ANZ Bank New Zealand Limited Submission on Reserve Bank Prudential Requirements

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s 18(c)(i)

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Schedule 1: Responses to the questions from the consultation paper
A Are there any significant issues with the drafting of the BPRs that you would like to draw to the Reserve Bank’s attention? ANZ supports the NZBA submission comments and has made further detailed comments on the proposed BPRs in Schedules 3 and 4 of this submission. BPR001 Glossary ANZ supports the NZBA submission comments on this BPR, and provides further comment in
Schedule 4 of this submission.
BPR100
Capital Adequacy
ANZ supports the NZBA submission comments on this BPR.
Refer to Schedule 4 for comments on the following:

ANZ requests clarification of certain distribution restriction definitions (BPR100 B1.3
(4) and B2.6(6)).
The guidance note date in BPR100 B2.5(1).
BPR110
Capital Definitions
ANZ supports the NZBA submission on the proposed template terms sheets.
Please refer to Schedules 3 and 4 for detailed comments on the following:
ANZ is concerned with the requirement that AT1/Tier 2 instruments and all constituting
documents must be governed by New Zealand law (BPR110 D3.3(1)(e)).
ANZ requests further clarity on the scope of the proposed SPV rules (BPR110 E2).
ANZ recommends tax and regulatory events are able to occur more than five years
after the issuance date (BPR110 D2.5(3) and D3.5(3)).
ANZ recommends that zero percent floors on benchmark interest rates and changes to
a benchmark rate due to a benchmark cessation event should not be considered incentives to redeem (BPR110 D2.6 and D3.7).
ANZ requests further clarification on the definition of “market rate” with respect to
incentives to redeem.
ANZ recommends that the dividend stopper apply only to more junior ranking
instruments rather than equally ranking instruments. Refer to ANZ’s response to consultation question Q for further detail. BPR120 Capital Adequacy Process Requirements ANZ supports the NZBA submission on the proposed legal sign-off (BPR120 B1.3) and replacement amount of capital (BPR120 C2.2(2)(c)(i)(B)). Please refer to Schedules 3 and 4 for detailed comments on the following:
Refer to Question M for comments on the proposed notification process for new
AT1/Tier 2 issuance.

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ANZ recommends uplifting the foreign currency revaluation guidance for AT1
instruments to a BPR requirement (rather than guidance) given this regulatory requirement differs from the accounting treatment.
ANZ recommends allowing a revaluation offset to CET1 capital for outstanding foreign
currency denominated RPPS (FX RPPS) that has been foreign currency hedged to reflect the accounting entries that would have been posted had the RPPS been revalued. Under the proposed requirements, the impact of foreign currency moves on Tier 1 capital is doubled for FX RPPS.
ANZ recommends that in the event that the Counter Cyclical Buffer (CCyB)
requirement is lowered, then the top threshold for the capital buffer response framework (CBRF) Stage 1 should be similarly lowered (BPR120 D1.2).
ANZ considers there is a potential timing issue with the proposed “10 working day”
requirement for a Board approved capital restoration plan to be submitted to the RBNZ in the event that capital ratios fell into CBRF stage 1 (BPR120 D1.3(2)(d)). BPR130 Credit Risk RWAs Overview ANZ supports the NZBA submission in relation to BPR130. BPR131 Standardised Credit Risk RWAs ANZ raises some points of clarification in Schedule 4 of this submission. BPR132 Credit Risk Mitigation ANZ raises some points of clarification in Schedule 4 of this submission. BPR133 IRB Credit Risk RWAs ANZ raises some points of clarification in Schedule 4 of this submission. BPR134 IRB Minimum System Requirements ANZ has no comments on BPR134. BPR140 Market Risk ANZ welcomes that the market risk capital standard is now contained within a single key reference document and confirms that the updated structure improves the reading and application of the market risk capital functional methodology. The BS2B – Part 7 and BS6 standards appear to have been mapped across to the BPR140 consistently, but there are areas that would benefit from clarity to aid industry compliance. Examples include the various references to principal amount, carrying amount, market value or present value, which confuses application.

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ANZ considers the review a valuable opportunity to provide clarity, given this is what the BS Handbook restructure is aiming to achieve. BPR140 would also benefit from:

Clarifying that the current market risk capital model is in fact a principal repricing
approach.
Including a ‘principles’ section for instances where the standard is not explicit, and
compiling FAQ’s, which RBNZ could publish in response to questions of interpretation presented by the banks.
Incorporating a bank’s own equity, with a duration profile similar to the retail rate
insensitive products, in interest rate risk capital charge calculation to address the structural long position.
Expanding time band-allocation guidance, explaining the actual duration adjustment
(BPR140 B3.5(4)) and explaining whether this approach is consistent with a sensitivity based approach. ANZ is happy to assist in facilitating an industry discussion to draw on the collective market risk experience of the industry and to bring forward matters of interpretation to aid banks’ compliance. BPR150 Standardised Operational Risk ANZ has no comments on BPR150. BPR151 AMA Operational Risk ANZ has no comments on BPR151. BPR160 Insurance, Securitisation, and Loan Transfers ANZ recommends:
Securitisation SPVs, including internal Residential Mortgage Backed Securities (iRMBS)
and covered bond SPVs are explicitly included in the consolidated solo capital entity.
Any originated assets transferred to related parties are eligible for exclusion from RWA
where separation requirements are met.
Please refer to Schedule 3 for detailed comments.
B What would be the best way to present the new BPRs on the Reserve Bank’s website? The current approach of publishing individual pdf documents on the RBNZ’s website works well. C What would be the best way to include guidance? ANZ is supportive of the way that guidance has been presented in the draft BPRs, and would like to see guidance evolve as items that need clarification become apparent. ANZ suggests

ANZ BANK NEW ZEALAND LIMITED this could be achieved by updating and publishing guidance and/or FAQs, which would ensure that all banks are provided consistent guidance once the BPRs are finalised. D Are the proposed distribution restrictions placed on banks whose capital is below full requirements appropriate? ANZ does not have any specific comment on the proposed distribution restrictions. ANZ requests clarification for certain definitions relevant to the proposed distribution restrictions. Please refer to Schedule 4 for our detailed comments on BPR100 B1.3 (4) and B2.6(6). E Are the proposed restrictions on AT1 distributions appropriate? ANZ does not have any comment on the proposed restrictions for AT1 distributions. F Are the transitional provisions appropriate? ANZ considers there are two parts to transitional activities related to this stage of the capital review:

The transition from the BS Handbook to the new-format BPRs.
ANZ reiterates the key point raised earlier on the proposed 1 July 2021 effective date of BPRs and associated CoR. ANZ requests flexibility with this timing for the reasons outlined in this letter. ANZ notes that deferring the effective date to 1 October 2021 does not impact the timeline for implementing the RBNZ’s capital review changes.
The transition to the new capital requirements that take effect progressively over 2021
to 2028.
ANZ is comfortable with the proposed transition timetable for:
Changes to capital ratio requirements;
RWA floor and scalar changes; and
Implementation of new AT1 and Tier 2 requirements and derecognition of
non-qualifying AT1 and Tier 2 instruments.
G Does the proposed Capital Buffer Response
Framework (CBRF) as set out in BPR120 present a suitable way of responding to banks’ declining capital levels? ANZ does not have any comments on the CBRF response to a bank’s declining capital levels. However, ANZ recommends that consideration is given to how the CBRF interacts with the CCyB to ensure the purpose of the CCyB is met. If the CCyB requirement were lowered, then the top threshold for the CBRF Stage 1 should be similarly lowered. s 18(c)(i)

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The purpose of lowering the CCyB, for example during a post-recession recovery, is to stimulate the economy through the supply of credit. Lowering the CCyB, but not the CBRF stage levels, would narrow the gap between regulatory minimum capital requirements and the level that distributions would be restricted and the RBNZ would increase supervision activities. Banks are therefore less likely to make optimal use of the CCyB being lowered, as they will not want to risk being subject to CBRF restrictions and oversight. H Is it sufficiently clear to provide appropriate guidance to banks? ANZ has no comments on this question. I Are there any risks associated with the CBRF? Please refer to the response to question G. J Is the addition of template terms sheets in BPR110 useful? No. ANZ supports the comments provided in the NZBA’s submission to the consultation on the template terms sheets. K Are the terms described in a clear and transparent way? ANZ supports the comments provided in the NZBA’s submission to the consultation on the template terms sheets. L Are there additional components that should be added to the templates? ANZ supports the comments provided in the NZBA’s submission to the consultation on the template terms sheets. M Do you support replacing the current nonobjection process with the proposed ‘notification’ process? ANZ acknowledges the RBNZ’s preference to replace the existing non-notification with a new notification process and that the proposed capital instruments will increase standardisation of capital instrument issuance. ANZ notes the regulatory and legislative environment is constantly evolving in both New Zealand and other jurisdictions that New Zealand banks may choose to issue capital instruments. ANZ considers the opportunity to engage with the RBNZ, receive feedback on the terms of a capital instrument prior to the issuance of expensive capital instruments valuable and provides an opportunity to address any interpretation differences. If the terms of a capital instrument once issued were found to be non-compliant with the RBNZ’s capital requirements, potentially due to unforeseen interpretation differences, not only would there be significant cost incurred but there may also be significant reputational impacts. N Is the purpose of the legal sign-off process clear? ANZ supports the comments provided in the NZBA’s submission to the consultation on the legal sign-off process.

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O Should alternative drafting approaches be considered for the template legal opinion? ANZ supports the NZBA submission comments on the legal sign-off process. P Does the proposed text of BPR110 accurately reflect the December 2019 policy decisions? Please refer to ANZ’s response to question A, and the comments provided on BPR110 in Schedules 3 and 4. Q Do you support the inclusion of a dividend stopper feature in the requirements for an AT1 instrument? ANZ does not support the dividend stopper feature applying to instruments that rank equally with the applicable instrument. ANZ recommends that:

distribution restrictions only apply to more junior instruments and BPR110 D2.7
(7)(a)(ii) is deleted; and
payment can still occur up to a few days after the payment distribution date without
triggering the dividend stopper to allow for any operational or other unforeseen issues to be rectified. These are typical dividend stopper features that reduce the risk that distributions could be disrupted due to non-capital related reasons and allow distributions on equal ranking instruments to resume once the capital position improves. R Are there any barriers to only allowing New Zealand law to govern AT1 and Tier 2 capital instruments? Yes. Please refer to key point 2(a) in the letter above, Schedule 3 below, s 18(c)(i)

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Schedule 2: Responses to the questions from the BPR140 Market Risk Explanatory Notes paper
BPR140
Question 1
Is this how you have been calculating total interest rate exposure to date?
Yes, ANZ has been using (ii) “the greater of”.
BPR140
Question 2
Does BPR140 need to give guidance on what should be included?
Yes, guidance on unrecognised financial instruments should be included, categorising items in-scope as those that are exposed to market risk and have known key cash flow attributes (i.e. payment dates, reset dates, and rates). Guidance should also include those financial instruments considered out-ofscope. This would assist the industry to apply a consistent interpretation of BPR140. BPR140 Question 3 Do you agree that “face or contract amount” is still a suitable valuation approach for such instruments? Yes, although only for unrecognised financial instruments considered in scope for BPR140, as addressed in BPR140 Question 2 above. BPR140 Question 4 Do you agree that adopting the original Basel version of the valuation approach is an improvement? No, the standard confuses market value and future value, and any reference to “carrying value” or “market value” is inappropriate for a principal repricing model as these “value” representations by definition have “lost” their cash flow profiles and are not able to be placed into a repricing schedule. We note that the mark-to-market value of a bond represents the today value of the future cash flows, and treating this value as an exposure at the bond maturity date misstates market risk. BPR140 Question 5 Do you agree this is a problem? Can you suggest any amendment to the rule text or additional guidance to address the problem? Yes, this would be a problem. This appears to be an accounting treatment question and should not relate to Market Risk recognition and measurement. For market risk, the trade date is the point in time from when an exposure is measured, regardless of settlement date. ANZ suggests that all instruments and principal cash flows for which market risk exists, are included from trade date. BPR140 Question 6 What methodology does your bank currently use to calculate the capital requirement for interest rate risk on options? Does the BPR140 text accommodate your current approach? ANZ has implemented the model supported by BS6 (paragraph 30, bullet 3), “Banks may determine separately the interest rate risk in a single currency arising from options using their own methodology and add this risk to the total interest rate risk in that currency.” Yes, B1.5(a), C1.3(3), D1.3.(1)(c)

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BPR140
Question 7
Is there any need to keep this column and explanatory material?
It is useful as a reference and provides context for the model. However, further clarification on how to interpret these references would be helpful. BPR140 Question 8 Do you use the standard approach specified in BS2A/B for calculating exposure to directional interest rate risk, in your capital ratio calculations? Yes. However, ANZ believes the interpretation and application of these requirements is unclear. As an alternative to modified duration as presented in the BPR140 guidance, ANZ considers DV01* ladders to be an appropriate option. BPR140 Question 9 Would it help if we could also present this calculation in the form of mathematical formulae? Yes, formulae would help to reduce potential interpretation differences, and additional value would be realised when supported by a spreadsheet view as per BS6. ANZ supports the renaming of horizontal and vertical disallowance, to yield curve and basis risk respectively. BPR140 Question 10 Are the recognised / unrecognised categorisations out of date? Are these descriptions still applicable? Yes, these categorisations are out of date, as all instruments and positions exposed to foreign exchange risk should be included in market risk capital. No, the descriptions are not needed. BPR140 Question 11 Is the option to use the “present value” approach useful / meaningful? Yes, as this is the appropriate reflection of sensitivity to change in foreign exchange rates. ANZ uses this approach. *This is a measure of interest rate sensitivity. It is defined as the change in value, of an individual cash flow or of a portfolio holding many different cash flows, resulting from a 1 basis point (0.01%), either a fall or increase in interest rates respectively for DV01 and PV01.

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Schedule 3: Detailed BPR comments – material items
BPR110 D2.3
(e)
D3.3 (1) (e)
AT1/Tier 2 – the instrument and all constituting documents must be governed by New Zealand law Summary ANZ is concerned with the requirement that AT1/Tier 2 instruments and all constituting documents must be governed by New Zealand law (BPR110 D3.3(1)(e)). Although it is possible for Tier 2 notes to be issued under New Zealand law, we expect the offshore marketability of these types of notes to be limited in this format. This view is based on feedback from our European and US dealers and our UK and US legal advisers. Market diversification is also a core principle of managing funding risk; therefore, the ability to make commercially viable offers to investors in different offshore markets will be critical. In order to address the RBNZ’s concerns, while providing Tier 2 instruments that are well established as marketable in Europe and the USA, ANZ suggests that the Tier 2 notes be governed by English or New York law, while the capital treatment provisions (i.e. subordination) be governed by New Zealand law. Investors in the European and US markets are familiar with this type of security. There is a common understanding that it is appropriate for the subordination, provisions to be governed by the laws of the jurisdiction of the issuing entity to ensure that the local capital requirements and insolvency laws apply. Analysis of New Zealand law requirement for Tier 2 notes Investors are not accustomed to buying notes governed by laws other than English or New York law. In their experience, Investors lack of familiarity with legal frameworks other than the English and US legal frameworks, would make entirely New Zealand law-governed notes less attractive to Investors, which would limit New Zealand banks’ ability to sell such notes offshore. Even if it were possible to overcome this hurdle, the issue margin would likely be higher than if the notes were governed by English or New York law. Offshore dealers have also said it will be difficult to market Tier 2 notes to Investors that are governed by New Zealand law, either in their entirety or in any substantial manner, as Investors are not familiar or comfortable with New Zealand law governing the rights of noteholders. Such notes are likely to be outside some Investors’ mandates, which would negatively impact the amount of such notes that New Zealand banks would be able to issue and/or the pricing for such notes. s 18(c)(i)

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Proposal
A compromise that is likely to be more acceptable to Investors, while aligning to the purpose of the RBNZ’s capital review, is to limit the BPR110 requirement for New Zealand law to provisions that directly affect the capital treatment of the notes (i.e. subordination), with the balance of the provisions being governed by English or New York law. It is an accepted principle in offshore markets that subordination should be governed by the laws of the jurisdiction of the issuing entity to ensure that the local capital requirements and insolvency laws apply. ANZ considers this proposal meets the RBNZ’s objective of the substance of the provisions on which the RBNZ is focused (i.e. subordination) being governed by the New Zealand legal framework with which the RBNZ is familiar. Meanwhile, the core provisions that Investors and dealers would likely focus on (e.g. meetings, transfers and payments) would be governed by a legal framework that Investors are familiar with, namely English or New York law. BPR110 E2 AT1/Tier 2 – Eligibility of capital instruments issued SPVs The proposed SPV capital rules are broader than the existing BS2B rules:

The proposed definition of SPV includes any single purpose non-operating entity established for
the principal purpose of raising capital for the banking group (A2.1).
SPVs must be consolidated into the banking group (E2).
This SPV definition would capture entities that are ordinarily outside the New Zealand banking group, including entities that the New Zealand banking group has no control over. We recommend that the SPV definition (A2.1) is refined to only include entities that are consolidated into the New Zealand banking group under GAAP. Entities that are neither owned nor controlled by the New Zealand bank should be excluded. Under the proposed new capital rules, both a New Zealand subsidiary bank and its offshore parent bank would need to separately issue AT1 and Tier 2 for the same New Zealand bank RWA. This is in order to separately comply with both the RBNZ’s (for the New Zealand bank) and offshore regulator’s (for the consolidated parent entity) capital requirements. This would duplicate the capital cost. However, issuing capital instruments through an SPV that is not consolidated into the New Zealand banking group could prevent this duplicate cost without increasing the risk to the New Zealand financial system. s 18(c)(i) s 18(c)(i)

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BPR120 B1.4 Guidance note: Capital instruments issued in a foreign currency must be valued for regulatory capital purposes in NZD at the spot exchange rate. AT1/Tier 2 – requirement for external legal sign off using prescribed template ANZ recommends:

Uplifting the foreign currency revaluation guidance for AT1 instruments to a BPR requirement
(rather than guidance) given this regulatory requirement differs from the accounting treatment.
Allowing a revaluation offset to CET1 capital for outstanding FX RPPS that has been foreign
currency hedged to reflect the accounting entries that would have been posted had the RPPS been revalued. Under the proposed requirements, the impact of foreign currency moves on Tier 1 capital is doubled for FX RPPS. The impact of the requirement to revalue RPPS issued in a currency other than the New Zealand dollar will be that the FX RPPS will be valued differently for accounting and capital adequacy purposes. Equity instruments, including preference shares, are not revalued at current spot for accounting purposes. The difference in the revaluation methodology will deliver distorted capital adequacy outcomes. The impact on Tier 1 capital is doubled if a cross currency swap is entered into to hedge the foreign currency exchange rate exposure. Please refer to the Appendix for a worked example. To overcome this, ANZ recommends that an additional CET1 offset be permitted for FX RPPS. Under the proposed BPR120 B1.4, if a bank entered into an economic hedge of their FX exposure the regulatory capital outcomes would be as shown in Scenario A of the Appendix. In effect, as the RPPS is revalued differently for capital adequacy and accounting purposes the impact of foreign currency moves on Tier 1 capital is doubled while the FX RPPS are outstanding. ANZ suggests the regulatory capital treatment shown in Scenario B of the Appendix is more appropriate. Under this scenario the AT1 revaluation change is offset in CET1 so that the net impact on Tier 1 capital whilst the instrument is outstanding, is a change in AT1 regulatory capital. This could be achieved by adding an additional clause in BPR120 B1.4 stating, “the change in value in AT1 instruments is permitted to be offset in CET1 whilst the AT1 is outstanding.” In summary, this CET1 offset reflects the accounting entries that would have been passed, had the RPPS been revalued for accounting. Tier 2 instruments are liabilities and are required to be revalued at current spot under New Zealand GAAP. Therefore, no additional CET1 offset is required as there is no difference in accounting and regulatory capital treatment. BPR140 Market risk standardised model The RBNZ has acknowledged that the existing market risk framework is outdated. There is material risk divergence between regulatory and internal risk models, and ambiguity in the framework can lead to interpretational differences. The transition to the BPR140 format provides an opportunity to address this. The main causes of risk divergence between regulatory and internal models are:
ambiguity (impacting interpretation); and

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market risk regulatory capital requirements have not kept pace with market risk developments
(impacting relevance).
Should the full capital cost be passed to the business lines, then it may become uneconomic from a price maker perspective to facilitate customer transactions. This could undermine the efficient operation of the New Zealand financial markets. ANZ recommends that replacing this framework with the updated 2016 Basel standardised model framework be considered a high priority. As an interim measure, ANZ requests guidance on the following items:
Model definition: BPR140 uses the terms “carrying amount”, “present value (PV)” and “market
valuation”. These terms are inconsistent with a principal repricing model and cause confusion regarding application, especially where the relevant amount is not defined for certain products.
Principal repricing model: clarification that BPR140 is a principal repricing model and principal
amounts are the relevant amount to use in the calculation.
Equity: Excluding a bank’s own equity position from the market risk capital calculation leaves a
substantial structural received interest rate risk position. The increase in equity as a result of the capital review will increase the size of this received position. In effect, holding more equity to safeguard a bank will increase the amount of capital that needs to be held for market risk (even for an unchanged asset position). This is contrary to the reason for holding more equity which is to reduce risk. Furthermore, the rationale presented in BPR140 A1.2(2) (second guidance note) is that all equity should be excluded because it represents a bank’s capacity to absorb losses arising from market risk. Market risk capital represents only a small portion of total equity. ANZ requests:
including equity in the interest rate risk capital charge calculation in line with APRA/Basel
requirements; and
modelling equity similarly to rate insensitive retail products, distributed over a five-year term.
Guiding principles: The current approach to market risk capital was defined at a point in time, and reflects early thinking in terms of capital charge modelling. ANZ requests introducing guiding principles to cement core model characteristics. This would allow banks’ interpretation and application to be in-step with evolving financial markets products. This approach would extend the life of the model and support ongoing compliance. Guiding principles should identify and address each of the following key pillars:
The model is a principal repricing model.
Time band allocation:
that repricing risk schedules should be fair and true representations of repricing risk.

