Comparison of regulatory capital frameworks APRA and the UK FSA

This fact sheet was released on 5 November 2008. This is the original document.
This fact sheet has now been updated following further consultation with industry participants and regulatory bodies.
Read Version 2 of the fact sheet 
Read Version 3 of the fact sheet which shows the highlighted changes between Versions 1 and 2.

Purpose and scope

This Fact Sheet compares the Australian Prudential Regulation Authority’s (APRA’s) and the UK Financial Services Authority’s (FSA’s) regulatory capital frameworks, and the implementation of those regulators’ Basel II Frameworks as applicable to banks accredited to use the advanced modelling approaches to Basel II (‘advanced banks’).
 
In providing this analysis, it is anticipated that readers will have a clearer understanding of how to interpret the resulting capital ratios published by banks reporting under each jurisdiction.  It is intended that consideration of the Canadian regulatory framework will be included in a future updated version of this Fact Sheet.

The Fact Sheet considers the sources of differences arising from the following areas so as to assist market analysts and investors when comparing capital ratios across banks in different countries:

The analysis of Pillar 1 RWA is confined to credit risk given the flexibility in modelling approaches under operational risk AMA and the limited changes to market risk internal model regulatory requirements in the transition to Basel II.

This Fact Sheet does not assess the validity of individual regulatory approaches nor comment on the relative merits of different regulatory requirements.

Background

The Basel II Pillar I Framework¹ is an international framework that is intended to be implemented in full by Basel Committee countries².  Australia, although not a Basel Committee country, also aims to implement the Basel II Framework in full.   The fundamental objective of the Committee’s work to revise the 1988 Accord has been to develop a framework that would further strengthen the soundness and stability of the international banking system while maintaining “sufficient consistency that capital adequacy regulation will not be a significant source of competitive inequality among internationally active banks”³.  In order to gain universal acceptance and meet the first part of this objective, the Framework affords local regulators the ability to implement certain aspects of the Framework differently.
 
These differences generally come about through (i) exercising ‘national discretions’ offered in the Framework, which give regulators the option of implementing particular rules, such as a capital requirement for interest rate risk in the banking book (IRRBB); (ii) application of internal modelling and data to the calculation of risk weighted assets (IRB and AMA approaches to credit and operational risk respectively); and (iii) supervisory overlays imposed under Pillar 2. In addition, there are aspects of the regulators’ rules relating to eligible capital that sit outside of the Basel II Framework.
 
Different regulators apply different approaches to the definitions of eligible capital, Pillar 1 RWA and capital limits. However, these are only some of the variables which ultimately influence the total level of capital held by banks. Pillar 2 of the Basel II framework (which relates to regulators’ supervisory review process of banks’ own internal capital adequacy assessment) also plays a key role in defining the level of capital held and is heavily influenced by the approach adopted by individual supervisors and by factors specific to individual institutions. An analysis of such variances in the application of Pillar 2 is beyond the scope of this Fact Sheet. 

Key differences in eligible Tier 1 capital rules and RWA requirements

APRA has provided feedback on the technical accuracy of the Australian regulatory requirements set out in this Fact Sheet but does not endorse the broader findings outlined in this Fact Sheet.

Analysis of regulatory frameworks across regulatory jurisdictions suggests that there are a number of differences in eligible Tier 1 capital rules and RWA requirements.  The implications of these differences for banks will vary for a range of reasons including, but not limited to, the bank’s capital structure, risk profile and portfolio exposure.

This Fact Sheet sets out those identified differences that are common across the advanced banks and have the most significant implications for them on a collective basis.  In addition to these common and significant identified differences, each individual bank may have additional differences that are significant to that bank’s particular operations (e.g. differences in hybrid capital limits). These other identified differences between regulatory requirements, as well as additional information on the common and significant identified differences, are included in the Attachment to this Fact Sheet.
 
The table below outlines: 

Challenges and limitations

A1.  Treatment of equity investments and deconsolidation of entities for prudential purposes

The following table outlines the treatment of various equity investments in banks, funds managers, insurance and other (non-financial) entities.  The impact on Tier 1 capital from these differences will vary depending on the nature of the investment.

