20 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.3.3.5.2  Minimum of 28.5 per  cent of Capital Charge for Market Risk to be
met by eligible core capital that is not Required for Credit Risk
 (WBRC 1 1.2.2.5.2.0)
 A minimum of about 28½ per cent of market risk needs to be supported
by eligible core capital that is available to support market risk.
 (i) Limit
  (WBRC 11.2.2.5.2.1)
  Limit is computed under condition at 6.2.2.8.2 ( i) above. The
amount must agree to item 6.3.3.2.2 *28.5%
  (WBRC 1 1.2.2.2.2.0*28.5%)
 (ii) Amount Utilised
  (WBRC 1 1.2.2.5.2.2)
  Minimum utilised amount should be equal to above limit.
6.3.3.5.3  Maximum of 250 per cent of eligible core capital that is not
Required for Credit and Operational Risks
 (WBRC 1 1.2.2.5.3.0)
 T ier III capital will be limited to 250 per cent of a bank's eligible core
capital that is available to support market risk after meeting credit risk
and operational risk.
 (i) Limit
  (WBRC 11.2.2.5.3.1)
  Limit is computed under condition at 6.2.2.8.2 (ii) above. The
amount must agree to item 6.3.3.4 *250%
  (WBRC 1 1.2.2.4.0.0*250%)
 (ii) Amount Utilised
  (WBRC 1 1.2.2.5.3.2)
  The utilized amount is computed automatically .
6.3.3.6  Eligible Tier III Capital
 (WBRC 1 1.2.2.6.0.0)
 Eligible Tier III capital for market risk is computed as follows.
6.3.3.6.1  Eligible Tier III Capital utilised
 (WBRC 1 1.2.2.6.1.0)
 T otal capital charge for market risk (6.3.3.2.2) less eligible core
capital utilized for market risk [6.3.3.5.2 ( ii)]
 (WBRC 1 1.2.2.2.2.0 - 11.2.2.5.2.2)
6.3.3.6.2  Eligible but Unutilized Tier III Capital
 The approved short-term subordinated debt (6.3.3.5.1) less eligible
Tier III capital utilized (6.3.3.6.1).
 (11.2.2.5.1.0 - 11.2.2.6.1.0)


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  21
6.4 Part III ( a) – Computation of Risk-weighted Amount for Credit Risk
6.4.1  General Rules for  Measuring Credit Risk Based on the Standardised Approach
(SA)
6.4.1.1  Un der the SA, the rating assigned by the eligible external credit assessment
institutions (ECAIs) will largely support the measure of credit risk. Banks
may rely upon the ratings assigned by the ECAIs recognised by CBSL (See
paragraph 6.4.2) for assigning risk weights for capital adequacy purposes as per
the mapping furnished in these guidelines.
6.4.1.2  The risk weighting of claims will be as described in paragraphs 6.4.3 (under
specific rules for measuring credit risk).
6.4.1.3  Claims (exposures) on a counterpart would include placements with banks,
investments, loans and advances or any other credit exposure.
6.4.1.4  On-balance sheet claims (exposures) would be risk weighted applying the
risk weight as given in paragraphs 6.4.3 while off-balance sheet items would
continue to be converted to credit equivalents using the credit conversion factors
given in paragraph 6.5 and thereafter risk weighted according to the risk weight
applicable to the counterpart.
6.4.1.5  All exposures should be risk-weighted net of specific provisions and interest in
suspense that has been charged to the respective customer account.
6.4.2  External Credit Assessments
6.4.2.1  Recognition of Eligible Cr edit Rating Agencies
6.4.2.1.1  T he Revised Capital Adequacy Framework requires recognizing
ECAIs and developing a mapping process to assign the ratings issued
by eligible credit rating agencies to the risk weights available under
the Standardised Approach. In accordance with the principles laid
down in the revised framework, CBSL has identified the following
two credit rating agencies operating in Sri Lanka for the purposes of
risk weighting claims by banks for capital adequacy purposes:


risk weighting claims by banks for capital adequacy purposes:
 (i) Fitch Ratings Lanka Ltd. and
 (ii) Lanka Rating Agency Ltd.
6.4.2.1.2  The following internationally recognized credit ratings agencies are
also accepted as ECAIs.
 (i) Moody’ s
 (ii) Standard and Poor ’s and
 (iii) Fitch Ratings
6.4.2.1.3  Banks are required to obtain the prior approval of CBSL  for the use of
other ECAIs.
6.4.2.2  Scope of Application of External Ratings
6.4.2.2.1  Banks should use the chosen ECAIs and their ratings consistently
for each type of claim, for both risk weighting and risk management
purposes. Banks will not be allowed to “cherry pick” the assessments
provided by different ECAIs.
6.4.2.2.2  Banks shall not use one ECAI’s rating for one exposure, while
using another ECAI’s rating for another exposure to the same


22 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
counterpart, unless the respective exposures are rated by only one of
the chosen ECAIs, whose ratings the bank has decided to use. External
assessments for one entity within a corporate group cannot be used to
risk weight other entities within the same group.
6.4.2.3  Mapping Pr ocess
6.4.2.3.1  T he ratings issued by the eligible ECAIs have been mapped to the
appropriate risk weights applicable as per the Standardised Approach
under the Revised Framework. The rating risk weight - mapping
furnished in the tables below shall be adopted by all banks:
Table 1
Mapping of Notations of the Credit Rating Agencies in Sri Lanka
Fitch Ratings Lanka Lanka Rating AgencyRating Scale
of CAR
AA(sri) AAA AAA
AA+(sri) AA1 AA+
AA(sri) AA2 AA
AA-(sri) AA3 AA-
A+(sri) A1 A+
A(sri) A2 A
A-(sri) A3 A-
BBB+(sri) BBB1 BBB+
BBB(sri) BBB2 BBB
BBB-(sri) BBB3 BBB-
BB+(sri) BB1 BB+
BB(sri) BB2 BB
BB-(sri) BB3 BB-
B+(sri) B1 B+
B(sri) B2 B
B-(sri) & Lower B3 & Lower B- & Lower


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  23
Table 2
Mapping of Notations of the International Credit Rating Agencies
Standard and
Poor’sMoody’s Fitch Ratings Rating Scale of
CAR
AAA Aaa AAA AAA
AA+ Aa1 AA+ AA+
AA Aa2 AA AA
AA- Aa3 AA- AA-
A+ A1 A+ A+
A A2 A A
A- A3 A- A-
BBB+ Baa1 BBB+ BBB+
BBB Baa2 BBB BBB
BBB- Baa3 BBB- BBB-
BB+ Ba1 BB+ BB+
BB Ba2 BB BB
BB- Ba3 BB- BB-
B+ B1 B+ B+
B B2 B B
B- & Lower B3 & Lower B- & Lower B- & Lower
Table 3
Mapping of Short Term Ratings
Short term ratingsRisk
weightsLanka Rating
AgencyStandard and
Poor’sMoody’sFitch
Ratings
L - 1 A - 1+/A - 1 P - 1 F1+/ F1 20%
L - 2 A - 2+/A - 2 P - 2 F2 50%
L - 3 A - 3+/A - 3 P - 3 F3 100%
NP Below A - 3 NP Below F3 150%
6.4.2.4  Short-T erm Ratings
6.4.2.4.1  Short-term assessments may only be used for short-term claims
against banks and corporates.
6.4.2.4.2  Fo r risk-weighting purposes, short-term ratings are deemed to be
issue specific. They can only be used to derive risk weights for claims
arising from the rated facility. They cannot be generalised to other
short-term claims. In no event can a short-term rating be used to
support a risk weight for an unrated long-term claim.
6.4.2.4.3  If a short-term rated facility attracts a 50 per cent risk weight, unrated
short-term claims cannot attract a risk weight lower than 100 per cent.
If an issuer has a short-term facility with an assessment that warrants
a risk weight of 150 per cent, all unrated claims, whether long term or


24 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
short term, should also receive a 150 per cent risk weight, unless the
bank uses recognized CRM techniques for such claims.
6.4.2.4.4  The above risk weight mapping of both long term and short-term
ratings of the chosen domestic rating agencies would be reviewed
annually by CBSL.
6.4.2.5  Use of Unsolicited Ratings
 A  rating would be treated as solicited only if the issuer of the instrument has requested
the credit rating agency for the rating and has accepted the rating assigned by the agency.
As a general rule, banks should use only solicited rating from the chosen ECAIs.
No ratings issued by the credit rating agencies on an unsolicited basis should be
considered for risk weight Computation as per the Standardised Approach.
6.4.2.6  Issuer versus Issues Assessment
 Where a bank’s exposure is to a particular issue that has an issue-specific
assessment, the risk weight of the claim will be based on this assessment.
6.4.2.7  Use of Multiple Rating Assessments
 Banks shall be guided by the following in respect of exposures/obligors having
multiple ratings from the eligible ECAIs chosen by the bank for the purpose of
risk weight Computation:
6.4.2.7.1  If there is only one rating by an eligible credit rating agency for a
particular claim, that rating would be used to determine the risk weight
of the claim.
6.4.2.7.2  If there are two ratings accorded by eligible credit rating agencies,
which map into different risk weights, the higher risk weight should
be applied.
6.4.2.7.3  If there are three or more ratings accorded by eligible credit rating
agencies with different risk weights, the ratings corresponding to the
two lowest risk weights should be referred to and the higher of those
two risk weights should be applied, i.e., the second lowest risk weight.
6.4.3  Specific Rules for  Measuring Credit Risk Based on the Standardised Approach (SA)


6.4.3  Specific Rules for  Measuring Credit Risk Based on the Standardised Approach (SA)
6.4.3.1  T otal Risk-weighted amount for Credit Risk
 (BRC 1 1.3.1.0.0.0)
 The amount must agree to sum of total amount of on-balance sheet items and
total amount of credit equivalent items (from 6.4.3.1.1 to 6.4.3.1.14) after
applying the specific risk weight assigned.
 (WBRC 11.3.1.1.0.0 to11.3.1.14.0.0)
6.4.3.1.1  Claims on Government of Sri Lanka and Central Bank of Sri
Lanka
 (WBRC 1 1.3.1.1.0.0)
 All claims on Government of Sri Lanka and Central Bank of Sri Lanka are
risk-weighted at zero per cent . The amount must agree to sum of items
(i) and (ii)
 (WBRC 1 1.3.1.1.1.0 to 11.3.1.1.2.0)


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  25
 (i) Claims on Government of Sri Lanka
  (WBRC 1 1.3.1.1.1.0)
  All claims on Government of Sri Lanka are risk-weighted at 0%.
 (ii) Claims on Central Bank of Sri Lanka
  (WBRC 1 1.3.1.1.2.0)
  All claims on Central Bank of Sri Lanka are risk-weighted at 0%.
6.4.3.1.2  Claims on For eign Sovereigns and their Central Banks
 (WBRC 1 1.3.1.2.0.0)
 Exposures on foreign sovereigns and their central banks will attract
risk weights as per the rating assigned to those sovereigns/sovereign
exposures by international rating agencies as given in the table below.
The amount must agree to sum of following items from (i) to (vi).
 (WBRC 1 1.3.1.2.1.0 to 11.3.1.2.6.0)
Table 4
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.2.1.0 AAA to AA- 0%
(ii) 11.3.1.2.2.0 A+ to A- 20%
(iii) 11.3.1.2.3.0 BBB+ to BBB- 50%
(iv) 11.3.1.2.4.0 BB+ to B 100%
(v) 11.3.1.2.5.0 Below B- 150%
(vi) 11.3.1.2.6.0 Unrated 100%
6.4.3.1.3  Claims on Public Sector  Entities (PSEs)
 (WBRC 1 1.3.1.3.0.0)
 All performing claims on domestic public sector entities (including
public corporations, statutory boards, provincial authorities, local
government bodies, etc.) and claims on foreign PSEs will be risk
weighted in a manner similar to claims on corporates  as given in the
table below. The amount must agree to sum of following items from
(i) to (v ).
 (WBRC 1 1.3.1.3.1.0 to 11.3.1.2.5.0)
Table 5
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.3.1.0 AAA to AA 20%
(ii) 11.3.1.3.2.0 A+ to A- 50%
(iii) 11.3.1.3.3.0 BBB+ to BB- 100%
(iv) 11.3.1.3.4.0 Below BB- 150%
(v) 11.3.1.3.5.0 Unrated 100%


