scope of consolidation or to an existing shareholder not belonging to the same group, those liabilities shall be included in the amount of own funds and eligible liabilities of the intermediate entity, up to certain limits.  

Outlook

This most recent package of reforms highlights the Commission’s priority of, and dedication to, advancing the work underlying what regrettably remains an incomplete Banking Union. Significant progress was made during the last 10 years, which have seen the establishment of a robust and functioning framework for dealing with banks in financial difficulties as well as failing banks as well as reducing arbitrage caused by fragmentation.

However, several years into the implementation of the CMDI framework have shown that certain elements have not delivered as intended with respect to some of the objectives. In an effort to strengthen the framework in place of managing crises, undermined by a complex and not-fully harmonised legal setting, negotiations amongst legislators and the ESAs as well as the ECB-SSM and the SRB in light of this package are expected to be controversial and take around two years.

Despite the timeline ahead, market participants will want to forward-plan how this first step to a new revised CMDI framework will impact their operations, including their recovery and resolution planning, as well as more generally market and counterparty/client facing documentation across a breadth of transactions.

About us

PwC Legal is assisting a number of financial services firms and market participants in forward planning for changes stemming from these developments. We have assembled a multi-disciplinary and multijurisdictional team of sector experts to support clients navigate challenges and seize opportunities as well as to proactively engage with their market stakeholders and regulators. Moreover, we have developed a number of RegTech and SupTech tools for supervised firms, including PwC Legal’s Rule Scanner solution for horizon scanning and risk mapping of all legislative and regulatory developments as well as sanctions and fines from over 750 stakeholders in over 170 jurisdictions impacting financial services firms and their business.  

If you would like to discuss any of the developments mentioned above, or how they may affect your business more generally, please contact any of our key contacts or PwC Legal’s RegCORE Team via de_regcore@pwc.com or our website.