Shearman & Sterling LLP | FinReg | UK Prudential Regulator Proposes Definition of "Simpler-Regime" Firm
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  • UK Prudential Regulator Proposes Definition of "Simpler-Regime" Firm

    The U.K. Prudential Regulation Authority has opened a consultation in which it proposes introducing a definition of a "Simpler-regime Firm". This is the PRA's first step in developing a strong and simple prudential framework for non-systemic banks and building societies that are not internationally active following the 2021 discussion paper and feedback paper. Responses to the consultation may be submitted until July 22, 2022. The PRA wants to create a graduated framework for U.K. prudential supervision with simpler rules applying to the smallest firms. The applicable rules would increase in sophistication as the size and complexity of firms increased.

    In this consultation, the PRA proposes a definition for a Simpler-regime Firm based on the size of a firm, its trading activity, its business model and activities and location.

    The proposed maximum size threshold is £15 billion of total assets averaged over a 36-month window. The PRA wants the threshold to cover the firms that are most acutely experiencing issues in navigating the complexity of the current prudential regime. It estimates that 61 firms could be Simpler-regime Firms, of which 34 are building societies. The proposal uses an existing definition for regulatory reporting, meaning that it should be clear enough for firms to calculate. The PRA is still to consult on how it will treat firms in the event of a merger, acquisition or disposal of entities or activities within the three-year window.

    In terms of trading activity, the PRA's view is that only firms with no or minimal trading books should be Simpler-regime Firms. For a firm to be in scope, it would need to have an on-and off-balance sheet trading book business equal to, or less than, both of the following thresholds: (i) five percent of the firm's total assets; and (ii) £44 million. In addition, a firm would need to have low foreign exchange positions (equal to or less than two percent of the firm's own funds) and have no positions in commodities or commodity derivatives.

    Another proposed element is that a firm does not apply the Internal Ratings Based Approach to calculate its risk-weighted exposure amounts for credit risk, since the IRB model is complicated to develop and requires significant resources. However, a Simpler-regime Firm that wanted to start using the IRB approach could remain in the regime until its approval for the approach was received.

    The PRA proposes to exclude from the new regime firms that provide clearing, transaction settlement, custody or correspondent banking services to other banks and building societies, including when a firm acts as an intermediary to provide access to payment systems, central securities depositories, settlement systems, CCPs, exchanges and trading platforms. The PRA's rationale is that such firms have high interconnectivity with the wider financial system, and specific risks arise due to their business models. In addition, firms that operate a payment system would also be excluded.

    Finally, it is proposed that only firms whose activity is primarily based in the U.K. and focused on U.K.-based customers or counterparties would be within the scope of the Simpler-regime Firm definition. The PRA is mindful that the U.K. should not deviate from the Basel Committee's prudential framework, which is geared towards internationally active banks.

    The PRA plans to publish a Policy Statement on the proposed definition of Simpler-regime firms later in 2022 or in 2023. The PRA then intends to publish proposals for the simplified prudential requirements applicable to these firms, in two phases: Phase 1, expected to be published in Q1 2023, will focus on non-capital requirements-related rules (e.g., liquidity regulation) and Phase 2, expected to be published in 2024, will focus on capital requirements.

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