RESPONSE TO FEEDBACK RECEIVED – CONSULTATION ON PROPOSED MAS NOTICE 639

EXPOSURES TO SINGLE COUNTERPARTY GROUPS 1 Introduction 1.1 On 13 September 2006, MAS released for consultation, the proposed MAS Notice 639 which sets out the detailed compliance requirements under the revised section 29 of the Banking Act.1 The consultation period closed on 13 October 2006. We thank all respondents for their comments. 1.2 MAS has carefully considered the feedback received. Comments that are of general interest to the industry, together with MAS’ responses, are set out below. Comments on credit risk mitigation, which was the subject of a separate consultation, would be addressed in another document. 2 Definitions 2.1 Some banks sought clarity on certain terms used in the proposed Notice.2 2.2 Bank in Singapore 2.2.1 One bank asked whether this refers to a bank incorporated in Singapore. MAS’ Response 2.2.2 “Bank in Singapore” has the same meaning as defined in the existing Banking Act, and refers to (i) a bank incorporated in Singapore; or (ii) in the case of a bank incorporated outside Singapore, the branches and offices of the bank located within Singapore. 1 This followed an earlier consultation on the policy framework. The consultation paper and MAS’

responses are available on MAS’ website. 2 With the introduction of the Banking (Amendment) Act 2007, some terms in the proposed Notice will

be defined in the Act.

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2.3 Bank Group 2.3.1 “Bank group” was defined in the Notice to mean a bank in Singapore, its subsidiaries and any other company treated as part of the bank’s group of companies according to Accounting Standards and in the case of a bank incorporated outside Singapore, only where such subsidiary or company is reflected as an investment in the financial statements of the bank in relation to its operations in Singapore. 2.3.2 Clarification was sought on whether in the case of a bank incorporated outside Singapore, the investments refer to those reflected in the books of the bank in Singapore, or those held by its parent bank or Head Office. MAS’ Response 2.3.3 The investment in subsidiaries or companies refers to those reflected in the books of the Singapore branch. 2.4 Exposure 2.4.1 The proposed Notice stated that when determining the maximum loss that may be incurred, a bank shall not take into account any collateral available to the bank and the likelihood of recovery from an administrator or liquidator of the counterparty. A few banks were of the view that this contradicted MAS’ intent to allow the recognition of collateral to offset a bank’s exposures. MAS’ Response 2.4.2 In recognising an exposure, a bank is required to first quantify the exposure based on the maximum loss to the bank (before recognising any risk mitigation). For the purpose of complying with the large and substantial exposures limits, banks may then compute the net exposure by offsetting the portion which is secured by qualifying collateral. 2.5 Counterparty 2.5.1 “Counterparty” in relation to a bank, means a person (a) who has an obligation to the bank as a result of the bank’s contractual or other arrangements; or (b) in relation to whom the bank is at risk as a result of the bank’s contractual or other arrangements or investments. One bank proposed that for greater clarity, obligations should refer only to financial obligations arising from the bank’s normal risk-taking activities as the above definition was too broad. MAS’ Response 2.5.2 It is MAS’ intention that banks recognise exposures arising from the course of their financial business. 2.6 Director Group

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2.6.1 “Director group” was defined to mean a group of persons comprising: (a) any director of the bank (including his family members); (b) every firm or limited liability partnership in which the director is a

partner, manager, agent, guarantor or surety; (c) every individual of whom, and every company of which, the director is

a guarantor or surety; and (d) every company in which the director (i) is an executive officer; (ii) owns more than half of the total number of issued shares,

whether legally or beneficially; (iii) controls more than half of the voting power; or (iv) controls the composition of the board of directors. 2.6.2 One bank sought clarification on whether reference to a director in (b), (c) and (d) includes the family members of the director. MAS’ Response 2.6.3 Reference to a director includes the director and his spouse, parent and child. 2.7 Issued Share Capital 2.7.1 For the purpose of determining whether an entity is under the control of another entity (“controlling entity”), one of the tests was where the controlling entity holds more than half of the issued share capital of the first mentioned entity. One bank sought clarity on whether preference shares, warrants and options on issued share capital are included. MAS’ Response 2.7.2 In line with amendments to the Banking Act, “issued share capital” will be replaced by “total number of issued shares”. Preference shares are included. 2.8 Regulatory Capital 2.8.1 MAS had informed banks earlier that banks incorporated in Singapore will be allowed to use, for each quarter, their regulatory capital as at end of the quarter falling two quarters ago as the denominator for the large exposures limits and substantial exposures definition. One bank suggested that this be made clear in the Notice. MAS’ Response 2.8.2 We will provide clarity in the Notice. 2.9 Other Definitions 2.9.1 One bank sought clarification on the definition of “substantial shareholder” while another bank wanted to clarify if the term “related corporation” has the same meaning as section 6 of the Companies Act.