A2.       Other differences in Tier 1 capital rules

Reference	Difference	APRA	FSA	Implications for ADIs’ Tier 1 Ratios
A.2.1	Treatment of dividends	APRA APS 111 references: 20(c)(d)	FSA Prudential Sourcebook references: GENPRU 2.2.87
	Dividend payable for the current period and expected dividend reinvestments	APRA requires ‘expected’ dividends to be deducted from current year earnings (based on an expected payout ratio). Offsetting this, APRA allows for the expected dividend reinvestment on the expected dividend to be included in Tier 1 capital.	FSA requires only ‘foreseeable’ dividends to be deducted. A firm must assess when, in its particular circumstances, dividends are foreseeable. A dividend is foreseeable at the latest: (i) in the case of an interim dividend, when it is declared by the directors or (ii) in the case of a final dividend, when the directors approve the dividend to be proposed at the annual general meeting.	The aggregate impact of deducting expected dividends (net of expected dividend reinvestments) instead of declared dividends under APRA rules will generally result in lower Tier 1 capital ratios when compared to FSA.
A.2.2	Treatment of earnings and reserves	APRA APS 111 references: 21(a)-(e), 44(l)-(n)	FSA Prudential Sourcebook references: GENPRU 1.3.36 (2), 1.3.4 R,  2.2.102R, 2.2.185 (2)
A.2.2(a)	Audited and unaudited profits	APRA allows current year earnings to be included in Tier 1 capital whether audited or unaudited	ADIs can include unaudited profits as Tier 1 capital only if they have been verified by the bank’s external auditors. The verification is not an audit and is used frequently by UK banks.	The implication is broadly neutral where verification of profits is sought by the firm on a regular basis under UK rules
A.2.2 (b)	Negative available for sale reserve	Deduct from Tier 1 capital negative available for sale asset revaluation reserve amounts for debt and equity	Deduct from Tier 1 capital negative available for sale asset revaluation reserve amounts for equity (not debt)	APRA’s rule to deduct negative available for sale reserves for debt instruments will result in relatively lower Tier 1 capital ratios when compared to FSA.
A.2.2 (c)	Prepaid income	APRA permits certain prepaid (deferred) income to be included in current year earnings provided it meets criteria including: the income is paid upfront in cash or debited to a customer’s account; any outstanding amounts are claimable in full in the event of default; and there is no recourse for any repayment of income.	FSA treatment of prepaid income for ADIs aligns with the accounting treatment. The recognition of revenue for financial service fees occurs over the life of the service rather than fully recognised as current year earnings on receipt.	APRA’s concession to include certain prepaid income in Tier 1 capital will result in relatively higher Tier 1 capital ratios when compared to FSA.
A.2.3	Deductions for specific assets	APRA APS 111 references: 44(b)(i)(r)(s), Att D 9	FSA Prudential Sourcebook references: GENPRU 1.3.4, 1.3.9, 2.2.156,  2.2.216, BIRPU 3
A.2.3 (a)	Loan and leasing broker fees and commissions	APRA requires that the balance of net loan/lease origination/broker fees and commissions (i.e. the difference between expenditure on fees and commissions that are capitalised and fees received upfront and treated as deferred income or recorded in the carrying value of the loan) be deducted from Tier 1 capital.	In accordance with the treatment in the accounting framework, the FSA does not require a deduction from Tier 1 capital. From an accounting perspective, loan origination fees, will normally be seen as an integral part of providing the loan and will therefore be wrapped up in determining the carrying value of the loan	APRA’s rule to deduct the net balance of loan and leasing broker fees and commissions will result in relatively lower Tier 1 capital ratios when compared to FSA.
