Procedure for Determining Capital Levels Required to Cover Banks' Operational Risks

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Date of creation: 2025-09-08

Appendix to the Resolution of the Board of the National Bank of the Kyrgyz Republic of December 27, 2019 No. 2019-P-12/68-1-(NPA)

PROCEDURE

for determining the level of capital required to cover operational risks of banks

(As amended by Resolutions of the Board of the National Bank of the Kyrgyz Republic of December 14, 2022 No. 2022-P-12/78-8, March 20, 2024 No. 2024-P-12/12-2)

Chapter 1. General Provisions

1. This Procedure defines the method for calculating the capital required to cover operational risks of commercial banks, including those conducting operations in accordance with Islamic principles of banking and financing, and JSC "Financial Company of Credit Unions" (hereinafter referred to as "banks").

(As amended by Resolution of the Board of the National Bank of the Kyrgyz Republic of March 20, 2024 No. 2024-P-12/12-2)

2. Operational risk is the risk of direct or indirect losses to which a bank is exposed as a result of failures in the bank's operations or its subsidiaries, caused by external events, personnel errors, fraud, as well as a result of inadequacy or violation of processes, procedures, or control systems.

Chapter 2. Calculation of Capital for Covering Operational Risks Using the Basic Indicator Approach

3. Banks must calculate the amount of capital required to cover operational risks using the Basic Indicator Approach.

4. The amount of capital required to cover operational risks is included in the calculation of the bank's total capital adequacy.

5. The calculation of capital required to cover operational risks is based on data from the periodic regulatory banking report.

6. The Basic Indicator Approach assumes a direct dependence of the level of operational risk on the scale of the bank's activities and implies the use of a single risk indicator for the bank, which is the bank's net income. In this case, neither internal control procedures nor risk exposure across different business lines are taken into account.

7. The amount of capital required to cover operational risks is calculated by multiplying the average annual net income for the last three years by a coefficient denoted as alpha (β).

8. Net income is defined as the sum of net interest income and net non-interest income and is calculated before deducting the reserve for loan loss coverage. When calculating this indicator, the following are excluded:

• losses from any securities operations of the bank;
• income from one-off, non-recurring operations;
• income received from insurance.

For banks conducting operations in accordance with Islamic principles of banking and financing, net interest income is understood as income calculated by deducting expenses incurred on funding operations from income received on lending (financing) operations.

9. Net non-interest income is calculated by deducting all non-interest expenses from all non-interest income. When calculating net non-interest income, operational and/or administrative expenses are not included.

For banks conducting operations in accordance with Islamic principles of banking and financing, non-interest income/expenses are understood as income/expenses received/incurred on operations other than lending/funding operations. When calculating net non-interest income, operational and/or administrative expenses are not included, including depreciation expenses under ijara/ijara muntahiya bitamlik contracts.

10. Capital required to cover operational risks is calculated using the formula:

where:

K OR - the amount of capital reserved for covering operational risks within the framework of the Basic Indicator Approach;

NI - positive annual net income for the previous three years;

n - the number of years out of the previous three in which net income was positive;

β = 15%, the provisioning coefficient established by the Basel Committee on Banking Supervision.

Examples of calculating capital reserved for covering operational risks are provided in Appendix 1 to this Procedure.

11. Indicators for any year in which annual net income was negative or zero are excluded from the numerator when calculating the average value, and the number of years in which the bank incurred losses is excluded from the denominator.

12. Banks must review the amount of capital required to cover operational risks at least once a year at the end of the year and provide a preliminary calculation of the amount of capital required to cover operational risks and the total capital adequacy ratio (K2.1) taking into account the revised amount of capital required to cover operational risks to the bank's Board of Directors and to the National Bank no later than the 15th day of the month following the reporting year.

The year-end revised calculation of the amount of capital required to cover operational risks must be submitted by banks as part of the Periodic Regulatory Banking Report, starting from April of the year following the reporting year.

13. For the purpose of continuous, proper, and effective management of the bank's operational risks, the Board of Directors is responsible for exercising direct control over the process of implementing the bank's operational risk management policy.

Chapter 3. Calculation of the Capital Adequacy Ratio

14. The calculation of the capital adequacy ratio of banks is carried out in accordance with the Instruction on Determining Capital Adequacy (Adequacy) Standards for Commercial Banks of the Kyrgyz Republic, approved by Resolution of the Board of the National Bank of October 12, 2022 No. 2022-P-12/63-1-(NPA), and the Instruction on Determining Capital Adequacy (Adequacy) Standards for Banks Conducting Operations in Accordance with Islamic Principles of Banking and Financing, approved by Resolution of the Board of the National Bank of December 28, 2009 No. 51/4.

An example of calculating the capital adequacy ratio of commercial banks taking into account capital reserved for covering operational risks is provided in Appendix 2 to this Procedure.

(As amended by Resolution of the Board of the National Bank of the Kyrgyz Republic of December 14, 2022 No. 2022-P-12/78-8)

Appendix 1 to the Procedure for Determining the Level of Capital Required to Cover Banks' Operational Risks

CALCULATION

of capital reserved for covering operational risks using the Basic Indicator Approach

Example 1:

The bank's net income in 2016, 2017, and 2018 amounted to 3,664 thousand som, 3,574 thousand som, and 8,616 thousand som, respectively. The calculation of the amount of capital required to cover operational risks will look as follows:

K OR = ((3664 + 3574 + 8616) * 15%) / 3 = 792.7 thousand som

Thus, the bank must provide capital in the amount of 792.7 thousand som to cover the bank's operational risks.

Example 2:

The bank's net income amounted to 8,297 thousand som in 2016, 3,451 thousand som in 2017, and the bank's losses in 2018 amounted to 0.2 thousand som. The calculation of the amount of capital required to cover operational risks will look as follows:

K OR = ((8297 + 3451) * 15%) / 2 = 881.1 thousand som

As can be seen from the example, the indicator for 2018 is not included in the capital calculation in accordance with paragraph 11 of the Procedure.

Appendix 2 to the Procedure for Determining the Level of Capital Required to Cover Banks' Operational Risks

CALCULATION

of the capital adequacy ratio of a commercial bank

Example:

The bank's total net capital is 2,500 thousand som. The sum of all risk-weighted assets is 10,000 thousand som. The amount of capital reserved for covering operational risks is 792.7 thousand som (calculated using the Basic Indicator Approach). The calculation of the adequacy ratio will look as follows:

Thus, the capital adequacy ratio, calculated taking into account capital reserved for covering operational risks, is 15.1%.

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