26 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.4.3.1.4  Claims on Official Entities and Multilateral Development Banks
(MDBs)
 (WBRC 1 1.3.1.4.0.0)
 The amount must agree with the sum of the following items from ( i)
to (iii ).
 (WBRC 1 1.3.1.4.1.0 to 11.3.1.4.6.0)
 (i) Exposures on following official entities will be assigned zero
risk weight:
 (a) Bank for International Settlements (BIS)
 (b) International Monetary Fund (IMF)
 (c) European Central Bank (ECB)
 (d) European Community (EC)
 (ii) The following Eligible MDBs  will be assigned a zero risk
weight:
 (a) The World Bank Group comprising of the International
Bank for Reconstruction and Development (IBRD) and the
International Finance Corporation (IFC)
 (b) The Asian Development Bank (ADB)
 (c) The African Development Bank (AFDB)
 (d) The European Bank for Reconstruction and Development
(EBRD)
 (e) The Inter -American Development Bank (IADB)
 (f) The European Investment Bank (EIB)
 (g) The European Investment Fund (EIF)
 (h) The Nordic Investment Bank (NIB)
 (i) The Caribbean Development Bank (CDB)
 (j) The Islamic Development Bank (IDB)
 (k) The Council of Europe Development Bank (CEDB)
 (l) The International Finance Facility for Immunization (IFFIm)
 (iii) The risk weight applicable to claims on other MDBs will depend
on the external rating  assigned for each MDBs as follows:
Table 6
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.4.1.0 BIS,IMF and MDBs 0%
(ii) 11.3.1.4.2.0 AAA to AA- 20%
(iii) 11.3.1.4.3.0 A+ to BBB- 50%
(iv) 11.3.1.4.4.0 BB+ to B- 100%
(v) 11.3.1.4.5.0 Below B- 150%
(vi) 11.3.1.4.6.0 Unrated 100%


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  27
6.4.3.1.5  Claims on Banks
 (WBRC 1 1.3.1.5.0.0 )
 Total performing claims on banks denominated in LKR and foreign
currency. The amount must agree to sum of total rupee claims and
foreign currency claims.
 (WBRC 1 1.3.1.5.1.0 + 11.3.1.5.2.0 + 11.3.1.5.3.0)
 Short-Term Claims: In order to qualify for the preferential treatment
for short-term claims, they should have an original contractual
maturity of 3 months or less, and should not be rolled over.
 Branches of banks incorporated abroad: The rating applicable to
the Head Office may be used as the rating applicable to the particular
branch, if the branch is not rated locally.
 (i) Claims on Banks: Rupee Exposures less than 3 months
  (WBRC 1 1.3.1.5.1.0)
  All performing claims  on all banks (short-term) including
LCBs and LSBs, excluding investment in equity shares and other
instruments eligible for capital status, denominated in LKR
would be risk weighted based on their external credit assessment
as follows:
  The amount must agree with the sum of the following items from
(i) to (iv).
  (WBRC 1 1.3.1.5.1.1 to 11.3.1.5.1.4)
Table 7
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.5.1.1 AAA to BBB- 20%
(ii) 11.3.1.5.1.2 BB+ to B- 50%
(iii) 11.3.1.5.1.3 Below B- 150%
(iv) 11.3.1.5.1.4 Unrated 100%
 (ii) Claims on Banks: Foreign Currency Exposures less than 3
months
  (WBRC 1 1.3.1.5.2.0)
  All performing claims  denominated in foreign currency  on
banks (short-term) will be risk weighted based on their external
credit assessment as given in the table below.
  The amount must agree with the sum of the following items from
(i) to (v ).
  (WBRC 1 1.3.1.5.2.1 to 11.3.1.5.2.5)


28 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Table 8
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.5.2.1 AAA to A- 20%
(ii) 11.3.1.5.2.2 BBB+ to BBB- 50%
(iii) 11.3.1.5.2.3 BB+ to B- 100%
(iv) 11.3.1.5.2.4 Below B- 150%
(v) 11.3.1.5.2.5 Unrated 100%
 (iii) Claims on Banks: Rupee and Foreign Currency Exposures
more than 3 months
  (WBRC 1 1.3.1.5.3.0)
  All performing claims  denominated in rupee and foreign
currency on banks (more than 3 months) will be risk weighted
based on their external credit assessment as given in the table
below.
  The amount must agree with the sum of the following items from
(i) to (v ).
  (WBRC 1 1.3.1.5.3.1 to 11.3.1.5.3.5)
Table 9
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.5.3.1 AAA to AA- 20%
(ii) 11.3.1.5.3.2 A+ to BBB- 50%
(iii) 11.3.1.5.3.3 BB+ to B- 100%
(iv) 11.3.1.5.3.4 Below B- 150%
(v) 11.3.1.5.3.5 Unrated 100%
6.4.3.1.6  Claims on Financial Institutions
 (WBRC 1 1.3.1.6.0.0)
 Total performing claims on non-bank financial institutions. However,
investment in equity shares and other instruments eligible for capital
status in the financial institutions are stated in paragraph 6.2.3 and
6.2.4 should be excluded from here.
 (WBRC 1 1.3.1.6.1.0 + 11.3.1.6.2.0)
 (i) Claims on Primary Dealers/Finance Companies/Specialised
Leasing Companies
  (WBRC 1 1.3.1.6.1.0)
  All performing claims  on following institutions.
  Primary Dealers:  Registered under the Local Treasury Bills
Ordinance (Primary Dealers), Regulations No.1 of 2002.
  Finance Companies: Registered under the Finance Companies
Act, No.78 of 1988, as amended.
  Specialised Leasing Companies: Registered under the Finance
Leasing Act, No.56 of 2000.


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  29
  The amount must agree with the sum of the following items from
(i) to (v ).
  (WBRC 1 1.3.1.6.1.1 to 11.3.1.6.1.5)
Table 10
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.6.1.1 AAA to AA- 20%
(ii) 11.3.1.6.1.2 A+ to BBB- 50%
(iii) 11.3.1.6.1.3 BB+ to B- 100%
(iv) 11.3.1.6.1.4 Below B- 150%
(v) 11.3.1.6.1.5 Unrated 100%
 (ii) Claims on Other Financial Institutions
  (WBRC 1 1.3.1.6.2.0)
  All performing claims  on other financial institutions.
  The amount must agree with the sum of the following items from
(i) to (v ).
  (WBRC 1 1.3.1.6.2.1 to 11.3.1.6.2.5)
Table 11
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.6.2.1 AAA to AA- 20%
(ii) 11.3.1.6.2.2 A+ to A- 50%
(iii) 11.3.1.6.2.3 BBB+ to BB- 100%
(iv) 11.3.1.6.2.4 Below BB- 150%
(v) 11.3.1.6.2.5 Unrated 100%
6.4.3.1.7  Claims on Corporates
 (WBRC 1 1.3.1.7.0.0)
 All performing claims  on corporates shall be risk weighted as per the
ratings assigned.
 Banks can, with prior approval of CBSL, exercise the option to rate all
corporate customers at 100 per cent. Once decided and approved by
CBSL the banks should apply a single consistent approach.
 The amount must agree with the sum of the following items from
(i) to (v ).
 (WBRC 1 1.3.1.7.1.0 to 11.3.1.7.5.0)
Table 12
Item WBRC Credit Assessment Risk Weight
(i) 11.3.1.7.1.0 AAA to AA- 20%
(ii) 11.3.1.7.2.0 A+ to A- 50%
(iii) 11.3.1.7.3.0 BBB+ to BB- 100%
(iv) 11.3.1.7.4.0 Below BB- 150%
(v) 11.3.1.7.5.0 Unrated 100%


30 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.4.3.1.8  Retail Claims
 (WBRC 1 1.3.1.8.0.0)
 All performing retail claims include:  Retail claims that qualify for
regulatory capital purposes and retail claims that do not qualify for
regulatory capital purposes.
 However, the following shall be excluded from the retail portfolio:
 (a) Investments in securities such as bonds and equities (to be treated
as investments).
 (b) Residential housing loans secured by mortgages over the residential
property that qualify for inclusion as claims secured by residential
property (refer WBRC 1.3.1.9.0.0).
 The amount must agree with the sum of the retail claims that qualify
for regulatory capital purposes and retail claims that do not qualify  for
regulatory capital purposes.
 (WBRC 1 1.3.1.8.1.0 to 11.3.1.8.2.0)
 (i) Retail claims that qualify for regulatory capital purposes
  (WBRC 1 1.3.1.8.1.0 )
  Performing claims  that meet the criteria given below qualify for
inclusion in the regulatory retail portfolio. All such exposures
qualify for a 75 per cent risk weight.
  The qualifying criteria for the Regulatory Retail Portfolio
(applicable to both the retail and SME portfolios):
 (a) Orientation Criterion  – The exposure should be to an
individual  person or persons or to a SME.
 (b) Product Criterion – The exposure should be of one of the
following product types. Both fund based and non-fund
based facilities to be included:
• Revolving credit and lines of credit including overdrafts
and credit cards
• Personal term loans and leases ( e.g., installment loans,
vehicle loans and leases, student and educational loans,
personal finance)
• SME facilities.
 (c) Granularity Criterion  – The regulatory retail portfolio must
be sufficiently diversified to a degree that reduces the risks
in the portfolio. In order to meet this criterion,
•  No aggregate exposure without considering CRM, to


•  No aggregate exposure without considering CRM, to
one counterpart  should exceed 0.2 per cent of the overall
retail portfolio (excluding any non-performing retail/
SME claims).
• “T o one counterpart” means one or several entities that
constitute a single beneficiary, e.g.: in the case of a small
business affiliated to another small business, the limit
would apply to the bank’s aggregate exposure on both
businesses.


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  31
 (d) Low value of Individual Exposures –
• Individual Exposures:  The maximum aggregate retail
exposure (not taking any CRM into account) to one
counterpart cannot exceed:
–  the lower of 0.4 per cent of capital base  (as included
in the computation as at the reporting date) or Rs.10
million  at the time of first granting.
– This criterion will be applicable for a period of 3 years
from adoption.
– From 01.01.201 1, the criterion would be the lower of
0.2 per cent or Rs.10 million.
• SME Exposures:
–  The maximum exposure in the case of SME loans
would be Rs.35 million at the time of first granting.
– In order to qualify as an SME, the firm’s annual
turnover should not be more than Rs.140 million.
– The annual turnover should be based on the latest
available audited financial statements at the time of
granting the facilities.
– If audited financial statements are not available, the
draft accounts may be used. However, the audited
financial statements should be obtained during the
year.
– The quali fying criteria is given above should be
reviewed in respect of each financial year.
 (ii) Retail claims that do not qualify for regulatory capital purposes
  (WBRC 1 1.3.1.8.2.0 )
  Cl aims that not qualify for inclusion in the regulatory retail
portfolio:
  Performing claims  that do not meet  the criteria given above do not
qualify for inclusion in the regulatory retail portfolio. All such
exposures qualify for a 100 per cent risk weight.
6.4.3.1.9  Claims Secur ed by Residential Property
 (WBRC 1 1.3.1.9.0.0)
 All performing  claims secured by residential property  include:
Claims that qualify for regulatory capital purposes and claims that do
not qualify for regulatory capital purposes.
 However , the exposures secured by mortgages on commercial real
estates shall be excluded from here.
 The amount must agree with the sum of the claims secured by


estates shall be excluded from here.
 The amount must agree with the sum of the claims secured by
residential property  that qualify  for regulatory capital purposes
and claims secured by residential property  that do not qualify  for
regulatory capital purposes.
 (WBRC 1 1.3.1.9.1.0 to 11.3.1.9.2.0)


32 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
 (i) Claims that qualify for regulatory capital purposes
  (WBRC 1 1.3.1.9.1.0)
 (a) Subject to conditions below, residential housing loans fully
secured by a primary mortgage  over such residential
property that is or will be occupied by the borrower, or
rented, qualify for a risk weight of 50 per cent .
  The claims should strictly meet the following qualifying
criteria to be able to use the preferential risk weight
– A  margin of at least 25 per cent on the value of the
property based on the latest valuation report
– Valuation of property:  valuation of property is carried
out by an external independent valuer or current internal
assessment of the value of the properties subject to the
conditions stated in the Directions on Classification of
Advances and Specific Provisions issued under Banking
Act.
 (b) Mortgages other than primary mortgages  will qualify for the
same risk weight, subject to the above conditions, if:
– The mortgage is with the same bank
– The purpose of the loan is for residential purposes.
 (ii) Claims that do not qualify for regulatory capital purposes
  (WBRC 1 1.3.1.9.2.0)
  Performing claims  that do not meet  the criteria given above do not
qualify for inclusion in the regulatory residential portfolio. All
such exposures qualify for a 100 per cent risk weight.
6.4.3.1.10  Claims Secur ed by Commercial Real Estate
 (WBRC 1 1.3.1.10.0.0)
 Commercial real estate exposure is defined as exposures secured by
mortgages on commercial real estate  (office buildings, multi-purpose
or multi-tenanted commercial premises, multi-family residential
buildings, industrial or warehouse space, hotels, land acquisition, land
development and construction).
 Commercial real estate exposures, as defined above will attract a risk
weight of 100 per cent.
6.4.3.1.11  Non-Performing Assets (NPAs)
 (WBRC 1 1.3.1.11.0.0)


weight of 100 per cent.
6.4.3.1.11  Non-Performing Assets (NPAs)
 (WBRC 1 1.3.1.11.0.0)
 The unsecured portion of NPAs , other than a qualifying residential
mortgage loan which is addressed in item 6.4.2.1.12, net of specific
provision will be risk weighted as items ( i) and (ii) below.
 For the purpose of computing the level of specific provisions of
NPAs for deciding the risk-weighting, all funded NPA exposures of a
single counterparty (without netting the value of the eligible collateral
under CRM) should be reckoned in the denominator.
 For the purpose of defining the secured portion of the NPA, eligible
collateral will be the same as recognised for credit risk mitigation
purposes. Hence, other forms of collateral like land, buildings, plant,