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MAS’ Response 2.9.2 “Substantial shareholder” has the same meaning as in section 81 of the Companies Act, and will be defined in the Banking (Amendment) Act 2007. “Related corporation” is defined under the existing Banking Act, and has the same meaning as in section 6 of the Companies Act. 3 Exemptions 3.1 Scope of Application 3.1.1 A few banks sought clarification on whether the requirements in the Notice apply only to exposures booked in a bank’s Domestic Banking Unit, and not the Asian Currency Unit (ACU). MAS’ Response 3.1.2 For a bank in Singapore which is incorporated outside Singapore, exposures which are booked in the bank’s ACU will continue to be excluded from certain requirements under the revised section 29, as provided for under section 77 of the Banking Act. 3.2 Interbank Exposures 3.2.1 Under the proposed Notice, a bank’s exposures arising from foreign exchange (FX) or money market (MM) transactions to its related merchant bank in Singapore or another bank (whether or not licensed in Singapore), will be exempted, except that in the case of an exposure of a bank incorporated in Singapore to its bank or merchant bank subsidiary, the residual maturity of the exposure shall not exceed one year. 3.2.2 Several banks requested that the exemption be widened to cover all transactions between banks instead of only FX/MM transactions, as is the case currently. Banks highlighted potential compliance difficulty in view of the broad range of products traded between banks. MAS’ Response 3.2.3 In view of the banks’ feedback, MAS will exempt all direct exposures to banks, regardless of products. For exposures of a bank incorporated in Singapore to its bank or merchant bank subsidiary, only direct exposures with a residual maturity of one year or less will be exempted. However, as proposed by MAS earlier, indirect exposures acquired as a result of credit risk mitigation would continue to be subject to the large and substantial exposures limits. The exemption of interbank exposures does not preclude MAS from imposing additional supervisory requirements on specific banks should there be prudential concerns.

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3.3 Telegraphic Transfers 3.3.1 Currently, section 29 of the Banking Act exempts the purchase of telegraphic transfers or loans or advances made against telegraphic transfers, from the single borrower limit and substantial loans limit. In response to MAS’ proposal to lift this exemption, banks have requested for the exemption to be retained. Otherwise, it would constrain their operations as the amount of funds transfer daily could be significant. On the other hand, timing differences between the transfer and receipt of funds by the bank are usually small. MAS’ Response 3.3.2 MAS recognises the potential compliance difficulty. Nevertheless, as proposed in the Notice, MAS will be exempting exposures to a counterparty arising from settlement of transactions, up to two business days from the date of settlement. This should provide sufficient flexibility to banks. 3.4 Trade-related Facilities 3.4.1 Under the proposed Notice, the existing exemption for facilities granted against letters of credit or bills or guarantees or documents in respect of imports into or exports from Singapore, will be lifted. Several banks expressed their preference to retain the exemption. MAS’ Response 3.4.2 After due consideration and further discussion with affected banks, MAS has decided to retain the proposal to lift the exemption for trade-related facilities. Whilst we note the preference of some banks to retain the exemption, our discussions with banks giving this feedback suggests that it would not pose a substantive constraint on the majority of banks. In some cases, banks had already included such trade-related facilities in their overall limit to each counterparty. For banks incorporated outside Singapore, exposures which are booked in the Asian Currency Unit will continue to be exempted. Furthermore, the exemption of interbank exposures (refer to paragraph 3.2) would further facilitate the ability of banks to comply with their large exposures limits to customers in respect of certain trade-related facilities where the risk is to a bank counterparty. For instance, in the case of export bills discounted under letters of credit (L/C), banks may recognise an exposure to the L/C issuing bank (instead of the beneficiary) upon acceptance of documents by the L/C issuing bank.3 Such direct interbank exposures will be exempted under the revised section 29. In addition, the 2-year timeline for the implementation of the Notice should accord banks sufficient time to manage their relationship with clients that may be affected as a result of this change. 3.5 Intraday Facilities and Overnight Repurchase Transactions

3 However, where the bank is unable to claim on the L/C issuing bank (for instance, due to refusal of

documents by the issuing bank as a result of discrepancies in trade documents), the bank should recognise an exposure to the beneficiary.

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3.5.1 One bank sought clarity on whether intraday facilities and overnight repurchase transactions need to be included in the computation towards the large exposures and substantial exposures limits. MAS’ Response 3.5.2 MAS will exempt exposures arising from intraday facilities and overnight repurchase transactions for the purpose of section 29. However, banks will have to continue to take into account the risks of these transactions as part of their risk management. 3.6 Clearing Transactions 3.6.1 One bank proposed that exposures arising from clearing transactions be exempted. In a clearing transaction, banks may allow customers to go into “daylight overdraft” before covering funds from counterparties are sighted. The “daylight overdraft” is granted on an intraday basis and is expected to be covered by the end of day (or commencement of the following day where there is a time zone difference). MAS’ Response 3.6.2 Consistent with the exemption for settlement exposures, MAS will exempt exposures arising from clearing transactions, up to two business days from the date of settlement. 3.7 Accrued Expenses 3.7.1 Banks may exclude accrued interest and fees outstanding from the computation of exposures. One bank sought clarity on whether this exclusion could extend to expenses which have accrued but are not yet due from customers. MAS’ Response 3.7.2 On the understanding that such amounts are generally immaterial relative to a bank’s total exposures to a customer, MAS will allow banks to exclude accrued expenses due from customers when computing exposures for the purpose of section 29. This does not preclude a bank from including accrued expenses in monitoring its exposures for section 29 should the bank wish to do so or if such sums are material. 4 Basis of Computation of Exposures 4.1 Commitments Due To Underwriting 4.1.1 For underwriting of securities, MAS had proposed that a bank should record an exposure equivalent to the commitment limit multiplied by 20% as an exposure to the issuer of the securities underwritten. On the earlier of the issue date or eight weeks from the date of launch of the issue, the amount of securities that has not been sold should be counted as an exposure to the issuer.