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that netting and derivative decomposition should resolve and not introduce grossed up
asset and liability representations.
that generally accepted industry alternatives to principal be permitted where this
supports the intent of the model. This would support use of PV01 or DV01 instead of the adjusted (modified) duration approach.
That the Basel Committee Standardised model and related documentation may serve as
reference for interpretation and implementation (provided there is no conflict with BPR140). This would support industry interpretation and instances where BPR140 is silent.
BPR140 would also benefit from including a ‘principles’ section that could be referred to where
the standard is not explicit. Publishing FAQs or updating guidance would also be helpful, as questions of interpretation presented by the banks are likely to have similar themes. This would provide the industry with assurance regarding BPR140 interpretation and implementation (as per the BS11 approach). Other matters identified include:
a. BPR140 is not clear on which derivatives should or should not be decomposed into notional components, and whether netting is applied before or after decomposition. A literal read of the requirements implies: (i) that decomposition applies to selected derivatives and does not address forward starting swaps nor interest rate futures; (ii) that netting is applied before decomposition. This may result in grossed up asset and liability positions that are not representative of the repricing risk. ANZ requests further guidance on how derivatives should be decomposed and that netting applies after decomposition. b. As an optional approach for use by sophisticated banks, and to clarify the adjusted (modified) duration section (BPR140 Section B3.5(4) Guidance), ANZ consider PV01 or DV01 ladders as an appropriate alternate, with these sensitivities scaled by the rate-shifts in Table B4.1 used in place of the risk-weighted principal amounts. ANZ requests RBNZ provides guidance on:
whether this approach is consistent with the modified duration approach; or
whether this approach may otherwise be included in BPR140 as an alternative method; and
whether any conditions or criteria would need to be met.
c. ANZ notes that the Peak Capital Charge methods have been removed in BPR140. This leaves the
industry with no compliance validation reference. ANZ requests confirmation on: (i) whether banks may continue to use an internal model for Peak Capital Charge; and (ii) against which requirement should banks assess their Peak Capital Charge compliance. d. ANZ considers that the current time bands are very wide, and the step changes in risk-weight are very large. This leads to significant over/understatement of risk when cash flows do not coincide with the middle of the time band. ANZ requests that the number of time bands is increased from 8 to 13. This would align to BCBS24 and would be a relatively simple change to include in BPR140. e. Certain tables in BPR140 that are carried over from BS2A/BS2B/BS6 are unclear on whether the time band start and end dates are included or excluded. As an example, BPR140 Table B3.3,

ANZ BANK NEW ZEALAND LIMITED band 2 states, “more than 1 month but less than 6 months” and band 3 states, “more than 6 months but less than 1 year”. It is not clear in which band an exact 6-month exposure should be. Refer to Tables B3.3, B3.4, B4.1 and B6.1 for further instances of this issue. Also, it is not clear how the time band period should be applied when the reporting date is not a month end, e.g. “month” or “6 months”. This could be interpreted as a static period or as a rolling period. ANZ requests clarification on which start and end dates are included in each time band and how to interpret each time band period. f. ANZ requests additional guidance on the treatment of unrecognised financial instruments, specifically identifying those that are in scope, and out of scope, for BPR140. BPR160 D1.2 (a) Introduction of requirements related to loan transfers for IRB banks ANZ recommends that any originated assets transferred to related parties are eligible for exclusion from RWA where separation requirements are met. BPR160 includes a new Part D relating to loan transfers that is not in BS2B. The RBNZ notes in its Consultation Paper (paragraph 120) that the treatment of loan transfers was inadvertently missing from BS2B, but is included in the new BPR160 document. Under BPR160 D1.2, a bank may exclude from RWA any loan, or commitment to lend, originated by the bank if these loans/commitments have been transferred to another party that is not a related party. ANZ seeks to understand the rationale for this new requirement, and believes that originated transactions transferred to a related party should be able to be excluded from RWA where separation criteria are satisfied. BPR100 B2.4 and BPR160 A2.1 Solo capital consolidation of Internal Residential Mortgage Backed Securities (iRMBS) and covered bonds ANZ recommends that the RBNZ permit the consolidation of iRMBS and covered bond SPVs for solo capital calculations under BPR160 A2.1. RBNZ is proposing changes to its securitisation capital standard that will impact the calculation of banks’ solo capital ratios. The proposed changes will exclude iRMBS and covered bond SPV entities from our solo capital ‘entity’ and will gross up solo capital exposures. This will duplicate the underlying exposures. ANZ recommends that RBNZ explicitly includes in BPR160 iRMBS and covered bond SPV entities within the solo capital ‘entity’ alongside the banking group requirements. s 18(c)(i)

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Current position
Under BS2B paragraph 5.4, a bank must aggregate (and apply consolidation principles) to securitisation SPVs and covered bond SPVs for the banking group or the registered bank for the solo capital calculation where the bank is required to consolidate this entity in its group financial statements. Proposed changes RBNZ is proposing to remove the references to solo capital from the equivalent BPR160 section A2.1 on the basis that the solo capital requirements in BS2B paragraph 5.4 appear to be redundant:

BPR100 B2.4 effectively allows entities that are wholly funded to be consolidated (subject to the
tax and trade creditors threshold exclusion); and
The reference to consolidation under GAAP is irrelevant in the solo entity, because GAAP only
requires group financial statements (refer the explanatory commentary on BPRs 130-160, paragraph 310). Impact of the proposed changes This would gross up the solo capital ‘entity’s’ assets and liabilities and overstate the risk in the solo capital calculations as the solo capital ‘entity’ will record both the housing mortgage exposures and the exposures to the SPV trust. iRMBS Looking at how iRMBS operates as an example:
s 18(c)(i) s 18(c)(i) s 18(c)(i) s 18(c)(i)

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The New Zealand bank assigns residential mortgages to the SPV trust. The SPV trust has an
independent trustee who holds a security interest in favour of the SPV’s secured creditors. Title is perfected on the residential mortgages for the SPV should a ‘title perfection’ event such as insolvency occur.
The SPV issues senior iRMBS notes that are ordinarily held by the New Zealand bank. These
notes are eligible security for repo transactions between the New Zealand bank and the RBNZ.
The SPV issues subordinated RMBS notes that are held by the New Zealand bank.
Should the senior notes be repo’d to the RBNZ and a title perfection event then occurs, the title
of the mortgages passes to the trust. The New Zealand bank will not have a duplicate exposure on both the housing mortgages originated and on the iRMBS notes. The following examples illustrate the accounting of the iRMBS SPV and the consolidated New Zealand bank and SPV group. The first example illustrates the SPV structure where all the SPV notes are held by the New Zealand bank and not repo’d. The second example then adds a repo transaction. s 18(c)(i)

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Accounting examples
BAU scenario NZ Bank RMBS trust
Accounting elimination Consolidated
Assets
Cash 0 0
Home lending 10 10
RMBS senior notes held 8 -8 0
RMBS subordinated notes held 2 -2 0
Rights to mortgage cashflows 10 -10 0
20 10 -20 10
Liabilities
Other funding and capital 10 10
Mortgage obligation to RMBS 10 -10 0
Repo to RMBS 0 0
RMBS senior issued 8 -8 0
RMBS subordinated notes issued 2 -2 0
20 10 -20 10
RMBS repo'd to RBNZ NZ Bank RMBS trust
Accounting elimination Consolidated
Assets
Cash 7 7
Home lending 10 10
RMBS senior notes held 8 -8 0
RMBS subordinated notes held 2 -2 0
Rights to mortgage cashflows 10 -10 0
27 10 -20 17
Liabilities
Other funding and capital 10 10
Mortgage obligation to RMBS 10 -10 0
Repo to RMBS 7 7
RMBS senior issued 8 -8 0
RMBS subordinated notes issued 2 -2 0
27 10 -20 17

ANZ BANK NEW ZEALAND LIMITED
Schedule 4: Detailed BPR comments – other items
BPR001 Glossary ANZ notes several instances where the glossary refers to the Orders in Council (OiC) for the definition of certain terms; ANZ would expect to see the authorised definitions contained in BPRs rather than OiC. For instance, the definition of the term ‘IRB Approach’ refers to the OiC, whereas the more logical place for this definition is the relevant BPR. ANZ acknowledges that the Glossary is a work-in-progress and will be further developed as the remainder of the Banking Supervision Handbook is transitioned to the BPR format. However, ANZ considers it important that the Glossary contains all terms requiring definition. The proposed BPR001 is missing several references from the BPR documents, such as CBRF and CCyB. Also, terms such as GAAP and NBDT could be listed with the acronyms. BPR100 B1.2 (4) and B2.6(6) Calculation of capital and buffer ratiosDefinitions ANZ suggests the definitions in section BPR100 B2.6(6) are updated as follows to provide clarity:

“Aggregate distributions” is defined as distributions made in the current year
“Current year” is defined as the period since the bank’s last full year reporting
date
ANZ recommends that the test on distributions should be limited to the point in
time that a distribution is made. Under the proposed BPR100 (and existing BS2B) drafting, there is a risk that a bank may have the necessary buffer ratio to be compliant with its CoR at the time a distribution is paid but become noncompliant if earnings and/or RWA deteriorate later in the current year. BPR100 B2.5 (1) Guidance note The guidance note in BPR100 B2.5 (1) states, “When the minimum total capital ratio requirement is increased to 9%, effective 1 July 2022…”. ANZ believes this should read “effective 1 July 2024”. BPR110 D2.5 (3) D3.5 (3) AT1/Tier 2 - tax and regulatory events, right to call within the first five years ANZ recommend that the words “within the first five years of issuance” are removed from BPR110 D2.5(3) and D3.5(3). A permissible tax or regulatory event may occur more than five years after the date of issuance and the occurrence of that event may not align with an optional call or redemption date. ANZ suggests the issue date of an instrument should not be a prerequisite for determining whether a tax or regulatory event has occurred so long as the requirement of subsection (3)(a) or (3)(b) of this section is met.

ANZ BANK NEW ZEALAND LIMITED
BPR110 D2.6
D3.7
No step-ups or incentives to redeem
AT1/Tier 2
ANZ recommends that BPR110 D2.6 and D3.7 are updated to specify that the following scenarios are not incentives to redeem:

A zero percent floor on the applicable benchmark interest rate of AT1/Tier 2
instruments issued to retail holders (for retail instruments).
Changes to the benchmark interest rate if a benchmark cessation event occurs
subject to the market standard fallback interest rate being the alternative benchmark rate. BPR120 B1.2(1) BPR110 D2.6 (4)(b)(i) D3.7 (4)(b)(i) A bank must notify the RBNZ of its intention to issue a new instrument that it intends to treat as AT1 or Tier 2 regulatory capital for the purpose of calculating its capital ratios. AT1/Tier 2 – new issuance required to be notified to RBNZ at least five days prior to issue. This process proposed to replace existing non-objection process ANZ acknowledges the RBNZ’s preference to replace the existing non-notification with a new notification process and that the proposed capital instruments will increase standardisation of capital instrument issuance. ANZ notes the regulatory and legislative environment is constantly evolving in both New Zealand and other jurisdictions that New Zealand banks may choose to issue capital instruments. ANZ considers the opportunity to engage with the RBNZ, receive feedback on the terms of a capital instrument prior to the issuance of expensive capital instruments valuable and provides an opportunity to address any interpretation differences. If the terms of a capital instrument once issued were found to be noncompliant with the RBNZ’s capital requirements, potentially due to unforeseen interpretation differences, not only would there be significant cost incurred but there may also be significant reputational impacts. BPR120 C2.2 (2)(c)(i)(B) BPR120 B1.4 (i) prior to, or concurrent with, the redemption, replaced the instrument with a paid-up capital instrument (B) having the same issue price per share (in the case of an AT1 instrument), or the same face value per note (in the case of a Tier 2 instrument); AT1 / Tier 2 – replacement instruments must have the same issue price per share (in the case of an AT1 instrument), or the same face value per note (in the case of a Tier 2 ANZ suggest (B) should be replaced with “of at least the same notional amount as the instrument that is being replaced”. The purpose of this part is to ensure the replacement instrument is at least equal to the notional amount of the capital instrument that is being redeemed. The current drafting does not consider, for example, a situation where a Tier 2 capital instrument is replaced with an AT1 instrument. s 18(c)(i)

ANZ BANK NEW ZEALAND LIMITED instrument)
Guidance note: Capital instruments issued in a foreign currency must be valued for regulatory capital purposes in NZD at the spot exchange rate. BPR100 B1.3(7) and BPR120 D1.2 For the purpose of the capital buffer response framework (CBRF) provided in Subpart D1 of BPR120, the CBRF stage applying to a bank is determined by the percentage limit applying to the bank’s CET1 distributions under its conditions of registration CBRF vs counter-cyclical buffer (CCyB) AT1 / Tier 2 – replacement instruments must have the same issue price per share (in the case of an AT1 instrument), or the same face value per note (in the case of a Tier 2 instrument) ANZ recommends that in the event that the CCyB requirement is lowered, then the top threshold for the CBRF Stage 1 should be similarly lowered. The purpose of lowering the CCyB, for example during a post-recession recovery, is to stimulate the economy through the supply of credit. Lowering the CCyB, but not the CBRF stage levels, would narrow the gap between regulatory minimum capital requirements and the level that distributions would be restricted and the RBNZ would increase supervision activities. Banks are therefore less likely to make optimal use of the CCyB being lowered, as they will not want to risk being subject to CBRF restrictions and oversight. BPR120 D1.3(2)(d) (1) When a bank’s prudential capital buffer ratio falls to, or below, the point at which Stage 1 applies, the Reserve Bank will require the bank to develop a capital restoration plan. CBRF – Stage 1 – Board approved capital restoration plan required to be submitted to the RBNZ, no later than 10 working days after the date on which the bank’s capital level fell into stage 1 (2) The plan must – (d) be provided to the Reserve Bank, by the bank’s Board, no later than 10 working days following the date on which the bank’s capital fell to the level specified in subsection (1). CBRF vs counter-cyclical buffer (CCyB) ANZ recommends that BPR120 D1.3(2)(d) is amended to “be provided to the Reserve Bank, no later than 10 working days after the date on which the bank became aware that it’s capital level fell to the level specified in subsection (1).” ANZ suggests that once a bank is aware that its capital level has fallen into CBRF Stage 1 that 10 working days would be sufficient to request Board approval and submit to the RBNZ a capital restoration plan. As CBRF Stage 1 does not indicate any immediate danger of the bank’s insolvency, as outlined in the guidance note in BPR120 D1.3(1), ANZ’s suggested change should be satisfactory and better reflect the timing that events are likely to occur. s 18(c)(i)

ANZ BANK NEW ZEALAND LIMITED
BPR131 C3.4 (1)
(c)
Definitions applying in relation to RMLs

c) in respect of a secondary
residence, no rental income is derived from that property, except to the extent that the rental income is minimal. ANZ requests guidance or definition on the meaning of the term ‘minimal’. BPR131 D1.1 Introduction - This Part sets out the methodology to be used to define the credit equivalent amount (CEA) for the off-balance sheet credit exposure arising on specified types of transaction that create contingent liability, and for identifying the entity to be used for determining the risk weight in accordance with Part C. ANZ requests clarification on whether the reference to ‘contingent liability’ includes commitments, as commitments are referred to separately in section D2. BPR132 B2.8 Sub-point (b) gives the non-defaulting party the right to immediately terminate and close out all transactions under the agreement in the event of default, including in the event of insolvency, bankruptcy, or statutory management; ANZ requests clarification on why BPR132 Section B2.8 (b) requirements do not include the following situations: “liquidation, voluntary administration or similar circumstance”. These situations are included in BS2B 4.68 (c) (ii) but have not been carried over to the equivalent section in BPR132. BPR132 B3.2 Sub-points 2(a)(ii) and 3(b):
the collateral is in the form of sovereign securities eligible for a 0% risk weight, provided that the market value of the collateral used to determine the collateralised portion has been discounted by 20%; and a derivative transaction collateralised by sovereign securities that qualify for a 0% risk weight. BS2A requirements state ‘sovereign or public sector entity securities’, whereas BPR132 wording does not include ‘public sector entity’. ANZ requests clarification from RBNZ on why the wording has changed. BPR132 C1.2 Sub-point (a):
there must be a well-founded legal basis for concluding that the bilateral netting agreement is enforceable in ANZ requests clarification that a bilateral netting agreement is interpreted as being able to include all legal entities within a Master Group, as long as designated within the agreement. ANZ suggests a guidance note on this point may be useful.

ANZ BANK NEW ZEALAND LIMITED each relevant jurisdiction, regardless of whether the counterparty is insolvent or bankrupt; BPR133 C5.5 Sub-point 7:
For the following types of transaction, a bank must produce its own internal estimate of CCF. ANZ notes that BS2B Table 4.6 prescribes Credit Conversion Factors (CCF) for 10 types of off-balance sheet transactions. The five transaction types that are prescribed a 100% CCF have been directly carried over to BPR133. However, the CCF requirements for remaining five transaction types have changed from prescribed percentages to ‘own internal estimates’. ANZ requests clarification on whether RBNZ approval is required for own estimate CCFs.

ANZ BANK NEW ZEALAND LIMITED
Appendix: Worked example of regulatory capital outcomes for foreign currency AT1
The below provides an example of the potential different regulatory capital and accounting outcomes for foreign currency issued RPPS. In all scenarios a US$100 RPPS is issued at an FX rate of NZD/USD 0.5000. The RPPS are valued at NZ$200 for regulatory and accounting purposes on issuance date. Tax is ignored for this example. Three scenarios are presented:

Foreign currency RPPS hedged by a Cross Currency Swap (CCS), and new capital rules implemented as drafted;
Foreign currency RPPS hedged by a CCS, and new capital rules amended per ANZ’s recommendation to recognise an additional CET1
offset for any preference share revaluation; and
Foreign currency not RPPS hedged by a CCS, and new capital rules implemented as drafted.
Scenario RPPS revalued for regulatory capital purposes, no additional CET1 offset permitted and CCS FX hedge RPPS revalued for regulatory capital purposes, additional CET1 offset permitted and CCS FX hedge RPPS revalued for regulatory capital purposes, no additional CET1 offset permitted and no FX CCS hedge Issue date. NZD/USD FX rate is 0.5000 RPPS value for accounting purposes NZ$200 RPPS value for regulatory AT1 capital purposes NZ$200 FX revaluation date. NZD/USD FX rate is 0.7500 RPPS value for accounting purposes NZ$200 (no change) NZ$200 (no change) NZ$200 (no change) RPPS value for regulatory AT1 capital purposes NZ$133 (NZ$67 AT1 decrease) NZ$133 (NZ$67 AT1 decrease) NZ$133 (NZ$67 AT1 decrease) Additional CET1 offset to AT1 revaluation for regulatory capital purposes Not permitted NZ$67 CET1 increase Not permitted CCS valuation change (accounting and regulatory capital purposes) NZ$67 loss (NZ$67 shareholder equity/CET1 decrease) NZ$67 loss (NZ$67 shareholder equity/ CET1 decrease) No CCS Net accounting equity changes on revaluation date NZ$67 equity reduction (P&L loss on CCS) NZ$67 equity reduction (P&L loss on CCS) No change in equity Net regulatory capital change on revaluation date  AT1: NZ$67 decrease  CET1: NZ$67 decrease  Total: NZ$134 decrease  AT1: NZ$67 decrease  CET1: no change  Total: NZ$67 decrease  AT1: NZ$67 decrease  CET1: no change  Total: NZ$67 decrease Redemption date with further FX revaluation. NZD/USD FX rate is 0.8000 RPPS US$100 (current NZ$125 equivalent) redemption for accounting purposes  NZ$200 RPPS decrease  NZ$75 shareholder equity increase (transfer of RPPS revaluation direct to reserves)  NZ$200 RPPS decrease  NZ$75 shareholder equity increase (transfer of RPPS revaluation direct to reserves)  NZ$200 RPPS decrease  NZ$75 shareholder equity increase (transfer of RPPS revaluation direct to reserves) RPPS redemption for regulatory capital purposes NZ$133 AT1 decrease NZ$133 AT1 decrease NZ$133 AT1 decrease Additional CET1 offset for regulatory capital purposes Not permitted NZ$8 CET1 increase Not permitted CCS valuation change (accounting and regulatory capital purposes) Further NZ$8 loss and CET1 decrease Further NZ$8 loss and CET1 decrease No CCS Net accounting equity changes after redemption over life  No change in equity (cumulative NZ$75 CCS losses offset by $75 “gain” transferred from RPPS redemption)  NZ$75 P&L loss reported  No change in equity (cumulative NZ$75 CCS losses offset by $75 “gain” transferred from RPPS redemption)  NZ$75 P&L loss reported  NZ$75 “gain” transferred within equity from RPPS redemption. (Would be loss if NZD depreciated)  Zero P&L loss reported Net regulatory capital change after redemption over life  No net change to either CET1 or AT1  No net change to either CET1 or AT1  AT1: zero  CET1: NZ$75 increase (due to no FX CCS hedge)

s 9(2)(a) s 9(2)(a)

Bank of New Zealand’s submission on
Consultation paper: Changes to the Banking
Supervision Handbook: Exposure Draft for Capital Review Changes 31 March 2021

1 Introduction
1.1 Bank of New Zealand (‘BNZ’) has prepared this submission in response to the Reserve
Bank of New Zealand’s (‘RBNZ’) Consultation Paper: Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes (‘Consultation Paper’).
1.2 BNZ appreciates being provided the opportunity to provide feedback on the
Consultation Paper and looks forward to continuing to work with RBNZ on this matter. 2 Executive Summary
2.1 BNZ has read and supports the submission from the New Zealand Bankers’ Association
(NZBA) on the Consultation Paper.
2.2 This submission sets out some additional comments from BNZ in respect of the
specific drafting of the BPRs and the consultation questions set out in the Consultation Paper. Should RBNZ have any questions in relation to this submission, please contact:
Paul Hay
GM Regulatory Affairs
Bank of New Zealand
DDI:
Mobile:
Email:
s 9(2)(a)

3 Response to Questions
3.1 Drafting and presentation of the new BPRs
A. Are there any significant issues with the drafting of the BPRs that you would like to draw to the Reserve Bank’s attention? Please see the Appendix for feedback on the drafting of the BPRs, including minor policy changes implemented via the handbook redrafting. B. What would be the best way to present the new BPRs on the Reserve Bank’s website? We think the Basel Framework is a good model where the individual chapters are provided separately grouped by topic (e.g. capital), with a link at the end to a full version for that topic.
C. What would be the best way to include guidance? Do you have any feedback on our
proposed approach to this project?
BNZ prefers option 1, with the guidance included in text boxes throughout the BPR. BNZ is happy with the current formatting of the guidance textboxes.
3.2 Consequential policy matters arising from the Capital Review 2019 decisions
Distribution restrictions
D. Are the proposed distribution restrictions placed on banks whose capital is below full requirements appropriate? While BNZ is broadly comfortable with the proposed distribution restrictions, BNZ believes that the percentage of the buffer impacted for the different levels of restriction should differ slightly from what has been proposed for DSIBs. The table below sets out what BNZ believes would be the appropriate levels of restriction based on the percentage of buffer that has been impacted:
Consultation PCB % BNZ Suggested % Limit on CET1 distributions CBRF Stage 0-3% 0-2% 0% Stage 3 3-6% 2-4.5% 30% Stage 2 6-7.5% 4.5-6.5% 60% Stage 1 7.5-9% 6.5-9% 100% None We understand that one of the main reasons for requiring banks to hold large buffers is to enable banks to use the buffers when required without major ramifications and regulatory interventions. The proposed changes to the percentages above would mean that the more significant restrictions and intervention occurs when the bank has less than half of its PCB. Stage 1 would apply in situations where the bank has still got more than twice the minimum capital requirement (with 4.5% as the minimum and at least a 4.5% buffer).