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  33
machinery, current assets, etc., will not be reckoned while computing
the secured portion of NPAs for capital adequacy purposes.
 The amount must agree with the sum of the following items ( i) and (ii).
 (WBRC 1 1.3.1.11.1.0 + 11.3.1.11.2.0)
 (i) Specific provisions are equal or more than 20 per cent
  (WBRC 1 1.3.1.11.1.0)
  100 per cent risk weight  when specific provisions are equal or
more than 20 per cent of the outstanding amount of the NPA.
 (ii) Specific provisions are less than 20 per cent
  (WBRC 1 1.3.1.11.2.0 )
  150 per cent risk weight  when specific provisions are less than 20
per cent of the outstanding amount of the NPA.
6.4.3.1.12  Non-Performing Assets Secured by Residential property
 (WBRC 1 1.3.1.12.0.0)
 The unsecured of portion NPAs  (without netting the value of property
mortgage), net of specific provision will be risk weighted as items ( i)
and (ii):
 For the purpose of computing the level of specific provisions in
NPAs for deciding the risk-weighting, all funded NPA exposures of a
single counterparty (without netting the value of property mortgage)
should be reckoned in the denominator.
 The amount must agree with the sum of the following items ( i) and (ii).
 (WBRC 1 1.3.1.12.1.0 + 11.3.1.12.2.0)
 (i) Specific provisions are equal or more than 20 per cent
  (WBRC 1 1.3.1.12.1.0)
  50 per cent risk weight  when specific provisions are equal or more
than 20 per cent of the outstanding amount of the NPA.
 (ii) Specific provisions are less than 20 per cent
  (WBRC 1 1.3.1.12.2.0 )
  100 per cent risk weight  when specific provisions are less than 20
per cent of the outstanding amount of the NPA.
6.4.3.1.13  Higher -Risk Categories
 (WBRC 1 1.3.1.13.0.0)
 Exposures to the following segments, which are considered as high-
risk exposures, will attract a higher risk weight of 150 per cent:
 (i) V enture capital funds/companies


(i) V enture capital funds/companies
 (ii) Private equity investments
6.4.3.1.14  Cash Items and Other  Assets
 (WBRC 1 1.3.1.14.0.0)
 The amount must agree with the sum of cash items ( i) and Other Assets
(ii)
 (WBRC 1 1.3.1.14.1.0 to 11.3.1.14.2.0)


34 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
 (i) Cash Items
  (WBRC 1 1.3.1.14.1.0)
  T otal of cash items from (a) to (c)
 (a) Notes and Coins
   (WBRC 1 1.3.1.14.1.1)
  Local currency notes and coins held by tellers, in ATMs, in vault
and petty cash.
  Risk weight is 0 per cent
 (b) Gold and Bullion held in own vault
   (WBRC 1 1.3.1.14.1.2)
  Gold and bullion held in the bank’s vaults. Gold items held in
safe custody should be excluded.
  Risk weight is 0 per cent
 (c) Cash Items in the pr ocess of Collection
  (WBRC 1 1.3.1.14.1.3)
  Cheques, drafts and other cash items, such as money
orders, postal orders drawn on banks and other authorized
institutions and paid immediately on presentation. Trade
bills, such as import bills and export bills, in the process of
collection should be excluded from this item and considered
as loans and advances.
  Risk weight is 20 per cent.
 (ii) Other  Assets
  (WBRC 1 1.3.1.14.2.0)
  T otal of items ( a) and (b ) below.
 (a) Fixed Assets
  (WBRC 1 1.3.1.14.2.1)
  The item includes bank premises, immovable property ,
machinery and equipment, motor vehicles, furniture and
fittings and other fixed assets, reported at cost or at revalued
amount, net of accumulated depreciation will attract a risk
weight of 100 per cent.
 (b) Other  Assets/Exposures
  (WBRC 1 1.3.1.14.2.2)
  All other assets/exposures which are not specified elsewhere
will attract a uniform risk weight of 100 per cent.
6.5 Part III ( b) – Computation of Credit Equivalent Amount of Off-Balance Sheet Items
6.5.1  General Instructions
6.5.1.1  The risk-weighted amount of an of f-balance sheet item that gives rise to credit
exposure is generally calculated by means of a two-step process:
6.5.1.1.1  The notional amount of the transaction is converted into a credit
equivalent amount, by multiplying the amount by the specified credit
conversion factor or by applying the current exposure method, and


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  35
6.5.1.1.2  The resulting credit equivalent amount is multiplied by the risk weight
applicable to the counterpart or type of asset.
6.5.1.2  Where the of f-balance sheet item is secured by eligible collateral or guarantee,
the CRM guidelines detailed in paragraph 6.6 may be applied.
6.5.2  The cr edit conversion factors to be used will be as follows:
6.5.2.1  Off-Balance Sheet Items:
 (WBRC 1 1.3.2.0.0.0)
 The exposure on of f-balance sheet items is to be included in the computation
of the risk weighted capital ratio. The conversion of the credit risk inherent in
each off-balance sheet item would be converted into an on-balance sheet credit
equivalent by multiplying the principal amount by a credit conversion factor. The
credit equivalent amount would then be weighted according to the corresponding
asset item.
 The amount must agree with the sum of the principal amount of of f-balance
sheet items and credit equivalent of off-balance sheet items from 6.5.2.1.1 to
6.5.2.1.10.
 (WBRC 1 1.3.2.1.0.0 to11.3.2.10.0.0)
6.5.2.1.1  Direct Credit Substitutes
 (WBRC 1 1.3.2.1.0.0)
 T otal direct credit substitutes of the following items from ( i) to (iv).
 Conversion Factor 100 per cent
 (WBRC 1 1.3.2.1.1.0 to 11.3.2.1.4.0)
 (i) General Guarantees of Indebtedness
  (WBRC 1 1.3.2.1.1.0)
  General guarantees of indebtedness where the risk of loss in the
transaction may crystallise into a direct liability and become a
direct claim on the counterparty. These include Guarantees in
respect of counterparties like insurance agents, sales agents,
etc.,  to cover any non-payment by them of premium, sales
proceeds, etc. to their beneficiaries. Bank Guarantees in favor
of customs would cover any non-payment of customs duties by
their counterparties.
 (ii) Stand-by LCs serving as Financial Guarantees
  (WBRC 1 1.3.2.1.2.0)
  Stand-by Letters of Credit, which are direct, credit substitutes


(WBRC 1 1.3.2.1.2.0)
  Stand-by Letters of Credit, which are direct, credit substitutes
where the risk of loss in the transaction is equivalent to that of a
direct claim on the counterparty. This includes stand-by Letters
of Credit serving as financial guarantees for loans, securities
and other financial liabilities.
 (iii) Bank Acceptances
  (WBRC 1 1.3.2.1.3.0)
  Liabilities arising from acceptances on accommodation of bills
but excludes bills that have been discounted by the bank itself.
Risk participation and other similar commitments undertaken to
repay the financial obligation of a customer, on his failure to do
so, should be included.


36 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
 (iv) Others
  (WBRC 1 1.3.2.1.4.0)
  Any other obligation which carries the same risk of loss in the
transaction and is equivalent to that of a direct claim on the
counterparty.
6.5.2.1.2  T ransaction-Related Contingencies
 (WBRC 11.3.2.2.0.0)
 Total transaction-related contingencies of following items from ( i) to
(iii).
 Conversion Factor 50 per cent
 (WBRC 11.3.2.2.1.0 to 11.3.2.2.3.0)
 (i) Performance Bonds, Bid Bonds & Warranties
  (WBRC 1 1.3.2.2.1.0)
  T ransaction-related contingent items such as Performance
Bonds, Bid Bonds and Warranties, where the risk of loss
arises from an irrevocable obligation to pay a third party,
the non-financial obligation of the customer upon his failure
to fulfill obligations under a contract or a transaction. Such
contingencies would crystallise into actual liabilities dependent
upon the occurrence or non-occurrence of an event other than
that of a default in payment by the counterparty.
 (ii) Stand-by LCs r elated to particular transactions
  (WBRC 1 1.3.2.2.2.0)
  Cont ingent liabilities relating to particular transactions. Here
too, there is a likelihood of the contingencies crystallizing
into actual liabilities depending upon the occurrence or non-
occurrence of an event other than that of a default in payment
by a counterparty.
 (iii) Others
  (WBRC 1 1.3.2.2.3.0)
  Other contingent liabilities arising from an irrevocable obligation
to pay a third party, the non-financial obligation of a customer
upon his failure to fulfill such obligation or terms under contract
or transaction.
6.5.2.1.3  Short-T erm Self Liquidating Trade-Related Contingencies
 (WBRC 1 1.3.2.3.0.0)
 T otal short-term self liquidating trade-related contingencies of
following items from ( i) to (iv).
 Conversion Factor 20 per cent
 (WBRC 1 1.3.2.3.1.0 to 11.3.2.3.4.0)
 (i) Shipping Guarantees
  (WBRC 1 1.3.2.3.1.0)


(WBRC 1 1.3.2.3.1.0 to 11.3.2.3.4.0)
 (i) Shipping Guarantees
  (WBRC 1 1.3.2.3.1.0)
  Guarantees issued by the reporting institution to customers where
the reporting institution agrees to indemnify fully, to a named


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  37
shipping agent, against all liabilities arising from the release
of goods without production of Bills of Lading and/or other
shipping documents by the receiving party.
 (ii) Documentary Letters of Cr edit
  (WBRC 1 1.3.2.3.2.0)
  Documentary credits collateralised by the underlying shipments
which are short-term self-liquidating and trade-related
transactions.
 (iii) T rade-Related Acceptances
  (WBRC 1 1.3.2.3.3.0)
  Liabilities arising from acceptances that are based on a specific
trade transaction either domestic or foreign e.g.: Letters of
Credit.
 (iv) Others
  (WBRC 1 1.3.2.3.4.0)
  Contingent liabilities arising from short-term self-liquidating
trade related obligations.
6.5.2.1.4  Sale and Repur chase agreements and Assets sale with recourse
where the credit risk remains with the bank
 (WBRC 1 1.3.2.4.0.0)
 T otal of following items from ( i) to (vi).
 Conversion Factor 100 per cent
 (WBRC 1 1.3.2.4.1.0 to 11.3.2.4.6.0)
 () Sale and Repur chase Agreements
  (WBRC 1 1.3.2.4.1.0)
  Sale and Repurchase Agreement (REPO) is an agreement whereby
a bank sells an asset to a third party with a commitment to
repurchase it at an agreed price on an agreed future date.
Purchase and Resale Agreements (Reverse REPOS) should be
considered as collateralised loans. The risk is to be measured as
an exposure to the counterparty unless the underlying asset has
been reported as an on-balance sheet item where the risk weight
appropriate to the underlying asset should be used.
 (ii) Housing Loans Sold with Recourse
  (WBRC 1 1.3.2.4.2.0)
  The amount of housing loans sold to a counterparty with
recourse where the credit risk remains with the Bank.
 (iii) Other  Assets Sold with Recourse
  (WBRC 1 1.3.2.4.3.0)
  Assets sold with recourse where the credit risk remains with the
reporting institution. The holder of the asset is entitled to put the


reporting institution. The holder of the asset is entitled to put the
assets back to the reporting institution within an agreed period
or under certain prescribed circumstances – e.g.: deterioration
in the value or credit quality of the asset concerned.