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4.1.2 One bank asked if an exposure has to be recorded if another overseas branch of its head office will be subscribing for any unsold securities, and the securities will not be booked in Singapore. 4.1.3 Where the lead manager has a sub-underwriting arrangement with other banks, clarification was sought on whether the portion that has been sub-underwritten to other banks, may be excluded by the lead manager in the computation of exposures. 4.1.4 One bank suggested that MAS allow banks to recognise an exposure based on the amount which they intend to hold eventually in their books, instead of their initial underwriting commitment. For a failed underwriting where the securities could not be sold, it was suggested that an exposure be recognised, 90 days from the date of issue or launch of the securities. MAS’ Response 4.1.5 In general, a bank in Singapore would have to recognise an exposure if it may incur a loss as a result of the failure of a counterparty to meet its obligations. In the case of a central booking arrangement where the transaction is booked in head office or another overseas branch, the Singapore branch need not recognise an exposure provided it is not exposed to any potential losses arising from the transaction. 4.1.6 Where a lead manager enters into sub-underwriting arrangements that effectively transfer the risk to other banks, it need not recognise the amount which has been transferred as an exposure to the issuer. On the other hand, the sub-underwriting banks will have to recognise an exposure on the date of commitment. 4.1.7 While the underwriting bank may decide on a final hold amount, it is committed to the issuer to underwrite the unsold securities. Hence, an exposure should be recognised based on the full commitment. Nevertheless, the bank may reduce its exposure accordingly as and when it sells down to other banks or investors. Typically, if the securities cannot be sold within the first few weeks, it is unlikely that the bank will be able to sell down at a later date. In this regard, MAS will retain its existing proposal for a 8-week grace period from the date of launch after which the underwriting bank would have to recognise the full value of the unsold securities. 4.2 Off-balance Sheet Transactions / Potential Future Exposure 4.2.1 A few banks sought clarification on the computation of exposures for off-balance sheet derivatives transactions. MAS’ Response 4.2.2 Banks are to record an exposure arising from a derivatives transaction, based on the replacement cost of the position (mark-to-market gain) plus an estimation of the potential future exposure (PFE) to changes in that replacement value in response to market price changes over the term of the contract. The PFE is an estimate of the risk that subsequent changes in market prices can increase a bank’s credit exposure to the counterparty. We would provide greater clarity in the Notice on the computation of exposures for derivatives transactions.

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4.3 SGD/Non-SGD Transactions 4.3.1 One respondent sought to clarify whether there is a need to recognise an exposure for off-balance sheet derivatives transactions that do not involve SGD. And where a transaction involves SGD, whether there is a need to account for the exposure if the bank’s obligation is to fulfill the SGD leg while the counterparty’s obligation (i.e. the bank’s exposure) is in foreign currency. MAS’ Response 4.3.2 Banks would have to recognise exposures arising from off-balance sheet derivatives transactions (whether in SGD or foreign currency) unless they fall within the exemptions under section 77 of the Banking Act. Transactions are required to be booked in the Domestic Banking Unit and hence subject to section 29 limits, as long as one leg of the transaction is in SGD. 4.4 Repurchase Agreement 4.4.1 Under the proposed notice, the basis of computation of exposures including those arising from repurchase agreements (repos) and reverse repos, would be based on their carrying value i.e. the same measurement basis that has been applied to the exposures in the preparation of the bank’s financial statements. One bank noted that in the case of repos/reverse repos, the measurement basis for calculating exposures to counterparties in credit systems may not be the same as that for the preparation of financial statements. MAS’ Response 4.4.2 We recognise the differences. In general, we will adopt an accounting basis for the computation of exposures under section 29. 4.5 Purchase/Sale of Debt Securities 4.5.1 One bank asked whether pre-settlement risk to the counterparty whom securities are purchased from or sold to (i.e. counterparty is not the issuer of the securities) would have to be recorded as an exposure for the purpose of section 29. Another bank noted that for a purchase of debt security, there is an exposure to the issuer of the security. The bank sought to confirm that in the case of a sale, the exposure to be recorded is in respect of the settlement exposure from the purchaser of the security. MAS’ Response 4.5.2 Banks would have to recognise pre-settlement risk and settlement risk4 to counterparties arising from both purchase and sale of securities. In addition, for purchase of securities, an exposure to the issuer of securities would have to be recognised.

4 As mentioned earlier, MAS will however, exempt settlement exposures up to two business days from

the date of settlement.

