Circular Letter No. CC/2020/00000013

Circular Letter No. CC/2020/00000013
Sent to:
Credit Institutions.
Mod. 99999924/T – 01/14
Subject: Process for granting and restructuring credit to debtors or groups of debtors with increased risk

Dear Sirs,

Following the recent economic and financial crisis, the Portuguese financial system accumulated a very significant volume of non-performing assets, the reduction of which, through sales, renegotiations, and write-offs, has resulted in the recording of losses of high materiality.

Without prejudice to the effects of the crisis having strongly limited the borrowers' capacity to pay their debts, this accumulation of non-performing assets has highlighted – as indeed verified in several Member States of the euro area – the need for credit institutions to strengthen their internal decision-making mechanisms for granting credit and subsequent regular monitoring of the associated risk.

It is the responsibility of the management and supervisory bodies of credit institutions to define, apply, and monitor policies and procedures that ensure adequate and efficient risk management. In particular with regard to credit risk management, it is incumbent on the aforementioned bodies to ensure that such policies and procedures, among other objectives, allow for an adequate assessment of credit risk prior to the decision to grant credit, a periodic analysis of the borrowers' financial capacity to repay the granted loans, as well as to take decisions that allow them to maximize the recoverable value of granted credits in the event of defaults on agreed payment plans.

It should be noted, in this regard, the relevance of the Guidelines issued on credit risk management and internal governance by the European Banking Authority (including the Guidelines on the management of non-performing exposures and restructured exposures (EBA/GL/2018/06) and the Guidelines on internal governance (EBA/GL/2017/11)) and by the European Central Bank (including the Guidelines on non-performing loans addressed to credit institutions and the Guidelines on "Leveraged Transactions").

In this context and with regard to debtors or groups of debtors with increased risk, the Bank of Portugal considers it necessary for institutions to adopt additional criteria to strengthen the process of granting and restructuring credit, taking into account the credit risk underlying these operations.

Mod. 99999924/T – 01/14

Thus, it is recommended that the increase in risk towards debtors or groups of debtors with increased risk be subject to the approval of the institution's management body, in a plenary meeting, as well as that immediate notice be given to the supervisory body of the operations analyzed by the management body, regardless of their respective approval or rejection.

For the purposes of this Circular Letter, the following are understood:

1. "increase in risk": increase in exposure through the granting of new credit operations or the restructuring of existing operations that have, in the immediate or future, the provision of additional financing or reduction of credit risk mitigants (e.g., release of guarantees or elimination of contractual rights and safeguards).

2. "debtors or groups of debtors with increased risk": those who meet at least one of the following criteria:
   a) the credit institution has exposures to that debtor classified as non-performing exposures (NPE in English acronym), as defined in Article 47-A of Regulation (EU) No 575/2013 of the European Parliament and of the Council (CRR); or b) they have previously generated effectively material losses, for the credit institution, from debt forgiveness, credit write-down, sale to third parties at a discount, or similar measure.

Institutions may define internal policies with criteria and levels of materiality that are compatible with their size, business models, and risk appetite, it being recommended that these be approved by the respective management body after a prior opinion from the supervisory body. In concrete terms, institutions may define the level of materiality to be considered for the purposes of point 1, as well as the time horizon and level of materiality of effective losses incurred to be considered for the purposes of point 2.b).

Institutions send to the knowledge of the Bank of Portugal the internal policies approved following the recommendation contained in this Circular Letter, by June 30, 2020.