38 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
 (iv) Forward Assets Purchases
  (WBRC 1 1.3.2.4.4.0 )
  Commitment to purchase, at a specified future date and/or on
pre-arranged terms, a loan, security or other asset from another
party.
 (v) Partly-Paid Shar es/Securities
  (WBRC 1 1.3.2.4.5.0)
  Unpaid amounts on partly-paid shares and securities where the
issuer may call upon the bank to pay at a pre-determined or
unspecified date in the future.
 (vi) Others
  (WBRC 1 1.3.2.4.6.0)
  Pl acements of forward deposits and other commitments with
certain drawdown. A forward deposit is an agreement between
two parties whereby one will place and the other will receive,
at a pre-determined future date, a deposit, at an agreed rate of
interest. A commitment to place a forward deposit should be
reported under this item and weighted according to the risk-
weight appropriate to the counterparty.
6.5.2.1.5  Obligations under  an On-going Underwriting Agreement
 (WBRC 1 1.3.2.5.0.0)
 T otal of following items from ( i) to (iii ).
 Conversion Factor 50 per cent
 (WBRC 1 1.3.2.5.1.0 to 11.3.2.5.3.0)
 (i) Underwriting of Shar es/Securities Issue
  (WBRC 1 1.3.2.5.1.0)
  Obligations due to underwriting of shares and securities, net of
the amount sub-underwritten by another institution.
 (ii) No te Issuance Facilities and Revolving Underwriting Facilities
  (WBRC 1 1.3.2.5.2.0)
  Arrangements where a borrower may draw funds up to a
prescribed limit over a pre-defined period through the issue of
notes which the reporting bank has committed to underwrite.
 (iii) Others
  (WBRC 1 1.3.2.5.3.0)
  Other obligations due to on-going underwriting agreements.
6.5.2.1.6  Commitments with an Original maturity of up to one year  or
which can be unconditionally cancelled at any time
 (WBRC 1 1.3.2.6.0.0)
 T otal of following items from ( i) to (iv).
 Conversion Factor 0 per cent
 (WBRC 1 1.3.2.6.1.0 to 11.3.2.6.4.0)


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  39
 (i) Formal Stand-by Facilities and Cr edit Lines
  (WBRC 1 1.3.2.6.1.0)
  Commitments include the undrawn portion of any binding
arrangements which obligate the reporting institution to provide
funds at some future date. Such commitments would have
an original maturity of less than one year or which can be
unconditionally cancelled at any time by the reporting bank
at its discretion. Formal stand-by facilities and credit lines for
Letters of Credit, Trust Receipts, etc; should be included under
the item.
 (ii) Undrawn T erm Loans
  (WBRC 1 1.3.2.6.2.0)
  Undrawn portion of a term loans with an original maturity of less
than one year or which can be unconditionally cancelled  at any
time by the reporting bank.
 (iii) Undrawn Overdraft Facilities/Unused Cr edit Card Lines
  (WBRC 1 1.3.2.6.3.0)
  The undrawn portion of overdraft facilities and credit card lines
with an original maturity of less than one year or which can be
unconditionally cancelled at any time by the reporting bank.
 (iv) Others
  (WBRC 1 1.3.2.6.4.0)
  Any other commitment with an original maturity up to one year
or which can be unconditionally cancelled at any time.
6.5.2.1.7  Other  Commitments with an Original maturity of up to one year
 (WBRC 1 1.3.2.7.0.0)
 T otal of following items from ( i) to (iii ).
 Conversion Factor 20 per cent
 (WBRC 1 1.3.2.7.1.0 to 11.3.2.7.3.0)
 (i) Formal Stand-by Facilities and Cr edit Lines
  (WBRC 1 1.3.2.7.1.0)
  The commitments under formal standby facilities and credit
lines with an original maturity is up to one year.
 (ii) Undrawn T erm Loans
  (WBRC 1 1.3.2.7.2.0)
  The undrawn portion of term loans where the original maturity
is up to one year.
 (iii) Others
  (WBRC 1 1.3.2.7.3.0)
  Any other commitment with an original maturity up to one year .
6.5.2.1.8  Other  Commitments with an Original maturity of over one year
 (WBRC 1 1.3.2.8.0.0)


6.5.2.1.8  Other  Commitments with an Original maturity of over one year
 (WBRC 1 1.3.2.8.0.0)
 T otal of following items from ( i) to (iii ).


40 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
 Conversion Factor 50 per cent
 (WBRC 1 1.3.2.8.1.0 to 11.3.2.8.3.0)
 (i) Formal Stand-by Facilities and Cr edit Lines
  (WBRC 1 1.3.2.8.1.0)
  The commitments under formal standby facilities and credit
lines with an original maturity is over one year.
 (ii) Undrawn T erm Loans
  (WBRC 1 1.3.2.8.2.0)
  The undrawn portion of term loans where the original maturity
is over one year.
 (iii) Others
  (WBRC 1 1.3.2.8.3. 0)
  Any other commitme nt with an original maturity over one year.
6.5.2.1.9  Exchange Rate Contracts
 (WBRC 1 1.3.2.9.0.0)
 Exchange rate contracts shall include the following items ( a to e), but
exclude exchange rate contracts which have an original maturity of 14
calendar days or less.
 (a) Forward foreign exchange contracts
 (b) Currency futures
 (c) Currency options purchased
 (d) Cross currency FX swaps
 (e) Other similar instruments
To arrive at the credit equivalent amounts of exchange rate contracts,
applying the original exposure method, a bank will have to apply one
of the conversion factors as given in the table below to the notional
principal amounts of each instrument according to the nature of the
instrument and its maturity.
Table 13
Item WBRC Original Maturity Conversion
Factor
(i) 11.3.2.9.1.0 Less than one year 2%
(ii) 11.3.2.9.2.0 One year and less than two years 5%
(iii) 11.3.2.9.3.0 For each additional year 3%
6.5.2.1.10  Inter est Rat e Contracts
 (WBRC 1 1.3.2.10.0.0 )
 Interest rate contracts shall include,
 (a) Single currency interest rate swaps
 (b) Basis swaps
 (c) Forward rate agreements
 (d) Interest rate futures
 (e) Interest rate options purchased, and
 (f) Other sim ilar instruments


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  41
To arrive at the credit equivalent amounts of interest rate contracts,
applying the original exposure method, a bank will have to apply one
of the conversion factors as given in the table below to the notional
principal amounts of each instrument according to the nature of the
instrument and its maturity.
Table 14
Item WBRC Original Maturity Conversion
Factor
(i) 11.3.2.10.1.0 Less than one year 0.5%
(ii) 11.3.2.10.2.0 One year and less than two years 1.0%
(iii) 11.3.2.10.3.0 For each additional year 1.0%
Note: In the case of foreign exchange and interest rate contracts
above, the netting of contracts subject to novation would be permitted.
Therefore, the net rather than the gross claims arising out of swaps
and similar contracts (subject to novation) with the same counterparts
will be weighted. In this context, novation is defined as a bilateral
contract between two counterparties under which any obligation to
each other to deliver a given currency on a given date is automatically
amalgamated with all other obligations for the same currency and
value date, legally substituting one single net amount for the previous
gross obligations.
6.6 Part III ( c) – Exposures Recognized under Credit Risk Mitigation (CRM)
6.6.1  Overview of CRM
6.6.1.1  Banks use a number of techniques to mitigate the credit risks to which they are
exposed. For example, exposures may be collateralised by first priority claims, in
whole or in part with cash or securities, a loan exposure may be guaranteed by a
third party, or a bank may buy a credit derivative to offset various forms of credit
risk. Additionally, banks may agree to net loans owed to them against deposits
from the same counterpart.
6.6.1.2  The revised approach to credit risk mitigation allows a wider range of credit risk
mitigants to be recognised for regulatory capital purposes than is permitted under


mitigants to be recognised for regulatory capital purposes than is permitted under
Basel I, provided that these techniques meet the minimum conditions described
below.
6.6.1.3  While the use of CRM techniques reduces or transfers credit risk, it simultaneously
may increase other risks (residual risks). Residual risks include legal, operational,
liquidity and market risks. Therefore, it is imperative that banks employ robust
procedures and processes to control these risks, including strategy, consideration
of the underlying credit, valuation, policies and procedures, systems, control of
roll-off risks and management of concentration risk arising from the bank’s use
of CRM techniques and its interaction with the bank’s overall credit risk profile.
6.6.1.4  Legal Certainty:  All documentation used in collateralised transactions and
guarantees must be binding on all parties and legally enforceable in all relevant
jurisdictions. Banks must have conducted sufficient legal review, which should
be well documented, to verify this. Such verification should have a well founded
legal basis for reaching the conclusion about the binding nature and enforceability
of the documents. Banks should also undertake such further review as necessary
to ensure continuing enforceability.


42 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.6.1.5  T reatment of Pools of CRM Techniques:  In case where a bank has multiple
CRM techniques covering a single exposure ( e.g.: a bank has both collateral and
guarantee partially covering an exposure), the bank will be required to subdivide
the exposure into portions covered by each type of CRM technique ( e.g.: portion
covered by collateral, portion covered by guarantee) and the risk-weighted assets
of each portion must be calculated separately. When credit protection provided
by a single protection provider has differing maturities, they must be subdivided
into separate protection as well.
6.6.2  CRM T echniques
6.6.2.1  Collateralised T ransactions: A collateralised transaction is one in which:
• banks have a credit exposure or potential credit exposure; and
• t hat credit exposure or potential credit exposure is hedged in whole or in
part by collateral posted by a counterpart or by a third party on behalf of the
counterpart.
6.6.2.1.1  The Simple Approach will be Followed in Computing the Effects
of CRM
 (i) In the simple approach, the portions of claims collateralised by
the market value of recognised collateral receive the risk weight
applicable to the collateral instrument. The risk weight on the
collateralised portion will be subject to a floor of 20 per cent.
The remainder of the claim should be assigned to the risk weight
appropriate to the counterparty.
 (ii) Mi smatches in the maturity of the underlying exposure and
collateral will not be allowed, i.e., the collateral must be pledged
for at least the life of the exposure.
6.6.2.1.2  Risk W eights
 (i) The  20 per cent floor for the risk weight on a collateralised
transaction will not be applied and 0 per cent risk weight can be
applied provided the exposure and the collateral are denominated
in the same currency, and either:
 (a) the collateral is cash on deposit and gold or


in the same currency, and either:
 (a) the collateral is cash on deposit and gold or
 (b) the collateral is in the form of Government securities or
 (c) the collateral is in the form provident fund balances.
6.6.2.1.3  Minimum Conditions
 (i) Legal Certainty: as described in paragraph 6.6.1.4
 (ii) Ability to Liquidate: The bank should have the right to liquidate
or take legal possession of it, in a timely manner, in the event of
the default, insolvency or bankruptcy (or one or more otherwise-
defined credit events set out in the transaction documentation) of
the counterparty (and, where applicable, of the custodian holding
the collateral). Furthermore banks must take all steps necessary
to fulfill those requirements under the law applicable to the
bank’s interest in the collateral for obtaining and maintaining an
enforceable security interest.
 (iii) Material Correlation: In order for collateral to provide
protection, the credit quality of the counterparty and the value of


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  43
the collateral must not have a material positive correlation. For
example, securities issued by the counter party or by any related
group entity - would provide little protection and so would be
ineligible.
 (iv) Recovery Procedures:  Banks must have clear and robust
procedures for the timely liquidation of collateral to ensure that
any legal conditions required for declaring the default of the
counter party and liquidating the collateral are observed, and that
collateral can be liquidated promptly. Where the collateral is held
by a custodian, banks must take reasonable steps to ensure that
the custodian segregates the collateral from its own assets.
6.6.2.1.4  Eligible Financial Collateral
 The following collateral instruments are eligible for recognition in the
simple approach:
 (i) Cash (as well as certificates of deposit or comparable instruments,
including fixed deposit receipts, issued by the lending bank)
on deposit with the bank, which is incurring the counterparty
exposure.
 (ii) Gold: Gold would include both bullion and jewellery .
 (iii) GOSL  securities
 (iv) Provident fund balances
 (v) Debt securities rated by a recognized ECAI where these are either
– At least BB- when issued by sovereigns or PSEs that have been
recognized, or
– At least BBB- when issued by other entities (including banks),
or
– At least A-3//P-3 for short-term debt instruments.
 (vi) Debt securities not rated by a ECAI where these are:
– Issued by a bank; and
– Listed on a recognized exchange, and
– Classified as senior debt
– Other securities, specified by the Central Bank.
 (vii) Equities  those are included in the Milanka index, subject to a
discount of 25 per cent on the market value.
6.6.2.2  On-Balance Sheet Netting - Where a bank,
6.6.2.2.1  has a w ell-founded legal basis for concluding that the netting or
offsetting agreement is enforceable in each relevant jurisdiction


offsetting agreement is enforceable in each relevant jurisdiction
regardless of whether the counterpart is insolvent or bankrupt;
6.6.2.2.2  is able at any time to determine those assets (loans) and liabilities
(deposits) with the same counterpart that are subject to the netting
agreement;
6.6.2.2.3  monitors and controls its roll-of f risks; and
6.6.2.2.4  monitors and controls the relevant exposures on a net basis


