Webinar on Ontario's Proposed New Credit Union Rules
The Financial Services Regulatory Authority of Ontario (FSRA) launched consultations on three new Rules to make supervising credit unions more effective and transparent:
- Sound Business and Financial Practices for Credit Unions and Caisses Populaires
- Capital Adequacy for Credit Unions and Caisses Populaires
- Liquidity Adequacy for Credit Unions and Caisses Populaires
To support the public consultation and provide additional detail on the proposed Rules, FSRA hosted a live webinar on June 24, 2021.
Webinar title: Three New Rules for Credit Unions and Caisses Populaires
Webinar presentation date: June 24, 2021
Webinar speakers: Mark White, Guy Hubert, Alena Thouin, Daniel Padro, Bradley Hodgins
Webinar duration: 1:17:52
Good afternoon, and welcome to FSRA's live webinar and the Three Proposed Rules for Credit Unions and Caisse Populaires. We're going to allow a couple of minutes for everyone to join us, and then we'll get started.
Good afternoon and welcome. My name is Alena Thouin. I'm the Director of Policy [inaudible] Approvals for Credit Union and Prudential division, and I will be your emcee today. First, it is my pleasure to introduce you to our speakers for today's webinar: Mark White, FSRA's CEO, Guy Hubert, EVP of Credit Union and Prudential division, myself, my colleague, Dan Padro, Director of Credit Union and Policy division, and from my own team, Bradley Hodgins, Senior Manager, Credit Union and Prudential division. Before we begin today's session, I'd like to remind everyone a few rules of engagement. As an attendee, you have been automatically muted and your video turned off. Once we approach Q&A segments, you'll be able to direct your questions to us via the moderated Q&A icon on the top right-hand side of your screen. To submit your question, type it into the Q&A box. To remain anonymous, please check off the anonymous box before hitting submit. Once I receive your questions, I will be reading them on the line and redirecting you to our speakers. This webinar is recorded. And a recording along with the transcript, presentation deck, and any unanswered questions from the Q&A period will be available post event on the FSRA website. Now let's move on to the main event. As most of you know, FSRA launched a public consultation on three new Proposed Rules to make credit union supervision more effective and efficient. To encourage enhanced understanding, transparency, and to support the public consultation on the Proposed Rules, FSRA is hosting today's live webinar, which we hope you will find informative. And with that, I turn it over to our CEO, Mark White. Mark?
Thanks, Alena. And good afternoon, everyone. Thank you for joining us today for a FSRA's technical briefing on the three Proposed Rules for Credit Unions and Caisse Populaires. With close to 2 million members and 80 billion in assets, Ontario's credit unions are very important to the province of Ontario and our economic well-being, as well as to the financial well-being of members. As you know, FSRA is the prudential and conduct regulator of credit unions, and we're committed to financial safety, fairness, and choice for the credit union members. Our overarching goal is the protection of credit union members. We do this through effectively and efficiently regulating credit unions to help ensure they're financially strong and well managed and to help ensure they have high standards of business conduct, overall, that they treat their members well. We aim to have a strong, sustainable, competitive, and innovative credit union sector that serves its members by taking reasonable risks. The credit union sector has been thriving in recent years, dealing well with the pandemic adversity, growing faster than its bank competitors by many metrics, and it's continuing to evolve so they can meet member needs. And to support the sector, in 2020, the government passed new credit union legislation, what I'll call the CUCPA 2020. That act aims to provide a legislative foundation for the credit union sector to continue to grow and to serve its members. To enable the implementation of that new act, to support the credit unions and their members in this rapidly changing financial services landscape, and to better regulate credit unions through dynamic principles-based and outcomes-focused regulation, FSRA is proposing the three rules we're talking about. They outline principles-based Sound Business and Financial Practices, and they establish more risk-based capital and liquidity rules and reporting.
Sound governance and financial strength are necessary for credit union success, but we're also mindful that credit union sector is a diverse sector and that our rules and our supervision need to work for credit unions that are differently situated. These rules should help credit unions to be well managed and well governed and for the risks to be better understood and mitigated so that those credit unions can better serve their members. We believe these rules will, when implemented, contribute to the public trust and confidence in the sector and to the sector's success in serving its members. These rules and this briefing are part of our continuing work to make our supervision more efficient and effective. Our goals today include transparency and enhancing understanding. So, the FSRA team will first provide an overview of the Proposed Rules and will then be pleased to answer your questions so that we can hear from you. I thank many of you who already provided input into the Proposed Rules through working groups and bilateral discussions and directed consultations, and I look forward to all the comments we're going to get from the stakeholders today and throughout the consultation. With that, I'll hand it over to Guy Hubert. Guy?