E. Are the proposed restrictions on AT1 distributions appropriate?
Restrictions on AT1 distributions have more of an impact than those on CET1. This is because missed distributions for AT1 are not accrued and the holders essentially lose that distribution entirely. For a CET1 holder, when a distribution is not paid, it will become retained earnings, which could then be paid out to the holder at a future date. In our view, if restrictions on AT1 distributions are to be retained, these should match the proposed change to the 0% distributions PCB percentage above. This would mean that banks would be restricted on paying AT1 distributions if they were within 0-2% of the PCB. F. Are the transitional provisions appropriate? BNZ is comfortable with the proposed transitional provisions, subject to the percentages being adjusted to reflect any changes made following our submission on Question D above. Capital Buffer Response Framework G. Does the proposed Capital Buffer Response Framework (CBRF) as set out in BPR120 present a suitable way of responding to banks’ declining capital levels? BNZ believes that the CBRF is a suitable way of responding to banks’ declining capital levels. However, note our suggested changes in Question D above to when Stages 1-3 should be triggered. H. Is it sufficiently clear to provide appropriate guidance to banks? Further guidance in relation to the expectations for a recapitalisation plan would be useful. In particular, D1.5(2)(a) notes that it should “be more stringent and more conservative than the bank’s capital restoration plan”. It would be useful to understand what this would mean in practice, for example, expected timeframes, acceptable courses of actions and expectations for conservatism.
I. Are there any risks associated with the CBRF?
BNZ has not identified any specific risks with the CBRF.
Terms sheet templates for AT1 and Tier 2 capital BNZ supports the comments in the NZBA submission in relation to the template terms sheets. Replacement of non-objection process with a ‘notification process’ to issue AT1 and Tier 2 capital instruments BNZ supports the comments in the NZBA submission in relation to the notification process and the legal sign-off. In addition, BNZ believes it is important that RBNZ specifically consult with relevant NZ law firms on the form of any template legal sign-off or alternatively allow some flexibility in the form of that sign-off. This will avoid a situation in which issuances are not able to go ahead because the form of the legal sign-off (rather than the compliance of the instrument itself) is not acceptable to the acting law firm.

3.3 Implementation of Capital Review December 2019 decisions
R. Are there any barriers to only allowing New Zealand law to govern AT1 and Tier 2 capital instruments? BNZ supports the comments in the NZBA submission in relation to New Zealand governing law. In addition, we have included comments in the Appendix in relation to SPV issuances and the governing law impact as a result of the structure proposed.

Appendix 1: Detailed Feedback on Drafting of BPRs
Timing Comments:
While not specifically addressed in this Consultation Paper, BNZ has the following comments on the timing of implementation of aspects of the new capital regime:
 Output Floor Timing
The timing of the Standardised Output Floor is currently set for 1 January 2022. BNZ believes this should be deferred to 1 October 2022 to align with the increase in the IRB scalar. The deferral of the output floor would align with RBNZ’s intention to reduce short term capital pressure on banks and allow banks to support lending growth.  Non-CET1 Derecognition Timing We suggest that derecognition and amortization of existing non-CET1 holding to be deferred by 12-months to 1 July 2022. However, the recognition of new BPR110 compliant non-CET1 instruments should still remain to start from 1 July 2021. This change will provide NZ banks with 12 months to issue new compliant instruments without capital pressure from amortization, which will support more efficient capital raising by NZ banks to meet the new capital requirements. The delayed amortisation on a portfolio basis will allow NZ banks to spread issuances over the year rather than rushing due to the amortisation pressure which may result in liquidity and market capacity constraints resulting in increased issuance costs or suboptimal market execution. For these reasons, delay in amortization timeframes will support lower funding costs which are paramount to supporting the economy. It is also worth noting that NZ banks were unable to refinance non-CET1 capital since April 2020 due to the redemption prohibitions. Therefore, a 12-month deferral of the amortisation will also accommodate for this backlog of capital refinancing to be addressed. BPR 110 (Capital Definitions) BNZ supports NZBA’s comments on BPR110, including in relation to zero floors and prior knowledge of tax and regulatory events. In addition, BNZ has the following comments:
 D2.4: No conversion or write-off feature
A guidance note could be useful in this section to confirm that AT1 capital instruments constitute ‘going-concern’ capital in the absence of “No conversion or write-off feature” and is intended to allow the bank to continue to operate and maintain its solvency once the holders absorb the losses the bank has incurred. This guidance would be useful to investors and rating agencies.  D2.6: No step-ups or incentives to redeem In section 2.6 (3), it states:
The following are considered incentives to redeem–

(a) a change in the margin; or
(b) conversion from a fixed rate to a floating rate that is calculated as a benchmark rate plus a margin, if there is an increase in the margin relative to that implied for the fixed rate. However, Section 2.6 (4) states:
Provided that no member of the banking group does anything that creates an expectation that a call will be exercised, the following will not be considered incentives to redeem:
(a) a conversion from a fixed rate to a floating rate (or vice versa) on an optional call date without any increase in credit spread; or (b) a fixed rate being reset on an optional call date at a new fixed rate, provided that– (i) the new rate is a market rate on that date applicable to the period over which the new rate will apply; and (ii) there is no change in the margin above the fixed rate. For consistency, it may be more appropriate for (4)(b)(i) to refer to a "benchmark rate plus a margin" rather than a market rate, as per 3(b) above.  E2: Eligibility of capital instruments issued via an SPV BNZ submits that the restrictions in E2 should include an exception for instruments issued by an SPV that meet the requirements APS111 (which must provide for conversion or write-off of the instrument upon the Level 2 group reaching the loss absorption trigger point to qualify as ADT1). Due to the differences between the APRA and RBNZ capital requirements regarding conversion/write-offs, there may be situations where the instrument issued by the SPV to third party investors meets the requirements of APS111 but the instrument terms between the registered bank and the SPV meet the requirements of BPR110. Where this is the case and the only difference in the terms is the conversion/write-off provision, BNZ submits that this should not prevent the instrument being recognised as capital for the NZ bank. In such a case, the SPV may also not be fully consolidated with the registered bank as it may be a sister company. Providing this flexibility would effectively enable an Australian parent bank to generate cheaper AT1 from the NZ domestic market (excluding any subsidiary premium) and on lend to the NZ registered bank subsidiary higher quality AT1 capital. It would also allow for the Australian parent to raise AT1 counting as level 2 capital under APS111 standard. If this approach to SPVs is accepted, governing law for the instrument issued by the SPV may also need to be Australian law, but the instrument issued by the bank to the SPV would be governed by NZ law. BNZ submits that this should be allowed under BPR110. Example refer to: Perpetual Non-Cumulative Shares; ISIN: NZBNSDP001C9 issued via SPV to the NZ institutional and retail investors.

BPR 120 (Capital Adequacy Process Requirements)  E1.5: Compendium of models We suggest that the following amendment to subparagraph (1) would be useful to clarify that RBNZ’s agreement is not required for updates as per section E1.5 (3):
‘…must obtain the Reserve Bank’s agreement to the format of the compendium.’
BPR 130 (Credit Risk RWAs Overview)
 C1.2(1): Components of credit risk RWA calculation for IRB banks We believe the cross reference in sub-paragraph (a) should be to C1.5 rather than C1.3. BPR 131 (Standardised Credit Risk RWAs)  C2.6 Banks: sovereign floor for unrated claims The sovereign floor in C2.6 applies to claims on banks (C2.5). However, it does not extend to multilateral development banks that are excluded from the list of lowest-risk multilateral development banks and supranational in C2.4(1). BNZ believes that the sovereign floor should extend to those other multilateral development banks that are treated as bank exposures (see C2.4(2)) and have the same risk weightings as the longer term bank exposures in C2.5 to which the sovereign floor applies. BPR 132 (Credit Risk Mitigation)  B2.3 Standard supervisory haircuts The left column of Table B2.3 refers to “2 or 3 (long- and short-term) and unrated bank securities” BNZ assumes that ‘unrated bank securities’ refers to a debt security as per section B1.2(1)(c). It would be useful to either include this cross reference in the table or use a defined term for consistency. BPR133: IRB Credit Risk RWAs  B4: Retail Exposures BNZ believes further clarification could be provided in section B4 regarding exposures to SME customers in the form of a residential mortgage loan (RML). It is currently not clear whether that would be eligible for retail RML treatment or Retail SME treatment where the total business-related exposure (on a consolidated basis) is less than $1m. o B4.1 states a retail exposure must:
 Meet both the general criteria in B4.1 and the criteria specific to one of the retail exposure sub-classes set out in B4.2 to 4.5.  Be to an individual (i.e. natural persons) or to a SME and managed as part of a large pool of exposures. o B4.2 – 4.5 then state that the exposure is to be classified based on the exposure type or customer type. B4.3 permits loans extended to a SME where the total business-related exposure (on a consolidated basis) is less than $1m.

Our questions off the back of this are:

To meet the requirements for section B4.2 (RML sub class) BNZ assumes that an RML to a
SME is not bound by the requirements of section B4.3 (i.e. including the $1m threshold)?
Does the reference in B4.1 (2) to ‘individuals’ include individuals who are partners in a
business, or trustees of a trust?
The requirements in section B4.2 (and also section C3 of BPR 131) are silent on loan purpose.
BNZ assumes that the only consideration is that they must be either reverse or standard, and secured over either owner-occupied or investment residential property.
The guidance in B4.1 states that exposures to individuals are generally able to be treated as
retail regardless of size – does the reference to ‘generally’ recognise that in a situation where a business loan to a SME (e.g. in B4.3) is supported by an individual guarantee, that is only able to be treated as retail if the exposure to the individual through the guarantee is less than $1m? Are there other scenarios where an exposure to an individual may be capped?
B4.2(3) sets out that a non-property investment RML is eligible for retail treatment
regardless of exposure size – this infers a cap for property investment RML, but none is listed in BPR133 or 131. Can you confirm whether there is a property investment RML cap?  C3.1: Bank may use own LGD estimates Sub-paragraph (3) states “To the extent that exposures are secured by residential mortgages…”. There has been a change in terminology from BS2B (where residential real estate was used) to BPR133 (where residential mortgages is used). BNZ queries whether this change in terminology was intentional.  C9.1 Slotting into supervisory categories Sub-paragraph (1) states that “For specialised lending (SL) exposures (see sections B1.3 to B1.7), if the requirements to use the same IRB approach as used for general corporate exposures are not met, then the supervisory slotting approach must be used.” BNZ assumes (based on C1.1(4)) that the requirement to use the IRB approach is accreditation. It would be useful to either expressly note this in sub-paragraph (1) or to include a guidance note for clarity.  D3.3: Calculation of loan-to-value ratio (LVR) The calculation of the LVR ratio uses the loan value, which could be any loan that is secured by the mortgage over the residential property. However, the property value only takes into account residential property used as security and excludes any other property that might be used as security for the associated loans. While this calculation is appropriate for standard residential mortgage lending, it could lead to inconsistent outcomes where the arrangements are more complex, such as where an individual has both a mortgage and also business lending arrangements with the bank. For example, there may be situations where there is business lending that is separately covered entirely by collateral (e.g. security over physical business assets), but the business lending is also secured by the residential property. Currently this arrangement would result in the business lending and the mortgage being used to calculate the loan value for the purposes of calculating the LVR, without the property value

taking into account the security over both the residential property and the physical assets. This would distort the arrangement to seem like the loan value was significantly greater than the property it was secured against which would not be accurate. This also applies to BPR133 C3.5 Loan-to-valuation ratio (LVR).  D3.7 Recognition of credit risk mitigation in LGD The guidance note states “If a residential mortgage loan benefits has credit risk mitigation…”. The word “benefits” appears to be a typo. Security over Māori Freehold Land It is difficult for banks to set LGDs for Māori Freehold Land themselves as banks usually look at actual case studies and histories of defaults to assess actual experiences and there is none or very limited recent experience of forced sale over Māori Freehold Land. In order to support banks in lending to Iwi based on security over Māori Freehold Land, and promote the RBNZ vision under their Te Ao Māori strategy, BNZ believes it would be useful for RBNZ to set mandatory LGDs for all types of mortgages over Māori Freehold Land.

31 March 2021
Prepared by Buddle Findlay
Submission on capital updates to the Banking
Supervision Handbook. buddlefindlay.com

SUBMISSION ON CAPITAL UPDATES TO THE BANKING SUPERVISION • 31 MARCH 2021 1 About Buddle Findlay Buddle Findlay is one of New Zealand’s leading law firms with offices in Auckland, Wellington and Christchurch. The firm has a total of 187 lawyers, including 44 partners and, with support staff, a total workforce of 270 people. Our origins date back over 125 years, to the earliest days of legal practice in New Zealand. Buddle Findlay has one of New Zealand’s leading financial services teams. We act for all major New Zealand banks, as well as off-shore banks and other international financial institutions, and for large New Zealand corporates on financing matters. Our team is highly experienced, with some of the partners having worked together for over 20 years. Most of our senior lawyers have worked in global firms, covering all the major financial centres around the world, including London, New York, Hong Kong and Sydney. Our practice covers all aspects of banking and finance including bank capital raising, advice on prudential regulation, bank funding, derivatives, regulatory compliance (Reserve Bank, NZX, Financial Markets Conduct Act, Commerce Act, Fair Trading Act and advertising), payments and clearing systems, securitisation and structured finance, capital markets transactions (debt and equity), as well as corporate and institutional finance and consumer finance.

SUBMISSION ON CAPITAL UPDATES TO THE BANKING SUPERVISION • 31 MARCH 2021 2 Introduction 3

Overview 4
Drafting of BPRs 5
Transition regime 6
Standard form term sheets and legal opinions 7
Term sheets 7
Process requirements 7
Banks structured as mutuals 8
Common equity for mutuals 8
Composition of tier 1 capital 8
Full voting rights 9
Alternative tier 1 capital terms 10
Dividend stopper and reference to conditions of registration 10 Decision to disqualify legal form debt as AT1 capital 10 Legal risk of At1 structured as debt 11 Signalling risk 11
Miscellaneous 12
Capital buffer response framework 12
Rules for countercyclical buffer 12
Contents

SUBMISSION ON CAPITAL UPDATES TO THE BANKING SUPERVISION • 31 MARCH 2021 3 Introduction Thank you for the opportunity to submit on the proposed Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes (Consultation Paper, November 2020) (Exposure Draft). These submissions follow earlier submissions we made on the preceding paper being Capital Review Paper 4: How much Capital is enough? (January 2019). If you would like to discuss this submission further, please contact:
Simon Jensen
Consultant, Wellington
Jan Etwell
Partner, Christchurch
Scott Abel
Partner, Auckland s 9(2)(a) s 9(2)(a) s 9(2)(a)

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Overview
In our view the proposed Banking Prudential Requirements (BPRs) accompanying the Exposure Draft are a significant improvement to the current banking standards. We have also been pleased to see that many of the points made in our previous submission have been addressed in the BRPs, including the decisions to:

allow at least redeemable preference shares to be eligible Additional Tier 1 capital (AT1);
retain Tier 2 capital as prudential capital instruments; and
remove the requirement that Tier 2 instruments be written off at the point of non-viability.
We also think greater alignment with the Australian Prudential Regulators Authority’s (APRA) prudential standards (Australian Prudential Standards) is a useful approach given the interconnectedness of the New Zealand and Australian markets. It should make trans-Tasman compliance easier and facilitate easier co-operation between regulators on both sides of the Tasman. However, we believe even greater alignment with the Australian Prudential Standards should be considered. This will enable the Reserve Bank of New Zealand (Reserve Bank), with its limited resources, to leverage off the work done by APRA, which in turn (as a G20 country regulator) focuses on alignment with international best practice, generally originating in Bank of International Settlements (BIS) requirements. We believe that the best approach to developing capital standards is to recognise the importance of New Zealand’s Closer Economic Regulations Treaty with Australia and adapt Australian standards for the peculiarities of the New Zealand market (e.g. largely dominated by off-shore banks, particularly Australian banks) and the New Zealand legal environment (e.g. differences in underlying legislation and the increasing focus on the application of the principles of Te Tiriti o Waitangi in all aspects of the New Zealand legal system). Ideally at some point we believe the Reserve Bank should consider formally adopting this approach in its principles of prudential supervision.

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2. Drafting of BPRs
We support the structure and presentation of the new BPRs. In our opinion, they greatly improve the accessibility and readability of the standards. We also believe the alignment between the structure of the BPRs and the Australian Prudential Standards is appropriate given the interconnectedness of the New Zealand and Australian banking sectors. We note that the BPRs still apply to registered banks through their conditions of registration. We accept that as appropriate for now. However, we understand that an in-principle decision has been made to replace this approach with prudential standards that will be classified as legislative instruments.1 While we expect the Reserve Bank will seek to implement the BPRs before the Deposit Takers Act comes into force, we believe that certain steps could be taken now to draft the BPRs as legislative instruments - effectively to future proof them. This should improve legal certainty for users, which should in turn aid future compliance (this has been a problem with the existing standards, in part because of their length and complexity and the requirement to take a substance over form approach). We acknowledge the efforts to standardise common definitions in the Glossary as an important first step in this process. Given the future status of the BPRs as delegated legislation, we believe that they should be reviewed by the Parliamentary Counsel Office who are experts in drafting legislation and legislative instruments. Indeed, it may be helpful to consider the APRA equivalent standards as a starting point, given they are drafted as legislative instruments not policy documents. We also suggest that the BPRs could be improved as a legislative instrument by including an explanatory note, much like the explanatory notes that are issued when legislation is introduced to Parliament that set out the policy that the Bill seeks to achieve. As a future legislative instrument that must be interpreted in light of its purpose, this will also support the users in resolving any uncertainty or ambiguity in the standards – by ensuring there is a clear articulation of purpose. That explanatory note should identify where standards diverge from those of the BIS and APRA and an explanation of why that is appropriate in New Zealand. We would also support using defined terms in the same way they are used in legislative instruments (i.e. not putting them in bold each time they are used). We support the Reserve Bank’s approach to providing guidance in the BPRs. The placement of succinct guidance throughout the BPRs improves accessibility and facilitates understanding of the requirements. While we do not have a strong view on how guidance is provided, we did find the way it was provided in boxes in the draft BPRs easy to use and hence would support Option 1 set out in paragraph 26 of the Exposure Draft.

Treasury and the Reserve Bank of New Zealand Safeguarding the future of our financial system: Further consultation of the prudential framework for deposit takers and depositor protection (March 2020), p 53.

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3. Transition regime
You have asked for submissions on the proposed approach to transitioning to the new regime by phasing out capital instruments that do not meet the new eligibility requirements. Our opinion is that this transition regime creates unnecessary complexity and burden on banks with capital being phased out. While certain instruments on issue may not comply with the new requirements, they have been accepted by the Reserve Bank as capital of sufficient quality for prudential purposes and, given the general alignment of the existing regime with international rules, would still meet international capital standards. To the extent that instruments are already on issue and still meet the essential test as loss-absorbing capital (either on a going concern basis for Tier 1 capital or a gone concern basis for Tier 2 capital), we believe they should be grandfathered into the new regime. This would be appropriate, for example for Tier 2 instruments with write-off mechanisms or, if the specific dividend stopper requirement is implemented for AT1 instruments, an instrument on issue that does not include a dividend stopper mechanism in its terms, but has the flexibility to enable dividends to be stopped at any time, particularly for regulatory purposes. It would be very unfair not to include perpetual non-cumulative shares that currently qualify as capital on an ongoing basis, given they by their nature cannot be redeemed and hence replaced with new instruments. If this is the case, it would raise questions about the level of regulatory certainty in New Zealand and about changes in policy effectively having unnecessary retrospective effect. To the extent that some instruments are appropriately phased out, the phase-out period should be over a much longer timeframe and include a discretion to extend the phase-out period in individual circumstances. We believe it is only likely to be appropriate (based on current proposals) to phase out AT1 instruments structured as debt convertible into shares. Many of them will have call dates when they can be redeemed and, in general we see no reason why the transition could not simply require them to be called on the next call date and phased out in accordance with existing policy. Even if most instruments can be transitional without prohibitive cost as your Response to Submission suggests2, at the very least there should be a power for the Reserve Bank to “grandfather” certain instructions on an exceptions basis.
2. Capital Review, Consultation Paper 4: How much capital is enough? Response to Submissions para 236.