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4.6 Securitisation 4.6.1 The Notice proposed that for outstanding claims on a special purpose vehicle (SPV) as part of securitisation:

(a) A bank should “look through” the SPV and record an exposure to the issuer of each of the underlying assets based on the relative size of the issuers’ contribution to the pool of securitised assets;

(b) Where the proportionate exposure to the issuer through the pool of securitised assests held by the SPV does not exceed, in the case of a bank incorporated in Singapore, 0.25% of the bank’s eligible total capital or in the case of a bank incorporated outside Singapore, 0.25% of its capital funds, the bank may record the exposure as an exposure to the SPV;

(c) In addition, a bank may count an exposure to the SPV in place of the underlying assets under extenuating circumstances where the bank is unable to look through the SPV to its underlying assets. Where this occurs, the bank should document the reason(s) for its inability to look through the SPV. Such documentation shall be made available for review by the Authority at all times.

4.6.2 One bank noted that where the securitised notes that a bank invests in are tranched, there is no straightforward way to look through to the issuers of the underlying assets, and suggested recognising an exposure to the SPV instead. MAS’ Response 4.6.3 We recognise the limitations of our proposal. However, in general, recognising exposures to a SPV would not be meaningful. Furthermore, the junior tranche is typically a very small piece compared to other tranches. Hence, if the bank invests in the mezzanine or senior tranche, a significant part of the exposures would not be meaningfully attributed. Accordingly, MAS will retain the existing proposal that banks record an exposure to the issuer of each of the underlying assets based on the relative size of the issuers’ contribution to the pool of securitised assets, whether or not the exposures are tranched. Nevertheless, to alleviate potential compliance difficulty, MAS will raise the materiality threshold to 2% of capital funds (or eligible total capital in the case of banks incorporated in Singapore) i.e. where the bank’s investment in the securitised notes does not exceed 2% of the bank’s capital funds/eligible total capital, the bank may record the exposure as an exposure to the SPV. 4.7 Index or Investment Fund 4.7.1 It was proposed that for any investment in an index or investment fund, a bank shall record an exposure to the issuer of each of the underlying asset based on the relative size of the issuers’ contribution to the index or investment fund. Where the proportionate exposure to the issuer through the index or investment fund does not exceed 0.25% of capital funds (or eligible total capital in the case of banks incorporated in Singapore), the bank may record an exposure to the index or investment fund.

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4.7.2 One bank commented that it would be impractical to track the proportionate exposure to each issuer given that the components of index/investment funds could change frequently depending on the investment strategy or mandate undertaken. Another bank requested MAS to reconsider a higher threshold. In the case of an investment fund, it may not be practical to identify the issuer of each of the underlying assets and the relative size of the issuer’s contribution to the fund. Furthermore, the fund manager may not be obliged to disclose such details on periodic basis. MAS’ Response 4.7.3 We note the potential compliance difficulty and will lift the requirement to look through to the underlying issuers. MAS will instead impose a limit of 2% of a bank’s capital funds/eligible total capital, or such higher limit as may be approved, for a single investment in an index/investment fund. 4.8 Plain Vanilla Products 4.8.1 One bank sought clarity on whether plain vanilla interest rate, foreign currencies, equities, and commodities contracts should be included in the computation of exposures. MAS’ Response 4.8.2 A bank would have to recognise an exposure arising from any transaction where there is a risk of loss to the bank. 4.9 Treatment for Certain Products 4.9.1 One bank sought to clarify the treatment for certain products such as asset sales, rediscounted bills, and financial instruments that generate a combination of both on and off balance sheet exposures. MAS’ Response 4.9.2 It is not possible for MAS to specify the treatment for all products as it would not be exhaustive. Nevertheless, we set out the basis of computation for the above products as follows: (a) Asset sales with recourse: The carrying value of the asset (marked-to-

market value of the asset or amount agreed between the contracting parties), should be counted as an exposure to the issuer of the underlying asset;

(b) Re-discounted bills: For the bank which is holding the bill, the face value

of the bill should be counted as an exposure to the re-discounting bank. However, to the extent that interbank exposures are exempted, this need not be recognised. For the bank which has re-discounted the bill, it should continue to count an exposure to the customer.

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(c) Financial instruments that generate a combination of both on and off-balance sheet exposures

Both on and off-balance sheet exposures should be recognised. For instance, in the case of a credit-linked note –

(i) Bank as protection seller The principal and interest payable on the note if no credit event occurs

should be counted as an exposure to the note issuer (protection buyer). The maximum amount by which such payment would be reduced as a result of a credit event should be counted as an exposure to the issuer of the reference asset.

Where the protection buyer is a special purpose vehicle (SPV) that has been

specifically set up to issue the notes, the protection seller should also count towards section 29, an exposure to the issuer of the collateral securities that are acquired by the SPV with the proceeds from the issuance of the note.