A.2.3 (b)	Up-front costs associated with debt raisings	APRA requires a deduction from Tier 1 capital for up-front costs associated with a debt raising and other similar transaction-related costs which for accounting purposes are included in the net carrying value of the debt and amortised over its life as interest expense.	For debt not used in the capital calculations the treatment would follow the accounting treatment	APRA’s rule to deduct up front costs associated with debt raisings may result in relatively lower Tier 1 capital ratios when compared to FSA
A.2.3 (c)	Life insurance value in force	APRA regards the Value in force (VIF) at acquisition of an insurance investment on consolidation to be an intangible asset and therefore requires it to be deducted from Tier 1 capital	The FSA requires, VIF at acquisition for a material insurance holding to be deducted from total capital under transitional arrangements. Refer to A.1.3.	APRA’s treatment of VIF as an intangible asset will result in relatively lower Tier 1 capital ratios when compared to FSA’s treatment of VIF
A.2.3 (d)	Deferred tax assets	APRA requires that deferred tax assets be deducted from Tier 1 capital, except for any deferred tax assets associated with collective provisions eligible to be included in the General Reserve for Credit Losses.  In some circumstances, deferred tax assets may be offset with deferred tax liabilities prior to being deducted from capital.  In the event that deferred tax liabilities exceed the amount of deferred tax assets, the excess cannot be added to Tier 1 capital (i.e. the net deduction is zero)	Under UK FSA rules, deferred tax assets are treated similarly to other assets and risk weighted (under the standardised approach set out in BIPRU 3, deferred tax assets would be risk-weighted at 100 per cent).	APRA’s rule to deduct deferred tax assets will result in relatively lower Tier 1 capital ratios when compared to FSA.
A.2.3 (e)	Pension plans	Deduct from Tier 1 capital any deficit in a defined benefit superannuation fund of which an ADI is an employer-sponsor. Deduct from Tier 1 capital any surplus in an ADI employer-sponsored defined benefit superannuation fund unless it has already been excluded from Tier 1 capital or an alternative approach has been otherwise agreed with APRA.  APRA’s rules allow an ADI to make representations to APRA to include a surplus as an asset for capital adequacy purposes where it is able to demonstrate unrestricted and unfettered access to a fund surplus in a timely manner (which would then be risk weighted at 100%).	FSA rules state that a firm may not recognise any asset deriving from a defined benefit pension scheme. Where a deficit arises in a defined benefit pension scheme, a firm will deduct from Tier 1 capital the deficit reduction amount. This is the amount, in respect of a defined benefit pension scheme, of additional funding (net of tax) that will be required to be paid into that scheme by the firm over the following five year period to reduce the firm's defined benefit liability (as calculated per accounting standards).	Indeterminant. The impact to Tier 1 capital ratios will depend on the measurement of the deficit reduction amount under FSA rules.
A.2.4	Other items	APRA APS 111 references: 46(h)(i)	FSA Prudential Sourcebook references: BIRPU 4.3.8, GENPRU 2.2.237
A.2.4 (a)	Eligible provisions (EP) and expected losses (EL)	The excess of EL (unadjusted for tax) over EP (net of deferred tax asset associated with the General Reserve for Credit Losses (GRCL)) is deducted 50/50 from Tier 1/Tier 2 capital.	The FSA compares EP to EL on a gross basis and tax-effects any difference in determining the deduction to be made (50/50 Tier 1 and 2). The deferred tax asset associated with the GRCL is risk weighted at 100%.	If EL exceeds EP, the difference will be larger under APRA rules than under FSA rules. Hence, under APRA rules, Tier 1 capital ratios will be lower due to the deductions in respect of tax.
A.2.4(b)	Treatment of first loss facilities in securitisation transactions	Deduct from capital (50/50 Tier 1/Tier 2)	Deduct from capital (50/50 Tier 1/Tier 2) or include in RWA (1250% risk weight )	Broadly neutral