44 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.6.2.2.5  it may use the net exposure of loans and deposits as the basis for its
capital adequacy computation.
6.6.2.3  Guarantees
6.6.2.3.1  Guaranteed Transactions:  Where guarantees are direct, explicit,
irrevocable and unconditional, banks may take account of such credit
protection in calculating capital requirements.
6.6.2.3.2  Minimum Conditions
 (i) A  guarantee (or counter-guarantee) must represent a direct claim
on the protection provider and must be explicitly referenced to
specific exposures or a pool of exposures, so that the extent of
the cover is clearly defined and incontrovertible.
 (ii) Other than non-payment by a protection purchaser of money due
in respect of the credit protection contract it must be irrevocable;
there must be no clause in the contract that would increase the
effective cost of cover as a result of deteriorating credit quality
in the hedged exposure.
 (iii) It must also be unconditional; there should be no clause in the
protection contract outside the control of the bank that could
prevent the protection provider from being obliged to pay out in
a timely manner in the event that the original counterpart fails
to make the payment(s) due.
 (iv) In addition to the legal certainty requirements above, the following
conditions must also be satisfied:
– On the qualifying default or non-payment of the counterpart,
the bank may in a timely manner pursue the guarantor for any
monies outstanding under the documentation governing the
transaction. The guarantor may make one lump sum payment
of all monies under such documentation to the bank, or the
guarantor may assume the future payment obligations of the
counterpart covered by the guarantee. The bank must have
the right to receive any such payments from the guarantor
without first having to take legal actions in order to pursue
the counterpart for payment.


without first having to take legal actions in order to pursue
the counterpart for payment.
– The guarantee is an explicitly documented obligation assumed
by the guarantor.
– E xcept as noted in the following sentence, the guarantee
covers all types of payments the underlying obligor is
expected to make under the documentation governing the
transaction, for example notional amount, margin payments,
etc.
– Where a guarantee covers payment of principal only , interests
and other uncovered payments should be treated as an
unsecured amount.
6.6.2.3.3  Eligible Guarantors (counter -guarantors):  Credit protection given
by the following entities will be recognised: sovereign entities, PSEs
and other entities with a risk weight of 20 per cent or better and a lower
risk weight than the counterpart.


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  45
6.6.2.3.4  Risk W eights
 The protected portion is assigned the risk weight of the protection
provider. The uncovered portion of the exposure is assigned the risk
weight of the underlying counterpart.
 (i) A  zero risk weight will be applied to that portion of loans
guaranteed by GOSL and CBSL.
 (ii) The portion of exposures guaranteed by the Sri Lanka Export
Credit Insurance Corporation (SLECIC) will receive a 50 per
cent risk weight.
6.6.3  Specific Instructions for  completion Part III ( c)
6.6.3.1  T otal CRM Exposure
 (WBRC 1 1.3.3.0.0.0)
 Total exposure of collateralised transactions and other CRM techniques.
All exposures should be reported net of specific provisions and interest
in suspense that has been charged to the respective counterparty
account. Exposures which are reported in this part under CRM
should not be reported in the other parts of the capital adequacy return.
The amount is automatically shown on web-based return.
 The amount must agree with the sum of items 6.6.3.1.1 and 6.6.3.1.2.
 (WBRC 1 1.3.3.1.0.0 + 11.3.3.2.0.0)
6.6.3.1.1  Collateralised T ransactions
 (WBRC 1 1.3.3.1.0.0)
 The sum of collateralised retail exposures and collateralised other
exposures. The amount must agree to sum of items ( i) and (ii). The
amount is automatically shown on web-based return.
 (WBRC 1 1.3.3.1.1.0 + 11.3.3.1.2.0)
 (i) Retail Exposur es
  (WBRC 1 1.3.3.1.1.0)
  T he total amount of retail exposures against the collateral
instruments which are eligible for recognition in the simple
approach as specified in paragraph 6.6.2.1.4. The amount is
automatically shown on web-based return.
  (WBRC 1 1.3.3.1.1.1 to 11.3.3.1.1.7)
 (ii) Other  Exposures
  (WBRC 1 1.3.3.1.2.0)
  T he total amount of other exposures against the collateral
instruments which are eligible for recognition in the simple
approach as specified in paragraph 6.6.2.1.4. The amount is


approach as specified in paragraph 6.6.2.1.4. The amount is
automatically shown on web-based return.
  (WBRC 1 1.3.3.1.2.1 to 11.3.3.1.2.7)


46 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.6.3.1.2  Other  CRM Techniques
 (WBRC 1 1.3.3.2.0.0)
 The total amount of exposures against the other CRM techniques (other
than collateralized transactions). The amount is automatically shown on
web-based return.
 (WBRC 1 1.3.3.2.1.0 + 11.3.3.2.2.0)
 (i) On-Balance Sheet Netting
  (WBRC 1 1.3.3.2.1.0)
  The total amount of exposures against the on-balance sheet
netting should be reported in line with the instructions given in
the items under paragraph 6.6.2.2 above.
 (ii) Guarantees
  (WBRC 1 1.3.3.2.2.0)
  The total amount of exposures against the guarantees should be
reported in line with the instructions given in the items under
paragraph 6.6.2.3 above.
6.7 Part IV  – Computation of Risk-weighted Amount for Market Risk
6.7.1  Capital Charge for Market Risk  - Market risk is defined as the risk of losses in on-
balance sheet and off balance sheet positions arising from movements in market prices.
The market risk subject to the capital charge requirements are:
6.7.1.1  The risks pertaining to interest rate related instruments  in the trading book.
6.7.1.2  The risks pertaining to equities in the trading book.
6.7.1.3  T he risks pertaining to foreign exchange position  (including gold positions)
throughout the bank.
6.7.2  Scope and Coverage of Capital Charge for  Market Risks
6.7.2.1  This involves computing capital char ges for interest rate related instruments
in the trading book, equities in the trading book and foreign exchange risk
(including gold positions) throughout the bank. For the purpose of this section,
the trading book and foreign exchange position will include the following:
6.7.2.1.1  Securities classified in the ‘Trading Account’ in terms of the direction
on Prudential Norms for Classification, Valuation and Operation of the
Bank’s Investment Portfolio issued by the CBSL dated 01 March 2006.
6.7.2.1.2  Open gold positions


Bank’s Investment Portfolio issued by the CBSL dated 01 March 2006.
6.7.2.1.2  Open gold positions
6.7.2.1.3  Open foreign exchange positions.
6.7.3  Measur ement of Capital Charge for Interest Rate Risk
6.7.3.1  This section describes the framework for measuring the risk of holding or taking
positions in debt securities and other interest rate related instruments denominated in
Sri Lanka Rupees as well as foreign currencies  in the trading book.
6.7.3.2  The capital char ge for interest rate related instruments would apply to the
current market value  of these items in the bank’s trading book. Since banks


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  47
are required to maintain capital for market risk on an ongoing basis, they are
required to mark-to-market their trading positions on a daily basis. The current
market value will be determined according to the Direction on Prudential Norms
for Classification, Valuation and Operation of the bank’s investment portfolio
issued by CBSL.
6.7.3.3  The minimum capi tal requirement is expressed in terms of two separately
calculated charges, “specific risk”  charge for each security, which is akin to the
conventional capital charge for credit risk, both for short and long positions, and
“general market risk”  charge for interest rate risk in the portfolio, where long
and short positions in different securities or instruments can be offset.
6.7.3.3.1  Specific Risk
 (i) The capital char ge for specific risk is designed to protect against
an adverse movement in the price of an individual security
owing to factors related to the individual issuer.
 (ii) The risk char ges to be used in the Computation of specific risk
will be as follows:
 (iii) Specific risk char ge for government securities and central banks :
 (a) Government securities issued by the GOSL  and securities
issued by the CBSL will be subject to a risk charge of 0 per
cent.
 (b) Securities issued by a foreign government or by a foreign
central bank will be subject to a risk charge based on the
credit rating as indicated in the following table:
Table 15
Specific Risk Charge for Securities Issued by Foreign
Governments/Central Banks
Sovereign Rate Capital Charge for Specific Risk
AAA to AA- 0%
A+ to BBB- 0.25% (residual term to final maturity 6
months or less)
1% (residual term to final maturity greater
than 6 and up to and including 24 months)
1.60% (residual term to final maturity
exceeding 24 months)
All others 10.00%
 (iv) The ‘Qualifying’  category for Corporate entities:


exceeding 24 months)
All others 10.00%
 (iv) The ‘Qualifying’  category for Corporate entities:
 (a) Corporate entities (Local) will be given a risk char ge for
specific market risk based on their ratings as indicated in
the table below:


48 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Table 16
Specific Risk Charge for Corporates
Sovereign Rate Capital Charge for Specific Risk
AAA to AA- 0.25%
A+ to BBB- 1.00% (residual term to final maturity 6
months or less)
1.60% (residual term to final maturity
greater than 6 and up to and including 24
months)
10.00% (residual term to final maturity
exceeding 24 months)
All others 10.00%
 (b) The specific risk char ge for foreign corporates would be
one notch less favourable than the risk charge applied to
the local corporates.
 (v) ‘Public sector entities’ should be treated like corporate entities
unless they are backed by an explicit Treasury guarantee, which
warrants a risk charge of 0 per cent.
 (vi) The ‘ Other’ category:
  A  capital charge of 10 per cent will apply to all other types of
exposures.
 (vii) Banks may rely upon the ratings assigned by the ECAIs recognised
by CBSL (See paragraph 6.4.2)  for the purpose of ratings
referred in the table 15 and 16 above.
6.7.3.3.2  General Market Risk
 The capital requirements for general market risk are designed to
capture the risk of loss arising from changes in market interest rates.
The capital charge is the sum of four components:
 (i) the net short or long position in the whole trading book;
 (ii) a smaller proportion of the matched positions in each time-band
(the “vertical disallowance”);
 (iii) a  larger proportion of the matched positions across different
timebands (the “horizontal disallowance”), and
 (iv) a net char ge for positions in options, where appropriate.
Note – Components (ii), (iii) and (iv) will not apply at present.
6.7.3.4  It has been decided to allow banks to initially adopt the Standardised
Measurement Method , as Sri Lankan banks are still at a nascent stage of
developing internal risk management models. There are two principal methods
of measuring market risk under the Standardised Measurement Method, i.e.,


of measuring market risk under the Standardised Measurement Method, i.e.,
a ‘maturity’ method and a ‘duration’ method. It has been decided to adopt the
‘duration’ method to arrive at the capital charge. Accordingly, banks are required


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  49
to measure the general market risk charge by calculating the price sensitivity of
each instrument in the trading book separately and adding the resulting price
sensitivities based on a maturity ladder, subject to disallowances if any.
6.7.3.5  The steps for the computation are as follows:
6.7.3.5.1  Calculate the price sensitivity of each instrument in terms of a change
in interest rates between 1.2 and 2.0 percentage points, depending on
the maturity of the instrument (see Table 17);
6.7.3.5.2  slot the resulting price sensitivities into a duration based maturity
ladder with the fifteen time bands as set out in Table 17;
6.7.3.5.3  su bject long and short positions in each time band to a 5 per cent
vertical disallowance designed to capture basis risk; and
6.7.3.5.4  carry forward the net positions  in each time-band for horizontal
offsetting subject to the disallowances set out in Table 18.
Note – Steps (6.7.3.5.2) to (6.7.3.5.4) are not required at present since components
ii, iii and iv under paragraph 6.7.3.3.2 above are currently not applicable.
Table 17
Duration Method – Time Bands and Assumed Changes in Yield
Time Bands Assumed Change in Yield
Maturity Zone 1
1 month or less 2.00
Over 1 month to 3 months 2.00
Over 3 months to 6 months 2.00
Over 6 months to 12 months 2.00
Maturity Zone 2
Over 1.0 year to 1.9 years 1.80
Over 1.9 years to 2.8 years 1.60
Over 2.8 years to 3.6 years 1.50
Maturity Zone 3
Over 3.6 years to 4.3 years 1.50
Over 4.3 years to 5.7 years 1.40
Over 5.7 years to 7.3 years 1.30
Over 7.3 years to 9.3 years 1.20
Over 9.3 years to 10.6 years 1.20
Over 10.6 years to 12 years 1.20
Over 12 years to 20 years 1.20
Over 20 years 1.20


