ECB issues guidance to banks on non-performing loans

Are structural reforms necessary to make NPL resolution feasible?

Banking alert | 19 October 2016 | Are structural reforms necessary to make NPL resolution feasible?

Asset quality concerns

In the August 2016 Joint Committee Report on Risks and Vulnerabilities in the EU Financial System, the EU agencies (EBA, EIOPA and ESMA) highlighted asset quality concerns and the persistently high level of non-performing loans (NPLs) as significant drivers of the uncertainty surrounding the EU banking sector. Specifically, a high level of NPLs hurts profit, constrains capital and limits new lending.

ECB guidance on NPLs

The ECB’s focus on NPLs began with the 2014 comprehensive assessment, which comprised two main pillars: an asset quality review and stress test. Further to this work, in July 2015 a high-level group on NPLs was mandated by the Supervisory Board of the ECB to develop a consistent approach to NPLs.

Through the work of the high-level group, a number of best practices on handling NPLs have been identified and these have been set out in the ECB’s latest publication, Draft guidance to banks on non-performing loans. The Guidance constitutes the ECB’s supervisory expectations and although it is generally applicable to all significant institutions supervised directly under SSM, it also serves as best practice for Less Significant Institutions (LSIs).

Structural impediments to NPL resolution

The July 2016 EBA Report on the dynamics and drivers of non-performing exposures in the EU banking sector draws attention to the fact that NPL resolution in certain Eurozone countries is held back by inefficient bankruptcy regimes and lengthy court proceedings.

According to the World Bank Doing Business Survey for 2015, Malta ranks last in the EU in resolving insolvency. The survey scores countries along a number of variables including recovery rate, time to resolve, cost, as well as strength of insolvency framework.

Worst 5


Recovery rate (cents on the dollar)

Time (years)

Cost (% of estate)

Strength of insolvency framework index (0-16)































Source: World Bank Doing Business 2015

Discussions are currently underway to develop a creditor ranking for credit institutions, in line with BRRD.

While the latest ECB guidance on NPLs is a critical development for dealing with asset quality concerns in Europe at bank-level, structural reforms are necessary at country-level to strengthen resolution efforts.

Feasibility of NPL securitisation as a recovery option

Under the Bank Recovery and Resolution Directive (BRRD), banks are required to submit a recovery plan which consists of a list of feasible capital and liquidity options to recover from severe but plausible scenarios.

One of the options that has been included in recovery plans of banks across the Europe is the securitisation of loans, including both performing and non-performing loans. In the case of NPL securitisation, the cash flows from NPLs are recovered primarily through courts, thus if the bankruptcy regime is slow in terms of recovery, this will make securitisation unsuccessful. Therefore, there is a correlation between securitisation feasibility and the effectiveness and speed of the country’s bankruptcy resolution regime.

In Malta, the legal framework for securitisation is mature, with both the Securitisation Act as well as Securitisation Cell Companies Regulations in force. Nonetheless, the average length and cost of bankruptcy resolution may put into question the feasibility of NPL securitisation as a recovery option for Maltese banks.

How can we help?

  • Credit advisory and Internal Business Review (IBR). Support in rescheduling or restructuring a borrower’s loan.
  • Loan portfolio evaluation. Offer support from the early stages of decision-making process right through the execution of the chosen strategy.
  • Gap analysis on policies and procedures. Ensure compliance with the latest ECB guidance in terms of policies and procedures around NPL and forbearance to meet expectations of JSTs during on-site inspections.
  • Recovery planning. Assistance with drafting of recovery plan in line with BRRD, including feasibility assessment of recovery options.
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