B1.  Divergences in the application of Basel II to risk weighted assets  (RWA)

Reference		Basel II Framework	APRA	FSA	Implications for ADIs’ Tier 1 ratio
B.1 National discretions
B.1.1		National supervisors have discretion to include capital requirements relating to IRRBB as part of either Pillar 1 or Pillar 2	APRA has set Pillar 1 mandatory minimum capital requirements for IRRBB for ADIs adopting advanced approaches to credit and operational risk [APS 117]	IRRBB is not included in Pillar 1 minimum capital requirements. It is included in Pillar 2 capital requirements. [BIPRU 2.3]	APRA’s rules will increase RWA and result in lower Tier 1 capital ratios when compared to FSA rules
B.1.2		At national discretion, supervisors may allow ADIs to assign preferential risk weights for unexpected loss of 50%  to ‘strong’ exposures and 70% to ‘good’ exposures provided they have a remaining maturity of less than 2.5 years or the supervisor determines that ADIs’ underwriting and other risk characteristics are substantially stronger than specified in the slotting criteria for the relevant supervisory category	APRA has not implemented this option. Risk weights for unexpected loss under the slotting approach are defined as 70% for ‘strong’ and 90% for ‘good’. [APS 113 Att B 82]	The FSA has implemented this national discretion but requires firms to comply with extra conditions, unless the exposures have a remaining maturity of less than 2.5 years. [BIPRU 4.5.10 R] This affects both RWA and EL values.  Where a firm's IRB permission authorises it to assign preferential risk weights (as outlined in BIPRU 4.5.10 R) of 50% to exposures in category 1, and 70% to exposures in category 2, the EL value for exposures in category 1 must be 0% and for exposures in category 2 must be 0.4%. [BIPRU 4.5.14]	APRA’s rules will increase RWA and  result in lower Tier 1 capital ratios for loans in ‘strong’ and ‘good’ categories of specialised lending under the slotting approach
B.1.3		Supervisors will decide which approaches (market-based or PD/LGD) will be used for equity exposures, and under what circumstances. Supervisors may allow ADIs to employ different market-based approaches (the simple or internal-models methods).	The simple risk-weight (market based) approach is adopted for equity. A 300 per cent risk-weight applies to exposures that fall within the equity IRB asset class that are not deducted from capital and that are listed on a recognised exchange. A 400 per cent risk-weight applies to exposures that fall within the equity IRB asset class that are not deducted from capital and that are not listed on a recognised exchange. [APS 113 Attachment E paragraphs 1-4]	There are two approaches based on market based measures and a third under which a firm uses its own estimates of PD only: 1) Simple risk weight approach: 190% private equity exposures in sufficiently diversified portfolios, 290% traded on listed exchanges, 370% other equity 2) PD/LGD method: Estimation of PD with equity risk model. If there is not sufficient information to derive PD, then a 1.5 scaling factor on the risk weight must be used. PD floors may also apply for certain equity exposures. LGD values are set at 65% for sufficiently diversified private equity and 90% for other equity positions. EAD values are set at booking value. 3) Internal models approach subject to FSA permission [BIPRU 4.7]	Indeterminate. Whether APRA’s simple risk weight method produces RWA outcomes higher or lower than FSA approaches depends on the ADI’s specific portfolio and the models that it has agreed with the FSA
B.1.4		Qualifying Revolving Retail (QRR) exposures must be to individuals.  This may allow loans to sole traders to be eligible for the QRR exposure treatment.	APRA restricts the QRR sub asset class to non-business exposures to individuals: "the exposures are to individuals and not explicitly for business purposes" [APS 113 46 b) ii)]	Same criteria as Basel II - the exposures are to individuals and may allow loans to sole traders. We note that discussion in the UK is ongoing on the treatment of sole traders. [BIPRU 4.6.44 R 2.b)]	FSA rules would allow for a lower RWA on revolving facilities for sole traders. This would result in lower Tier 1 capital ratios under APRA rules
