Agreement No. 9 (2020) Modifying Agreement No. 2-2020 on Credit Risk Measures

Republic of Panama
Banking Superintendence
AGREEMENT No. 009-2020
(September 11, 2020)

"Modifying Agreement No. 2-2020 through which additional, exceptional and temporary measures are established for compliance with the provisions contained in Agreement No. 4-2013 on credit risk"

THE BOARD OF DIRECTORS

In exercise of its legal powers, and

CONSIDERING:

That as a result of the issuance of Decree-Law No. 2 of February 22, 2008, the Executive Branch prepared a systematic ordering in the form of a single text of Decree-Law No. 9 of February 26, 1998 and all its modifications, which was approved through Executive Decree No. 52 of April 30, 2008, hereinafter the Banking Law;

That in accordance with paragraphs 1 and 3 of Article 5 of the Banking Law, the objectives of the Banking Superintendence are to ensure the solidity and efficiency of the banking system; as well as to promote public confidence in the banking system;

That paragraph 5 of Article 11 of the Banking Law provides within the technical attributions of the Board of Directors, the fixing in the administrative scope, the interpretation and the scope of legal or regulatory provisions in banking matters;

That through Agreement No. 4-2013 of May 28, 2013, provisions on management and administration of credit risk inherent to the credit portfolio and off-balance sheet operations are established;

That as a result of the outbreak of Coronavirus at the global level and, following the international recommendations of the World Health Organization and the Pan American Health Organization, the National Government through the Ministry of Health issued Executive Decree No. 64 of January 28, 2020, which adopts necessary measures that are indispensable and urgent, contained in the National Plan against the threat of the outbreak of the New Coronavirus (2019-nCoV); as well as extraordinary measures that are necessary to avoid the introduction and spread of this public health problem;

That in the face of the threat of an emergency situation in the territory due to the risk of spread of the coronavirus outbreak, the Cabinet Council through Cabinet Resolution No. 6 of January 28, 2020, declares the threat of high risk of spread of the outbreak of the New Coronavirus (2019-nCoV) in the national territory;

That subsequently, in order to expand Cabinet Resolution No. 6 of 2020 and double the surveillance measures to contain the epidemic, the Cabinet Council through Cabinet Resolution No. 10 of March 3, 2020 elevates the threat of spread of the outbreak of the New Coronavirus (2019-nCoV) in the national territory to very high and issues other provisions;

That this situation of health threat of the New Coronavirus (2019-nCoV) at the global level has affected collateral to different sectors of the economy, within which the financial sector is included, so it is necessary to protect the financial stability of the Panamanian banking system;

That the Banking Superintendence issued Agreement No. 2-2020 of March 16, 2020, which establishes additional, exceptional and temporary measures for compliance with the provisions contained in Agreement No. 4-2013, which allows banks to modify the originally agreed conditions of corporate and consumer loans, in order to provide economic relief to clients whose payment capacity is affected by the situation caused by COVID-19;

That through Law No. 156 of June 30, 2020, economic and financial measures are issued to counteract the effects of COVID-19 in the Republic of Panama to those persons whose employment contract has been suspended or terminated, to independent workers and to merchants whose activity has been affected by the measures established by the National Government;

That Article 2 of Law No. 156 of 2020 establishes a moratorium until December 31, 2020 on loans granted by banks, cooperatives and financial institutions to natural or legal persons economically affected by the COVID-19 pandemic;

That the Banking Superintendence issued Agreement No. 7-2020 of July 14, 2020, through which Article 4 of Agreement No. 2-2020 is modified, in order to extend until December 31, 2020 the period for banks to evaluate credits affected by the COVID-19 situation and make the corresponding modifications. Likewise, it is established that these credits will maintain the risk classification registered at the entry into force of Agreement No. 2-2020, until this Superintendence establishes the classification criteria and determination of provisions that will be applied to modified credits;

That in attention to the impact suffered by the credit portfolio as a consequence of the crisis caused by the COVID-19 pandemic and, in order to maintain the transparency of the current status of these credits, it is necessary to establish a methodology for the evaluation, classification and requirement of provisions of modified credits that adjusts to the new existing reality and allows adequate administration of credit risk;

That given the implications generated by the COVID-19 pandemic for the financial statements of banking entities and considering the present health situation, it is appropriate that the use of accounting treatment in accordance with International Financial Reporting Standards (IFRS) be applied complementarily with prudential norms that allow having a qualitative and quantitative valuation and visualization of the expected loss of the credit portfolio impacted by COVID-19 within the system;