(ii) Bank as protection buyer The exposure to the issuer of the reference asset may be reduced by the

amount of funding received. 4.10 Exposure to be Recognised for Drawn Term Loan 4.10.1 One respondent sought to clarify that for a term loan which has been drawn down and is being paid down (client is unable to draw down again on the paid down portion), the exposure to be recognised should be based on the utilised amount, and not the original limit granted. MAS’ Response 4.10.2 Where a loan facility has been drawn down, banks only need to recognise the actual outstanding amount of the loan for the purpose of computing its section 29 exposures. 4.11 Date of Recognition of Exposure 4.11.1 Under the Notice, a bank is required to record an exposure from any contingent liability or commitment which the bank has committed to provide. One bank sought clarity on whether banks should record an exposure from the date of letter of offer of facility or upon acceptance of the facility by the customer. MAS’ Response 4.11.2 Banks should record an exposure upon acceptance of the facility by the customer (subject to terms and conditions being met), or upon activation of line to the customer.

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4.12 Uncommitted Facilities and Internal Lines 4.12.1 The proposed Notice would allow a bank to exclude unadvised or uncommitted facilities and internal limits from the computation of exposures. However, the bank should obtain a legal opinion that its facility documentation confers upon the bank an unconditional right to refuse drawdown. MAS also expects all banks to have proper procedures in place to enable them to exercise their rights to decline drawdown requests for uncommitted facilities. One bank sought clarity on whether an in-house legal opinion is adequate, or whether the legal opinion must be from an external law firm. MAS’ Response 4.12.2 An in-house legal opinion which is independent of the business unit would be acceptable. However, this does not preclude banks from obtaining external legal advice where appropriate. 4.13 Total Exposures 4.13.1 The substantial exposures limit is set at 50% of a bank’s total exposures. One bank sought clarity on whether “total exposures” should be computed gross (including exempt exposures), or on a net basis (i.e. net of all credit risk mitigation, qualifying collateral and exempt exposures). MAS’ Response 4.13.2 Total exposures should be computed on a net basis, similar to the computation of exposures in the numerator. 5 Control/Aggregation 5.1 Determination of Control 5.1.1 In general, a bank is required to aggregate exposures to entities which are under common control (unless they are financially independent). An entity is considered to be under the control of another entity (“controlling entity”) if it is: (a) an entity in which the controlling entity holds more than half of the total

number of issued shares; (b) an entity in which the controlling entity controls more than half of the

voting power; (c) an entity in which the controlling entity controls the composition of the

board of directors; (d) an entity which is a subsidiary of an entity falling with sub-paragraphs

(a), (b) and (c); or (e) an entity (not being an entity which is caught under sub-paragraphs (a),

(b), (c) or (d)) the policies of which the controlling entity is able to control.

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5.1.2 One bank sought to clarify whether voting power under sub-paragraph (b) is to be determined by each class of shares with voting power or by aggregate voting power across all classes of shares with voting power. For instance, Entity B has a capital base comprising 1,000 preference shares and 1,000 ordinary shares, all with voting power. Entity A holds only 600 preference shares in Entity B. From a single class of preference shares, Entity A has 60% of voting power, more than half of voting power within the class of preference shares. From a combined class of 2,000 ordinary and preference voting shares, Entity A has 30% of voting power. 5.1.3 One bank commented that the inclusion of sub-paragraph (e) “policies of which the controlling entity is able to control" is too wide and will pose practical difficulty for banks to ascertain the need for consolidation. Another bank requested for guidelines, criteria or examples to help determine whether the controlling entity is “able to control” the policies of another entity. Clarity was also sought on whether the 50% test for control in sub-paragraph (a) should be applied all the way (e.g. the 4th and 5th level of the group structure) where the group has multiple-level shareholdings by virtue of sub-paragraph (e). MAS’ Response 5.1.4 For the purpose of determining whether there is control, MAS would consider aggregate voting power across all classes of shares with voting power. Based on the earlier example set out in paragraph 5.1.2 and on the information available, it would appear that Entity A would not be deemed to have control over Entity B by virtue of voting power. 5.1.5 Currently, MAS 623 sets out the basis of aggregating credit facilities to any group of persons under the control or influence of any one person. The power to control the policies of a person, is an existing limb under MAS 623 for the purpose of determining whether there is control. Banks should assess on a best effort basis. In addition, the test for control shall be applied at every level. 5.2 Exposures that Pose Single Risk to Bank 5.2.1 While the Notice sets out aggregation rules for entities which are under common control or are financially interdependent, a bank is also required to aggregate exposures to entities if there are reasons for the bank to regard these exposures as connected in such a way so as to pose a single risk to the bank. One bank noted that this appears to be a “catch-all” provision, and would like to seek guidance on the principles for determining whether exposures are connected. Another bank suggested that such an arbitrary criteria should be removed unless MAS can prescribe the reasons for greater clarity and ease of implementation. MAS’ Response 5.2.2 In general, exposures to entities which pose a single risk to the bank are to be aggregated. Entities which are under common control or are financially interdependent would be regarded as posing a single risk. Nevertheless, there could be other basis, which banks may be better placed to determine, based on their dealings with counterparties such as common management or expected source of repayment. MAS will therefore retain the