50 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Table 18
Horizontal Disallowances
Maturity Zones Time BandWithin
the zonesBetween
adjacent zonesBetween zones
1 and 3
Maturity Zone 11 month or less
40%
40%
 100%over 1 month to 3 months
over 3 months to 6 months
over 6 months to 12 months
Maturity Zone 2Over 1.0 year to 1.9 years
30% Over 1.9 years to 2.8 years
Over 2.8 years to 3.6 years
Maturity Zone 3Over 3.6 years to 4.3 years
30% 40%Over 4.3 years to 5.7 years
Over 5.7 years to 7.3 years
Over 7.3 years to 9.3 years
Over 9.3 years to 10.6 years
Over 10.6 years to 12 years
Over 12 years to 20 years
Over 20 years

6.7.4  Measur ement of Capital Charge for Equities
6.7.4.1  The minimum capital requirement to cover the risk of holding or taking positions
in equities in the trading book is set out below. It applies to all instruments that
exhibit market behaviour similar to equities. The instruments covered include
equity shares (voting and non-voting), convertible securities that behave like
equities ( e.g.:  units of unit trusts) and commitments to buy or sell equity
securities ( e.g.: warrants, right issues and bonus issues).
6.7.4.2  Specific and General Market Risk
6.7.4.2.1  Specific Equity Risk
 Specific risk is defined as the bank’s gross equity positions ( i.e., the
sum of all long equity positions and of all short equity positions). The
capital charge for specific risk for equities on the Milanka Price Index
will be 5 per cent, while all other equities will have a specific risk
charge of 10 per cent.
6.7.4.2.2  General Equity Risk
 General market risk is defined as the overall net position in an equity
market ( i.e., the difference between the sum of the longs and the sum
of the shorts). The general market risk charge will be 10 per cent .
6.7.5   Measur ement of the Capital Charge for Foreign Exchange and Gold Open Positions
6.7.5.1  This section sets out the minimum capital requirement to cover the risk of


6.7.5.1  This section sets out the minimum capital requirement to cover the risk of
holding or taking positions in foreign currencies, including gold. Gold is treated


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  51
as a foreign exchange position rather than a commodity because its volatility is
more in line with foreign currencies, and banks manage it in a similar manner.
6.7.5.2  The Of f-balance sheet position, including forward contracts, will be included in
computation of the capital charge for foreign exchange risks.
6.7.5.3  Computing the capital requirement for foreign exchange risk consists of two
processes.
6.7.5.3.1  Measuring the Exposur e in a Single Currency Position
 The bank’s net open position in each currency should be calculated by
summing the net position of all on balance sheet and off-balance sheet
position, including forward contracts denominated in that particular
currency.
6.7.5.3.2  Measuring the Risks Inher ent in a Bank’s Mix of Long and Short
Positions in Different Currencies
 Banks are required to adopt the shorthand method of computation.
Under the shorthand method, the nominal amount of the net position
in each foreign currency and in gold is converted at spot rates into
the reporting currency ( i.e., LKR). The overall net open position is
measured by aggregating:
 (i) the sum of t he net short positions or the sum of the net long
positions, whichever is the greater, plus
 (ii) the net position (short or long) in gold, regardless of sign.
6.7.5.4  The capital char ge will be 10 per cent of the overall net open position of foreign
currency and gold.
Table 19
Example of the Shorthand Measure of Foreign Exchange Risk
YEN EURO GB INR US$ GOLD
+50 +100 +150 -20 -180 -35
+300 -200 -35
In the above example, the capital charge would be 10 per cent of the higher
of either the net long currency positions or the net short currency positions
(i.e., 300) and of the net position in gold (35) = 335 x 10% = 33.5.
6.7.6  Aggr egation of the Capital Charge for Market Risks
 The capital charges for specific risk and general market risk are to be computed


The capital charges for specific risk and general market risk are to be computed
separately before aggregation.
6.7.7  Capital Charge for  Interest Rate Derivatives
 The capital charge for interest rate derivatives will be excluded from the capital charge
for market risks at present and will be introduced shortly.


52 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.7.8  Specific Instruction for  completion of Part IV return
 (Computation of Risk-weighted amount for  Market Risk)
6.7.8.1  T otal Capital Charge for Market Risk
 (WBRC 1 1.4.1.0.0.0)
 The total amount of capital charge for interest rate risk (6.7.8.1.1), capital charge
for equity risk (6.7.8.1.2) and capital charge for foreign exchange risk (6.7.8.1.3).
The amount is automatically shown on web-based return.
 (WBRC 1 1.4.1.1.0.0 + 11.4.1.2.0.0 + 11.4.1.3.0.0)
6.7.8.1.1  Capital Charge for  Interest Rate Risk
 (WBRC 1 1.4.1.1.0.0)
 The total amount of capital charge for general interest rate risk
and capital charge for specific interest rate risk. The amount is
automatically shown on web-based return.
 (WBRC 1 1.4.1.1.1.0 + 11.4.1.1.2.0)
 (i) General Interest Rate Risk
  (WBRC 1 1.4.1.1.1.0)
  Capital char ge for general interest rate risk should be calculated in
line with the specific instruction given in the paragraph 6.7.3.3.2
 (ii) Specific Interest Rate Risk
  (WBRC 1 1.4.1.1.2.0)
  Capital char ge for specific interest rate risk should be calculated in
line with the specific instruction given in the paragraph 6.7.3.3.1
6.7.8.1.2  Capital Charge for  Equity Risk
 (WBRC 1 1.4.1.2.0.0)
 The total amount of capital char ge for general equity risk and capital
charge for specific equity risk. The amount is automatically shown on
web-based return.
 (WBRC 1 1.4.1.2.1.0 + 11.4.1.2.2.0)
 (i) General  Equity Risk
  (WBRC 1 1.4.1.2.1.0)
  Capital char ge for general equity risk should be calculated in line
with the specific instruction given in the paragraph 6.7.4.2.2.
 (ii) Specific Equity Risk
  (WBRC 1 1.4.1.2.2.0)
  Capital char ge for specific equity risk should be calculated in line
with the specific instruction given in the paragraph 6.7.4.2.1.


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  53
6.7.8.1.3  Capital Charge for  Foreign Exchange & Gold
 (WBRC 1 1.4.1.3.0.0)
 Capital charge for Foreign exchange & gold should be calculated in
line with the specific instruction given in the paragraph 6.7.5.
6.7.8.2  T otal Risk-weighted Amount for Market Risk
 (WBRC 1 1.4.2.0.0.0)
 The total amount of risk-weighted amount for market risk should be ten times the
capital charge for market risk (6.7.8.1*10). The amount is automatically shown
on web-based return.
 (WBRC 1 1.4.1.0.0.0*10)
6.8  Part V – Computation of Risk-weighted Amount for Operational Risk.
6.8.1  Capital Charge for  Operational Risk
6.8.1.1  Definition of Operational Risk:  Operational risk is defined as the risk of loss
resulting from inadequate or failed internal processes, people and systems or
from external events. This definition includes legal risk, but excludes strategic
and reputational risk. Legal risk includes, but is not limited to, exposure to fines,
penalties, or punitive damages resulting from supervisory actions, as well as
private settlements.
6.8.1.2  The Basic Indicator  Approach (BIA): To begin with, banks shall compute the
capital requirements for operational risk under the BIA. Under the BIA, banks
must hold capital for operational risk equal to the average over the previous three
years of a fixed percentage (denoted α) of positive annual gross income. Figures
for any year in which annual gross income is negative or zero should be excluded
from both the numerator and denominator when calculating the average.
6.8.1.3  The char ge may be expressed as follows:
KBIA = [ ∑ (GI 1…n x α.) ] / n
 Where;
KBIA  = the capital char ge under the Basic Indicator Approach
GI  = annual gross income, where positive, over the previous three audited
financial years
n  = number of the previous three financial years for which gross income is
positive
α  = 15%, which is set by the BCBS.


positive
α  = 15%, which is set by the BCBS.
6.8.1.4  Gross income is defined as “net interest income” plus “net non-interest income”.
It is intended that this measure should:
6.8.1.4.1  be gross of any provisions ( e.g.: for unpaid interest),
6.8.1.4.2  be gross of operating expenses, including fees paid to outsourcing
service providers, in contrast to fees paid for services that are
outsourced, fees received by banks that provide outsourcing services
shall be included in the definition of gross income,


54 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
6.8.1.4.3  exclude realized profits/losses from the sale of securities in the bank -
ing book, and
6.8.1.4.4  exclude extraordinary or irregular items.
6.8.1.5  Banks are advised to compute the capital char ge for operational risk under the
BIA as follows:
6.8.1.5.1  A verage of [  Gross Income x α  ] for each of the last three financial
years, excluding years of negative or zero gross income
6.8.1.5.2  Gross income = Net interest income + non-interest income – items
(6.8.1.4.3) and (6.8.1.4.4) of above.
6.8.1.5.3  α = 15%
6.8.2  Specific Instruction for  completion of Part V
 (Computation of Risk-weighted amount for  Operational Risk)
6.8.2.1  Gr oss Income
 (WBRC 1 1.5.1.0.0.0)
 The total gross income should be total net income (6.8.2.1.1) less total exclude
items as specified in the paragraph 6.8.1.4.3 and 6.8.1.4.4. The amount is
automatically shown on web-based return.
 (WBRC 1 1.5.1.1.0.0 - 11.5.1.2.0.0)
6.8.2.1.1  Net Income
 (WBRC 1 1.5.1.1.0.0)
 The total net income should be sum of total net interest income and
total non-interest income. The amount is automatically shown on web-
based return.
 (WBRC 1 1.5.1.1.1.0 + 11.5.1.1.2.0)
 (i) Net Inter est Income
  (WBRC 1 1.5.1.1.1.0)
  The total net interest income should be the total interest income
less total non-interest expenses as reported in the annual audited
profit and loss statement.
 (ii) Non-Inter est Income
  (WBRC 1 1.5.1.1.2.0)
  The total non-interest income should be the total income other
than the interest income.
6.8.2.1.2  Less Amount
 (WBRC 1 1.5.1.2.0.0)
 The total aggregate amount of following items, as specified in the
paragraph 6.8.1.4.3 and 6.8.1.4.4, which banks are required to deduct
from total net income.


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  55
6.8.2.2  T otal Capital Charge for Operational Risk
 (WBRC 1 1.5.2.0.0.0)
 The total capital char ge for operational risk should be 15 per cent of gross income
(6.8.2.1.) above. The amount is automatically shown on web-based return.
 (WBRC 1 1.5.1.0.0.0*15%)
6.8.2.3  T otal Risk-weighted Amount for Operational Risk
 (WBRC 1 1.5.3.0.0.0)
 The total amount of risk-weighted amount for operational risk should be ten times
the capital charge for operational risk (6.8.2.2*10). The amount is automatically
shown on web-based return.
 (WBRC 1 1.5.2.0.0.0*10)


56 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Schedule II
CAPITAL ADEQUACY RATIO OF
LICENSED COMMERCIAL / SPECIALISED BANKS
BANK ONLY (SOLO Basis) / CONSOLIDATED RETURN