That International Financial Reporting Standard (IFRS) 7 titled "Financial Instruments: Disclosures", obliges banks to comply with the objective of disclosing information that allows users to evaluate, among others, the nature and scope of risks arising from financial instruments to which the entity is exposed, as well as the way of managing them;

That considering that the disclosure of information referred to in IFRS 7 is essential for stakeholders to understand the current and potential effects of the modified credit portfolio with respect to the financial solidity of the bank, this Superintendence considers it convenient to emphasize to banking entities the obligation to disclose this circumstance in the notes to the annual audited financial statements;

That in working sessions of this Board of Directors, the need and convenience of modifying Agreement No. 2-2020 has been brought to light, in order to establish, among other aspects, the treatment that modified credits will have and define the constitution of the corresponding provisions that allow protecting the interest of depositors and preserving financial stability.

AGREES:

ARTICLE 1. Paragraph 3 of Article 2 of Agreement 2-2020 is hereby amended as follows:

[Text of Article 2, Paragraph 3 omitted in source but implied by context of modification]

ARTICLE 2. CHARACTERISTICS OF MODIFIED LOANS. In order to allow the debtor adequate attention of their obligation in the face of potential or real deterioration of the possibility of payment, in front of the crisis occasioned by COVID-19, banking entities may modify the originally agreed conditions of credits without these adjustments being considered as a restructuring of credits as provided in Agreement No. 4-2013. These modifications may be made at the request of the debtor or by initiative of the banking entity.

These credits will have the following characteristics:

1. The new terms and conditions must attend to criteria of financial viability taking into account the debtor's payment capacity and the bank's credit policies.
2. They will be subject to special monitoring by the banking entity.
3. Credits that are in the modified category must follow the parameters established in Article 4-A of this Agreement.

ARTICLE 2. Paragraph 4 of Article 3 of Agreement 2-2020 is hereby amended as follows:

ARTICLE 3. RULES RELATIVE TO MODIFIED CREDITS. The modifications of credits as provided in this Agreement, must not become a generalized practice to regularize the behavior of the credit portfolio. Additionally, banking entities must ensure to apply the following rules:

1. Loans classified as normal and special mention, as well as restructured loans that are not overdue, may be modified in accordance with the guidelines established in this Agreement.
2. Modified credits during the period in which the exceptional and temporary measures are in force must be clearly identified by banking entities, for the purpose of being widely monitored by the Banking Superintendence.
3. During the validity of the exceptional and temporary measures, banking entities will endeavor, when agreeing on the terms and conditions of the modified loan (mainly regarding terms and interest), to take into consideration the current macroeconomic situation through which the country is passing.
4. The modification of credits will be exempt from the application of charges and commissions by the banking entity, with the exception of legal, notarial and registry expenses paid to third parties and agreed insurance premiums (mortgage insurance, fraud and others). In cases where the bank assumes these excepted charges, the banking entity may capitalize them.
5. The modification of credits will be exempt from the requirement of updating the appraisal.
6. The banking entity will establish specific policies and procedures for the management and follow-up of modification requests of the conditions of these credits in accordance with the previously described criteria.
7. The modification date will be considered that on which the debtor has accepted the modifications by any means or modality (including, without implying any limitation, electronic means, tacit acceptance, presumed acceptance by silence, etc.) and, from that date, the bank may consider the loan as a modified credit for the purposes of this Agreement and Agreement No. 4-2013.

ARTICLE 3. Article 4 of Agreement No. 2-2020 is hereby amended as follows:

ARTICLE 4. EVALUATION PERIOD FOR GRANTING MODIFIED LOANS. Banking entities will have until December 31, 2020 to reevaluate credits from those debtors whose cash flow and payment capacity have been affected by the COVID-19 situation and who at the original moment of their modification presented a delay of up to 90 days.

Likewise, banks may make modifications to those credits that have not been previously modified, whose cash flow and payment capacity have been affected by the COVID-19 situation and that do not present a delay of more than 90 days.

Such credits may be subject to review of their terms and conditions, for which the bank may agree and/or grant grace periods ensuring to maintain the credit classification in accordance with what is provided in Article 4-A of this Agreement, maintaining the provision accounted for at the moment of its modification.