Thank you, Mark, and thank you to all of you in attendance today. Stakeholder engagement has been fundamental to the development of the three Proposed Rules that we're going to be taking a look at today. We're looking forward to reviewing the rules with you today and hearing your questions and understanding how we can provide further clarity. Our proposal for Sound Business and Financial Practices, Capital Adequacy, and Liquidity Adequacy promote stability and streamline related requirements. The changes are informed by best practices across the financial services sector and in other jurisdiction in matters that are suitable for cooperative financial institutions. While we are taking questions today, I still encourage you to submit your formal feedback on the public consultation pages on FSRA's website. The consultation period opened on June 14th and runs until September 14th. I think we're ready now to take a closer look at the three rules, so I will pass it back to Alena.
Thank you, Guy. There will be two presentations today with the opportunity to ask questions after each one. You can enter your question in the Q&A feature at any time during the presentation. And now I'm going to hand over the floor to Dan. Over to you.
Thank you, Alena. And now I'll walk everyone through the agenda slide just before we get started on the presentations. So, we've already done the introduction. And thanks to Mark and Guy and Alena for providing their opening remarks. I'll give a little bit of a background. And then after that, I'll get into the overview of the Sound Business and Financial Practices Rule. And after that, we'll stop for a question period, where, as Alena mentioned, you'll have an opportunity to ask any questions relating to that rule. And then I'll turn it over to my colleague, Brad Hodgins, who will give an overview of the Capital Adequacy and Liquidity Adequacy rules. And after that, we'll have another question period with Brad, where you can ask questions about those two rules. So now for a bit of background-- so as it was mentioned in the opening remarks, the main goal of the session is to provide an overview of the Proposed Rules and answer any questions that you may have. And I'm hoping this will be helpful for those that are here today. Some of you are likely reviewing the rules within your organizations and preparing written submissions, and we're looking forward to receiving those. So hopefully, this presentation would be helpful in assisting you in preparing those submissions.
So as Mark noted in his opening remarks, these rules would be made under the new Credit Unions and Caisses Populaires Act 2020 or the CUCPA 2020. And that act was introduced by the government last fall. And the rules are important because they'll update existing requirements, and they'll form a substantive part of the credit union regulatory framework. As also it was mentioned in the opening remarks, FSRA is shifting the existing regulatory approach for credit unions to be more principles based and outcomes focused. A principles-based framework facilitates a more collaborative model between FSRA and our sector partners in order to achieve desired regulatory outcomes in a flexible way. And when we talk about outcomes or an outcomes-focused approach, what we really mean is that desired outcomes might be set. But in terms of achieving those outcomes, we wouldn't prescribe the way that an institution would achieve those outcomes. In most cases, I think most would agree there is no single approach to achieving desired outcomes. And therefore, an outcome-focused approach provides more flexibility to institutions to determine exactly how to achieve those required outcomes in a manner that makes most sense for them.
So, if we could move on to the next slide? So, we'll first discuss the proposed Sound Business and Financial Practices Rule, and then later, I'll turn it over to my colleague, Brad Hodgins, to speak to the Capital and Liquidity Rules. So, the proposed Sound Business and Financial Practices Rule would replace the existing DICO By-law No. 5. And some of you may know that By-law No. 5 already has the legal enforceability of a rule under the current legislation. And actually, because of that, FSRA has the authority to develop this rule either under the current CUCPA '94 or the CUCPA 2020. We have the same rulemaking authority under both acts for this rule. The new proposed rule would support a principles-based approach and set outcomes-focused requirements for a number of aspects relating to governance, which would include subsidiary governance, operational management, oversight functions, and enterprise risk management. The content of the rule was informed by best practices across jurisdictions, both Canadian jurisdictions and internationally, as well as other regulated sectors. In addition, it was also informed by our own supervisory experience.