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requirement for banks to aggregate exposures to entities if there are reasons for the bank to regard them as posing a single risk. 5.3 Ministry of Finance Inc 5.3.1 One bank sought clarity on whether MOF Inc should be treated as the controlling entity for the purpose of aggregating exposures to the Government of Singapore Investment Corporation and Temasek Holdings (Pte) Ltd. MAS’ Response 5.3.2 Exposures to the Singapore Government (which includes the Ministries and MOF Inc) are exempted from section 29 limits. The Singapore Government is also excluded as a “controlling entity” for the purpose of aggregating exposures to a single counterparty group. 5.4 Entity Belongs to More than One Single Counterparty Group 5.4.1 For the purpose of complying with the substantial exposures limit, where an entity is included in more than one single counterparty group, a bank’s exposures to that entity need only be accounted for under one single counterparty group. One bank suggested that this be extended to compliance with the large exposures limit and flexibility should be given to allow banks to include the entity in the counterparty group where the bank has the lowest exposure. Another bank commented there are no criteria to determine which single counterparty group the entity should be accounted under. 5.4.2 In addition, one bank sought clarity on the aggregation of exposures for two entities which are financially interdependent but belonging to two different common control groups. Specifically, whether the two financially interdependent entities would constitute a single counterparty group. MAS’ Response 5.4.3 For an entity that belongs to more than one single counterparty group, a bank should include its exposure to that entity in each of the single counterparty group for the purpose of the large exposures limit. Following this, exposures to any single counterparty group exceeding 10% of the bank’s capital funds (or eligible total capital in the case of banks incorporated in Singapore) would be considered a substantial exposure. Exposures to all the single counterparty groups that constitute a substantial exposure would have to be aggregated for the purpose of the substantial exposures limit, except that for the entity in common, the bank’s exposure to that entity need only be accounted for once. 5.4.4 Financially interdependent entities which belong to different common control groups would constitute a single counterparty group for the purpose of the large exposures limit. Each entity would also have to be included in their respective common control group for the purpose of complying with the large exposure limit for each common control group (unless the entity is financially independent of its common control group).

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5.5. Entities Disaggregated from a Common Control Group 5.5.1 One bank asked whether entities or sub-group of entities that are disaggregated from a common control group have to be treated as a single counterparty. MAS’ Response 5.5.2 Entities which are disaggregated from a common control group would have to be aggregated if they are under common control or are financially interdependent. 5.6 Control of a Company’s Board of Directors 5.6.1 Under the Notice, a director shall be deemed to control the composition of a company’s board of directors if he can appoint or remove all or a majority of the directors of that company, without the consent or concurrence of any other person. One bank sought clarity on what constitutes a majority of the directors. MAS’ Response 5.6.2 A majority of the directors means more than half the number of the directors. 5.7 Unsecured Credit Facilities to Director Groups 5.7.1 One bank noted that the definition of director group has been expanded to include companies in which a bank director is an executive officer. In this regard, the existing $5,000 unsecured credit facilities limit to each director group could be overly restrictive. MAS’ Response 5.7.2 The inclusion of directors who are executive officers in other companies, in a director group (as defined in paragraph 2.6.1) is to address the risk of non-arm’s length transactions where the bank director has vested interest in the granting of credit facilities by the bank to companies in which the director is involved in day-to-day management. 5.7.3 Nevertheless, we have reviewed the applicability of the $5,000 limit. For each director group, unsecured credit facilities granted by the bank to companies in which the director serves only as an executive officer with no controlling interest, may exceed the $5,000 limit, provided that the extension of these facilities receive the unanimous approval of all Board directors of the bank and provided that at all times, its aggregate unsecured credit facilities (other than credit card and charge card facilities) and the aggregate unsecured credit facilities of its bank group (other than credit card and charge card facilities) to any director group shall not exceed 2% of the bank’s capital funds, or its or the bank group’s eligible total capital in the case of banks incorporated in Singapore. In approving such facilities, directors are reminded of their obligations under section 29(4) of the Banking (Amendment) Act 2007 to jointly and severally indemnify the bank against any loss suffered by the bank arising from unsecured credit facilities granted to any person in a director group. Unsecured credit facilities granted to other entities in the director group (i.e. entities in which the director has a controlling interest) would continue to be subject to the $5,000 limit.

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5.8 Unsecured Credit Facilities to Staff 5.8.1 A bank shall not grant, whether on its own or collectively with any entity in the bank group, to any of its officers (other than a director) or employees, or any other person who receives remuneration from the bank (other than for professional services rendered to the bank), any unsecured credit facility which in the aggregate and outstanding at any one time exceeds one year’s emoluments of that officer, employee or person. “Emoluments” means the salary and bonuses of the individual in the previous year but does not include any allowances. 5.8.2 One bank asked whether in the case of a new recruit, the bank should use the current salary of the staff. Another bank suggested that the 1 year limit be computed at the point of application of the credit facility to remove the need to revise such a limit if bonuses were to fluctuate from time to time. 5.8.3 In addition, one bank suggested that as the limit would also be imposed at bank group level, for consistency, the exclusion of persons who render professional services to the bank should be extended to those who render professional services to other entities in the bank group. MAS’ Response 5.8.4 MAS will allow banks the flexibility to compute the unsecured credit facilities limit to staff so long as the methodology is sound and applied in a consistent manner to all staff. The exclusion will be widened to apply to persons who render professional services to the bank or bank group. 5.9 Exposures to Companies which Form Part of the Bank Group 5.9.1 “Bank Group” is defined to mean a bank in Singapore, its subsidiaries and any other company treated as part of the bank’s group of companies according to Accounting Standards. One bank sought to clarify whether exposures of a special purpose entity which is not a subsidiary but consolidated as part of the bank group, need to be aggregated with that of the group. MAS’ Response 5.9.2 A bank would have to aggregate its exposures to a single counterparty, with exposures of other entities in the bank group (including special purpose entities) to that counterparty so long as they fall within the definition of “bank group” in the Accounting Standards. 5.10 Trust Accounts Under A Single Trust Company 5.10.1 When corporate trustees set up underlying companies of trusts, they often use the same directors and signatories (who are employees of the corporate trustee) for these trusts which are otherwise unrelated. One bank sought clarification on whether the various trusts have to be aggregated by virtue of the common directors and signatories.