In the case of modified restructured loans that were in the special mention category, they will be classified in accordance with Article 4-A. Modified restructured loans that were in the subnormal, doubtful or uncollectible category will maintain the credit classification they had at the moment of their modification with their respective provision.

ARTICLE 4. Article 4-A is added to Agreement No. 2-2020, as follows:

ARTICLE 4-A. CLASSIFICATION CATEGORY OF MODIFIED CREDITS. For the purposes of determining the provisions that will be applied to modified credits, banks will classify the portfolio of loans to individuals and corporate loans and other loans under a new risk category called "Special Mention Modified", which is defined below:

SPECIAL MENTION MODIFIED
Credits classified within this category will comprise the entire credit portfolio that has been modified, as a consequence of the economic crisis caused by the COVID-19 pandemic.

Banking entities, when classifying their portfolio for the purposes of calculating IFRS provisions, must take into consideration, among others, the following aspects:

1. For the portfolio of loans to individuals, clients affected due to suspension or termination of contracts, reduction of their working hours with salary decrease, or due to decrease in cash flow or other source of payment when it comes to independents classified within the portfolio of loans to individuals or consumer.
2. For the portfolio of corporate loans and other loans, clients whose general state of their business has been affected by adverse situations that have impacted the economic sector in which they operate and whose operating cash flow tends to weaken due to uncertain expectations about economic conditions.

PARAGRAPH: For adequate administration of credit risk which includes the process of follow-up of the behavior of loans identified as modified credits and classified within the present category, banking entities must ensure to maintain a record that evidences the different modifications made to the same credit. Likewise, they must identify if the debtor's condition is due to a temporary credit or liquidity situation.

ARTICLE 5. Article 4-B is added to Agreement No. 2-2020, as follows:

ARTICLE 4-B. CLASSIFICATION CATEGORIES OF CREDITS BENEFICIARY OF WHAT IS ESTABLISHED IN LAW No. 156 OF 2020 (MORATORIUM LAW). Loans classified in normal and special mention category of those debtors who have adhered to what is provided in Law No. 156 of June 30, 2020 which issues economic and financial measures to counteract the effects of COVID-19 in the Republic of Panama, will be included in the special mention modified category to which Article 4-A of this Agreement refers.

In the case of debtors who have adhered to what is provided in Law No. 156 of 2020 and whose loans were classified in the subnormal, doubtful or uncollectible categories, they will maintain the same credit classification, as established in Agreement No. 4-2013.

ARTICLE 6. Article 4-C is added to Agreement No. 2-2020, as follows:

ARTICLE 4-C. GENERAL CONDITIONS TO RESTORE IN ACCORDANCE WITH AGREEMENT No. 4-2013 THE MODIFIED CREDITS AND THE CREDITS BENEFICIARY OF LAW No. 156 OF 2020. For the restoration of the application of Agreement No. 4-2013 to the modified credit portfolio according to Agreement No. 2-2020 and Law No. 156 of 2020, banks will follow the following parameters:

1. Those credits of clients on which banking entities made modifications in accordance with the parameters established in this Agreement and whose debtors, from September 21, 2020, are in compliance with the originally agreed terms and conditions, the provisions established in Agreement No. 4-2013 on Credit Risk will be applicable to them.
   Likewise, the bank must exclude them from the category of modified credits and any change to the terms and conditions will be governed by Agreement No. 4-2013. In these cases, what is provided in the first paragraph of Article 4 of this Agreement will not be applicable, that is, this credit cannot be modified again.
2. Those credits of clients that, by March 31, 2021, have complied with their modified payment conditions, and remain up to date during the first quarter of 2021, may be restored to the normal category, in accordance with the application of Agreement No. 4-2013, from April 1, 2021.
3. Those credits of clients that, by March 31, 2021, have partially complied with their payment conditions, original or modified, during the first quarter of 2021, will remain in the special mention modified classification for the following three months (April, May and June); after which, Agreement No. 4-2013 will be applicable to them, in accordance with the days of delinquency elapsed since the last payment made.
4. Those credits of clients that, by June 30, 2021, have failed to comply with their payment conditions, original or modified, the provisions of Agreement No. 4-2013 will be applicable to them and they must be classified in the corresponding category, according to the days of delinquency that such credits maintain, from January 1, 2021.
5. Those restructured credits on which the bank has made modification of their terms and conditions and that in March 2021 are up to date in their payments, will maintain the classification in which they were at the moment of their modification. Likewise, they will maintain the provisions that had already been constituted.
6. Those credits classified in normal and special mention of debtors who adhered to Law No. 156 of 2020, the guidelines established in paragraphs 2, 3 and 4 of this article will be applicable to them, as appropriate.
7. Those credits classified in subnormal, doubtful or uncollectible of debtors who adhered to Law No. 156 of 2020, the bank must ensure to maintain their risk classification and from January 1, 2021 continue with the application of Agreement No. 4-2013, regarding their displacement, constitution of provisions and write-off of operations.