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4. Standard form term sheets and legal opinions
Term sheets
We support the inclusion of template term sheets for the different types of eligible capital instruments. Noting that these are base documents and do not ensure compliance with the standards, we believe the templates aid the interpretation of the Reserve Bank’s requirements for these instruments. Using standard documentation as a starting point is likely to increase efficiency in interactions with both the Reserve Bank and investors. However, we would guard against making the requirements too prescriptive, given the tendency of financial instruments to evolve over time. While we note the Reserve Bank has, helpfully, been clear that issuers can include their own wording or add additional wording in term sheets3, we believe there should also be some flexibility for the Reserve Bank to approve changes to template provisions to accommodate market changes or specific issuer circumstances. Process requirements We also support the approach of replacing the non-objection process for capital instruments with a notification process. We believe this is likely to increase the efficiency of the process for both the banks and the Reserve Bank. We wish to emphasise, however, that to be effective, this approach will rely on legal clarity of the requirements, which makes our submission above on the approach to drafting the BPRs all the more important. We believe that the requirement for a legal opinion to use the template wording should be softened slightly to refer to “substantially using the standard wording”. While we have no immediate concerns about the form of opinion suggested, the reality is that the wording will only be tested when it is required for an actual transaction. For example, the requirement to have fully executed documents or for lawyers to affirm that there are no other documents that prescribe terms of capital instruments (without a knowledge qualifier) could be problematic. We note that no legal opinion appears to be required for the issuance of common equity – nor is there a process for the issuance of Common Equity Tier 1 Capital (CET1). As you will no doubt appreciate, it is possible to issue common equity on a wide variety of terms including, for example, relating to dividends, distributions (or otherwise) on wind up and voting. For that reason there are rules on what features shares must have to be classified as common equity (based, it appears, heavily on the equivalent Basel III framework).4 It seems odd to us therefore not to require a similar sign off procedure for CET1 instruments to that for AT1 and Tier 2 instruments (including a template legal sign off). Overall we support the legal sign off process as a significant improvement on the current process. It may just need to be refined when tested against actual transactions.
3. Changes to the Baking Supervision Handbook : Exposure Draft for Capital Review Changes Consultation Paper, November 2020 para 68.
4. BPR110 Capital Definitions B1 Common Equity Tier 1 Capital.

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5. Banks structured as mutuals
Common equity for mutuals
We strongly support your indication that you intend to work with the mutual finance sector (Mutuals) to develop a mutual CET1 instrument. The mutual sector is considerably underweight in New Zealand compared to comparable jurisdictions and, in particular, compared to other sectors in New Zealand where we are leaders in the mutual economy. Despite, their relatively small market share, Mutuals provide banking services to a disproportionate number of low-income individuals who struggle to get accounts with banks because they don’t generate sufficient profit or because they feel uncomfortable or intimidated in bank branches. They also have a strong presence in the regions that the big banks are increasingly withdrawing from. They are embedded in these communities, providing personalised services, which contributes to the financial well-being of their members and the local economy, and also offering significant support to their local communities through sponsorship programmes. New Zealanders would surely benefit from the growth of this sector. The BPRs need to be tailored to the particular legal structure and model of Mutuals to ensure a level playing field with banks structured as companies and to support growth of the Mutual sector. This is consistent with your statutory responsibility to promote the maintenance of a sound and efficient financial system as it promotes:

efficiency, by giving Mutuals an opportunity to grow and compete with the big Australian-owned banks; and
stability, by giving the Mutuals the opportunity to be better capitalised.
It is also consistent with the BIS requirements for regulatory capital, which acknowledge that the application of these requirements to non-joint stock companies (which were drafted for banks structured as companies) should take into account the constitution and legal structure of those banks, such as Mutuals. Comparable jurisdictions, such as Australia, Europe and Canada have developed eligibility criteria for CET1 capital instruments that can be issued by Mutuals and that have equivalent loss absorbing qualities. We have been involved with consultations between the Reserve Bank and Mutuals on qualifying capital for prudential purposes and are pleased to see that the BPRs have incorporated the matters that have been consulted on and agreed between those parties to date. We have also reviewed the submission of the Nelson Building Society on the Consultation Paper and fully support its submissions on appropriate amendments to the eligibility criteria for CET1 capital in BPR 110 to provide for eligible instruments that are able to be issued by banks structured as Mutuals. In addition to the points made in the submission of the Nelson Building Society, we believe that an additional term should be included in CET1 instruments for Mutuals that permits them to buy-back shares on substantially the same terms as companies can buy-back ordinary shares in accordance with the Companies Act 1993. Banks structured as Mutuals should be able to offer to buy back Mutual CET1 capital instruments if the Mutual is solvent and would continue to comply with its capital requirements following the buy-back. The latter is a constraint that can be imposed by the Reserve Bank as it does currently with banks through their conditions of registration. The ability to offer to repurchase CET1 capital (with appropriate constraints) would not affect a Mutuals compliance with minimum equity requirements, would put them on a level playing field with banks structured as companies and provides them with flexibility to meet their capital needs. Composition of tier 1 capital We also believe that Mutuals should be able to include instruments that would otherwise be classified as AT1 instruments without limiting their tier 1 capital provided that:
they are the most subordinated form of capital for that Mutual;
the instrument is perpetual (ie it does not have the redemption option otherwise permitted in other AT1 instruments); and
it is subject to the same dividend stopper rules that apply to CET1 instruments.

SUBMISSION ON CAPITAL UPDATES TO THE BANKING SUPERVISION • 31 MARCH 2021 9 Full voting rights BPR 110 has retained the requirement that CET1 instruments must provide the holder with “full voting rights” - although, helpfully, noting that one member one vote for building societies qualifies as full voting rights, which we support. However in our opinion, the requirement for voting rights should be removed as it is not relevant to common equity’s ability to absorb losses on a going concern basis. Voting rights are not one of the BIS requirements for CET1 capital instruments and have not been included as a requirement in Australia, Europe or the United Kingdom. We do not perceive there to be any benefit from a prudential perspective to including them and believe it is preferable to remove any requirement that is not necessary for prudential purposes to keep the definitions as simple as possible, and to give banks maximum discretion and flexibility on the terms of their instruments to meet their commercial needs and respond to the market. We understand from previous discussions with officials that including voting rights as a requirement was an historic aberration. We believe it would be much simpler if it was removed, or at least, may be waived as a requirement by the Reserve Bank.

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6. Alternative tier 1 capital
Dividend stopper and reference to conditions of registration The Consultation Paper specifically asks for feedback on the inclusion of the requirement that the terms of AT1 instruments include a dividend stopper. In our view this requirement should not be included. It is not necessary for the purposes of absorbing losses on a going concern basis and therefore is contrary to the Reserve Bank’s intention to avoid unnecessary complexity in the terms of regulatory capital and the regulatory regime. For prudential purposes, it is important that the relevant instruments (in this case the AT1 capital instruments) have the discretion required to meet the prudential standards that banks are subject to. As long as the necessary discretion exists, there should be no need to “hardwire” technical prudential requirements into an instrument. To do so may hamper the Reserve Bank’s ability to change policy in the future (because the cost to financial institutions of changing hardwired terms is greater than the benefit of the policy change). It is also inconsistent with the approach taken on CET1 instruments that are not required to include a “dividend stopper” – presumably because the Reserve Bank is comfortable relying on its ability to direct a board (through conditions of registration or directions) not to pay dividends on ordinary shares and that the terms of those shares are flexible enough to enable that. We do not believe there is any compelling reasons to adopt a different approach with AT1 instruments. As you have noted, dividend stoppers are common in the market and are often required by investors. We think this is a matter that should continue to be driven by the market. To the extent that there are concerns about transparency for investors on the effect of prudential regulations, the Reserve Bank could impose rules on disclosure when offering AT1 instruments to investors (i.e. it could be mandatory to disclose the fact that dividends could be and almost certainly would be stopped if a bank breached certain capital ratios). Similarly, we note that the eligibility criteria includes a requirement to include in the terms of the instrument that distributions may be limited by the bank’s conditions of registration. Again, it is not important for prudential purposes to include the technical prudential requirements in the terms of a regulatory capital instrument. It is sufficient that the terms of the instrument provide the bank with the ability to comply with prudential regulations and that the Reserve Bank has the ability to enforce them through conditions of registration or regulations. We suggest that this requirement be removed as it is unnecessary and its removal will help to future proof the BPRs from a move away from conditions of registration, which we understand to be likely under the Deposit Takers Act. Decision to disqualify legal form debt as AT1 capital We note your clear statements throughout the consultation document that you are not seeking
to reopen the Reserve Bank’s decision to exclude legal form debt instruments as eligible AT1 capital. We understand your reasoning for making this decision was largely based on the grounds that:

you were unpersuaded by the majority of submissions which were in favour of retaining legal form debt with contractual bail-in as AT1 instruments, in particular you rejected:
the submissions of numerous law firms that there is legal certainty about contractual bail-in mechanisms on the basis that there has been no case law on whether conversion to
ordinary shares will be effective (particularly where there is no firm basis to price ordinary shares) and whether a court would give effect to the write-off if the conversion fails;
the submissions of the Australian-owned banks that align with the APRA definitions of AT1 and Tier 2 capital provides certain benefits, relating to the marketability of APRA
approved instruments on the basis that it is unlikely that the parent will not be able to issue the capital in its own right and that the other AT1 instruments are equally as acceptable in the market (based on feedback from one banking group);
you were unpersuaded that there is international evidence of the effectiveness of debt instruments with contractual bail-in as loss-absorbing instruments;
the benefit of AT1 capital is that it is lower cost capital, but that complex debt instruments with contractual bail-in were not necessary to realise this benefit as you have received
feedback that it is the redeemability of instruments (rather contractual bail-in) that lowers the cost of capital; and
debt instruments are less loss-absorbing in practice due to their increased risk that non-payment of distributions will signal distress to the market.

SUBMISSION ON CAPITAL UPDATES TO THE BANKING SUPERVISION • 31 MARCH 2021 11 We are concerned with the decision to ignore the position of the majority of submitters and diverge from international practice. While we accept your concerns about the economic outcomes associated with recapitalisation of foreign-owned subsidiaries, that should not preclude AT1 instruments being classified as liabilities for accounting purposes with principal loss absorption effected through a write down mechanism at a pre specified trigger point.5 Legal risks of AT1 structured as debt We note your comment that you are more concerned about the economic outcome of what appears to be largely certain terms from a legal perspective, but still remain concerned about the legal uncertainty of “write off” of AT1 preference shares if conversion to ordinary shares fails. Absent more information, it is hard to comment further on the extent of that risk. However, that should not be a basis for rejecting AT1 instruments structured as liabilities without a conversion mechanism to ordinary shares (or a bail-in option) but with a write off mechanism. Even if the tax position of the write off is unclear then there is the option of clarifying that with the Inland Revenue (and even amending the law) or discounting the capital that can be counted as is the case covertly with Tier 2 instruments. Ultimately, we are concerned that there is an over reliance on economic arguments to dismiss AT1 instruments when they are ultimately legal instruments subject to legal rules in the way in which they must be sold. We respond to some of those arguments below. Signalling risk It appears from the reasoning given for your decision that your primary objection to legal form debt AT1 capital is the “signalling risk” which you assert makes debt instruments less loss-absorbing in practice. You believe that failing to pay distributions or redeem on a pre-announced date is more likely to signal distress than failing to do the same with an equity instrument. This is likely to lead to loss of confidence in the bank which may exacerbate stress rather than alleviate it. Further, you believe this is likely to provide an incentive to the bank to make distributions when the financial condition of the bank may dictate otherwise. AT1 instruments structured as debt are almost universally accepted in all other jurisdictions and, notably, are eligible AT1 capital in the guidance provided by the Basel Committee on Banking Supervision – the international body tasked with setting global standards for prudential supervision. As noted in our previous submission, the only example that the Reserve Bank has provided that suggests debt instruments may present an increased signalling risk is Deutschebank. In that case the signal that the bank was distressed led to a sell-off of its shares and contingent convertible debt. However, that simply reflected the market reacting to fundamental compliance and credit risks in the bank – it
was the effect of other market signals, not the signal itself. It also seems to have been triggered by a lack of legal certainty about the response of the regulator. The Reserve Bank has not provided any indication of how it believes the signalling risk might play out in the New Zealand context, why this justifies diverging from international practice and why any issues can not be clarified through legislation as the Australians have done and improved regulatory certainty (as it is doing).6 Furthermore only one small New Zealand bank is currently listed and there will be no requirement in New Zealand for AT1 instruments to be listed. Indeed, we would expect in many cases AT1 will only be issued to wholesale investors. The moral hazard argument that the increased signalling risk might incentivise banks to make distributions on AT1 debt instruments when this would be a breach of their conditions of registration seems equally anecdotal and theoretical. We note that the Reserve Bank has historically taken into account the unique approach to prudential supervision in New Zealand, relying heavily on market discipline with limited oversight from the regulator. We would have thought the very essence of a market discipline regime is that there are mechanisms to ensure the market is fully informed. While there are obvious challenges with this approach, it seems counter intuitive to be concerned about signalling risk when that seems to be at the heart of market discipline. It is up to the Reserve Bank either through effective prudential regulation or an adequate disclosure regime to manage the risk of disorderly lack of confidence in the banking market (rather than let it be hidden by not allowing instruments that might signal it, or, at least cause the market to more closely monitor a bank). We also note that the risk of disorderly lack of confidence in banks has already been largely addressed through more focused on-site supervision and the higher capital standards.
5. Basel III: A global regulatory framework for more resilient banks and banking systems (No. 11) p 17.
6. Section 11 CAB Banking Act 1959

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7. Miscellaneous
Capital buffer response framework
We do not have any strong views on the Capital Buffer Response Framework (CBRF), but do believe that it should be consistent with the international principles on bank resolution (and where it is not, the differences identified and explained) and should not be unduly prescriptive to enable the widest range of tools to be used to deal with bank distress. At a technical level we believe it is important that conditions of registration relating to restoration and recapitalisation plans focus on capital ratios – not absolute levels of capital. In times of distress it may be very difficult for a bank to either raise capital or increase retained earnings – with the best option potentially being to downsize the balance sheet – either organically or through asset sales. That will not, in all likelihood, increase absolute levels of capital, but will probably move capital ratios back towards the required levels. Rules for countercyclical buffer We note that the Reserve Bank has stated it is including an early set countercyclical capital buffer (CCyB) of 1.5% in its prudential buffer. It also appears as though the CCyB was set prior to the Covid-19 pandemic and experience may now suggest that a different buffer might be appropriate. We believe it could be helpful if the Reserve Bank provided guidance on how it proposes to set the CCyB capital and in particular the extent to which it may be able to apply the CCyB in a more nuanced way (e.g. only in respect of some assets, such as housing loans but not others such as business loans). We note that the Reserve Bank signalled it was planning to consult on this during 2021. It would be helpful if it provided an update on this timing – particularly in light of the government’s recent policy statement under s 68B of the Reserve Bank of New Zealand Act 1989.

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31 March 2021
Cavan O’Connor-Close
Financial System Policy and Analysis Department Reserve Bank of New Zealand PO Box 2498 Wellington 6140 By email:
Dear Cavan
Capital Review Exposure Draft Consultation
Introductory comments
Craigs Investment Partners Limited (Craigs) is one of the largest NZX Advisory firms in New Zealand, with 167 advisers located in 19 offices throughout New Zealand. Craigs has ~68,000 active clients who have collectively $24 billion held in custody, plus another several billion dollars where the assets are held by the clients directly. Craigs’ clients have been significant investors in bank capital instruments and Craigs has also been involved in the offer syndicate of a number of bank capital issues, including most recently acting as the arranger on Kiwibank’s Tier 2 offer in December 2020. We have responded to this consultation through both the lens of investors and also from a structuring perspective. Responses to Consultation Questions A. Are there any significant issues with the drafting of the BPRs that you would like to draw to the Reserve Bank’s attention? We have focused on the BPRs that relate to capital instruments (BPR100, BPR110 and BPR120) and have not identified any significant issues within those documents. See responses to questions below for some changes that could be considered. s 9(2)(a)

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B. What would be the best way to present the new BPRs on the Reserve Bank’s website? We do not have a strong view on how the BPRs should be presented on the website. We have looked at the BIS site and it appears workable.
C. What would be the best way to include guidance?
We are indifferent to the form in which the guidance is included. If we had to pick one of the three options discussed we would adopt the current implementation, i.e. the guidance is incorporated throughout the applicable documents. D. Are the proposed distribution restrictions placed on banks whose capital is below full requirements appropriate? We agree with the concept of explicit restrictions being imposed on distributions if a bank falls within its PCB. Fundamentally this makes it easier to articulate the nature of the specific risks investor’s face when investing in these instruments. In respect of the current proposal the current definition of earnings appears to follow the accounting treatment and therefore reported earnings would be prior to the deduction of any distributions to AT1. This raises the question as to whether the limit should be inclusive of AT1 distributions. We do not propose to change the simplified single threshold being proposed for AT1 distributions but rather, when determining the maximum quantum of CET1 distributions that can be paid, distributions paid out on AT1 securities are accounted for. The following simplified example illustrates why we consider this would be appropriate. If a D-SIB was operating in the 3% to 6% area of its PCB and had earnings of $100 and no AT1 on issue, then it would be limited to paying out $30 of distributions to CET1. The bank would therefore be retaining retain at least $70 of its earnings to build its capital position. If however the bank had AT1 instruments on issue that were receiving distributions of say $10 then under the current proposal it appears that the maximum permittable distribution to equity providers in the wider sense of the word would increase to $40 (i.e. $10 AT1 + $30 CET1). This means only $60 would be retained. If the limit was inclusive of AT1 distributions, then in this scenario the maximum amount able to be distributed to CET1 would be $20. Intuitively it seems odd that how a bank chooses to meet its Tier 1 capital requirements can impact on the maximum permitted distributions to different investor segments across all the Tier 1 capital components. As such the proposition just described is our preferred method to address this. There is an alternative which is sits between the current and proposed approach. This would be to adjust the definition of earnings to deduct the amount of AT1 distributions for the purposes of testing the PCB threshold for paying CET1 distributions. The impact of this in the example above would be to reduce “earnings” to $90 and therefore the maximum permitted distribution to CET1 would fall from $30 to $27. E. Are the proposed restrictions on AT1 distributions appropriate? We support the proposal to have a single threshold for payment of AT1 distributions and that threshold also being the last to trigger in terms of distribution restrictions.

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We also agree that a higher threshold than proposed currently would make the instrument increasingly more difficult to market to external parties given the non-cumulative nature of the instrument and the lack of any upside exposure. F. Are the transitional provisions appropriate? Phase 3 puts in place an upper threshold for the capital buffer of 9% and 7% for D-SIB and NonDSIB respectively. This implies that the banks will be permitted to distribute more than 100% of their earnings if they are above this level. However, table 3 does not include an upper limit on the size of the capital buffer for the “Up to 100% of earnings” category during the transition period. This implies that banks would be unable to distribute more than 100% of their earnings during the transition period. This may be an oversight given the comment that banks holding voluntary buffers above the PCB will not be subject to any distribution restrictions. We recommend that an upper limit be explicitly included in the transition period. This means that if a bank is operating above the Phase 3 PCB in the transition period then it should not be subject to any restrictions. G. Does the proposed Capital Buffer Response Framework (CBRF) as set out in BPR120 present a suitable way of responding to banks’ declining capital levels? We are not in a position to comment on the practicalities of how banks will implement the proposed framework. However, from a market perspective the proposed framework is logical noting we would expect banks would almost certainly prefer to actively recapitalise themselves in a process under their control rather than being forced to undertake actions dictated by the RBNZ. H. Is it sufficiently clear to provide appropriate guidance to banks? We view this question is best left to the banks.
I. Are there any risks associated with the CBRF?
We have nothing further to add.
J. Is the addition of template terms sheets in BPR110 useful?
We believe the term sheets are useful given they act to reinforce the minimum terms required to achieve capital recognition. We also expect It will be helpful in terms of obtaining the required legal opinions given it will be straight forward to identify and confirm that any differences between the template and actual term sheet are immaterial. K. Are the terms described in a clear and transparent way? We consider the terms are clear and transparent.

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L. Are there additional components that should be added to the templates?
We do not propose that any additional components be added to the templates.
In reading through the term sheets, we have three observations / queries.