B.1.5		Supervisors need to determine which instruments will be allowed to be part of the carve-out from the one-year maturity floor	Over and above those transactions specified in the Basel II Framework , APRA allows unsettled transactions and other short term exposures with an original maturity of less than one year, not part of the ADI's ongoing financing of an obligor, written in policy and approved by APRA to be exempt from the one-year maturity floor [APS 113 Att B 40]	The FSA has not at this stage specified any such short-term exposure. [BIPRU 4.4.69 G]	APRA’s rules should lower RWAs for these exposures and result in higher Tier 1 capital ratios when compared to FSA rules
B.1.6		A default is considered to have occurred with regard to a particular obligor when either or both of the two following events have taken place: i)The bank considers that the obligor is unlikely to pay its credit obligations to the banking group in full, without recourse by the bank to actions such as realising security (if held). ii) The obligor is past due more than 90 days on any material credit obligation to the banking group.	APRA uses a threshold period for default of 90-days past due for all portfolios. APRA has not exercised its discretion for retail and public sector enterprises to substitute the 90-day threshold with one of up to 180 days [APS 220]	The FSA has exercised this national discretion permitted by the Basel II framework. The threshold period for defining default has been extended to 180 days for some portfolios. Public Sector Enterprises: extended to 180 days (borrowers traditionally incurred high level of late payments). Retail has been extended to 180 days. This is with the exception of retail SMEs where it remains at 90 days past due. [BIPRU 4.6.20]	Indeterminate. The aggregate impact from changes to LGD and PD estimates from widening the threshold period for default will depend on the composition of the portfolio
B.1.7		Asset class thresholds under Basel II are set at the following: EUR 50m for firm size adjustment EUR 1m for retail lending EUR 100K for QRR exposures	APRA has applied the same asset class thresholds in AUD rather than EUR (i.e. one-to-one conversion factor) [Regulation Impact Statement: Adoption of the Basel II Capital Framework In Australia]	The FSA has based its asset class thresholds in line with the Basel II framework (i.e. denominated in Euros) [BIPRU 4]	Applying APRA asset class thresholds, fewer exposures may qualify for favourable risk weighting in comparison to FSA rules.   This may result in a lower Tier 1 capital ratios under APRA rules when compared to FSA rules
B.2 Supervisory floor and interim capital requirements
	Supervisory floor: 20% LGD floor on exposures secured by residential real estate
B.2.1		Owing to the potential for very long-run cycles in house prices which short-term data may not adequately capture, LGDs for retail exposures secured by residential properties cannot be set below 10% for any sub-segment of exposures for a transitional period.	APRA requires that estimates for the loss on default of all exposures secured by residential mortgage loans be a minimum of 20% until such time as an ADI can justify a lower floor [APRA letter to Advanced ADIs]. Note that this floor applies to both retail and non retail loans secured by residential real estate.	The FSA rules state that until 31 December 2010, the exposure-weighted average LGD for all retail exposures secured by residential properties and not benefiting from guarantees from central governments must not be lower than 10% at the portfolio level. In practice, the FSA agrees with individual UK banks an average downturn LGD for mortgages based on their data, models and assumptions. [Article 154(5) of the Banking Consolidation Directive]	APRA rules will increase RWA and lower Tier 1 capital ratios when an LGD of less than 20% is agreed with the FSA.
	Interim capital requirement: 20% Risk Weight on retail margin lending
B.2.2		Not specified for retail margin lending	APRA has put in place interim capital requirements for margin lending. The risk weight for margin lending is 20% for lending against securities listed on recognised exchanges; otherwise a standardised risk weight for a secured loan must be used. [APS 113 Attachment E paragraph 12]	Not specified for retail margin lending	APRA’s approach leads to a higher RWA, if banks in the UK treat retail margin lending exposures as loans secured by equity. This would result in lower Tier 1 capital ratios when compared to FSA rules
B.3 Industry observations
	Specialised Lending
