Agreement No. 5 (2023): Establishing Rules on the Capital Conservation Buffer

Republic of Panama Banking Superintendence AGREEMENT No. 005-2023 (October 10, 2023) "By which the rules on the capital conservation buffer are established"

THE BOARD OF DIRECTORS in the exercise of its legal powers, and CONSIDERING:

That following the issuance of Decree Law No. 2 of February 22, 2008, the Executive Branch prepared a systematic ordering in the form of a Single Text of Decree Law No. 9 of February 26, 1998, and all its modifications, which was approved by Executive Decree No. 52 of April 30, 2008, hereinafter referred to as the Banking Law;

That in accordance with items 1 and 3 of Article 5 of the Banking Law, it is the objective of the Banking Superintendence to ensure the maintenance of the solidity and efficiency of the banking system, as well as to promote public confidence in the banking system;

That in accordance with items 3 and 5 of Article 11 of the Banking Law, it is the technical attribute of the Board of Directors to approve the general criteria for the classification of risky assets and the guidelines for the establishment of reserves to cover risks, and to fix, within the administrative scope, the interpretation and scope of legal or regulatory provisions in banking matters;

That in accordance with Article 67 of the Banking Law, banks must hold the capital funds established by the Law and the regulations that develop it;

That Agreement No. 1-2015 of February 3, 2015, establishes the capital adequacy rules applicable to banks and banking groups;

That in accordance with Articles 10 and 11 of Agreement No. 1-2015, the capital adequacy ratio that an individual bank must maintain at no time shall be less than 8% of its risk-weighted assets, of which ordinary primary capital shall not be less than 4.5% of its risk-weighted assets, and primary capital shall not be less than 6% of its risk-weighted assets;

That Agreement No. 3-2016 of March 22, 2016, establishes the rules for determining risk-weighted assets for credit and counterparty risk;

That in accordance with the guidelines established by the Basel Committee, the introduction of a capital conservation framework aims to strengthen regulatory capital above the minimum required, in order to provide greater coverage for banks' risk exposure and avoid non-compliance with minimum capital requirements during periods of deterioration in solvency;

That in working sessions of this Board of Directors, the need and convenience of adopting a regulatory framework that establishes guidelines for the establishment and management of a capital conservation buffer has been highlighted, which, in addition to regulatory capital, allows preserving ordinary capital during times of stress and strengthening the solidity of the banking system.

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AGREES:

ARTICLE 1. OBJECTIVE AND CRITERIA. This Agreement establishes the principles, general criteria, and minimum procedures that banks must observe in the process of establishing and managing the capital conservation buffer.

ARTICLE 2. SCOPE OF APPLICATION. The provisions of this Agreement shall apply to banking entities as established in Article 1 of the Capital Adequacy Agreement issued by this Superintendence, as follows:

1. Official banks.
2. General license banks.
3. International license banks whose home supervisor is the Banking Superintendence.
4. Shareholding companies of banking groups that consolidate their operations in Panama and over which the Banking Superintendence exercises home supervision.

Notwithstanding the foregoing, the Banking Superintendence may apply this Agreement to banking institutions not contemplated in the above items, due to their importance for the financial stability of the banking system.

This Agreement shall apply at the level of Individual Bank, Bank and Financial Subsidiaries (consolidated), and at the Banking Group level.

PARAGRAPH: Branches of foreign general license banks and international license banks subject to host supervision, in compliance with what is provided in Article 18 of Agreement No. 1-2015 on Capital Adequacy, will continue to submit the certification stating what the home regulatory ratio is. They will also incorporate in said certification the information corresponding to the conservation buffer established by their home supervisor, in case it is required.

ARTICLE 3. DEFINITION OF THE CAPITAL CONSERVATION BUFFER. For the purposes of this Agreement, it is the capital of entities whose objective is to guarantee that banks accumulate reserves that can be used in case of incurring losses. It is designed with the objective that banks do not fail to meet the minimum requirements established, without considering the conservation buffer, in episodes of deterioration in solvency.

ARTICLE 4. ESTABLISHMENT OF THE CAPITAL CONSERVATION BUFFER. Banking entities must maintain a capital conservation buffer above the minimum capital requirements established, according to the criteria and guidelines set forth in this Agreement.