The Tier 2 sheet does not specify the redemption price on the basis that there may be
circumstances where the issuer may choose to pay the higher of par or market – which would be most applicable in the instance of an early redemption for tax or regulatory reasons. We believe the same flexibility should also apply to the AT1 term sheets, which currently specifies a fixed redemption price of $1. We believe a fixed price can result in iniquitous outcomes to investors if an early redemption occurs in an environment where interest rates have fallen, and the PPS are trading above $1. We believe it would be better to include same flexibility as the Tier 2 term sheet to allow the market to determine an appropriate price redemption mechanism (for example to include a par or market type mechanism if deemed appropriate).
The template term sheet for the Tier 2 instrument clearly states that the instrument will
be legally debt and a liability for accounting purposes. However, in places the document is inconsistent with this viewpoint. For example, paragraph B3.2(2)(b) provides that any share premium resulting from instruments included in Tier 2 capital will qualify for Tier 2 capital. This appears to be inconsistent with the template given any instrument that was a share and therefore might include a share premium would not satisfy the template terms.
Finally, we would remove the documents from the list as the specific documents will be
dependent on the nature of the deal, for example retail and institutional deals will have different documents. This also appears to be a duplicate of documentation being included in the additional terms. M. Do you support replacing the current non-objection process with the proposed ‘notification’ process? As the process is described, in essence that an instrument will be recognised as capital if there is a legal opinion that it complies with the standardised terms, is a sensible position, particularly given the new rules mean any capital instruments issued will be much simpler than their Basel III counterparts and so it should be straight forward for legal counsel to opine as to compliance with the required terms. We expect that market participants will also expect new instruments to closely match the standard terms so in essence it becomes self-fulfilling. We also expect that not having to go through a non-objection process will also speed up the pre-launch process – which we see as also being beneficial. Our only concern is that the stated process allows future changes to be made to the term sheets in response to market factors, amongst other things. The much simpler nature of the instruments suggests that any instrument issued will meet the core principals required for capital recognition and as such we would expect that any changes to the term sheets would not impact the eligibility of previously issued instruments.

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N. Is the purpose of the legal sign-off process clear?
We believe the banks are best positioned to respond to this question.
O. Should alternative drafting approaches be considered for the template legal opinion? We believe the banks are best positioned to response to this question. P. Does the proposed text of BPR110 accurately reflect the December 2019 policy decisions? The templates in our view reflect the December 2019 policy decisions. Q. Do you support the inclusion of a dividend stopper feature in the requirements for an AT1 instrument? From a markets perspective we agree that a dividend stopper is a requirement for successfully marketing an AT1 instrument to external investors and we have never had an issuer raise an objection to this. Moreover, outside the bank sector inclusion of a dividend stopper is standard for any instrument that incorporates terms which allow the issuer to cancel or defer payments. Due to this widespread market acceptance of dividend stoppers we do not see any detriment or benefit to including an explicit distribution stopper within the standard term sheet when the instrument is being issued to external investors given we do not see a scenario where a dividend stopper would not be required, However, for banks that are sourcing AT1 from their parent there could be a scenario where they might prefer to receive distributions on their CET1 compared to their AT1 investment. Inclusion of a distribution stopper would prevent this. We note it does seem odd to require that a distribution stopper is required to be included in the terms of an AT1 instrument given that its inclusion does not enhance the loss absorbing characteristics of the AT1 instrument. If the RBNZ is proposing to include on the basis that is a signal that a distribution stopper is permitted this could be done as “guidance” rather than specifying it as a requirement. This would allow parent entities to not include a distribution stopper if there were circumstances in which that they would prefer to receive any distributions on CET1 rather than AT1. R. Are there any barriers to only allowing New Zealand law to govern AT1 and Tier 2 capital instruments? Given the decision to restrict AT1 instruments to perpetual preference shares, outside parent entities, we believe it very unlikely that overseas investors will invest in these securities and therefore restricting to New Zealand law would not seem problematic. Tier 2 securities will be of interest to offshore investors and so there is the potential for some of these investors to prefer the law to be in a different jurisdiction, and some for mandate reasons may be restricted from investing in securities that are based on law outside major jurisdictions. From a policy perspective it would seem sensible to maximise the ability of banks to source capital from non-domestic investors. As such we believe that banks should be given the

Page - 6
flexibility to determine the applicable law (so long as doling so will not impact the pari passu nature of domestic and foreign law issued instruments). Other comments on terms? Upon reading the eligibility criteria we have two additional observations. D1.2(d) It is not obvious to us why a CET1 capital instrument must have voting rights when it is feasible to issue ordinary shares that do not have voting rights but which have exactly the same loss absorbing characteristics as those ordinary shares which have voting rights. We believe this requirement should be removed. D1.3(c) Similarly it is not clear to us why a cap is not permitted on distributions if an investor is willing to agree to this on a bespoke basis. If the intent is to distinguish from fixed rate preference shares (i.e. AT1 securities) this seems dealt with under (2)(c) which says the distribution cannot be linked to the amount paid at issuance. As a final comment we have also discussed the proposed handbook with JP Morgan, who we have a relationship with. They observe that the current proposals do not appear to provide the major banks with the ability to implement securitisations that achieve synthetic risk transfer to external investors. These transactions are explicitly permitted under the current Basel rules though providing capital relief under strict criteria, and consequently a number have been executed in offshore markets (particularly Europe). These tools can be a very efficient method to transfer real credit risk transfer to investors outside the domestic market – which we believe could be beneficial to the banking system overall. If you would like to further discuss any aspects of our responses, please do not hesitate to contact the undersigned on or by email at . Yours sincerely Craigs Investment Partners David McCallum Managing Director, Investment Banking s 9(2)(a) s 9(2)(a) s 9(2)(a)

Heartland Bank Limited | 0800 85 20 20 | PO Box 9919, Newmarket, Auckland 1149 | www.heartland.co.nz 31 March 2021 Financial System Policy and Analysis Department Reserve Bank of New Zealand PO Box 2498 Wellington Att: Cavan O’Connor- Close By email:
Kia ora Cavan
Capital Review Exposure Draft Consultation – Submission of Heartland Bank Limited Introduction Heartland Bank Limited (Heartland) welcomes the opportunity to submit on the Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes Consultation Paper, November 2020 (Consultation Paper). Heartland supports the New Zealand Banker’s Association (NZBA) submission (as it relates to non-D-SIB banks utilising a standardised approach). The NZBA submission includes detailed comments on the drafting of certain of the new Banking Prudential Requirements (BPRs), which will replace those parts of the Banking Supervision Handbook (BSH) which relate to capital adequacy. However, there are some points in the NZBA submission that Heartland wishes to reiterate and some additional submissions Heartland wishes to make which are set out in more detail in our submission below. References in this submission to the recent Capital Workshop, are to the Reserve Bank Workshop: Capital Review Implementation held on 16 March 2021. Heartland commends the Reserve Bank of New Zealand’s (RBNZ) continuing engagement with the banking industry in respect of the capital review changes. Drafting of new BPRs Heartland supports NZBA’s submissions on the way the new BPRs have been drafted, including NZBA’s particular drafting comments, and comments on form in response to the questions raised in the Consultation Paper. Heartland particularly submits that:

presenting the BPRs in a more modular structure by topic (rather than as a single, searchable set of
text);
embedding clearly identified guidance in BPRs next to what it applies to (rather than having separate,
lengthy guidance documents);
ensuring all definitions are available in the new document BPR001: Glossary (rather than certain
definitions being available only in the relevant BPR); and
bolding (or highlighting) of a defined term wherever it appears in a BPR,
are helpful tools, and will enhance the accessibility and ease of use of the new BPRs. Potential change to commencement date of new BPRs At the recent Capital Workshop, the possibility of changing the commencement date of the new BPRs (and updated Conditions of Registration) from 1 July 2021 to 1 October 2021 was raised, and Heartland was encouraged to hear that the RBNZ was open to submissions on this topic. s 9(2)(a)

Heartland Bank Limited | 0800 85 20 20 | PO Box 9919, Newmarket, Auckland 1149 | www.heartland.co.nz 2 Heartland supports regulation that provides a safer banking system for New Zealanders. However, Heartland considers that an extra 3 months of “transition” would be very valuable following the RBNZ’s publication of the final BPRs (which Heartland understands is currently targeted to be in late May/June 2021). Different banks will have different challenges depending on their balance date, but the on-going uncertainties resulting from COVID-19 continue to have an impact across the board (as the recent return to Level 3 and Level 2 restrictions have demonstrated). For Heartland, the timing of the change from the relevant BSHs to the new BPRs as currently proposed (while not effective until its next financial year, commencing on 1 July 2021), would coincide with its FY21 year-end process, which is a very resource intensive period. A slightly extended transitional period (approximately 3 months, rather than a matter of weeks) following publication of the final BPRs would provide Heartland (and we expect other affected banks) with some muchwelcomed additional time to complete the necessary internal capital adequacy policy, procedure and programme updates. Importantly, this should not impact the timing of the phasing of the implementation of the increase in capital buffers, which is currently due to commence on 1 July 2022. Heartland therefore submits that the commencement date of the new BPRs (and updated Conditions of Registration) should be changed to 1 October 2021. Changes to distribution restrictions – CET1 and AT1 capital Heartland submits that the:

proposed distribution restrictions for banks that have entered their prudential capital buffer (PCB);
inclusion of the concept of a ‘useable band’ within the PCB prior to distribution restrictions becoming
applicable; and
proposed buffer transition periods (for CET1 capital instruments),
are appropriate given the larger PCBs that will be required to be held above minimum capital requirements under the new capital regime, and the differing nature of CET1 and AT1 instruments. Capital Buffer Response Framework Heartland submits that the:
proposed supervisory actions that the RBNZ may take (broadly, implementation of a capital restoration
plan, RBNZ review of that plan and implementation of a recapitalisation plan developed in consultation with and agreed with the RBNZ) as a bank falls below its buffer trigger ratio and enters further into its PCB; and
point at which the RBNZ proposes to utilise the different supervisory actions proposed to form part of
its “tool box”, are appropriate for the reason stated above in respect of Heartland’s submission on changes to distribution restrictions. AT1 and Tier 2 instruments – Standard requirements and template terms sheets Non-compulsory nature of terms sheets Heartland understands from the Capital Workshop that use of the template terms sheets appended to BPR110:
Capital Definitions (BPR110) is not proposed to be compulsory, as this provides flexibility for issuers to adjust AT1 and Tier 2 conditions to meet their own circumstances, so long as the standard features described for the respective instruments in BPR110 are met.

Heartland Bank Limited | 0800 85 20 20 | PO Box 9919, Newmarket, Auckland 1149 | www.heartland.co.nz 3 If the template terms sheets are retained (we reference the submissions in respect of the utility of the templates contained in the NZBA submission), Heartland submits that the drafting in D2.2 and D3.2 of BPR110 should be clarified to make the RBNZ’s intentions in this respect clear (i.e. use of the templates is not compulsory). A corresponding amendment would also need to be made to Section B1.3 of BPR120: Capital Adequacy Process Requirements, and the template legal sign-offs included in this BPR. Clarification of the meaning of “legal-form equity” as a requirement for AT1 instruments D2.3(c) of BPR110 provides that in respect of AT1 instruments “the instrument must be structured as legal-form equity”. However, it is not clear what this means. Heartland anticipates that “legal-form equity” is intended by the RBNZ to be a reference to the definition of “equity security” in section 8(2), Financial Markets Conduct Act 2013 (FMCA). “Equity security” is specifically defined in the FMCA to not include a “debt security” (itself defined in section 8(1) of the FMCA), noting that a redeemable share in an entity included in the definition of “debt security” excludes a share redeemable only at the option of the entity. Heartland submits that the drafting of the term “legal-form equity” should be clarified with reference to this well-understood statutory definition to ensure a consistent interpretation across AT1 instrument issuers. Governing law D2.3(1)(e) and D3.3(1)(e) of BPR110 provide that AT1 and Tier 2 instruments and all constituting documents must be governed by New Zealand law. While Heartland appreciates the RBNZ’s overarching goal of simplicity, this is a departure from the current BSH concept of “satisfactory equivalents” to New Zealand law for Tier 2 instruments, and may have unintended consequences. Paragraph 29 the RBNZ’s Capital Review Decisions 2019 paper states that the decision to set the AT1 cap at 2.5% of RWA is based on (amongst other things) consideration of the capacity of domestic investors to purchase AT1 instruments (noting that issuance to offshore investors is also a possibility). This decision recognises that domestic investors may not have sufficient capacity to purchase all AT1 instruments on offer from registered banks at all times, and access to offshore investor capacity may be therefore be required (or desired) in some circumstances. Accordingly, Heartland agrees with NZBA’s submissions on the proposed New Zealand governing law requirement for:

AT1 instruments that “this requirement risks presenting a significant impediment to offshore issuance
if it was ever contemplated by our members”; and
Tier 2 instruments more generally, particularly identifying that “the requirement for Tier 2 instruments
and all constituting documents to be governed by New Zealand law is problematic in respect of banks’ offshore issuance capability…” Notification process proposed to replace the current non-objection process to issue AT1 and Tier 2 capital instruments Heartland is generally supportive of the proposed new notification process set out in BPR120: Capital Adequacy Process requirements, which it submits will streamline the process for issuances of AT1 and Tier 2 instruments under the new capital regime. This submission is made on the basis that the instrument will be recognised by the RBNZ on the submission of a signed legal opinion (on a standardised legal template), together with the instrument’s constituent documents, 1 D2.5(2) of BPR110 provides that AT1 instruments may be callable or redeemable at the initiative of the registered bank after a minimum of five years from the date on which the registered bank irrevocably received payment for the instrument, and more than one such call or redemption may be provided for. D2.5(3) of BPR110 also provides for further registered bank-initiated call or redemption rights within the first five years in limited circumstances. These call or redemption rights are subject to prior written RBNZ consent.

Heartland Bank Limited | 0800 85 20 20 | PO Box 9919, Newmarket, Auckland 1149 | www.heartland.co.nz 4 at least 5 working days before the issue date of the new instrument. The move to a notification only process will remove some of the challenges and complexity of the non-objection process which have been identified by both the RBNZ and banks (e.g. delays to issuance due to processing time, non-objection provided by RBNZ on a nonassurance basis, with its rights reserved). Heartland understands from the Capital Workshop that notwithstanding the change from a non-objection to a notification process, the RBNZ remains willing to discuss principles of proposed new AT1 and Tier 2 capital instruments with New Zealand incorporated registered bank issuers, particularly in the early stages of the new capital regime. Heartland supports this approach, and submits that the publication of FAQs could be a useful tool for the RBNZ to consider should common questions arise. s 18(c)(i)

Heartland Bank Limited | 0800 85 20 20 | PO Box 9919, Newmarket, Auckland 1149 | www.heartland.co.nz 5 Questions If you would like to discuss any aspect of this submission further, please do not hesitate to contact me via the sender of this submission. Kind regards Bruce Irvine Chairman of Heartland Bank s 9(2)(a) s 18(c)(i)

Kiwibank Limited
31 March 2021
Cavan O’Connor-Close
Financial System Policy and Analysis Department Reserve Bank of New Zealand PO Box 2498 WELLINGTON 6011 By email:
Dear Cavan
Consultation: Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes Thank you for the opportunity to comment on the capital consultation material released in November 2020 which will implement the decisions previously announced by the Reserve Bank. We appreciate the extensive work that has been done on restructuring the Banking Supervision Handbook. Our comments are confined to matters of drafting and implementation and are set out in the attached
Appendix which responds to questions raised in the consultation material.
Kiwibank agrees with the comments raised at the recent Reserve Bank Capital workshop about the importance of allowing an opportunity for further changes to be made where the drafting of the Handbook has been carried through but where further guidance or re-wording would be beneficial. Some of the issues raised in our response fall into this category. If the Reserve Bank decides to extend the implementation period to 1 October 2021, as suggested by one of the banks at the Workshop, there may be sufficient time for the Reserve Bank to deal with the issues raised. However, it is important that there is a further opportunity for any remaining issues, and any that may arise subsequent to implementation, to be addressed after the Handbook is finalised. We note at page 4 of our response that Kiwibank, as a bank with a 30 June balance date, does not have a concern if the implementation date is moved from 1 July to 1 October 2021, provided the extension is only with respect to the initial commencement date for the rules to take effect. If you have any questions on this submission, please contact Simon Cole ( ) in the first instance. We would also be happy to meet with you to discuss our submission. Yours faithfully Paul Chambers Chief of Finance and Operations cc: Richard Wallace s 9(2)(a) s 9(2)(a) s 9(2)(a)

Kiwibank Limited
Responses to Questions:
We respond to the specific questions in the Consultation Paper as follows A. Are there any significant issues with the drafting of the BPRs that you would like to draw to the Reserve Bank’s attention? BPR 100 - Entities to be included in the Solo Ratio Calculation The requirement for a covered bond entity to be consolidated in the Solo calculation is now driven solely by the 100% owned and wholly funded tests in BPR 100.B2.4. Covered bond SPVs contain a guarantee of the bank’s obligations to the holders of the covered bonds issued by the bank. If the current requirement for covered bond SPVs to be consolidated into the Solo calculation is removed, then as an off-balance sheet obligation to a party other than the bank this would cause the wholly funded criteria to be failed. If the intent is for the covered bond SPVs to be excluded from the Solo calculation then the result is effectively a grossing up/double counting of exposures (and reduction in reported Solo capital ratios) as the registered bank’s solo exposures will consist of both the underlying residential mortgages (which remain on the bank’s balance sheet) as well as the funding loans it provided to the SPV to purchase the mortgages to provide security for the covered bond issuance made by the bank. While it isn’t a “clean” solution, we suggest that the wholly funded test be amended to make it clear that covered bond trusts are considered wholly funded by the bank. Another concern is with the application of the requirement that trade creditors may not exceed 5% of the subsidiary’s shareholders’ funds to securitisation entities such as “internal” residential mortgage backed security trusts. Securitisation entities have large balance sheets with extremely low levels of net assets/shareholders’ funds. As a result, where these entities accrue and pay their own costs (such as audit and trustee fees) the accrual for these can fluctuate above and below 5% of shareholders’ funds. Applying the rules as stated will create volatility in the solo ratio (via the same gross up/double counting issue as for covered bonds) which is not reflective of any substantive change in the bank’s position. We suggest that the wholly funded test be amended to require that trade creditors may not exceed the greater of 5% of shareholders’ funds or 1% of the subsidiary’s total assets. This would remove volatility in reported ratios while retaining the intent and substance of the wholly funded criteria. We note that there has been some concern raised about the use of the term “subsidiary” when referring to entities that are trusts. The definition in the Glossary also refers to “any entity that is classified as a subsidiary in any applicable financial reporting standard”. We interpret this as expanding the subsidiary concept to trusts (including the tests of control contained within IFRS 10) thereby preserving the alignment of regulatory and financial reporting.

Kiwibank Limited
BPR120.C2.2 Capital Redemptions
Where an existing AT1 or Tier 2 instrument is to be replaced, C2.2(2)(c)(i)(B) requires that the replacement instrument have “the same issue price per share (in the case of an AT1 instrument), or the same face value per note (in the case of a Tier 2 instrument)”. The reference to prices and face values seems unnecessary given the guidance is clear that “a replacement capital issue must have the same total value as the capital it replaces.” It is unclear why there would be a concern if a bank were to replace instruments with a $1 notional with ones with a $10 notional, provided the total amount on issue was the same? We suggest that C2.2(2)(c)(i)(B) be rewritten to refer to “having the same or greater regulatory value”. BPR131.B1.1 Credit Ratings The guidance for this paragraph states that “For residential mortgages, the risk-weighting categories take into account loan-to-value ratios (LVRs) at time of origination”. While the LVR at the time of origination determines the initial risk weighting, subsequent risk weights are derived using the formula in C3.5(1) which uses the current loan value divided by the property value at time of origination. We suggest that the underlined text in the B1.1 guidance be deleted to remove any inconsistency. BPR131.B1.4-1.5 Issue-Specific and Inferred Ratings B1.4 requires that where a bank has a claim on a borrower and the claim has an issue-specific credit rating from a rating agency, the bank must determine the rating grade for the claim using that issuespecific credit rating. B1.5(2) then states that if a borrower has a long-term issuer credit rating, the bank must treat any claim on the borrower falling within the scope of that rating as having the same credit rating. The scope of B1.4 is unclear – is it limited so that an issue-specific rating from a rating agency must be used instead of the issuer rating by that agency; or is it wide so that an issue-specific rating by an agency overrides issuer ratings from all other agencies (i.e. where other agencies haven’t issued their own issue-specific rating their issuer ratings should be ignored). We suggest that guidance be added to B1.4 to make it clear that the use of an issue-specific rating from one rating agency does not preclude the inclusion of issuer ratings from other rating agencies in determining the ultimate risk weighting to be applied under the B1.7. BPR 131/BPR 001 - Original maturity Original maturity is a clear concept for instruments that terminate (e.g. derivatives, bonds), but it is also applied for instruments with no specified end date (such as bank accounts, credit card and overdraft facilities) to determine the applicable Credit Conversion Factor to be applied in BPR 131.D2.2.

Kiwibank Limited
For instruments without a maturity date, should the original maturity be interpreted as >1 year (on the grounds that no maturity date exists), or is it the minimum period until the funds can be withdrawn or the facility can be cancelled? We suggest that a definition be added to the Glossary along the lines of:
Original Maturity is the time between the issue and maturity date of an instrument. For a loan the issue date is the date the loan is drawdown. For a derivative the issue date is the trade date. For an instrument with no specified end date – such as credit cards, overdraft or nonterm deposit accounts – the maturity date is the earliest date on which the bank can cancel the facility or withdraw its funds. BPR 132 – Collateral Currency Mismatch Collateralised exposures are typically made up of derivatives impacted by cash flows in a number of different currencies. The documentation that governs the collateral arrangements for the exposure details a “Base Currency” in which the overall exposure market value is to be calculated and this is used as the basis for the collateral call (noting that the allowable collateral may be cash in another currency or another form of value (e.g. a bond)). Currently it isn’t clear whether the collateral currency mismatch refers to the currency flows of the underlying derivatives or the base currency in which the exposure is measured. We suggest that guidance be added making clear that the currency of a collateralised exposure is the “Base Currency” as defined in the Credit Support Annex (or equivalent documentation) that governs the calculation of the exposure value and the subsequent amount of collateral to be posted. BPR 140 – Impact of increasing capital requirements on market risk capital requirement The existing (and proposed BPR140) market risk frameworks do not allow for the profiling of bank capital to be considered when calculating balance sheet interest rate risk. Because assets are greater than liabilities, this creates a risk position. We understand that such a profiling wasn’t included in the original Basel documents as their application was limited to trading books only (i.e. assets equalled liabilities). The asset to liability gap will be further increased as the capital reforms require banks to hold more capital (which in turn will create a higher market risk capital requirement). We suggest that the Reserve Bank allow banks to include a prescribed profiling of their shareholder’s equity in the balance sheet interest rate risk calculation. Reflecting the long-term nature of shareholders’ equity, we suggest that a Rate Insensitive Product (RIPs) profile would be appropriate. B. What would be the best way to present the new BPRs on the Reserve Bank’s website? The BPRs ought to be accessible as either PDFs or webpages with cross referencing links to glossaries and guidance.