B.3.1		Supervisory slotting approach for specialised lending requires ADIs that do not meet the requirements for the estimation of probability of default for their specialised lending assets to map their internal risk grades to five supervisory categories	APRA requires ADIs adopting the IRB approaches to use supervisory slotting pending further analysis of ADI processes and practices. [APS 113 paragraph 11]	A number of UK firms are using FIRB or AIRB approaches for specialised lending.  These approaches may produce outcomes higher or lower than the slotting approach [BIPRU 4.1.10 R, 4.5.8 R, 4.5.9 R]	Indeterminate.  Whether IRB models produce outcomes higher or lower than the slotting approach depends on the ADI’s specific portfolio and the models that it has agreed with the regulator
	Downturn LGD
B.3.2		For certain types of exposures, loss severities may not exhibit such cyclical variability and LGD estimates may not differ materially (or possibly at all) from the long-run default-weighted average. The downturn LGD cannot be less than the long-run default-weighted average loss rate given default calculated based on the average economic loss of all observed defaults within the data source for that type of facility.   However, for other exposures, this cyclical variability in loss severities may be important and ADIs will need to incorporate it into their LGD estimates.	Where loss severities do not exhibit cyclical variability and LGD estimates do not differ materially from the long-run default-weighted average, LGD estimates must not be less than the long-run default-weighted average loss given default calculated as the average economic loss of all observed defaults within the data source for that type of facility. For certain exposures, there may be significant cyclical variability in loss severities and an ADI must incorporate this into its LGD estimates. [APS113 paragraphs 91 - 93]	The FSA does not assume that all portfolios are sensitive to downturns. The FSA also accepts that for some portfolios, particularly in unsecured lending, the impact of the material drivers on LGD may be weak. However, the burden is on the firm to demonstrate that its models are appropriate for the circumstances in which they are applied. Firms may have downturn LGDs that equate to long run default weighted LGDs if agreed with the FSA. [BIPRU 4.6.35 G, 4.3.103 R]	Under FSA rules, and if agreed with the FSA, portfolios that are allowed to have downturn LGDs that equate to long run default weighted LGDs will lower RWA in comparison to APRA rules.  Tier 1 capital ratios under APRA rules would therefore be lower when compared to FSA rules.
	Timing of recognition of exposures
B.3.3		Timing of recording of exposures for capital purposes is not specified by the Basel II framework.	This is only specified in the case of the Standardised Approach to Credit Risk. "APRA generally considers that a commitment arises once an ADI makes a firm offer to a client. Record all commitments, whether revocable or not, which have been advised to the counterparty or group of related counterparties". There is a long standing carve out in the case of mortgages. [APG 112]	A firm should treat a facility as an exposure from the earliest date at which a customer is able to make drawings under it. We understand that the FSA has been involved in long running discussion with the UK industry on the appropriate start date for the recognition of exposures.  This may result in recognition at an earlier start date. [BIPRU 4.3.126 6 (2)]	Under APRA rules, recognising loans at letter of offer stage before they are accepted increases RWA and lowers Tier 1 capital
B.4 Other regulatory differences
	Investments in unit trusts / collective investment undertakings (CIUs)
B.4.1		Not specified in Basel II	APRA classifies investments according to their economic substance. Certain instruments (e.g. holdings of units in unit trusts) held in the banking book are captured within the definition of equity exposures and are therefore subject to the requirements of APS 111 (i.e. either risk weighted as an equity investment or, if above a certain threshold, deducted from capital). [APS 111 Att D 4]	For banks under the standardised approach to credit risk, CIU exposures for which a credit assessment is available must be assigned a risk weight in accordance with that credit rating. If the CIU is high risk (certain conditions apply) a risk weight of 150% must be applied. If no external rating is available, a firm may “look through” to the underlying exposures in order to calculate an average risk weight. [BIPRU 3.4.118 R, 3.4.123 R]	Under APRA rules, investments in unit trusts will generally result in a lower Tier 1 capital ratio when compared to FSA standardised approach credit risk rules.