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MAS’ Response 5.10.2 There is no need to aggregate the bank’s exposures to the various trust accounts by virtue of their common directors and signatories through the corporate trustee. 6 Disaggregation of Exposures 6.1 Criteria for Disaggregating Exposures 6.1.1 The proposed Notice sets out several criteria for disaggregating exposures to financially independent entities under common control. A few banks sought clarity on whether all or only one of the criteria must be met before a bank can disaggregate exposures to an entity or sub-group of entities. MAS’ Response 6.1.2 All the criteria must be met before a bank can disaggregate its exposures to an entity or sub-group of entities from the common control group. This is the same approach adopted in the existing MAS 629. 6.2 Criteria on Application of Proceeds of Credit Facilities Obtained 6.2.1 Under this criteria, proceeds received by the entity or each entity in the sub-group from credit facilities granted by the bank are only used by the entity or other entities in the sub-group, and are not transferred to any external group entity. Conversely, the entity or entities in the sub-group, does not receive the proceeds of the credit facilities obtained by any external group entity from the bank. 6.2.2 One bank explained that while the bank could stipulate in the facility documentation that facilities granted cannot be used for inter-company funding, it is practically difficult for the bank to monitor or ascertain the usage of facility proceeds granted, especially for overdrafts and short term revolving loans where the bank has no control over the application of proceeds. For example, if the bank were to underwrite a bond issuance of an external group entity, it would not be possible for the bank to determine if the funds raised flow to entities within a sub-group, and vice versa. MAS’ Response 6.2.3 As part of good credit risk management, banks should understand the purpose of credit facilities to be granted to customers. Banks should apply the tests for financial independence on a best effort basis and maintain adequate documentation as evidence of due diligence performed. 6.3 Criteria on Name Sharing 6.3.1 Under this criteria, the entity or entities in the sub-group shall not use any name, logo or trade mark in a manner which indicates or represents that the entity is related to or associated with any external group entity. Conversely, none of the names, logos or trademarks of the entity or any entity in the sub-group shall be used by any external group

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entity in a manner which indicates or represents that the external group entity is related to or associated with the entity or entities in the sub-group. 6.3.2 A few banks suggested removing this criteria. One bank commented that entities may be quite distinct and separate in their roles and functions, notwithstanding that they share a common name. MAS’ Response 6.3.3 Allowing banks to disaggregate exposures to entities under a common control group is already a concession. After due consideration, MAS will retain name sharing as one of the financial independence criteria for banks to disaggregate exposures to entities under common control, as the presence of shared branding would usually entail some form of leverage within the group. 6.4 Criteria on Independence of Directors from Controlling Entity 6.4.1 Under this criteria, a majority of the directors of the entity or each of the entities in the sub-group to be disaggregated, as the case may be, shall not fall within any of the following categories: (i) the controlling entity; (ii) family members of the controlling entity; (iii) employees of the controlling entity; (iv) concurrently directors of the controlling entity; (v) employees of any other external group entity. 6.4.2 One bank sought clarification on whether limb (iv) would be satisfied in a case where a majority of the directors of the entity (or each of the entities in the subgroup) are directors of the subsidiaries of the controlling entity, and not the controlling entity. 6.4.3 Another bank highlighted operational difficulty and costs in complying with the criteria as the required information may not be easily available. Alternatively, the bank suggested that the application of the criteria be limited to executive directors, and proposed removing criteria (ii), (iii) and (v). In addition, banks should only be required to satisfy the conditions at the time of granting the facilities, and subsequently verify compliance only at annual reviews as it would not be practical to monitor movements in directors on an ongoing basis. The bank also suggested that materiality be considered as it would not make commercial sense to go through the same compliance exercise for relatively small facilities. MAS’ Response 6.4.4 With regard to paragraph 6.4.2, the entity may be disaggregated if it is not under the control of the subsidiary of the controlling entity by virtue of the majority of its directors being also directors of the subsidiary of the controlling entity. 6.4.5 This financial independence criteria is not new, but an existing criteria under MAS Notice 629. To alleviate potential compliance difficulty, it would be acceptable for banks to obtain a declaration from the directors of the entity(s) to be disaggregated to