Kiwibank Limited
C. What would be the best way to include guidance?
The best way to include guidance is probably determined by the extent of guidance that is to be offered. The levels of guidance in the draft BPRs is generally brief and as such works well using the shaded boxes – in fact having to refer somewhere else for short comments could be frustrating. Grouping guidance material at the back of each BPS (Option 2) is only necessary if, like APRA or IFRS Application Guidance, it is to be greatly expanded to include detailed background on rationales, intentions and how to implement requirements in specific situations. Separate companion documents (Option 3) are our least preferred option. D. Are the proposed distribution restrictions placed on banks whose capital is below full requirements appropriate? We have no concerns regarding the proposed distribution restrictions. E. Are the proposed restrictions on AT1 distributions appropriate? We have no concerns regarding the proposed distribution restrictions. F. Are the transitional provisions appropriate? Yes. Implementation Date At the seminar with the NZ Bankers Association members it was questioned whether there would be any impact or concerns if the implementation date was delayed to 1 October 2021 to make the updating and internal reporting of compliance with obligations registers easier for the banks with 30 September balance dates. As a bank with a 30 June balance date we have no concerns with this proposal provided it only applies to the initial commencement date for the new rules to take effect – any delay to subsequent dates (e.g. the introduction of dual reporting or the output floor on IRB exposures) would be most unwelcome. We hope that if the delay proceeds, that the additional time will be used to make industry suggested clarifications to the new requirements. G. Does the proposed Capital Buffer Response Framework (CBRF) as set out in BPR120 present a suitable way of responding to banks’ declining capital levels? Yes.

Kiwibank Limited
H. Is it sufficiently clear to provide appropriate guidance to banks?
The guidance could make clear whether the Reserve Bank will exercise its powers under sections 93, 94, and 95 of the Act to gather further information or to require external expert reports in its initial review and decision to accept or reject a capital restoration plan delivered in response to entering Stage 1 of the CBRF.
I. Are there any risks associated with the CBRF?
The key risk we see with the CBRF is around the expectations of it and the false sense of security it might create – the CBRF is designed to address a decline in capital in isolation, whereas a bank in such a situation is also likely to be highly exposed to a liquidity crisis which will have a more immediate and potentially devasting effect. K. Are the terms described in a clear and transparent way? Yes, though the terms should make it clear that the inclusion of interest rate floors in floating rate instruments to prevent a negative interest rate arising is acceptable. M. Do you support replacing the current non-objection process with the proposed ‘notification’ process? Yes. N. Is the purpose of the legal sign-off process clear? Yes. P. Does the proposed text of BPR110 accurately reflect the December 2019 policy decisions? Yes. Q. Do you support the inclusion of a dividend stopper feature in the requirements for an AT1 instrument? Yes. R. Are there any barriers to only allowing New Zealand law to govern AT1 and Tier 2 capital instruments? We agree that New Zealand law ought to govern AT1 capital instruments. However, we see no reason for such a restriction to also apply to Tier 2 instruments as these are simply subordinated debt instruments with standard terms and a well understood ranking in a gone-concern scenario. Because they are legal form equity, AT1 instruments will not be attractive for foreign investors as they will not be able to claim any imputation credits attached to them. Tier 2 instruments on the other hand could be sold to foreign investors, but the New Zealand law requirement will likely, in practice,

Kiwibank Limited prevent this. A result of which is that issuance by the Australian-owned majors could overwhelm domestic investors, crowding out demand for issuance by the New Zealand-owned banks. Glossary Option 3 (bolding or italicising terms whenever they appear) would be our preferred approach as it would remove the possibility of overlooking defined terms when “jumping into” a document rather than reading it from its start. Hyperlinks in the online version would suffice if pop-out boxes are technically more complex to implement and administer. Market Risk Is this how you have been calculating total interest rate exposure to date? (B1.1 Aggregating IR Capital across currencies) Yes. Does BPR 140 need to give guidance on what should be included? (B1.3 Unrecognised instruments) Yes, BPR140 should give guidance on the definition of recognised and unrecognised financial instruments, and what unrecognised instruments should be included. Furthermore, BPR140 does not explicitly specify treatment of recognised financial instruments (presumably covered under "other financial instruments"). Do you agree that “face or contract amount” is still a suitable valuation approach for such instruments? (Valuation of unrecognised instruments that are not derivatives) Yes, face or contract amount is a suitable measure for instruments such as these – which mostly comprise commitments. Do you agree that adopting the original Basel version of the valuation approach is an improvement? (Derivative face in calculation BPR 140.B1.3). The proposed requirements remain challenging and unclear for the following reasons:
We are unclear what the B1.3(3)(b) requirement for derivative face values to be “updated in line with the current market valuation of corresponding actual instruments” means in practice. Does it mean that swaps hedging items carried at fair value (such as liquidity books) should be included at their market value while those hedging items recorded at amortised cost (e.g. loans) should remain at their face value? If so, then this requires directly relating each derivative to a specific balance sheet item. Where risk from amortised cost and fair value positions is passed to a central interest rate risk management unit, aggregated and hedged to market at a bank level this will not be possible. Alternately, if the intent is that all derivatives should be adjusted for the changes in market value of all underlying actual instruments, then this increases the mismatch as derivative values will be updated for value changes while the non-derivative positions will remain at carrying value (the vast

Kiwibank Limited majority of which are at amortised cost). Further such an approach still faces the issue of differentiating between positions that are hedged with derivatives vs those that are hedged using offsetting balance sheet positions. The B1.3(3)(d) requirement for other financial instruments to be at the carrying amount of the instrument overlooks that carrying amounts are subject to a number of accounting adjustments that market risk systems will typically not have line of sight over – these include collective provisioning and fair value hedge accounting adjustments. To address these problems requires valuing both “non-option derivatives” and “other financial instruments” on the same basis, this could be:

Market value – but this is problematic due to the valuation issues it creates in terms of the credit
margins on banking book positions like mortgages and deposits (themselves highly subjective) vs hedging derivatives which have negligible credit risk – creating a mismatch.
Valuing off a swap curve only (i.e. exclude credit risk)
Valuing at notional/face value.
Of the above, our suggested approach would be to use notional/face amounts for all positions (both derivative and underlying). We believe that notional amounts are a fair representation of the benchmark interest rate exposure. Do you agree this is a problem? Can you suggest any amendment to the rule text or additional guidance to address the problem? (timing between debt issuance and derivatives) Yes, this can be a problem – the simplest solution would appear to be to provide guidance to BPR 140.B1.3(3)(a) that contractually committed but unsettled debt transactions are “unrecognised instruments” and so should be included as (offsetting) positions to the recognised derivative(s). What methodology does your bank currently use to calculate the capital requirement for interest rate risk on options? Does the BPR140 text accommodate your current approach? Given its limited options usage, Kiwibank includes options at face value. The BPR140 text accommodates our current approach, given that it allows banks to "determine separately the interest rate risk in a single currency arising from options using their own methodology ". Is there any need to keep this column and explanatory material? (B4.1) With the removal of the duration approach this could be removed. Do you use the standard approach specified in BS2A/B for calculating exposure to directional interest rate risk, in your capital ratio calculations? Yes

Kiwibank Limited
Would it help if we could also present this calculation in the form of mathematical formulae? (Horizontal disallowance) Yes, it would be helpful for those new to BRP140 and unfamiliar to BS2A/B, to present the Horizontal disallowance (yield curve risk) as a mathematical formula, and/or as a worked example as per BS6 / Basel Market Risk 1996. Are the recognised/ unrecognised categorisations out of date? Are these descriptions still applicable? (C1.2 FX Risk) Yes, these categorisations are out of date and inconsistent with the approach taken in B1.3 for interest rate risk. Is the option to use the “present value” approach useful / meaningful? (C1.3) Yes, it is useful to be able to use "present value" for reporting Currency Risk as an alternate measurement approach. The same concerns arise for currency risk as for the interest rate risk valuation mismatch issue. Unless both non-option derivatives and non-derivative financial instruments are valued on the same basis then a false risk position will be generated. We suggest that, as for interest rate risk, face or notional values (expressed in NZD) be used as the common basis for determining the existence of a currency risk position.

Submission to the capital review consultation paper of November 2020.
Dr. Martien Lubberink
Regarding the capital review consultation paper of November 2020, questions G, H, and I, it is perhaps worthwhile to reconsider the capital plans to incorporate lessons from the COVID-19 response. This against the background of similar initiatives of the Basel Committee and the Financial Stability Board.1 For example, there is evidence that higher buffers support lending, see BdE (2021), a study that shows that banks that limited dividend distributions, as a response to COVID19, extended significantly more credit. However, on the other hand, there is also evidence that banks are reluctant to use buffers, because of the risk of stigmatization: markets respond unfavourably to banks that dip into capital buffers. This risk could affect financial stability, i.e. prompt runs. Such risk could be mitigated, for example, by the adoption of a Pillar 2 framework that resembles the approach of the ECB where part of Pillar 2 is a publicly known requirement (P2R), and another part is a non-disclosed “guidance” buffer (P2G). In addition, the RBNZ could re-balance the proportions of capital to be held in the Countercyclical Buffer (1.5%) and the Conservation Buffer (5.5%). It is also important to clearly communicate expectations about how banks should rebuild used buffers. Hastily requiring banks to restore buffers, or ambiguous communication will make banks reluctant to use buffers – as it is known from empirical studies that lending suffers when banks face an increase of capital requirements (Gropp et al., 2018). Regarding the phase-out of existing non-common equity capital instruments, I could not find anything on infection risk, i.e. the risk that phased-out instruments that are not yet redeemed may lead to the disqualification of non-phased out instruments, but I leave that to you to address. Lastly, there are two specific consultation questions that attracted my attention: “R. Are there any barriers to only allowing New Zealand law to govern AT1 and Tier 2 capital instruments?” and “Q. Do you support the inclusion of a dividend stopper feature in the requirements for an AT1 instrument.” Reqarding question R: The rationale for limiting issuance to those governed by New Zealand law (complexity) does not really compel. It is common for AT1 and Tier 2 instruments to be governed by laws from other countries. In my dealings with issuers of these instruments, issuance under non-domestic laws offered additional flexibility without downsides. Reqarding question Q: No, I do not support dividend stoppers because they limit full flexibility of payments, they hinder recapitalization, and they allow banks to create expectations with respect to distributions that may harm retail investors in particular. 1See, for example the Letter from FSB Chair Randal K. Quarles to G20 Finance Ministers and Central Bank Governors dated 24 February 2021: www.fsb.org/wp-content/uploads/P250221.pdf

References
BdE (2021, March). Impact of the dividend distribution restriction on the flow of credit to non-financial corporations in Spain. https://www.bde.es/ bde/en/ secciones/informes/ boletines/ articulos-analit/. Gropp, R., T. Mosk, S. Ongena, and C. Wix (2018, 4). Banks Response to Higher Capital Requirements:
Evidence from a Quasi-Natural Experiment. Review of Financial Studies 32(1), 266–299.

s 9(2)(b)(ii) s 9(2)(b)(ii)

s 9(2)(b)(ii) s 9(2)(b)(ii) s 9(2)(b)(ii)

s 9(2)(b)(ii)

European Union - Capital Requirements Regulation (575/2013)
Article 27 Capital instruments of mutuals, cooperative societies, savings institutions or similar institutions in Common Equity Tier 1 items
1 . Common Equity Tier 1 items shall include any capital instrument issued by an institution under its statutory tenns provided that the following conditions are met: (a) the institution is of a type that is defined under applicable national law and which competent authorities consider to qualify as any of the following: (i) a mutual; (ii) a cooperative society; (iii) a savings institution; (iv) a similar institution; (v) a credit institution which is wholly owned by one of the institutions referred to in points (i) to (iv) and has approval from the relevant competent authority to make use of the provisions in this Article, provided that, and for as long as, 100 % of the ordinary shares in issue in the credit institution are held directly or indirectly by an institution referred to in those points; (b) the conditions laid down in Articles 28 or, where applicable, Article 29, are met. Those mutuals, cooperative societies or savings institutions recognised as such under applicable national law prior to 31 December 2012 shall continue to be classified as such for the purposes of this Part, provided that they continue to meet the criteria that detennined such recognition.
2. EBA shall develop draft regulatory technical standards to specify the conditions according to which competent authorities may determine that a type of
undertaking recognised under applicable national law qualifies as a mutual, cooperative society, savings institution or similar institution for the purposes of this
Part. EBA shall submit those draft regulatory technical standards to the Commission by 28 July 2013. Power is delegated to the Commission to adopt the
regulatory technical standards referred to in the first subparagraph in accordance with Articles 10 to 14 of Regulation (EU) No 1093/ 2010.
Article 28 Common Equity Tier 1 instruments

Capital instruments shall qualify as Common Equity Tier 1 instruments only if all the following conditions are met: (a) the instruments are issued directly by the
institution with the prior approval of the owners of the institution or, where permitted under applicable national law, the management body of the institution; (b) the instruments are paid up and their purchase is not funded directly or indirectly by the institution; (c) the instruments meet all the following conditions as regards their classification: (i) they qualify as capital within the meaning of Article 22 of Directive 86/635/EEC; L 321/42 Official Journal of the European Union EN 30.11.2013 (ii) they are classified as equity within the meaning of the applicable accounting framework; (iii) they are classified as equity capital for the purposes of detennining balance sheet insolvency, where applicable under national insolvency law; {d) the instruments are clearly and separately disclosed on the balance sheet in the financial statements of the institution; (e) the instruments are perpetual; (f) the principal amount of the instruments may not be reduced or repaid, except in either of the following cases: (i) the liquidation of the institution; (ii) discretionary repurchases of the instruments or other discretionary means of reducing capital, where the institution has received the prior permission of the competent authority in accordance with Article 77; (g) the provisions governing the instruments do not indicate expressly or implicitly that the principal amount of the instruments would or might be reduced or repaid other than in the liquidation of the institution, and the institution does not otherwise provide such an indication prior to or at issuance of the instruments, except in the case of instruments referred to in Article 27 where the refusal by the institution to redeem such instruments is prohibited under applicable national law; (h) the BF\61036475\2 I Page 24

NEW ZEALAND BANKERS ASSOCIATION
Level 15, 80 The Terrace, PO Box 3043, Wellington 6140, New Zealand TELEPHONE +64 4 802 3358 EMAIL nzba@nzba.org.nz WEB www.nzba.org.nz Submission to the Reserve Bank of New Zealand on the Exposure Draft for Capital Review Changes 31 March 2021

About NZBA

The New Zealand Bankers’ Association (NZBA) is the voice of the banking industry.
We work with our member banks on non-competitive issues to tell the industry’s story and develop and promote policy outcomes that deliver for New Zealanders.
The following seventeen registered banks in New Zealand are members of NZBA:

ANZ Bank New Zealand Limited
ASB Bank Limited
Bank of China (NZ) Limited
Bank of New Zealand
China Construction Bank
Citibank N.A.
The Co-operative Bank Limited
Heartland Bank Limited
The Hongkong and Shanghai Banking Corporation Limited
Industrial and Commercial Bank of China (New Zealand) Limited
JPMorgan Chase Bank N.A.
Kiwibank Limited
MUFG Bank Ltd
Rabobank New Zealand Limited
SBS Bank
TSB Bank Limited
Westpac New Zealand Limited
Introduction

NZBA welcomes the opportunity to provide feedback to the Reserve Bank (RBNZ) on
the Banking Prudential Requirements. NZBA commends the work that has gone into developing the BPR documents so far.
As the Capital Review applies only to banks that are incorporated in New Zealand, this
submission is made on behalf of those banks only.
If you would like to discuss any aspect of this submission, please contact:
Antony Buick-Constable
Deputy Chief Executive & General Counsel
Brittany Reddington
Associate Director – Policy & Legal Counsel s 9(2)(a) s 9(2)(a)

General
6. We are supportive of, and generally in agreement with, the BPR exposure drafts as set
out. We commend the Reserve Bank on the work done to revise the Banking Supervision Handbook and consider the BPR exposure drafts improve the clarity and accessibility of the documents.
7. As discussed at the recent Capital Workshop, there are areas where the drafting in the
Handbook has been carried forward that we consider would benefit from clarification or re-wording. Some of these will require more time to consider than the current timetable allows but we think it important that there is an opportunity for them to be addressed after these documents are finalised. We were encouraged to hear that the Reserve Bank is open to this. We provide some responses to your questions, and our comments on each document (as applicable) in turn. Responses to the Consultation Paper
8. Paragraph 26, Question C: We find the guidance boxes to be useful in most part and
accordingly our preference is Option 1.
9. Paragraph 124: In respect of the last sentence, we suggest that it would be useful if
these terms are also included in the Glossary for consistency.
10. Paragraph 128: We prefer Option 3 for ease of reference and clarity.
Comments: BPR100 – Capital adequacy
11. Entities to be included in the Solo Ratio Calculation: The “funded exclusively by the
bank” and “wholly owned by the bank” tests at B2.4 now appear to entirely determine whether funds management, securitisation or covered bond special purpose vehicles (SPVs) are required to be consolidated in the solo basis calculation. These SPVs will not satisfy the B2.4 tests and therefore will not be consolidated in the solo basis calculation with the current BPR100 wording. We request that the existing requirement for these SPVs to be aggregated and consolidated in the solo capital calculation should be carried forward into BPR100, or the BPR160 A2.1 consolidation requirements are broadened to also require these SPVs to be consolidated within the solo capital ‘entity’ in line with the banking group consolidation requirements.
12. Funded by trade creditors: B2.4(4)(c) provides that for a subsidiary to be considered
“funded exclusively by the bank”, liabilities to trade creditors cannot exceed 5% of the subsidiary’s shareholders’ funds. We are concerned as to how this may apply to 1 But we understand they must be consolidated for the purpose of calculating group capital ratios (along with internal RMBS trusts and other securitisation SPVs) under BPR160, A2.1(1)(b). This reflects the position at BS2B, 5.4. 2 BS2B, 5.4(b) and BS2A, 98(b).

internal RMBS trusts and covered bond SPVs. Internal RMBS and covered bond entities have large balance sheets with extremely low net assets/shareholders’ funds. Accordingly, where these entities accrue and pay their own costs (such as audit and trustee fees), the accrual of these liabilities may fluctuate above and below 5% of shareholders’ funds. Applying the rules as stated risks creating volatility in the solo ratio which would not be reflective of any substantive change in the bank’s position. We suggest that the wholly funded test be amended to require that trade creditors may not exceed the greater of 5% of the subsidiary’s shareholders’ funds and 1% of the subsidiary’s total assets. This would remove volatility in reported numbers while retaining the intent and substance of the wholly funded criteria. Comments: BPR110 – Capital definitions Additional Tier 1 capital
13. Consolidation: We agree with the consolidation of the relevant parts of BS2A and
BS2B so that Additional Tier 1 capital (“AT1”) is defined in the same document for the purposes of both the standardised and internal models based approaches.
14. New Zealand law: We consider that the new requirement for AT1 instruments and all
constituting documents to be governed by New Zealand law3 is sensible given that AT1 instruments are required to be legal-form equity under BPR110. However, in our view, this requirement risks presenting a significant impediment to offshore issuance if it was ever contemplated by our members.
15. Interest rate reset: We consider that the addition of a fixed rate being reset as a
circumstance that will not be considered an incentive to redeem4 provides valuable clarity. However, we suggest that the requirement that the reset rate be a “market rate” is not entirely appropriate;5 it may be more accurate to refer to the new, reset rate as a benchmark rate (being the same benchmark that has been used for a previous interest rate set or reset) plus a margin (which does not change). As fixed rates will be reset by reference to a benchmark rate and a fixed margin, a reset rate will not necessarily reflect market rates at the time of the reset.
16. Zero floor: We consider that BPR110 should also expressly permit a zero-floor to
apply:
(a) to a reset dividend rate, by providing that a zero-floor will not be considered to be a step-up in the margin or any other incentive to redeem; and 3 At D2.3(e). 4 At D2.6(4)(b). 5 At D2.6(4)(b)(i).