So now we can move on to the next slide for an overview of the draft rule. We've heard from participants in the sector that it's important to recognize the diversity in the credit union system and that a one-size-fits-all approach isn't appropriate for Ontario credit unions due to that diversity. So, we've designed the rule to be principles based. And once it comes into force, many of the prescriptive elements that currently exist in the By-law 5 framework would be eventually phased out. It's designed to be applied proportionately in a manner that's reflective of the nature, size, complexity, and risk profile of the individual credit union. And you'll see that language a few times in the rule. This gives institutions flexibility in terms of how they adhere to the requirements or the outcomes-focused requirements. It also addresses some areas that are currently not explicitly covered in By-law 5, and therefore, would serve to better accommodate a broader scope of business activities and different ways of conducting business, which credit unions may engage in the future. And that's particularly relevant in the context of the new CUCPA 2020, where credit unions are going to have added flexibility in terms of how they conduct business, the types of business they conduct, and what they conduct through subsidiaries.
So, this slide that you see on the screen right now highlights some of the key areas that are more explicitly addressed under the new Proposed Rule than they are under the current framework. This includes the recognition of credit unions as member-governed institutions which adhere to cooperative principles in their governance. It sets requirements for ethical and responsible action for the board and management. It has features and requirements for oversight functions, which are important in the context of the three lines of defense, and also includes requirements around governance of credit union subsidiaries. So now we'll get into an overview of the specific content or the meat of the rule. So, I'll go through the 15 different sections of the rule at a slightly high level to begin with and then focus on some key areas. But of course, we can come back to areas where you have more questions or want more clarity during the questioning period. So just before getting into the content, I'll note that a number of credit unions would likely already have policies and procedures in place that achieve the outcomes covered here. So, this isn't all new ground for everyone. And that being said, the rule aims to ensure that the desired outcomes are clear and codified so that credit unions can focus on them in their practices.
So, I think we can move to the next slide. So, I'll start with requirements around cooperative principles, and the rule requires that credit unions operate and are governed in a manner consistent with cooperative principles, and it sets out those principles in the rule. This is something that was noted during the last review of the CUCPA by some sector participants as being quite important as cooperative governance is a key feature that differentiates credit unions from other financial institutions. The rule also requires clear and transparent communications with members which highlight their democratic rights. It also sets outcomes-focused requirements for the composition of boards and skill sets for directors, and these requirements are not going to look the same for every institution. They're actually intended to be applied in a proportionate manner. It also sets out board responsibilities in the oversight of the institution. And in addition to that, it sets out responsibilities of senior management, and it differentiates the responsibilities of senior management from those of the board to ensure clarity and the distinction between the oversight roles of the board and operational roles of management. The rule requires credit unions to operate and be governed in an ethical and responsible manner. And this would include ensuring consistency between a credit union's policies and its values, ethics, and market conduct code, which is something that credit unions would have to have in place under the new CUCPA 2020. It also requires that credit unions adopt a whistle-blower policy, and that's really to encourage and promote the reporting of any wrongdoing and to ensure that individuals within the organization feel comfortable doing so.
It sets out requirements around reporting processes and controls which would need to provide timely and accurate information and not just relating to the credit union itself but also on any material risks that a credit union may be exposed to from its subsidiaries. It sets out requirements around remuneration policies, including a requirement to disclose the policies to their members, as well as outcomes to ensure fair and responsible remuneration, which are consistent with those that are accepted internationally and codified by the Financial Stability Board in their Principles of Sound Compensation Practices. The rule also defines the oversight functions of the credit union, and it lists four specific oversight functions of institutions. Those four functions are internal audit or the third line of defense, risk management, which is often referred to as a second line of defense function, or compliance and finance, which can be second line of defense and, in some cases, could even be first line of defense as part of operational management.
Now, because of the role that oversight functions play within the institution, they are required to have sufficient resources, status, authority, and independence to be able to operate in the oversight role effectively. Now, in the rule, this is drafted as an outcomes-focused requirement and would be applied proportionately given the characteristics of the institution. The rule also acknowledges that some credit unions carry out their oversight functions in-house, whereas others may outsource some of those functions to third parties, so, the rule would permit either. And in the case of an outsourcing arrangement, the credit union would be required to have a member of senior management who is ultimately accountable. And in particular, a key feature on the risk management side is that the credit unions would need to have a board-approved enterprise risk management framework in place. And I know most credit unions would already have something like that in place.