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  57
Part I – Computation of Capital Adequacy Ratio (Rs. ’000)
Web-based
Return CodeItem Amount
11.1.1.0.0.0 Eligible Core Capital (Eligible Tier I) = 11.2.1.1.0.0 of Part II ( a)
11.1.2.0.0.0 Capital Base = 11.2.1.5.0.0 of Part II (a )
11.1.3.0.0.0 Total Risk-weighted Amount
11.1.3.1.0.0 Risk-Weighted Amount for Credit Risk = 11.3.1.0.0.0 of Part III ( a)
11.1.3.2.0.0 Risk-Weighted Amount for Market Risk = 11.4.2.0.0.0 of Part IV
11.1.3.3.0.0 Risk-Weighted Amount for Operational Risk = 11.5.3.0.0.0 of Part V
11.1.4.0.0.0 Core Capital (Tier 1) Ratio, % = (11.1.1.0.0.0/11.1.3.0.0.0)*100
11.1.5.0.0.0 Total Capital Ratio, % = (11.1.2.0.0.0/11.1.3.0.0.0)*100
Part II (a ) – Computation of Total Capital Base (Rs. ’000)
Web-based
Return CodeItem Amount
11.2.1.1.0.0 Eligible Core Capital (Eligible Tier I)
11.2.1.1.1.0 Core Capital (Tier 1)
11.2.1.1.1.1 Paid-up Ordinary Shares/ Assigned Capital
11.2.1.1.1.2 Non-cumulative, Non-redeemable Preference Shares
11.2.1.1.1.3 Share Premium
11.2.1.1.1.4 Statutory Reserve Fund
11.2.1.1.1.5 Published Retained Profits/(Accumulated Losses) (+/-)
11.2.1.1.1.6 General and Other Reserves
11.2.1.1.1.7 Gain/(Loss) After Tax arising from the Sale of Fixed and Long-term
Investments
11.2.1.1.1.8 Unpublished Current Year’s Profit/(Loss) (+/-)
11.2.1.1.1.9 Minority Interests (consistent with the above capital constituents)
11.2.1.1.1.10 Perpetual Debt Capital Instruments
11.2.1.1.2.0 Deductions/ Adjustments-Tier 1
11.2.1.1.2.1 Goodwill
11.2.1.1.2.2 Net Deferred Tax
11.2.1.1.2.3 Other Intangible Assets
11.2.1.1.2.4 Advances granted to employees of the bank for the purchase of
shares of the bank under a share ownership plan.
11.2.1.1.2.5 Amount due from head office & branches outside Sri Lanka in Sri
Lanka Rupees
(applicable only to branches of foreign banks)
11.2.1.1.2.6 Amount due to head office & branches outside Sri Lanka in Sri Lanka
Rupees (-)


11.2.1.1.2.6 Amount due to head office & branches outside Sri Lanka in Sri Lanka
Rupees (-)
(applicable only to branches of foreign banks)


58 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Web-based
Return CodeItem Amount
11.2.1.1.2.7 Amount due from head office & branches outside Sri Lanka in
Foreign Currency (net)
(applicable only to branches of foreign banks)
11.2.1.1.2.8 50% of Investments in Unconsolidated Banking and Financial
Subsidiary Companies
11.2.1.1.2.9 50% of Investments in the Capital of Other Banks and Financial
Institutions
11.2.1.2.1.0 Supplementary Capital (Tier II)
11.2.1.2.1.1 Revaluation Reserves (approved by CBSL)
11.2.1.2.1.2 General Provisions
11.2.1.2.1.3 Hybrid Capital Instruments (Debt/Equity)
11.2.1.2.1.4 Minority Interests arising from Preference Shares
11.2.1.2.1.5 Approved Subordinated Term Debt
0.0.0.0.0.0 Actual Amount of Approved Subordinated Term Debts
11.2.1.2.2.0 Deductions -Tier 1I
11.2.1.2.2.1 50% of Investments in Unconsolidated Banking and Financial
Subsidiary Companies
11.2.1.2.2.2 50% of Investments in the Capital of Other Banks and Financial
Institutions
11.2.1.2.0.0 Total Supplementary Capital
(Tier II) = (Item 11.2.1.2.1.0 - 11.2.1.2.2.0)
11.2.1.3.0.0 Eligible Supplementary Capital (Eligible Tier II)
11.2.1.4.0.0 Short Term Subordinated Debt (Tier III Capital)
11.2.1.4.1.0 Approved Short Term Subordinated Debt
11.2.1.4.2.0 Eligible Tier III Capital-Utilised = (item 11.2.2.6.1.0)
11.2.1.5.0.0 Capital Base
Part I1 (b ) – Computation of Eligible Tier III Capital for Market Risk (Rs. ’000)
Web-based
Return CodeItem Amount
11.2.2.1.0.0 Total Risk Weighted Assets (RWA)
11.2.2.1.1.0 Total Risk Weighted Assets for Credit and Operational Risks
11.2.2.1.2.0 Total Risk Weighted Assets for Market Risk
11.2.2.2.0.0 Minimum Capital Charge
11.2.2.2.1.0 Capital Charge for Credit and Operational Risk
11.2.2.2.2.0 Capital Charge for Market Risk
11.2.2.3.0.0 Total Capital Available to Meet the Capital Charge for Credit
and Operational Risks
11.2.2.4.0.0 Total Capital Base Available to meet Market Risk


and Operational Risks
11.2.2.4.0.0 Total Capital Base Available to meet Market Risk
11.2.2.5.0.0 Total Available Tier III Capital
11.2.2.5.1.0 Approved Short-term Subordinated Debt


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  59
Web-based
Return CodeItem Amount
11.2.2.5.2.0 Minimum of 28.5% of Capital Charge for Market Risk to be met
by Tier 1 Capital that is not Required for Credit Risk
11.2.2.5.2.1 (a) Limit
11.2.2.5.2.2 (b) Amount Utilised
11.2.2.5.3.0 Maximum of 250% of Tier 1 Capital that is not Required for
Credit and Operational Risks
11.2.2.5.3.1 (a) Limit
11.2.2.5.3.2 (b) Amount Utilised
11.2.2.6.0.0 Eligible Tier III Capital
11.2.2.6.1.0 Eligible Tier III Capital Utilised
11.2.2.6.2.0 Eligible but Unutilized Tier III Capital
Part III (a ) – Computation of Risk-weighted Amount for Credit Risk
 (Rs. ’000)
Web-based
Return
CodeItem AmountCredit
Equivalent
of Off-
balance
Sheet ItemsTotalRisk
Weight
%Risk
Weighted
Assets
Amount
11.3.1.0.0.0 Total Risk-weighted Amount
for Credit Risk
11.3.1.1.0.0 Claims on Government of Sri
Lanka and Central Bank of Sri
Lanka
11.3.1.1.1.0 Government of Sri Lanka
11.3.1.1.2.0 Central Bank of Sri Lanka
11.3.1.2.0.0 Claims on Foreign Sovereigns
and their Central Banks
11.3.1.2.1.0 AAA to AA- 0
11.3.1.2.2.0 A+ to A- 20
11.3.1.2.3.0 BBB+ to BBB- 50
11.3.1.2.4.0 BB+ to B- 100
11.3.1.2.5.0 Below B- 150
11.3.1.2.6.0 Unrated 100
11.3.1.3.0.0 Claims on Public Sector
Entities PSEs)
11.3.1.3.1.0 AAA to AA- 20
11.3.1.3.2.0 A+ to A- 50
11.3.1.3.3.0 BBB+ to BB- 100
11.3.1.3.4.0 Below BB- 150
11.3.1.3.5.0 Unrated 100


60 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Web-based
Return
CodeItem AmountCredit
Equivalent
of Off-
balance
Sheet ItemsTotalRisk
Weight
%Risk
Weighted
Assets
Amount
11.3.1.4.0.0 Claims on Official Entities
and Multilateral Development
Banks (MDBs)
11.3.1.4.1.0 BIS,IMF, ECB, EC and Eligible
MDBs0
11.3.1.4.2.0 AAA to AA- 20
11.3.1.4.3.0 A+ to BBB- 50
11.3.1.4.4.0 BB+ to B- 100
11.3.1.4.5.0 Below B- 150
11.3.1.4.6.0 Unrated 100
11.3.1.5.0.0 Claims on Banks
11.3.1.5.1.0 Rupee Exposures less than 3
months
11.3.1.5.1.1 AAA to BBB- 20
11.3.1.5.1.2 BB+ to B- 50
11.3.1.5.1.3 Below B- 150
11.3.1.5.1.4 Unrated 100
11.3.1.5.2.0 Foreign Currency Exposures
less than 3 months
11.3.1.5.2.1 AAA to A- 20
11.3.1.5.2.2 BBB+ to BBB- 50
11.3.1.5.2.3 BB+ to B- 100
11.3.1.5.2.4 Below B- 150
11.3.1.5.2.5 Unrated 100
11.3.1.5.3.0 Rupee and Foreign Currency
Exposures more than 3 months
11.3.1.5.3.1 AAA to AA- 20
11.3.1.5.3.2 A+ to BBB- 50
11.3.1.5.3.3 BB+ to B- 100
11.3.1.5.3.4 Below B- 150
11.3.1.5.3.5 Unrated 100
11.3.1.6.0.0 Claims on Financial
Institutions
11.3.1.6.1.0 Claims on Primary Dealers/
Finance Companies/Specialised
Leasing Companies
11.3.1.6.1.1 AAA to AA- 20
11.3.1.6.1.2 A+ to BBB- 50
11.3.1.6.1.3 BB+ to B- 100


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  61
Web-based
Return
CodeItem AmountCredit
Equivalent
of Off-
balance
Sheet ItemsTotalRisk
Weight
%Risk
Weighted
Assets
Amount
11.3.1.6.1.4 Below B- 150
11.3.1.6.1.5 Unrated 100
11.3.1.6.2.0 Claims on Other Financial
Institutions
11.3.1.6.2.1 AAA to AA- 20
11.3.1.6.2.2 A+ to A- 50
11.3.1.6.2.3 BBB+ to BB- 100
11.3.1.6.2.4 Below BB- 150
11.3.1.6.2.5 Unrated 100
11.3.1.7.0.0 Claims on Corporates
11.3.1.7.1.0 AAA to AA- 20
11.3.1.7.2.0 A+ to A- 50
11.3.1.7.3.0 BBB+ to BB- 100
11.3.1.7.4.0 Below BB- 150
11.3.1.7.5.0 Unrated 100
11.3.1.8.0.0 Retail Claims
11.3.1.8.1.0 Retail claims that qualify  for
regulatory capital purposes75
11.3.1.8.2.0 Retail claims that not qualify  for
regulatory capital purposes100
11.3.1.9.0.0 Claims Secured by Residential
Property
11.3.1.9.1.0 Claims that qualify for
regulatory capital purposes50
11.3.1.9.2.0 Claims that not qualify  for
regulatory capital purposes100
11.3.1.10.0.0 Claims Secured by Commercial
Real Estate100
11.3.1.11.0.0 Non-Performing Assets (NPAs)
11.3.1.11.1.0 Specific provisions are equal or
more than 20%100
11.3.1.11.2.0 Specific provisions are less than
20%150
11.3.1.12.0.0 Non-Performing Assets
Secured by Residential
Property
11.3.1.12.1.0 Specific provisions are equal or
more than 20%50
11.3.1.12.2.0 Specific provisions are less than
20%100


62 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Web-based
Return
CodeItem AmountCredit
Equivalent
of Off-
balance
Sheet ItemsTotalRisk
Weight
%Risk
Weighted
Assets
Amount
11.3.1.13.0.0 Higher-Risk Categories 150
11.3.1.14.0.0 Cash Items and Other Assets
11.3.1.14.1.0 Cash Items
11.3.1.14.1.1 Notes and Coins
11.3.1.14.1.2 Gold Bullion held in own vault
11.3.1.14.1.3 Cash Items in the Process of
Collection20
11.3.1.14.2.0 Other Assets
11.3.1.14.2.1 Fixed Assets 100
11.3.1.14.2.2 Other Assets/Exposures 100
Part III (b ) – Credit equivalent of Off-Balance Sheet Items
(Rs.’000)
Web-based
Return CodeDescriptionPrincipal
amount of
Off-Balance
Sheet ItemsCredit
Conversion
Factor
(%)Credit
equivalent
of
Off-Balance
Sheet Items
11.3.2.0.0.0 Off-balance Sheet Items
11.3.2.1.0.0 Direct Credit Substitutes
11.3.2.1.1.0 General Guarantees of Indebtedness 100
11.3.2.1.2.0 Stand-by LCs serving as Financial
Guarantees100
11.3.2.1.3.0 Bank Acceptances 100
11.3.2.1.4.0 Others (please specify) 100
11.3.2.2.0.0 Transaction-related Contingencies
11.3.2.2.1.0 Performance Bonds, Bid Bonds &
Warranties50
11.3.2.2.2.0 Stand-by LCs related to particular
Transactions50
11.3.2.2.3.0 Others (please specify) 50
11.3.2.3.0.0 Short-Term Self-Liquidating Trade-
Related Contingencies
11.3.2.3.1.0 Shipping Guarantees 20
11.3.2.3.2.0 Documentary Letters of Credit 20
11.3.2.3.3.0 Trade related Acceptances 20
11.3.2.3.4.0 Others (please specify) 20