(b) to a benchmark rate (see above at 15), in order to maintain the margin to senior ranking deposits. Tier 2 capital
17. Consolidation: We also agree with the consolidation of the relevant parts of BS2A and
BS2B so that Tier 2 capital (“Tier 2”) is defined in the same document for the purposes of both the standardised and internal models based approaches.
18. New Zealand law: We consider that the requirement for Tier 2 instruments and all
constituting documents to be governed by New Zealand law is problematic in respect of banks’ offshore issuance capability, particularly if issuers sought to issue Tier 2 capital under existing US or Euro programmes. While we appreciate that the RBNZ may wish to minimise legal risk in relation to Tier 2 instruments (for example, in an insolvency situation), this requirement is expected to restrict investor demand for Tier 2 instruments. There is little to no reason for New Zealand law to be a requirement for Tier 2 capital6 (compared to AT1 capital), because Tier 2 instruments are not required to be legal-form equity. We suggest that the New Zealand law requirement not be implemented, and the status quo (which allows for “satisfactory equivalents” to New Zealand law to govern the terms of Tier 2 instruments) be retained. If retention of the status quo is not possible, we suggest adopting a hybrid governing law approach similar to that found in the Australian Prudential Standards,7 whereby both AT1 and Tier 2 instruments may be subject to the laws of other jurisdictions, except that the terms and conditions relating to non-viability conversion or write-off must be subject to the laws of Australia. In the context of the new BPR110 criteria, a hybrid approach in New Zealand might involve the loss absorbency features of Tier 2 instruments (for example, subordination) being governed by New Zealand law, with the instrument and its constituting documents being otherwise governed by the law of a different jurisdiction. We suggest that adopting this hybrid approach may mitigate the concerns that have led to the New Zealand law requirement as it currently stands, while preserving banks’ offshore issuance capability and the offshore marketability of regulatory capital instruments.
19. Interest rate reset: See our comments at paragraph 15 above. We consider that this
comment applies equally to Tier 2 capital.
20. Zero floor: We consider that BPR110 should also expressly permit a zero-floor to
apply:
(a) to a reset interest rate, by providing that a zero-floor will not be considered to be a step-up in the margin or any other incentive to redeem; and 6 At D3.3(1)(e). 7 Prudential Standard APS 111 Capital Adequacy: Measurement of Capital, cl 14 Attachment E and cl 13-14 Attachment H.

(b) to a benchmark rate (see above at 15), in order to maintain the margin to senior ranking deposits.
21. References to dividends: BPR110 refers only to “interest” in relation to Tier 2
instruments (BS2A/BS2B also referred to dividends). While this is consistent with the requirement for Tier 2 instruments to be subordinated debt, we consider that this will be an issue if a bank (for example, a co-operative or building society) sought to issue Tier 2 in equity format.8 Comments: BPR110 - Template Terms Sheets General comments
22. We question the usefulness of the proposed template terms sheets. Our reasons for
this are as follows:
(a) The RBNZ noted in a seminar with NZBA and our members that the template terms sheets are not compulsory. In our view, the wording at D2.2 strongly suggests that the terms sheets are compulsory. If the template terms sheets are retained, we suggest making it explicit that they are not compulsory. (b) Whether an instrument complies with BPR110 ultimately depends on the actual terms of the instrument, rather than the summary contained in the terms sheet. In order to meet the requirements of BPR110, the terms of the instrument (as set out in the governing document) will need to comply with the BPR110 requirements (as set out in D2 or D3 of BPR110). Submitting a terms sheet in the prescribed form will not ensure compliance with the requirements of BPR110, nor will it conclusively demonstrate to the RBNZ that the instrument complies (instead the RBNZ relies on a legal opinion from the issuer's lawyers to confirm this). (c) When making an offer of capital instruments, banks may typically prefer to use their own form of terms sheet to market the offer, rather than following the RBNZ template. As a result, the bank may need to produce two separate terms sheets (i.e. one for investors and one for the RBNZ) resulting in duplication and the potential for inconsistency. (d) The consultation paper cites standardisation as one of the reasons for introducing the template terms sheets. However, in our view, banks should be free to determine the terms of their capital instruments provided that they comply with BPR110. Further, there will necessarily be a degree of standardisation because all instruments must comply with the BPR110 requirements. 8 See: Financial Markets Conduct Act 2013, ss 8(1)(b)(iii) and 8(2)(b).

Given the points set out above, we consider that the template terms sheets may be of
little practical use, and risk creating unnecessary complications for banks. In our view, it would be preferable to take a similar approach to the one currently taken under BS16, where the bank completes a self-assessment detailing how the instrument complies with each of the eligibility criteria. This will give the RBNZ greater comfort that the instrument complies with the BPR110 requirements. It will also be more efficient, because the bank will have already gone through this self-assessment process internally in order to ensure compliance.
There is inconsistent use of the present and future tense throughout the terms sheets.
For example, in the AT1 terms sheet, the "Redemption at the option of the Issuer"
section says, "the PPS are perpetual…", whereas the "Payment of Distributions"
section says "Distributions will be scheduled to be paid…". We suggest using the
present tense throughout where appropriate.
Specific comments: AT1 terms sheet
Should the template terms sheet for AT1 be retained, our specific suggestions are set
out below.
Redemption at option of issuer: We suggest that the requirements in D2.5(3) (i.e. that
the tax/regulatory event could not reasonably have been anticipated and was not minor) are reflected here.
Payment conditions:
(a) This section provides that payment of distributions is subject to (among other things) the solvency condition being satisfied. Although a solvency condition is usually included in the terms of AT1 instruments, this is not a requirement under BPR110. It is possible that this was included to reflect the solvency requirement for distributions under s 52 of the Companies Act. However, this is not a prudential requirement, and in any case the solvency condition listed in the terms sheet is not the same as the requirement under s 52. Accordingly, we suggest this item is deleted. (b) This section also states that "no event of default arises if the Issuer fails to make a payment because the Issuer does not satisfy the solvency condition". This is not necessary as the next section (Non-cumulative Distributions) provides that non-payment of any Distributions will not constitute an event of default.
Set-off and offsetting rights: We query why this wording is in square brackets. It
reflects the requirement in D2.3(g), so presumably should not be optional.
Conversion or exchange: Conversion and exchange are not permitted for AT1
instruments, so this section will always read "not applicable". As such, we query whether it is required at all.
No guarantee: We suggest also including a "no security" section specifying that the
instrument is unsecured. This reflects the requirement in D2.3(f).
Governing law: This refers to the governing law of "all relevant transaction
documents". It should refer to "all constituting documents" for consistency with D2.3(e).
Selling restrictions: This is intended to address the requirement in D2.8(1).
However, we do not read D2.8(1) as requiring that the terms of the instrument contain a selling restriction preventing the bank or its controlled entities from purchasing, or funding the purchase of, the instrument. Instead, it provides that if this occurs, the instruments will not qualify as AT1 capital. This is a factual matter which is within the control of the bank, and does not need to be built into the terms. We note that there is already an equivalent requirement under BS2A/BS2B, and such a selling restriction has not been included in the terms of any previous capital instruments that we are aware of. Accordingly, we suggest this item is deleted. Specific comments: Tier 2 terms sheet
Should the template terms sheet for Tier 2 be retained, our specific suggestions are
set out below. In some respects, these comments replicate our comments in relation to the AT1 terms sheet above, and we have cross-referenced where possible.
No guarantee: Same comment as at 30 above – see D3.3(1)(c)(i).
Redemption at option of issuer: Same comment as at 26 above – see D3.5(3).
Redemption at the option of the Holder: This section currently provides that
"Holders have no ability to redeem the Notes before the Maturity Date other than in a dissolution or liquidation of the Issuer". Accelerating a debt and proving in the liquidation of an issuer is not strictly the same thing as redeeming the instrument. We therefore suggest deleting the italicised wording.
Set-off and offsetting rights: Same comment as at 28 above – see D3.3(1)(d).
Conversion or exchange: Same comment as at 29 above.
Selling restrictions: Same comment as at 32 above – see D3.9(2).
Comments: BPR120 – Capital adequacy process requirements
We generally support the new notification-only approach. However, it is important
to us that members retain the ability to engage with the RBNZ throughout this process to mitigate compliance risk relating to regulatory capital instruments.
Same face value or issue price: C2.2(1)(c)(i)(B) of BPR120 introduces a new
requirement that replacement instruments have the same issue price per share or

face value per note (as applicable). In the Guidance to C2.2, the RBNZ suggests that (2)(c)(i) requires replacement capital issues to have the same total value as the capital they replace. We doubt (2)(c)(i)(B) actually achieves this; instead, it seems to require that the face value or issue price of each individual instrument is the same as for the instrument it is replacing. In our view, a requirement explicitly addressing the aggregate capital value of a replacement instrument issue would be more appropriate.
42. Tax or regulatory event threshold: The guidance to C2.2 in BPR120, in relation to
tax and regulatory events, differs from the equivalent guidance under BS16. The equivalent guidance in BS16 provides that the RBNZ will not permit repayment of an instrument if the bank "could have anticipated" the tax or regulatory event at the time of issuance. The guidance in BPR120 provides that redemption will not be permitted if the bank "should have anticipated" the event. This wording also differs from the relevant requirements in BPR110, which use the expression "could reasonably have been anticipated" (see D2.5(3)(a) and D3.5(3)(a)). We suggest that the BPR120 guidance should be aligned with BPR110. Comments: BPR120 – Template legal sign-offs
Appendix 1 – Draft legal sign-off for AT1/Tier 2 instruments
43. NZBA provides the following comments on the draft legal sign-offs on the
understanding that these comments reflect the views of a leading legal firm in this area.
44. Paragraph 1: This paragraph contemplates the inclusion of the aggregate issue
price or face value of the instruments. This may not have been determined when the opinion is issued, so we suggest some flexibility is built in.
45. Paragraph 2:
(a) This paragraph and others refer to a terms sheet supplied in accordance with BPR110. As discussed in our comments on the template terms sheets in Part 1, we question the usefulness and suitability of those terms sheets. If terms sheets were not used (and therefore not referred to here), the signoff would still contain a confirmation that the terms of the instrument comply in all respects with the BPR110 requirements, which should provide sufficient comfort to the RBNZ. (b) The reference to the terms of the Capital Instruments being "prescribed" in certain documents seems strange to us. We query whether "set out" or "specified" would be more suitable. This expression is also used elsewhere in the sign-offs. (c) The reference to the "fully executed" copy of each Constituting Document may not always be suitable – e.g. a company constitution will be relevant for AT1 capital instruments, but is not typically signed.

Paragraph 3(a): This paragraph states that the law firm accepts responsibility to the
RBNZ for the confirmations and opinions given. Having spoken with external counsel, we would prefer it to also clarify that:
(a) the law firm has not acted for the RBNZ in relation to the issue of Capital Instruments; and (b) notwithstanding the provisions of the sign-off, the law firm reserves the right to represent and advise the Issuer (if instructed) in relation to any matters relating to the issue at any time in the future, and the fact that the law firm has provided the sign-off to the RBNZ will not be deemed to have caused any conflict of interest in relation to the giving of such advice.
Paragraph 3(c): This paragraph contains a confirmation that the Constituting
Documents are the only documents that prescribe the terms of the Capital Instruments. This is a factual matter rather than a legal one, and we do not think it is appropriate for external legal counsel to give this confirmation unqualified. If this confirmation is required, we suggest qualifying it to say "To the best of our knowledge, the Constituting Documents are the only documents that prescribe the terms of the Capital Instruments", or words to that effect.
Paragraph 4(d): This paragraph states that the relevant law firm's confirmations and
opinions do not extend to subsequent or amended versions of BPR110. We suggest clarifying that the opinions and confirmations are "based on the version of BPR110 in effect as at the date of this opinion, and do not extend to subsequent or amended versions of BPR110".
Appendix 2 – Draft legal sign-off for amendments to terms of AT1/Tier 2 instruments
Paragraph 2: Same comments as at 45 (b) and (c) above.
Paragraph 3(a): Same comment as at 46 above.
Paragraph 3(c): Same comment as at 47 above.
Paragraph 4(d): Same comment as at 48 above.
Comments: BPR130 – Credit Risk RWAs overview
Calculation of total credit risk RWAs by IRB banks: NZBA considers the proposed
calculation of IRB RWA from 1 January 2022 (with the introduction of the output floor) to 30 September 2022 contains a drafting error. The calculation during this transition period is inconsistent with the calculation that applies from 1 October 2022 (once both the output floor and scalar increase is implemented). As a result, IRB banks’ total RWA may be greater than that intended by the RBNZ from 1 January to 30 September 2022. To correct this inconsistency, the following change should be made to C1.4(3)(a):
3) On and after 1 January 2022 and on and before 30 September 2022, the
calculation is the sum of–

(a) the greater of–
(i) 1.06x the total RWAs calculated using the IRB approach on all credit exposures falling under subsection C1.2(1); and (ii) 0.85 x total standardised equivalent RWAs calculated in accordance with section C1.3; and (b) 1.06 x total RWAs calculated using the standardised approach on all credit and other exposures falling under section C1.2(2). Alternatively, we suggest that the timing of the standardised output floor should be deferred to 1 October 2022. Comments: BPR131 – Standardised credit risk RWAs
54. Credit ratings: The Guidance to B1.1 states that “For residential mortgages, the
risk-weighting categories take into account loan-to-value ratios (LVRs) at time of origination…”. While the LVR at the time of origination determines the initial risk weighting, subsequent risk weights are derived using the formula in C3.5(1) which uses the current loan value divided by the property value at time of origination. We suggest that the italicised text in the Guidance to B1.1 be updated to reflect the formula at C3.5(1), or deleted to remove any inconsistency.
55. Issue-specific and inferred credit ratings: B1.4 requires that where a bank has a
claim on a borrower and the claim has an issue-specific credit rating from a rating agency, the bank must determine the rating grade for the claim using that issuespecific credit rating. B1.5(2) then states that if a borrower has a long-term issuer credit rating, the bank must treat any claim on the borrower falling within the scope of that rating as having the same credit rating. The scope of B1.4 is unclear – is it limited so that an issue-specific rating from a rating agency must be used instead of the issuer rating by that agency, or is it so wide that an issue-specific rating by an agency overrides issuer ratings from all other agencies (i.e. where other agencies haven’t issued their own issue-specific rating, their issuer ratings should be ignored)? We suggest that guidance be added to B1.4 to clarify that the use of an issue-specific rating from one rating agency does not preclude the inclusion of issuer ratings from other rating agencies in determining the ultimate risk weighting to be applied under B1.7.
56. Multiple ratings: In relation to B1.7(2), it is unclear which credit rating must be used
if there are three or more credit ratings that apply to a particular claim that produce different rating grades and more than one risk weight. We suggest guidance would be valuable on this point in order to make clear that in this situation the bank must use the middle rating.
57. Original maturity: Original maturity is a clear concept for instruments that terminate
(for example, derivatives and bonds), but it is also applied for instruments with no specified end date (such as bank accounts, credit cards and overdraft facilities) to determine the applicable Credit Conversion Factor to be applied under BPR131.

For instruments without a maturity date, should the original maturity be interpreted as >1 year (on the basis that no maturity date exists), or is it the minimum period 9 At D2.2.

until the funds can be withdrawn or the facility can be cancelled? We suggest that a definition be added to the BPR001 Glossary along the lines of:
Original maturity is the time between the issue and maturity date of an instrument. For a loan, the issue date is the date the loan is first drawn down. For a derivative, the issue date is the trade date. For instruments with no specified end (such as credit cards, overdrafts, or non-term deposit accounts) the maturity date is the earliest date on which the bank can cancel the facility or withdraw its funds.
58. Claims on sovereigns and central banks: In our view, it may be useful to add
Guidance to C2.2 around the treatment of government entities, such as export guarantee offices, where those entities have implicit (rather than explicit) guarantees from the relevant government. The intent would seem to be to treat these as a sovereign risk in order to facilitate trade, but the risk weight treatment is not clear.
59. Past due non-mortgage loans: We request some guidance or clarification on
whether the 20% allowance for impairment at C2.12 includes both the collective provision on the past due loan where no specific or individual provision has been made (IFRS stage 3 collectively assessed) as well as the specific or individual provision (including suspended interest) for an impaired loan in IFRS stage 3 (individually assessed) or whether it only applies to the latter scenario. Our preference is the latter interpretation which is more consistent with the previous IAS 39 approach.
60. Definitions applying in relation to RMLs: We recommend that the Guidance to
owner-occupied residential property at C3.4 be improved as to the inclusion of “minimal” rental income. The reference to “minimal” rental income is subjective, and the existing Guidance does not cover instances such as properties that are periodically available on websites such as Airbnb where income estimates are unknown (or not able to be estimated), but the rental income could be substantial. We suggest that clarification in the Guidance as to what will constitute “minimal” rental income would be valuable. Furthermore, it would be useful if there was guidance regarding the meaning of the words “intends to occupy the property as a principal residence”. For example, if a purchaser intends to occupy a property as their residence, but due to an existing tenancy cannot move in immediately, it would be useful to have guidance regarding how long this position could continue before they are no longer considered to be owner-occupied (e.g. you would need to occupy the property within 12 months of purchase).
61. CCFs for off balance sheet exposures: We suggest that the Guidance to D2.2
should provide more clarification on the definitions of transaction types in Table D2.2. For example, there are more explicit descriptions of what will be a “commitment” in BIS and in other RBNZ papers such as the LVR and DTI guidance notes. We recommend that similar guidance is provided in this section or that references are provided to a common description, where is it intended that that description should be applied across multiple reports. In our view, this would remove uncertainty and improve consistency.

Comments: BPR132 – Credit Risk Mitigation
62. Currency mismatch adjustment: Collateralised exposures are typically made up of
derivatives impacted by cash flows in a number of different currencies. We suggest that some Guidance would be useful to illustrate how the currency mismatch adjustment rules are to be applied in practice, or otherwise make clear that the currency of a collateralised exposure is the Base Currency in the Credit Support
Annex (or equivalent documentation) that governs the calculation of the exposure
value and the subsequent amount of collateral to be posted. For example, in relation to the former (if the Base Currency is not considered the currency of the collateralised exposure):
(a) In terms of identifying a currency mismatch, where a bank measures and manages the FV of its collateralised exposures in NZD:
(i) If the bank has an NZD:USD FX derivative:
(aa) If the counterparty posts cash collateral in NZD, presumably this is same currency and no mismatch arises? (bb) If the counterparty posts cash collateral in USD, is this also same currency given USD is one of the legs of the derivative – or is there a mismatch because collateralised exposures are measured and managed in NZD? (ii) If the bank has an HKD interest rate swap (i.e. no NZD flows):
(aa) If the counterparty posts cash collateral in NZD, is there a currency mismatch – given collateralised exposures are managed in NZD? (b) If a collateralised counterparty exposure contains a mix of derivatives – some giving rise to a currency mismatch while others do not – how ought the portion of the collateral to be haircut be calculated? Comments: BPR140 – Market Risk
63. General comments:
(a) We have some concerns regarding the rewrite of the BS6 Market Risk policy and guidance into BPR140. In the context of RBNZ’s capital agenda, we would be keen to participate in an industry approach to emphasise the shortcomings of the current market risk capital requirements. Our specific concerns are set out at 64 below. (b) The exclusion of equity from the interest rate risk calculation is counter intuitive, as equity balances will be funding a proportion of a bank’s balance sheet assets, and excluding equity from the interest rate risk

calculation leaves a substantial structurally long position, resulting in a larger outright position than actually held. It is also the case that as a bank’s capital requirement is increased, the outright long position in the market risk capital model increases; even if the net asset position is unchanged (i.e. more of the assets are equity funded, with a corresponding liability funding reduction). Effectively, because equity is excluded, a bank’s capital requirement is increased; making the bank appear to be riskier from a market risk perspective, and, is contrary to the reason for holding more capital, which is to reduce risk. We suggest including Equity in the interest rate calculation along the lines of Basel/APRA and treating it similarly to Rate Insensitive Retail Products (i.e. with a risk-weight distributed over a number of time-bands), as this will more accurately represent a bank's Market Risk Capital exposure. We understand that such a profiling was not included in the original Basel documents as their application was limited to trading books only (i.e. assets equalled liabilities).
64. Specific comments:
(a) At A1.1, it would be valuable to expressly note the extent to which the Basel documents can be referenced for application purposes. (b) The extent to which treatment of derivatives (e.g. decomposition and netting) is applied to derivatives at B1.3(2) and B1.4 is incomplete. For example:
(i) with regards to decomposition, B1.4 makes reference only to interest rate swaps, forward rate agreements and compound/hybrid instruments. It does not provide guidance for other types of derivatives, such as futures or forward starting derivatives; and (ii) with regards to netting, B2 does not explicitly extend netting to decomposed derivatives. Consider a strip of forward rate agreements: with full netting applied: the residual principal exposure should be first and last principals in the strip. Under the existing B2 approach, netting is applied to the instrument only (as opposed to netting the decomposed instrument). This results in inflated values filtering into the basis risk calculation, thereby overstating (or understating) the total Interest Rate Risk. (c) We suggest that more granular time-bands be adopted. Currently, timebands under BPR140 are very wide and the steps between risk weights are large, leading to significant over/understatement of risk where cash flows do not coincide with the middle of the band (Table B4.1). Adopting more granular time-bands with small steps between risk weights could mitigate these large cliff effects, while still maintaining the existing zones. We consider that this is one opportunity to improve the relevance of the model without materially changing the methodology, given that RBNZ has

indicated the standard will remain in place for some time. We suggest adopting the BCBS time-bands, so that 13 time-bands would be provided instead of the existing 8:
(d) It is unclear whether the start-points and end-points of time-bands are included in the relevant time-band itself. For example, tables B3.3, B3.4, B4.1, and B6.1 all refer to bands of “more than 1 month but less than 6 months” and “more than 6 months but less than 1 year”. (e) As noted below at67(c), the introduction of the ‘carrying amount’ concept at B1.3(3)(d), C1.3(4) and D1.3(1)(e) is inconsistent with a principal repricing model. (f) The introduction of “updated in line with the current market valuation” at B1.3(3)(b) is inconsistent with a principal repricing model and confuses a principal repricing model with an internal discounted cash flow sensitivity model. (g) Guidance on how foreign currency contingent products (for example, off balance sheet contingent liability in foreign currency) should be treated in the foreign exchange risk calculation would be useful. Responses to questions: BPR140 – Market risk
65. Does BPR 140 need to give guidance on what should be included?10
Yes, BPR140 should give guidance on the definition of recognised and unrecognised financial instruments, and what unrecognised instruments should be included. 10 Reserve Bank of New Zealand “Changes to the Banking Supervision Handbook: Commentary on new document BPR140: Market Risk” at 6.