Other considerations regarding RWA differences

We note that under FSA rules, excesses in certain large exposure limits would result in an additional capital charge by way of an increase in RWA. APRA’s rules state that ADIs cannot exceed large exposure limits without APRA approval but does not state that excesses will result in an automatic increase in capital requirements. We presume that ADIs would manage their large exposure limits within regulatory boundaries and have therefore not included implications of such limits on ADIs’ Tier 1 capital ratio outcome.

We also note that APRA’s most recent securitisation standard (APS 120) has generally been more detailed than that specified in the Basel II framework and the rules specified by the FSA in this area. Given the continuing developments in this area and numerous requirements tailored for Australian conditions (e.g. accommodation of warehouse facilities, recognition of issues raised by securitising redrawable home loans, special recognition of basis swaps), we have not outlined the implications of securitisation capital requirements in the tables above.

C1. Capital limits and transition floors

This section provides a summary description of limits and transition floors in relation to the calculation of capital ratios under APRA and FSA rules.  Application of the rules regarding capital limits and transition floors should be considered after the application of the relevant regulatory Tier 1 and RWA rules described in the sections above.

The direct impact of differences in capital limit rules between APRA and the FSA is unclear given various factors including: ADIs’ practical management of its capital structure given regulatory limits, transition arrangements allowed for by regulators, and the extent of ‘grandfathering’ provisions that may be applicable to certain capital issues. Moreover, in relation to the Basel II capital transition floor, both the FSA and APRA do not require ADIs to publish their Basel II capital ratios to the market with the impact of any transition floor that might apply. Given these factors, the implications to ADIs’ Tier 1 capital ratios from differences in these rules are not outlined in the table below.

Reference	Difference	APRA Refer APS 150	FSA Refer BIPRU TP2
C.1	Innovative Tier 1 capital limits	For hybrid capital instruments, APRA requires an Innovative limit of 15% of Net Tier 1 capital and a Residual Limit of 25%. Transitional relief for innovative capital until 1 Jan 2010 applies, allowing excesses above 15% to be included in Tier 1, subject to residual capital not exceeding 25%.	The FSA has an Innovative Limit of 15% of Tier 1, which is part of the FSA’s non-core (Residual) limit of 50% of Tier 1 (with adjustments for gearing allowed). The gearing adjustments relate to the sub-limits on different tiers of capital and sub-tiers of capital.  Under FSA rules, 50/50 Tier 1/Tier 2 deductions can be made from total capital when assessing compliance with capital tier sub-limits. Certain hybrid instruments issued pre 31 Dec 06 will be subject to grandfathering.
C.2	Capital transition floor	The purpose of the transitional floor is to restrict the benefit which may be achieved as a result of moving from Basel I to Basel II. APRA and the FSA have both implemented transitional floor arrangements. The FSA, however, takes a different approach to APRA on how the floor is reflected in their supervisory assessment of capital adequacy. It should be noted that FSA and APRA do not require any impact of the transitional floor to be reflected in Pillar 3 disclosures, however, banks may choose to disclose ratios with and without the impact of such floors should they be applicable. To the extent that banks publish this prudential ratio (as distinct from the Pillar 3 disclosures), differences in regulatory approaches may have an impact. These differences are summarised below:
		If floor thresholds are met, APRA makes an adjustment to risk weighted assets, which in turn has a downward effect on the prudential capital adequacy ratio.	The FSA requires no explicit adjustment to RWA. However there is implicitly a level of capital (which will be above the 8% minimum), below which a bank could not operate without breaching minimum capital adequacy rules.
		APRA has set the transitional floor threshold at 90%.	The FSA has set the transitional floor threshold at 90% for 2008. In 2009, this floor will be adjusted to 80% of the equivalent Basel I capital requirement.
		When comparing gross capital requirements under Basel I and Basel II, APRA requires ADIs to take into account: All changes to RWAs The additional deductions arising from the excess of EL>EP. The change arising from the non-inclusion of general provisions in the capital base. Other changes in capital deductions between Basel I and Basel II.	The FSA similarly includes the impact of changes in RWAs, additional EL>EP deductions and non-inclusion of general provisions when comparing Basel I to Basel II capital requirements. They do not reflect other changes to capital deductions.

D1. List of abbreviations

Acronym	Definition
ADI	Authorised Deposit-taking Institution
AIRB	Advanced Internal Ratings Based (approach)
AMA	Advanced Measurement Approach
APRA	Australian Prudential Regulation Authority
APS	ADI Prudential Standard
BIPRU	Prudential Sourcebook for Banks, Building Societies and Investment Firms (UK)
CIU	Collective Investment Undertakings
EAD	Exposure at Default
EL	Expected Loss
EP	Eligible Provision
FIRB	Foundation Internal Ratings Based (approach)
FSA	Financial Services Authority (UK)
GENPRU	General Prudential Sourcebook (UK)
GRCL	General Reserve for Credit Losses
IAA	Internal Assessment Approach
IRB	Internal Ratings Based (approach)
IRRBB	Interest Rate Risk in the Banking Book
LGD	Loss Given Default
NTA	Net Tangible Assets
PD	Probability of Default
QRR	Qualifying Revolving Retail
RBA	Reserve Bank of Australia
RWA	Risk Weighted Assets
VIF	Value In Force
50/50 Tier 1 and Tier 2	Deduction is made 50% from Tier 1 capital and 50% from Tier 2 capital

Created: June 2009