ARTICLE 5. NATURE OF THE CAPITAL CONSERVATION BUFFER. The capital conservation buffer aims to accumulate ordinary primary capital above the minimum requirements established in Articles 10, 11, and 14 of Agreement No. 1-2015 on Capital Adequacy. Once the buffer is established, it is maintained permanently, except during periods of stress or tension at the systemic level, as determined by this Banking Superintendence.

ARTICLE 6. AMOUNT OF THE CAPITAL CONSERVATION BUFFER. Banking entities must establish a capital conservation buffer of 2.5% of risk-weighted assets (credit, market, and operational), formed by ordinary primary capital and in addition to all minimum regulatory capital requirements that are established.

In accordance with the guidelines established in this Agreement, the following table illustrates the capital adequacy ratio considering the 2.5% conservation buffer:

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Capital Adequacy Ratio and Conservation Buffer (in percentage) Ordinary Primary Capital | Total Primary Capital | Total Minimum (Regulatory) Capital Minimum 4.5 | 6.0 | 8.0 Conservation Buffer 2.5 Minimum plus Conservation Buffer 7.0 | 8.5 | 10.5

ARTICLE 7. CAPITAL INCREASES. If the percentage of retained earnings is not sufficient to constitute the capital conservation buffer at a reasonable pace, in the judgment of the Banking Superintendence, it will require the bank to submit a plan to obtain the necessary capital increase to comply with the Agreement.

ARTICLE 8. RESPONSIBILITIES OF THE BOARD OF DIRECTORS. The board of directors of banking entities is responsible for the implementation of this Agreement, for which it must ensure: a. To internally evaluate the degree of compliance with the capital conservation buffer and define policies for compliance with the Agreement in the future. b. In the event that a banking entity presents a deficit in compliance with the capital conservation buffer, according to the terms defined in the table in Article 6, the Board of Directors must design and implement immediately the appropriate policies to cover said deficit. For such purposes, the Bank must submit to this Superintendence an adequacy plan approved by the Board of Directors, in which the mechanisms to replenish the conservation buffer deficit must be indicated, as well as the deadlines in which such replenishment is carried out. This adequacy plan will be evaluated by this Superintendence, which may make observations and objections to it. The Superintendent will establish by circular the deadline by which the bank must submit the adequacy plan.

ARTICLE 9. RESTRICTIONS ON DIVIDEND DISTRIBUTION. Once the percentages established in the table of Article 12 for the formation of the capital buffer are completed, the bank must ensure that before declaring dividends, considering the amount to be distributed, the ordinary primary capital coefficient is recalculated for the purposes of compliance with the table established in Article 6.

In the event that a banking entity presents a deficit in the capital conservation buffer, it cannot repurchase its own bank shares, nor distribute earnings.

The banking entity wishing to make a distribution must first replenish the buffer deficit.

ARTICLE 10. INFORMATION REQUIREMENTS. For the purposes of this Agreement, banking entities must inform this Superintendence, with the periodicity that is established, of the analyses carried out by the Board of Directors on the evaluation of compliance with the Agreement and the policies established for its compliance.

ARTICLE 11. EFFECTIVE DATE. This Agreement shall enter into force on July 1, 2024.

ARTICLE 12. COMPLIANCE PERIOD (TRANSITIONAL). Banking entities will have a compliance period for the establishment of the capital conservation buffer established in this Agreement. For this purpose, the bank must ensure compliance with these provisions on the following dates:

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Phases | Applicable Percentage/Capital Conservation Buffer | Minimum Ordinary Primary Capital + Conservation Buffer July 1, 2024 | 0.50% | 5.00% July 1, 2025 | 0.75% | 5.75% July 1, 2026 | 1.25% | 7.00%

If the bank complies with the percentages established in the above gradualness table, it may distribute accumulated earnings from any period provided that, after the distribution, the minimum percentage required on each date is not reduced.

Given in the city of Panama, on the tenth (10) day of the month of October of two thousand twenty-three (2023).

NOTIFY, PUBLISH, AND COMPLY.

THE PRESIDENT, THE SECRETARY, Felipe Echandi Lacayo David Alberto Davarro