Furthermore, BPR140 does not explicitly specify treatment of recognised financial instruments (presumably covered under "other financial instruments").
66. Do you agree that “face or contract amount” is still a suitable valuation approach for
such instruments?11
Yes, face or contract amount is a suitable measure for instruments such as these.
67. Do you agree that adopting the original Basel version of the valuation approach is an
improvement?12
The proposed requirements remain challenging and unclear for the following reasons:
(a) In our view, it is unclear what the B1.3(3)(b) requirement for derivative face values to be “updated in line with the current market valuation of corresponding actual instruments” means in practice. Does it mean that swaps hedging items carried at fair value (such as liquidity books) should be included at their market value while those hedging items recorded at amortised cost (such as loans) should remain at their face value? If so, then this requires directly relating each derivative to a specific balance sheet item, where risk from amortised cost and fair value positions is passed to a central interest rate risk management unit, then aggregated and hedged to market at a bank level — this will not be possible. (b) Alternately, if the intent is that all derivatives should be adjusted for the changes in market value of all underlying actual instruments, then this increases the mismatch as derivative values will be updated for value changes while the non-derivative positions will remain at carrying value (the vast majority of which are at amortised cost). Furthermore, such an approach still faces the issue of differentiating between positions that are hedged with derivatives versus those that are hedged using offsetting balance sheet positions. (c) The B1.3(3)(d) requirement for other financial instruments to be at the carrying amount of the instrument overlooks that carrying amounts are subject to a number of accounting adjustments that market risk systems will typically not have visibility of – these include collective provisioning and fair value hedge accounting adjustments. (d) To address these problems requires valuing both “non-option derivatives” and “other financial instruments” on the same basis. We suggest that this basis could be:
(i) Market value. However, this approach is problematic due to the valuation issues it creates in terms of the credit margins on banking book positions like mortgages and deposits (which are not hedged by swaps) – creating a mismatch. 11 At 6. 12 At 6.

(ii) Valuing off a swap curve only (i.e. exclude credit risk).
(iii) Valuing at notional/face value.
Of the above, our suggested approach would be to use notional/face amounts for all positions (both derivative and underlying). We believe that notional amounts are a fair representation of the benchmark interest rate exposure.
68. Do you agree this is a problem? Can you suggest any amendment to the rule text or
additional guidance to address the problem?13
Yes, this can be a problem – in our view, the simplest solution would be to explicitly provide guidance to BPR 140.B1.3(3)(a) that contractually committed but unsettled debt transactions should be included as (offsetting) positions to the recognised derivative(s).
69. Would it help if we could also present this calculation in the form of mathematical
formulae?14
Yes, it would be helpful for those new to BPR140 and unfamiliar with BS2A and BS2B to present the horizontal disallowance (yield curve risk) as a mathematical formula, and as a worked example as per BS6 / Basel Market Risk 1996.
70. Are the recognised/unrecognised categorisations out of date? Are these descriptions
still applicable?15
Yes, these categorisations are out of date and inconsistent with the approach taken in B1.3 for interest rate risk.
71. Is the option to use the “present value” approach useful / meaningful?16
72. Yes, it is useful to be able to use present value for reporting currency risk. Present
value correctly represents exposure to currency risk.
Comments: BPR001 – Glossary
73. We agree with the purpose of a common Glossary. We have only minor specific
suggestions, as follows:
(a) Precious metal derivative: The cross-reference to “BS2B para 4.83(q)” should be “BS2B para 4.83(p)”. 13 At 7. 14 At 10. 15 At 10. 16 At 11.

(b) Rate insensitive asset, rate insensitive liability, rate-insensitive product:
The cross-reference to “section B1.3 of BPR140” should be “section A1.3 of BPR140”.
74. More generally, we note that various definitions in BPR001 cross-refer to other
documents that then cross-refer to other documents (for example, the definition of “Tier 1 capital” refers to the definition in the local OiC, which refers to BPR110). We suggest simply referring directly to the document that contains the actual definition. Comments: Amendments to Orders in Council
75. We consider that the proposed amendments to the disclosure Orders in Council are
largely consistent with the BPR documents. We have only minor comments.
76. Our comments on the disclosure Order in Council for locally incorporated banks are
as follows, by reference to page numbers:
(a) Page 4: Suggest defining BPR130, given it is referenced at page 63 (see comment (d) below). (b) Page 9: As with the Branches Order, the revised definition of "subsidiary" is broader than its predecessor; it encompasses the Companies Act definition and includes any entity that is classified as a subsidiary in any applicable financial reporting standard. (c) Pages 48 and 63 ("Equity holdings (not deducted from capital) traded on NZX50 or overseas equivalent"): As NZX50 is an index, not an exchange, equity securities cannot be traded on it. Suggest adopting the BPR132, B1.2(1)(d) definition:
a listed equity instrument that is included in the NZX 50 or an overseas equivalent share market index. (d) Page 63: The reference to BPR130 appears incorrect. We suggest it should read "BPR130: Credit Risk RWAs Overview", and that it should be defined at page 4.
77. Our comments on the disclosure Order in Council for branches are as follows:
(a) Page 7: The revised definition of "subsidiary" is broader than its predecessor; it encompasses the Companies Act definition and includes any entity that is classified as a subsidiary in any applicable financial reporting standard. (b) Pages 44, 45 and 50: References to "BPR140: Market Risk Exposure" should read "BPR140: Market Risk". Comments: Amendments to BS1 Principles
78. We have only minor comments on the proposed amendments to BS1, as follows:

(a) BPR documents should be referred to in a consistent manner. At present, the following references are all present on page 14:
(i) BPR 131 (Standardised Credit Risk RWAs);
(ii) BPR133: IRD Credit Risk RWAs; and
(iii) BPR100 “Capital Adequacy”.
(b) Page 50: In condition of registration 1C, we suggest that before the definitions of Additional Tier 1 capital instrument and Tier 2 capital instrument it is added “For the purposes of this condition of registration, — ”. (c) Page 52: “BPR151: AMA Operation Risk” should instead read “BPR151:
AMA Operational Risk”.

NZX Limited
Level 1, NZX Centre
11 Cable Street
Wellington 6140
New Zealand www.nzx.com
31 March 2021
Financial System Policy and Analysis Department Reserve Bank of New Zealand 2 The Terrace Wellington 6140 Aotearoa, New Zealand By e-mail only:
NZX Submission: Capital Review Exposure Draft Consultation

NZX Limited (NZX) is pleased to submit this response to the Reserve Bank of New
Zealand’s (RBNZ) consultation paper ‘Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes’ (Consultation Document).
We thank the RBNZ for the opportunity to make this submission and look forward to
contributing to the implementation of the revised capital adequacy regime for registered banks in Aotearoa, New Zealand. Nothing in this submission is confidential. About NZX
NZX is a licensed market operator and New Zealand’s exchange. NZX operates New
Zealand's securities, debt, funds, derivatives and electricity markets. NZX has approximately 200 listed issuers with a total market capitalisation of approximately $222 billion. NZX’s issuers include registered banks with equity securities quoted on the NZX Main Board and debt securities quoted on the NZX Debt Market. Consultation response
NZX supports the purpose of the RBNZ’s proposed changes to the banking
supervision handbook, of implementing additional banking capital requirements that provide a more resilient banking sector for New Zealanders.
While NZX does not have expertise in banking capital requirements and therefore
does not have a view as to the appropriate minimum level of regulatory capital for the banking system, NZX understands the importance of the banking sector to New Zealand’s economy. We comment below on matters raised in the Consultation Document that are relevant to the listing of AT1 and Tier 2 instruments on NZX’s markets.
D2.3(c) of the proposed ‘BPR110: Capital Definitions’ states that one of the criteria
which must be met for an instrument to qualify as AT1 capital, is that it must be structured as legal-form equity, reflecting the 2019 policy decision on which RBNZ has already consulted. We note that the RBNZ is working with the FMA to s 9(2)(a)

understand how these instruments would be considered under the FMC Act and how the relevant disclosure requirements in the FMC Regulations, would apply. We understand that the FMA intends to formally consult on these matters.
7. In this regard, NZX will need to consider whether it is appropriate for AT1 instruments
to be quoted on the NZX Main Board or NZX Debt Market. NZX currently has several hybrid instruments (in the form of cumulative preference shares and convertible notes) quoted on the NZX Main Board. These instruments fall within the FMC Act and Listing Rule definition of an Equity Security, even though they possess features of a debt instrument. NZX intends to work with the FMA, as the FMA consults on the treatment of AT1 instruments under the FMCA, to develop standards by which to determine whether AT1 instruments should be quoted on the NZX Main Board or NZX Debt Market.
8. D2.5(2) of the proposed ‘BPR110: Capital Definitions’ allows an AT1 instrument to be
callable or redeemable at the initiative of the registered bank after a minimum of five years, and allows for more than one such call or redemption. We support the RBNZ’s incorporation of these reset mechanisms, which will provide flexibility and optionality for banks to structure these instruments in a commercial manner that meets their capital structure requirements, while ensuring the features of the AT1 instruments are sufficiently robust from a capital adequacy perspective.
9. We note that the Consultation Document proposes a notification regime whereby
registered banks may notify the RBNZ of the issuance of an AT1 or Tier 2 instrument on the basis of a standardised legal opinion and the removal of the current nonobjection process. We agree that this process is likely to enable a more efficient mechanism for registered banks to issue capital instruments, while preserving the RBNZ’s ability to have oversight of an instrument’s adherence to the prescribed regulatory requirements.
10. We would like to thank the RBNZ for this opportunity to provide this submission. We
would welcome the opportunity to discuss any aspect of this submission with you. Yours faithfully, Kristin Brandon Head of Policy and Regulatory Affairs s 9(2)(a)

s 9(2)(a)

s 9(2)(a) s 9(2)(a)

Sent by email
31 March 2021
Cavan O’Connor-Close
Financial System Policy and Analysis Department Reserve Bank of New Zealand PO Box 2498 Wellington 6140 Changes to the Banking Supervision Handbook: Exposure Draft for Capital Review Changes Thank you for the opportunity to submit on your consultation. Our responses to your proposals are included below. Please note that we have not addressed all questions within the documents, instead focusing only on those areas that have a specific relevance to us. In addition, we note that as a member of the New Zealand Banker’s Association (NZBA), we also endorse the industry submission made by them. As a registered bank operating under a mutual building society structure, SBS Bank holds a rare position in the New Zealand banking industry, in particular that the bank’s owners are also our customers (referred to as members). This mutual ownership structure mandates that we operate in a way that ensures long-term sustainability and financial stability, whilst returning value to our members and their communities. Further, this operating model creates diversity, competition, and adds to the domestic capability within the banking and wider financial services sector including a strong regional focus. We would like to commend the capital review work to date, and we look forward to on-going engagement with the RBNZ that supports the implementation of a regulatory capital framework that makes the overall banking system safer and enables banks to weather economic volatility and maintain good, long-term customer outcomes. Drafting and presentation of the new Banking Prudential Requirements (BPRs) A. Are there any significant issues with the drafting of the BPRs that you would like to draw to the Reserve Bank’s attention? B. What would be the best way to present the new BPRs on the Reserve Bank’s website?
C. What would be the best way to include guidance?
We broadly support the proposed changes to the BPRs, particularly the clear separation of policy from guidance, and provision of a single glossary that covers all BPR documents. In terms of the presentation of guidance, we prefer option 1 whereby this is incorporated within boxes throughout the text and next to what it applies to with different formatting for ease of understanding. In terms of how to reflect glossary terms, we prefer option 3 whereby any glossary term is bolded or highlighted whenever these appear across other documents. BPR001: Glossary We note that the term “parent” that is currently used within BS2A and BS2B has been replaced with “holding company” that has a definition that references back to section 5 of the Companies Act 1993. We understand s 9(2)(a)

the rationale for standardising this reference but given there are many different corporate structures available, and that not all banks are currently structured in company form, we would strongly recommend using a more generic term throughout the glossary and BPRs, such as ‘entity’ rather than ‘company’, to avoid inadvertently excluding these entities from these and any related definitions. Term sheet templates for AT1 and Tier 2 capital D. Is the addition of template terms sheets in BPR110 useful? E. Are the terms described in a clear and transparent way? F. Are there additional components that should be added to the templates? We accept there are benefits to providing standardised term sheets within BPR110 and appreciate that the RBNZ has looked to accommodate banks structured as mutuals within the templates. We do note however the importance of banks having the flexibility to accommodate market, structural or other nuances into their capital instrument term sheets and therefore recommend that, if these are to be incorporated into the BPRs, their use should be optional and not compulsory. BPR110: Capital Definitions We acknowledge the changes made to date by the RBNZ within the regulatory capital framework to better accommodate banks such as ourselves that do not operate as companies, and we appreciate that the RBNZ recognises that there is still further work to do in this area. In particular we are supportive of the clarification around interpretation of “full voting rights” and we welcome on-going discussions with the RBNZ to ensure mutual entities are able to issue regulatory compliant T1 instruments going forward including incorporating new, or modifying existing, eligibility terms or adding guidance and clarification notes within the BPR documents where required. Additional Tier 1 (AT1) We do not have any further comments on the form of AT1 instruments as proposed which we believe should now work equally well for building societies. However, we would like to note the submission point that Nelson Building Society has made in respect of AT1 instruments, whereby if an AT1 instrument is the most subordinated instrument for a building society and is a perpetual instrument not subject to any right to be called at any stage and hence behaves more like common equity, that there should not be any limits to how much can be included in T1 capital (or at least higher limits on what can be included should be considered). This recognises that building societies, unlike companies, do not need to have any share capital. We support this submission and note that this would, of course, only be reasonable in circumstances whereby the AT1 instruments were subject to the same restrictions as common equity, notably in relation to suspension of dividends/dividend stopper obligations. Common Equity Tier 1 (CET1) Whilst the current consultation does not specifically address the inclusion of a regulatory compliant CET1 instrument for mutual entities, we are keen to
ensure that the opportunity to continue to engage with the RBNZ in this area is not lost so mutual entities, whom cannot currently issue ordinary shares that meet regulatory CET1 capital requirements, could do so in the future without needing to compromise their mutual status. We also reference the RBNZ’s previous in-principle decision to “keep open the option of including in the regime a tier 1 instrument able to be issued by banks as mutual societies” with this based on an

acknowledgement that restricting the ability of mutual banks to raise T1 capital will constrain their growth and put them at a disadvantage to banks structured under a standard company model. As per previous discussions and correspondence between ourselves and the RBNZ throughout 2018 and 2019, and based on international precedents, we believe it is possible to enable mutual building societies the ability to issue CET1 compliant capital instruments, and that this could be done with relatively minor changes to BPR110 and without creating regulatory complexity, nor compromising the overarching prudential basis for common equity. Specifically, we refer to our letter dated 9 July 2018 which the RBNZ responded to on 12 March 2019. This response confirmed the interpretation of full voting rights in the context of mutual entities (i.e. ‘one member, one vote’) as now incorporated into BPR110. This letter also included a technical summary which outlined three additional issues the RBNZ was keen to engage on at the time. SBS provided a subsequent response to these technical issues on 6 May 2019 and this included a legal opinion from Buddle Findlay (dated 30 April 2019). We would be happy to provide copies of this correspondence if required. The three issues previously raised related to the permissibility of the Building Societies Act 1965 (BSA) to issue permanent share capital, claims on residual assets, and distribution requirements. We continue to believe that all these issues are realistically able to be addressed as outlined below:
o we are comfortable from a legal perspective that the Building Societies Act is permissive in respect of capital and does not constrain building societies from issuing capital that meets the "permanence" requirement for common equity. Accordingly, we do not believe that any policy changes are required to the existing common equity or AT1 rules to include a different test of "permanence" for building societies. It should also be noted that SBS has made a recent change to its rules (February 2021) to explicitly allow for the issue of ordinary or perpetual shares. o the requirement for a claim on residual assets to be "proportional to the share of issued capital" can, and should still apply, where there is a shortfall in net residual assets of a building society. It is only in a situation where there is a surplus where SBS's rules require that surplus to be shared equally amongst all members. This does not prevent these instruments from absorbing losses proportionate to their share of issued capital. As such, we believe that the "proportionality" requirements could be modified so that these only apply to mutual societies to the extent residual assets are less than or equal to the amount paid up in respect of the instrument. We also reiterate the comments in our 6 May 2019 letter that the distribution of surplus assets should not be a prudential concern (given that, by definition, the bank will have been solvent at the time of the liquidation). We also note the comment we made in our letter of 9 July 2018 that such a modification to the policy is consistent with Basel III which expressly contemplates that criteria applying to mutuals can take into account their specific constitution and legal structure. o we agree that CET1 instruments should not include a payment mechanism that resembles an interest rate however, this should not prevent a board adopting a dividend policy to give guidance to shareholders (and indeed this is common for listed banks). We believe boards should be able to adopt policies relating, for example, to the distribution of a percentage of profits each year or, potentially more simply for a mutual, linked to an equity return/dividend yield for comparable banks during the period. The combination of a policy setting out the expected returns with the ability to cancel distributions altogether, would enable instruments issued by mutuals to absorb losses on a going concern basis to the same extent as common shares in a company. We do not believe that the overarching policy relating to common equity necessarily needs to change to reflect this, however we believe the addition of some minor clarification wording, that is specific to mutual entities, in respect of the distribution requirements, alongside some guidance notes, would be helpful to clarify this.

We welcome the opportunity to continue to work with the RBNZ, as part of this capital review implementation process, to enable a mutual CET1 capital instrument to be incorporated within the regulatory capital framework that will meet prudential requirements, work within the structure of the Building Society’s Act 1965, and be commercially viable. We understand that Nelson Building Society has also submitted on this matter and they have proposed some suggested amendments to BPR110, as well as guidance notes to ensure clarity, that would enable a mutual building society to issue a regulatory compliant CET1 capital instrument. We endorse their submission and proposals in this regard. We would also be happy to work alongside them moving forward on establishing a term sheet for a mutual CET1 instrument. If you have any questions or would like to discuss any of the items raised in this submission, please do not hesitate to contact either myself or Sonia Lawrence. Yours sincerely Tim Loan Chief Financial Officer Email:
cc: Shaun Drylie, Sonia Lawrence s 9(2)(a) s 9(2)(a)

Stuart and Richard,
Thank you again for meeting with our team on 24 March to discuss our queries on the Capital Review implementation consultation. We appreciate the additional time you have allowed for us to follow up on the points raised in the meeting in this email. Please note that, as discussed with Stuart, we contributed materially to (and support) the NZBA submission and, for this reason, WNZL has not submitted separately on the consultation. The following points are made in addition to those in the NZBA submission:
Governing law: we acknowledge the RBNZ’s position in respect of Tier 2 instruments and the desire to ensure simplicity and limiting of legal risk. However, as outlined in detail in paragraph 18 of the NZBA submission, we consider that the consider that the requirement for Tier 2 instruments and all constituting documents to be governed by NZ law may limit the marketability of these instruments, particularly if issuers sought to issue Tier 2 capital under existing US or Euro programmes. As requested by the RBNZ in the workshop, we have considered the particular contractual clauses which would present issues if governed by NZ law, and have raised this point with intermediaries. We agree with the NZBA submission that adopting this hybrid approach may mitigate the concerns that have led to the NZ law requirement as it currently stands, while preserving banks’ offshore issuance capability and the offshore marketability of regulatory capital instruments. Solo capital: as outlined in paragraph 11 of the NZBA submission, the “funded exclusively by the bank” and “wholly owned by the bank” tests at B2.4 now appear to entirely determine whether funds management, securitisation or covered bond special purpose vehicles are required to be consolidated in the solo basis calculation. We would be grateful for your clarification as to whether an equivalent of paragraph 5.4 of BS2B will be incorporated into BPR100. s 9(2)(a) s 18(c)(i)

Transitional provisions: it is currently proposed that on 1 July 2021 the derecognition transition period begins with 87.5% of current AT1 and Tier 2 being recognised (i.e. 12.5% haircut). We note that in the workshop hosted by the NZBA there was some difference in views from banks around the start date for the new rules. While WNZL is supportive of the earlier start date, other banks suggested that the start date could be delayed. To address the concerns, we wondered whether a grandfathering period would be helpful to allow banks to issue new compliant capital instruments over time, prior to calling the existing notes, to ensure an orderly transition and to avoid a scenario where all banks would issue notes at the same time. It may also remove the incentive to call notes simply because they become inefficient which, in turn, could have the effect of reducing overall capital in the banking system. A transitional period of three months would be helpful to address the different views on timing, however, a longer period may lower the risk of contemporaneous issuances. We also note that this risk would be further reduced if the instruments could be issued with hybrid governing law provisions as offshore markets are more likely to support multiple bank issuance. Regardless of timeframe for transition, WNZL is committed to maintaining prudent levels of capital whilst issuing new compliant instruments over time. We appreciate that the consultation period has now closed but we would be more than happy to discuss these points with you further if helpful. Please also let me know if you would like any further information. Kind regards, Stefania Stefania Esposito Regulatory Affairs Manager Regulatory Affairs & Corporate Legal Services We value working flexibly at Westpac. I work on Mondays, Tuesdays, Wednesdays and Fridays. You may also receive emails outside of business hours. Westpac New Zealand Limited Level 1SS, 16 Takutai Square, Auckland Central Auckland 1010 Save a tree, don't print! The contents of this email and any attachments are confidential and may be legally privileged. If you are not the intended recipient please advise the sender immediately and delete the email and attachments. Any use, dissemination, reproduction or distribution of this email and any attachments by anyone other than the intended recipient is prohibited. Classification: PROTECTED The contents of this email and any attachments are confidential and may be legally privileged. If you are not the intended recipient please advise the sender immediately and delete the email and attachments. Any use, dissemination, reproduction or distribution of this email and any attachments by anyone other than the intended recipient is prohibited. s 9(2)(a)

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