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  63
Web-based
Return CodeDescriptionPrincipal
amount of
Off-Balance
Sheet ItemsCredit
Conversion
Factor
(%)Credit
equivalent
of
Off-Balance
Sheet Items
11.3.2.4.0.0 Sale and Repurchase Agreements and
Assets Sale with Recourse where the
Credit Risk remains with the Bank
11.3.2.4.1.0 Sale and Repurchase Agreements 100
11.3.2.4.2.0 Housing Loans sold with Recourse 100
11.3.2.4.3.0 Other Assets sold with Recourse 100
11.3.2.4.4.0 Forward Assets Purchase 100
11.3.2.4.5.0 Partly paid Shares/Securities 100
11.3.2.4.6.0 Others (please specify) 100
11.3.2.5.0.0 Obligations under an On-going
Underwriting Agreement
11.3.2.5.1.0 Underwriting of Shares/Securities Issue 50
11.3.2.5.2.0 Note Issuance Facilities and Revolving
Underwriting Facilities50
11.3.2.5.3.0 Others (please specify) 50
11.3.2.6.0.0 Commitments with an Original
Maturity of up to one year or which
can be unconditionally cancelled at
any time
11.3.2.6.1.0 Formal Stand-by Facilities and Credit
Lines0
11.3.2.6.2.0 Undrawn Term Loans 0
11.3.2.6.3.0 Undrawn Overdraft Facilities/Unused
Credit Card Lines0
11.3.2.6.4.0 Others (please specify) 0
11.3.2.7.0.0 Other Commitments with an Original
Maturity up to 1 year
11.3.2.7.1.0 Formal Stand-by Facilities and Credit
Lines20
11.3.2.7.2.0 Undrawn Term Loans 20
11.3.2.7.3.0 Others (please specify) 20
11.3.2.8.0.0 Other Commitments with an Original
Maturity of over one year
11.3.2.8.1.0 Formal Stand-by Facilities and Credit
Lines50
11.3.2.8.2.0 Undrawn Term Loans 50
11.3.2.8.3.0 Others (please specify) 50


64 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Web-based
Return CodeDescriptionPrincipal
amount of
Off-Balance
Sheet ItemsCredit
Conversion
Factor
(%)Credit
equivalent
of
Off-Balance
Sheet Items
11.3.2.9.0.0 Exchange Rate Contracts
11.3.2.9.1.0 Original Maturity-less than one year 2
11.3.2.9.2.0 Original Maturity-more than one year
and less than two years5
11.3.2.9.3.0 Original Maturity-more than two years
(For each additional year)3
(for each
year)
11.3.2.10.0.0 Interest Rate Contracts
11.3.2.10.1.0 Original Maturity-less than one year 0.5
11.3.2.10.2.0 Original Maturity-more than one year
and less than two years1
11.3.2.10.3.0 Original Maturity-more than two years
(For each additional year)1
(for each
year)

Part III (c ) – Exposures Recognised under Credit Risk Mitigation (CRM)
(Rs. ’000)
Web-based
Return CodeCRM techniquesPrincipal
Amount
11.3.3.0.0.0 Total CRM Exposure
11.3.3.1.0.0 Collateralised Transactions
11.3.3.1.1.0 Retail Exposure
11.3.3.1.1.1 Cash
11.3.3.1.1.2 Gold
11.3.3.1.1.3 Government Securities
11.3.3.1.1.4 Provident Fund Balances
11.3.3.1.1.5 Debt Securities Rated by a recognised ECAIs
11.3.3.1.1.6 Debt Securities not Rated by a recognised ECAIs
11.3.3.1.1.7 Equities that are included in a Main Index.
11.3.3.1.2.0 Other Exposures
11.3.3.1.2.1 Cash
11.3.3.1.2.2 Gold
11.3.3.1.2.4 Provident Fund Balances
11.3.3.1.2.3 Government Securities
11.3.3.1.2.5 Debt Securities Rated by a recognised ECAIs
11.3.3.1.2.6 Debt Securities not Rated by a recognised ECAIs
11.3.3.1.2.7 Equities that are included in a Main Index.
11.3.3.2.0.0 Other CRM Techniques
11.3.3.2.1.0 On-balance Sheet Netting
11.3.3.2.2.0 Guarantees


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  65
Part IV – Computation of Risk-weighted Amount for Market Risk
(Rs. ’000)
Web-based
Return CodeItemCapital Charge
Amount
11.4.1.0.0.0 Total Capital Charge for Market Risk
= (11.4.1.1.0.0+11.4.1.2.0.0+11.4.1.3.0.0)
11.4.1.1.0.0 Capital Charge for Interest Rate
= (11.4.1.1.1.0+11.4.1.1.2.0)
11.4.1.1.1.0 General Interest Rate Risk
11.4.1.1.1.1 i) Net Long or Short Position
11.4.1.1.1.2 ii) Horizontal Disallowance
11.4.1.1.1.3 iii) Vertical Disallowance
11.4.1.1.1.4 iv) Options
11.4.1.1.2.0 Specific Interest Rate Risk
11.4.1.2.0.0 Capital Charge for Equity = (11.4.1.2.1.0+11.4.1.2.2.0)
11.4.1.2.1.0 General Equity Risk
11.4.1.2.2.0 Specific Equity Risk
11.4.1.3.0.0 Capital Charge for Foreign Exchange & Gold
11.4.2.0.0.0 Total Risk-weighted Amount for Market Risk
= (11.4.1.0.0.0*10)
Part V – Computation of Risk-weighted Amount for Operational Risk
(Rs. ’000)
Web-based
Return CodeItemFirst
YearSecond
YearThird
YearTotal Average
11.5.1.0.0.0 Gross Income
11.5.1.1.0.0 Net Income
11.5.1.1.1.0 Net Interest Income (Interest
Income-Interest Expenses)
11.5.1.1.2.0 Non-interest Income
11.5.1.2.0.0 Less
11.5.1.2.1.0 Realised Profits from the Sale of
Securities in the Banking Book
11.5.1.2.2.0 Extraordinary / Irregular Items of
Income
11.5.2.0.0.0 Total Capital Charge for
Operational Risk
= (11.5.1.0.0.0*15%)
11.5.3.0.0.0 Total Risk-weighted Amount for
Operational Risk
= (11.5.2.0.0.0*10)


66 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
Annex I
IMPLEMENTATION OF IT INFRASTRUCTURE FOR BASEL II
1. Implementation of IT  Architecture and Design Principles for Basel II
Important requirements for this architecture are as follows;
• C reate a robust, scalable & network friendly Basel II technology framework, which can
support a regional user and is extendable to new regulatory compliance requirements as the
Bank increases its presence in the emerging markets.
• Rationalise the technologies by choosing common platforms for common requirement across
all Pillars and common business domain across all Pillars. This will reduce total cost of
ownership, maintenance overheads and will facilitate change management for the bank.
• Adopt a robust and centralised data collection and consolidation approach for Basel II through
the Banking Data Warehouse (BDW) for risk analytics and Consolidated reporting
• Reduce manual data capture methods for Basel II.
• Design for Basel II applications should cater for high availabi lity, proper exception handling
and proper backup/recovery to ensure that potential risk due to data loss during unforeseen
circumstances is negligible.
• All new core banking applications and credit related applications in all geographical regions
must be Basel II compliant.
• All Basel II applications must adhere to the bank’s policies for infrastructure security, data
security, application controls and user administration.
• All Basel II applications should demonstrate disaster recovery as a capability.
2. Requir ements for a Regulatory Capital IT Solution
The following eight elements are the system level requirements that a financial services
institution must meet to comply with the Basel II Accord.
2.1 Storage of Curr ent and Historical Data in a Data Warehouse
Basel II calls for financial institutions to store a substantial quantity of data. To produce


Basel II calls for financial institutions to store a substantial quantity of data. To produce
a measure of Risk Weighted Assets, the Bank for International Settlement (BIS) requires
financial institutions to store a comprehensive database of operational loss incidents,
financial instruments, credit losses, and general ledger data. For financial institutions that
seek to calculate Pillar I capital using the Advanced IRB approach for retail or wholesale
assets, seven years of default data are required to validate internal ratings models. Beyond
historical data storage requirements, a Basel II compliant IT solution must also provide
the ability to store and process multiple versions of data. For example, in the area of stress
testing, financial institutions are required to test the assumptions of their models in a variety
of economic scenarios. Given these requirements, scalable and efficient storage of current,
historical, and alternative scenario data is critical.
2.2 Auditable and Flexible Risk Weighted Asset Calculations
The Basel II Capital Accord defines a large number of rules for calculating Risk Weighted
Assets and minimum required capital for credit, market and operational risks. However,
beyond simply performing calculations, the BIS also requires that financial institutions have
the ability to easily adjust these calculations, and the categorisations on which they depend.
The Accord also implicitly requires that a financial services institution be able to switch
between the various Pillar I methodologies. Therefore, a regulatory capital IT solution


Directions, Determinations, and Circulars issued to Licensed Commercial Banks  67
should not only provide all of the required calculations within the Accord, but should also
allow auditors, regulators, and internal users to audit, review and revise these calculations
as necessary. There are also certain areas where the Accord gives financial institutions the
flexibility to optimise capital calculations such as in the case of collateral application.
2.3 Contr ol Management with automatic workflows
The Basel II framework requires financial institutions to demonstrate that they have the
appropriate procedures and controls in place to manage their risks. Therefore, a regulatory
capital IT system should allow financial institutions to map controls against their risks.
In such a framework, financial institutions can define automatic workflows where the system
prompts employees to act based on certain defined key performance indicators (KPIs) or
user-defined business events. Finally, the system should also allow financial institutions
to audit and monitor their controls and procedures in order to periodically assess their risk
management practices based on actual loss experience.
2.4 Sophisticated Analytical Tools
Financial institutions can implement sophisticated models to assess their risk position and
optimise usage of capital. The BIS allows qualifying financial institutions to implement
internal models for Probability of Default (PD), Loss Given Default (LGD), and Exposure at
Default (EAD). Therefore, a regulatory capital IT solution must allow a financial institution
to implement and test any model that can properly assess its risk position. These external
applications would also have the ability to write information back to a central data source.
2.5 Flexible User  Driven methods
The Basel II Accord defines a vast range of calculations and options. Examples of these


The Basel II Accord defines a vast range of calculations and options. Examples of these
options include whether to use the Simple or Comprehensive approach for credit risk
mitigation, to use supervisory or own-estimate haircuts, and to determine the risk weighted
assets based on a top-down approach. Given the range of possibilities, users must have
the flexibility to easily change the methods they use to calculate risk-weighted assets
and assess the potential impact of those changes. Users should also have the flexibility to
specify which specific calculation components are processed in a given job submission.
For example, the system should not force the user to reprocess every single statistic if
all they seek to do is recalculate a subset of the organisation’s assets. Additionally, the
user should have the option to generate detailed auditing output, either for a sampling of
accounts or an individual transaction at their discretion.
2.6 Coordinated Pr ocess Flow
The Basel II calculations requires data that would generally originate from different
processing systems, including those used to support front office, back office and risk
management operations. Further, the Accord requires synchronisation of this data to
perform calculations on a consistent and integrated basis. Once calculations are completed,
the system may need to further process the output data through a variety of third party
applications for further analysis or reporting. Given these complex data workflow
requirements, a regulatory capital solution needs to consolidate each of these process flow
issues without any error.
2.7 T imely reporting that meets Internal and External Requirements
Systems and data are irrelevant if they do not provide information in a timely manner.
Under the Basel II regime, financial institutions need to meet highly specific and demanding
external and regulatory reporting requirements. Simultaneously, internal management


external and regulatory reporting requirements. Simultaneously, internal management
requires a continuous stream of information to better understand their organization’s


68 Directions, Determinations, and Circulars issued to Licensed Commercial Banks
risk profile. Therefore, it is essential that a regulatory capital solution provide a sound
management reporting platform. A Basel II compliant IT solution must be able to regularly
and accurately produce the necessary internal and external reports for sound risk and
profitability management.
2.8 Low Cost and Low Risk
Financial services management and information systems professionals do not have the time
or the budget to deal with high priced or unreliable solutions. For this reason, any regulatory
capital solution must maintain a low total cost of ownership and be highly reliable.
The major components of the regulatory capital IT solution should be covered through
a single data source so that constant reconciliation of data is avoided. Just as important,
the system needs to eliminate the constant administrative management inherent to many
enterprise systems. It should not have to rely on vigilant system administrators to coordinate
the functioning of different applications.
3. Data Integration and the Data Warehouse
There is a need to align the data structures that drive risk and financial data. These are:
1. Transactional data that covers all types of transaction and links the financial results of
each transaction with the risk and financial objectives of the financial institution.
2. Asset data  that covers all types of assets that might be linked to the transaction, the
valuation of these assets and the correlation of asset behaviour.
3. Customer data for all counter-parties, which includes the credit risk of the counterparty
and makes provisions when new information or circumstances changes that risk. Detailed
data on customers are required to support product selection and pricing in addition to other
relationship management decisions.
The above risk and financial data could be broadly categorised as follows: