Finalized Guidance Document Concerning the Implementation of Basel III

Capital Instruments that No Longer Qualify as Non-Common Equity Tier 1 Capital Capital instruments that no longer qualify as non-common equity Tier 1 capital or Tier 2 capital will be phased out beginning 1 January 2013. Fixing the base at the nominal amount of such instruments outstanding on 1 January 2013, their recognition will be capped at 90% from 1 January 2013, with the cap reducing by 10 percentage points in each subsequent year. This cap will be applied to Additional Tier 1 and Tier 2 separately and refers to the total amount of instruments outstanding that no longer meet the relevant entry criteria. To the extent an instrument is redeemed, or its recognition in capital is amortized, after 1 January 2013, the nominal amount serving as the base is not reduced. In addition, instruments with an incentive to be redeemed will be treated as follows: – For an instrument that has a call and a step-up prior to 1 January 2013 (or another incentive to be redeemed), if the instrument is not called at its effective maturity date and on a forward-looking basis will meet the new criteria for inclusion in Tier 1 or Tier 2, it will continue to be recognized in that tier of capital. – For an instrument that has a call and a step-up on or after 1 January 2013 (or another incentive to be redeemed), if the instrument is not called at its effective maturity date and on a forward looking basis will meet the new criteria for inclusion in Tier 1 or Tier 2, it will continue to be recognized in that tier of capital. Prior to the effective maturity date, the instrument would be considered an “instrument that no longer qualifies as Additional Tier 1 or Tier 2” and will therefore be phased out from 1 January 2013. – For an instrument that has a call and a step-up between 12 September 2010 and 1 January 2013 (or another incentive to be redeemed), if the instrument is not called at its effective maturity date and on a forward looking basis does not meet the new criteria for inclusion in Tier 1 or Tier 2, it will be fully derecognized in that tier of regulatory capital from 1 January 2013. – For an instrument that has a call and a step-up on or after 1 January 2013 (or another incentive to be redeemed), if the instrument is not called at its effective maturity date and on a forward looking basis does not meet the new criteria for inclusion in Tier 1 or Tier 2, it will be derecognized in that tier of regulatory capital from the effective maturity date. Prior to the effective maturity date, the instrument would be considered an “instrument that no longer qualifies as Additional Tier 1 or Tier 2” and will therefore be phased out from 1 January 2013. – For an instrument that had a call and a step-up on or prior to 12 September 2010 (or another incentive to be redeemed), if the instrument was not called at its effective maturity date and on a forward looking basis does not meet the new criteria for inclusion in Tier 1 or Tier 2, it will be considered an “instrument that no longer qualifies as Additional Tier 1 or Tier 2” and will therefore be phased out from 1 January 2013. Capital instruments that do not meet the criteria for inclusion in Common Equity Tier 1 will be excluded from Common Equity Tier 1 as of 1 January 2013. However, instruments meeting the following three conditions will be phased out over the same horizon described in paragraph 94(g): (1) they are issued by a non-joint stock company 1 ; (2) they are treated as equity under the prevailing accounting standards; and (3) they receive unlimited recognition as part of Tier 1 capital under current national banking law. Only those instruments issued before 12 September 2010 qualify for the above transition arrangements. NOTE: Banks should also refer to SAMA Circular entitled "Elements of the Reforms to Raise the Quality of Regulatory Capital – Loss Absorbency at the Point of Non- Viability issued through SAMA Circular # BCS 5611 dated 13 February 2011 . 1 Non-joint stock companies were not addressed in the Basel Committee’s 1998 agreement on instruments eligible for inclusion in Tier 1 capital as they do not issue voting common shares. B. Pillar 1 Requirements Enhancement Risk Under Basel III Framework 6. Enhanced Risk Coverage In addition to raising the quality and level of the capital base, the Basel III framework recognized the need to ensure that all material risks are captured in the capital framework. Failure to capture major on- and off-balance sheet risks, as well as derivative related exposures, was a key factor that amplified the crisis. This section outlines enhancement to Risk Coverage under the Basel III framework as given below. A. Counterparty Credit Risk • Revised metric to better address counterparty credit risk, credit valuation adjustments and wrong-way risks • Introduction of Asset Value correlation (AVC) for Financial Institutions • Collateralized counterparties and increased margin period of risk • Central Counterparties (CCPs) • Enhanced counterparty credit risk management requirements B. Addressing Reliance on external credit ratings and minimizing cliff effects • Standardized Inferred rating treatment for long-term exposure • Incentive to avoid getting exposures rated • Incorporation of IOSCO’s Code of Conduct Fundamentals for Credit Rating Agencies • ‘’Cliff effects’’ arising from guarantees and credit derivatives- ‘’CRM’’ • Unsolicited ratings and recognition of ECAI’s