The rule is explicit that credit union boards have a responsibility when it comes to subsidiary governance and would be required to include subsidiaries in the board's overall enterprise-wide oversight responsibilities. Now, this doesn't mean that a credit union has to actively govern its subsidiaries and approve policies and procedures in terms of the operation of its subsidiaries. But what it does mean is that a credit union would have to have oversight over its subsidiaries and a line of sight into the operations. So, they would need to have a framework or policies and procedures in place that set out how they provide that oversight over the subsidiary. And finally, the rule requires that a board-approved operational management framework be put into place at the institution. And to be clear on this point, it would be the board that would be approving the framework and providing the oversight, but it would be management's responsibility to implement, execute, and operationalize the framework. So now that I've walked you through the key elements of the Proposed Rule, I'll turn it back over to Alena and see if there are any questions.
Thanks, Dan. We're moving forward to the next [section?]. I hear there's a bit of feedback on the line. But I'll do my best and will read the questions that we have come in. So, question one, and this one is, I think, for you, Dan. How is involvement in subsidiary governance consistent with the subsidiary being a separate corporation?
So subsidiary governance. So, when we drafted the provisions around subsidiary governance, what we're not suggesting is that a credit union be actively involved in the day-to-day governance or operational management of the subsidiary. Subsidiaries, as you know, have their own boards, and would have their own governance processes in place. They would set their own policies and procedures and have their own frameworks, which would be approved by their board. But the credit union is still exposed to the risks of the subsidiary. So, a credit union would need to have an oversight framework in place to ensure that they have appropriate oversight over their subsidiary. And any material risks that the credit unions are exposed to as a result of their subsidiary would need to be included in the reporting process.
Thank you. The next is a more generic question, and I think the question speaks to whether or not-- if anyone has a specific question regarding the meaning of a particular wording or a section, what would be the best mechanism for getting such information?
So, if anybody has sort of a technical or detailed question like that around wording, language, they can feel free to contact me at any time. I think we're going to post my contact information at the end of this presentation. So, feel free to reach out to me. And I'm happy to address your question or direct you to the right person on the team who can do so.
Thank you, Dan. Our next question is on Section 5(3) II and Section 9(1). And the question is, how did those section fit within generally accepted corporate governance principle that the board has one employee, the CEO?
So sorry, and I'm referring to the specific section. I actually wonder if that's something that we can have a little more detail on. Sorry, Alena. Can you repeat the section number?
Section 5(3) and Section 9(1).
Okay. So, Section 5(3) says that the board is responsible for providing oversight, supervision, and direction to management and shall oversee a number of elements of the credit union's operations, including its subsidiaries, various initiatives, policies and processes, its code of market conduct. So, what we're saying there is, not that the credit union should be involved in the day-to-day operational management of the institution or on those specific elements that are listed there. What we're saying is that the board would be responsible for providing oversight and approving policies and approving the overall framework. The day-to-day execution, the day-to-day operational management, and ensuring that those policies, processes, and procedures are implemented and are operating in an effective way, would be the responsibility of management. The board provides the governance, and the board would have to approve those frameworks.
Thank you, Dan. This is a question about the requirement for the whistleblower. And the question asks, how would you direct internal issues, and how would you make that system impartial and unfair-- and fair? Pardon me.
Okay. So, the requirement is that there'd be a whistleblower policy in place, and the intent, the outcome that we're trying to achieve there is to ensure that individuals feel comfortable and are encouraged to come forward when they are aware of any wrongdoings within the institution. How the whistleblower policy is set up is up to the institution. Now, they would have to ensure that it meets the intended outcomes, and they would have to look to best practices to ensure that the policy is reflective of those outcomes and arrives at those outcomes. We're not going to prescribe exactly what a credit union's whistleblower policy must look like. As mentioned earlier, we've taken a principles-based and outcomes-focused approach to this. So that provides credit unions with the flexibility to determine exactly what their whistleblower policy will look like. And that might be different for different institutions in order to achieve the desired outcome.
Thank you, Dan. The next question is on the board requirements, and it asks whether the overall board skill set is a measure of the full board level or each individual board member and what's our expectation.