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ensure that a majority of them do not fall within the relationships at paragraph 6.4.1. Banks may verify compliance as part of their annual review of customer accounts. MAS is mindful of the need not to create unnecessary regulatory burden on banks. In this regard, allowing banks to disaggregate exposures is a concession, and intended to accord banks greater room to comply with their large exposures limits. Banks can choose not to apply the financial independence tests for disaggregation of exposures if they assessed that the exposures are not material and would not affect the banks’ ability to comply with the large exposures limit. 6.5 Other Criteria 6.5.1 The Notice proposed that apart from being in the common control group, the entity or each of the entities in the sub-group, and any external group entity shall not be financially interdependent. One bank felt that this particular criteria was a repetition of the other criteria, and suggested streamlining. MAS’ Response 6.5.2 This criteria is intended to cover situations of financial interdependence other than those specified, and will be retained. 6.6 Examples of Financial Interdependence 6.6.1 In the notice, in defining “financially interdependent”, examples were given. These include: (a) where one entity derives 50% or more of its operating revenues from

another entity; (b) where two or more entities have given cross-guarantees for each other’s

liabilities; (c) an individual and his family members except where the individual and

the family members have resources of their own to meet their obligations without depending on each other, and credit facilities granted are not for the use of other family members. In this regard, the bank shall have a sound basis for making such determination, which shall be documented;

(d) partners or participants of a partnership, joint venture or other common enterprise, except where the partners or participants have resources of their own to meet their obligations without depending on each other, and credit facilities granted are not for the use of other partners or participants.

6.6.2 One bank sought clarity that the examples given are not mandatory criteria in assessing whether two or more entities are financially interdependent. MAS’ Response 6.6.3 These are examples and there could be other relationships which give rise to financial interdependence. While they are not mandatory criteria, MAS would expect

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entities falling within such relationships to be financially interdependent unless there are reasons to treat them otherwise. 7 Reporting & Compliance 7.1 Reporting Requirements 7.1.1 One bank sought to confirm that the reporting under section 27 and the Bi-annual Top 100 will also be exposure-based. 7.1.2 In addition, one bank noted that in the response to consultation feedback issued on 15 May 2006, MAS had indicated that banks will be required to report to MAS their exposures to any bank / merchant bank (or group of banks / merchant banks posing a single risk) that would have exceeded the 25% large exposures limit if such exposures had not been exempted, and that the intention was to incorporate such reporting into the MAS Notice 610 returns. The bank suggested that a reference to MAS Notice 610 returns be made in MAS Notice 639. 7.1.3 Under the existing MAS Notice 629, banks are required to report to MAS on a quarterly basis, credit facilities granted by the bank and its subsidiaries to entities in a common control group, where the bank has applied the financial independence criteria to disaggregate its exposures to entities in the group. A few banks sought clarity on whether there is a need to continue to do so under the proposed MAS Notice 639. MAS’ Response 7.1.4 Reporting under section 27 will be aligned to reflect the revisions in section 29. MAS will assess the need to revise the Top 100 reporting. For interbank exposures, MAS will review the reporting requirement during the two-year transition period before banks are required to implement the revised section 29. The existing quarterly reporting requirement to MAS where a bank has applied the financial independence criteria to disaggregate its exposures to entities in a common control group, will be retained. 7.2 Compliance 7.2.1 Under the proposed Notice, MAS may require a bank to aggregate its exposures to certain counterparties, where the Authority is of the view that they pose a single risk to the bank. MAS may also prohibit a bank from computing its off-balance sheet derivatives exposures to a counterparty on a net basis for the purpose of section 29, if the bank fails to comply with the conditions for recognising bilateral netting arrangements. One bank felt that in the event such actions are taken by MAS, thus causing a bank to breach its large exposures limit, a grace period should be provided to allow the bank to comply. 7.2.2 In view of potential changes to the shareholding structure of a counterparty and its financial relationship with other entities, a bank should review the profile of its counterparties at least once every 12 months, but in any case, no later than 15 months from the last review. One bank sought clarification on the evidence MAS would look for in relation to the review process. Specifically, whether the requirement would be satisfied if

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a bank documents only material changes in its periodic reviews. Further, whether a “negative” approach suffice i.e. if no comment is made, it is taken to mean that there have been no changes in the ownership profile. 7.2.3 One bank sought clarification on the estimated implementation date of the revised section 29 and the transition period given to banks to adopt and comply with the proposed Notice 639. Another bank asked whether MAS will allow the bank to adopt the revised section 29 in stages, as and when the respective processes and systems in the bank are operational. MAS’ Response 7.2.4 MAS will assess the appropriate action to take (including the timeframe necessary to ensure compliance), should it issue directions to a bank. On counterparty review, MAS does not require banks to undertake a separate review from the existing credit reviews which they perform on their counterparties. MAS expects banks to maintain adequate documentation of their reviews. 7.2.5 Banks will be given 2 years from the date of commencement of the Banking (Amendment) Act 2007 to implement the revised section 29 framework. Banks which are ready before the 2-year timeline, may elect to do so earlier by giving notice in writing to MAS at least 14 days before the date of election. These are set out in the transitional provisions in the Banking (Amendment) Act. Banks would have to implement the revised section 29 in its entirety. MONETARY AUTHORITY OF SINGAPORE 27 March 2007