ARTICLE 7. Article 4-D is added to Agreement No. 2-2020, as follows:

ARTICLE 4-D. PROVISION REQUIREMENT FOR THE SPECIAL MENTION MODIFIED CATEGORY. For the coverage of credit risk, banks must constitute provisions on the portfolio of modified credits classified in the "Special Mention Modified" category, ensuring to comply with International Financial Reporting Standards (IFRS) and the prudential norms established in this article.

For such purposes, banks will constitute a provision equivalent to the higher value between the IFRS provision of the special mention modified portfolio and a generic provision equivalent to three percent (3%) of the gross balance of the modified loan portfolio, including accrued uncollected interest and capitalized expenses; modified credits guaranteed with pledged deposits in the same bank may be excluded from this calculation up to the guaranteed amount. For this, the following scenarios will be considered:

1. In cases where the IFRS provision is equal to or higher than the 3% generic provision established in this article, the bank will account for the corresponding IFRS provision in the year's results.
2. In cases where the IFRS provision is lower than the 3% generic provision established in this article, the bank will account for said IFRS provision in results and the difference must be registered in results or in a regulatory reserve in equity, taking into consideration the following aspects:
   a. When the IFRS provision is equal to or higher than 1.5%, the bank must account for said IFRS provision in the income statement. Likewise, the difference to complete the 3% of the generic provision established in this article must be registered in a regulatory reserve in equity. b. When the IFRS provision is lower than 1.5%, the bank must ensure to complete this percentage and register it in the income statement. Likewise, the difference to complete the 3% of the generic provision established in this article must be registered in a regulatory reserve in equity.

All of the above, without prejudice to the faculty that the Superintendence has to modify the provision percentages and the form and opportunity to reverse generic provisions and regulatory reserves, based on new circumstances derived from COVID-19.

PARAGRAPH 1. Although banks are obliged to use IFRS in the preparation of accounting records and the presentation of financial statements as provided in Agreement No. 6-2012, exceptionally and only for those banks where there is an excess of generic provision over the IFRS provision as indicated in paragraph 2, letter b, of this article and that difference is material, they will temporarily use the accounting basis, as follows: "International Financial Reporting Standards as they have been modified by prudential regulations related to the provisions of the special mention modified portfolio, issued by the Banking Superintendence of Panama for supervisory purposes".

PARAGRAPH 2. In the case indicated in paragraph 2 of this article, the excess of generic provision to be registered in equity will be accounted for in a regulatory reserve that is credited with charge to the retained earnings account. For the purposes of calculating the capital adequacy index, limits of concentration in a single debtor or related parties and any other prudential relationship, the balance of the regulatory reserve will not be considered as regulatory capital funds.

ARTICLE 8. Article 4-E is added to Agreement No. 2-2020, as follows:

ARTICLE 4-E. DISCLOSURES IN ANNUAL AUDITED FINANCIAL STATEMENTS. For purposes of preparation and presentation of annual audited financial statements, banks must ensure to disclose in the notes to the financial statements qualitative and quantitative information on credits classified in the special mention modified category and its impact on the determination of the provision for expected losses, as well as on the current and future cash flows of the bank.

The notes must disclose at least the following information:

1. Amount of loans in the special mention modified category.
2. Characteristics of these modifications, risks to which the bank is exposed and their effect on the bank's cash flows.
3. Method of determination of significant increase in risk, amounts classified in stage 1, 2 or 3 of IFRS and amount of provision for each of the stages.
4. Risk management of this portfolio if not included in another note to the financial statements.

ARTICLE 9. Article 4-F is added to Agreement No. 2-2020, as follows:

ARTICLE 4-F. OPERATIONS OF SUBSIDIARIES OF FINANCIAL NATURE ABROAD. In the case of banking entities that maintain subsidiaries of a financial nature established abroad, for consolidation purposes,