ECB: Addendum to guidance on NPL

The European Central Bank (ECB) published (on March 15) the Addendum to the ECB Guidance to banks on non-performing loans (NPLs).

The Addendum follows a public consultation which ran from 4 October to 8 December 2017 and supplements the qualitative NPL guidance, published on 20 March 2017, specifying the ECB’s supervisory expectations for prudent levels of provisions for loans classified as NPLs in line with the European Banking Authority’s definition after 1 April 2018.

The guidance is non-binding and will serve as the basis for the supervisory dialogue between the significant banks and ECB Banking Supervision. After this dialogue and taking into account the bank’s specific situation, ECB Banking Supervision will decide, on a case-by-case basis, whether and which supervisory measures are appropriate. The result of this dialogue will be incorporated, for the first time, in the 2021 Supervisory Review and Evaluation Process (SREP).

This Addendum uses an “NPL vintage” concept for the application of the supervisory expectations. In this context, an NPL’s vintage is defined as the number of days (converted into years) from the date on which an exposure was classified as non-performing to the relevant reporting or reference date, regardless of what triggered the NPL classification. Thus, the vintage count for “unlikely to pay” and “past due” exposures is the same. The Addendum does not cover foreclosed assets.

The ECB’s expectations are also based on collateral held. To this extent, the Addendum differentiates between secured, unsecured exposures and partially secured exposures. Concerning quantitative supervisory expectations in detail, the ECB expects banks to cover the unsecured portion on new NPLs after two years and cover the secured portion after seven following a gradual path (40% after three years of NPL vintage; 55% after four years of vintage NPL; 70% after five years of vintage NPL; 85% after six years of vintage NPL; 100% after even years of vintage NPL).

The ECB’s supervisory expectations and the automatic minimum requirements proposed by the European Commission’s proposal to address NPLs under Pillar 1 differ in terms of calibration: the European Commission proposes that secured vintage NPLs should be fully covered after eight years whereas the Addendum proposes seven years.