So that is something that will be applied in a proportionate manner, and that will also differ from institution to institution. So, credit unions will need to determine, given the characteristics of their institution, given the nature, size, risk profile of their credit union, what an appropriate skill set is for their board and what the appropriate composition is, even in terms of size, for their board. And that's going to differ. And during the supervisory process, there are likely to be conversations between the institution and its relationship managers, its examiners to ensure that the board is of appropriate size and appropriate skill diversity. So, we're not going to prescribe exactly what that looks like because as we've said before, it will be different from institution to institution. But institutions should set that out in their policies, and those discussions would very likely happen at the supervisory process level.
Thank you. We have lots of questions coming in, so that's great. The next question is about the CRO role. So, for the risk management role, does it need to be appointed by the board? And would this mean the board is to be responsible for their performance compensation, or would the board simply appoint the individual?
So, what the rule requires is that the individual will be appointed by the board. Their compensation would have to be consistent with their remuneration policies, with the credit union's remuneration policies, which would have to be-- which would have to be developed in accordance with that section of the rule. So, the credit union's remuneration policies would be board approved for that level, but the appointment of the CRO would happen at the board. But as long as the compensation is consistent with the credit union's policies, then that would be consistent with the requirements as set out in the framework.
Thank you. We had a number of questions on that topic, so thank you for that. Another question that's coming in is asking whether these are consistent with OSFI's model for a Canadian financial institution. Would this be accurate?
So, as we developed the rule, we considered OSFI's model. We looked at OSFI's framework. We also looked at frameworks of other jurisdictions as well as within Canada and internationally. I would say there are a number of components that do reflect the OSFI framework. It's certainly not identical. As, I think, either Mark or Guy said at the beginning of the presentation, we looked at other jurisdictions but also looked at what makes sense in the context of the cooperative financial system in Ontario. And you can't always apply every concept from one jurisdiction to another or from one type of regulated financial institution to another. But there are a number of areas that are similar. And we did look to ensure some consistency.
Dan, I was going to chime in on that since I was at OSFI, well, not the most recent version but the previous version, and was oversaw, and I think you hit on the key point. We did try to make sure we picked up the best practices. In a large extent, to make sure we can allow the diversity, the credit union sector to operate, we are probably a bit more principles based because it is so less prescriptive, because we know there is great diversity and also recognizing that these are cooperative institutions. And so, although we still have to cover some of the same issues about the incentives, for example, generally, there are fewer issues that arise in an institution where sometimes there's less alignment between the customers, the management, and the board and the shareholders. Credit unions are unique in that respect. So that and to allow the greater diversity, I think we are a little more principles based. But I do believe-- and glad to get comments on this if someone thinks we left something out that OSFI covers. I'm glad to hear that.
Thank you, Mark and Dan. And the next question-- we have a little bit of time for a few more questions. The next question is around the permission of the CEO to be on the board. How is that addressed, the separation between board and senior management?
Now, that's an excellent question. So, the new act, the new CUCPA 2020, explicitly permits a credit union to have their CEO sitting on their board. Now, there may be some limitations around that which will be later set out in regulations, I believe, as a regulation-making authority associated with that to set some limitations or restrictions. But as a general concept, it allows the CEO to sit on the credit union's board. So that was something that was hard coded into the new CUCPA 2020. And because it was hard coded into the act, we felt it was important for the rule to speak to that point as well and to acknowledge that that is something that's permitted in the credit union system under the new legislative framework. And this is how that should look. So, it's not something that the rule necessarily permits itself. That permission actually comes from the legislation.
Thank you. There's a number of questions on whether FSRA will provide any templates or share best practices for new policies or frameworks to support the new rules.
So again, as I said, we're trying to take a principles-based and outcomes-focused approach to this. When you start providing templates and checklists and things like that, it starts to get actually quite prescriptive. And the downside to that is that institutions start to lose some of that flexibility that we were hoping to achieve through this rule in terms of how to achieve intended outcomes. It starts to become more of a one-size-fits-all approach, and that's exactly what we were trying to avoid. So, I don't think the plan would necessarily be to release templates or checklists or documents like that. But of course, throughout the supervisory process, there are a number of touch points with your relationship manager, with your examiners. And those discussions could happen at that level to ensure that everybody is aligned in terms of whether or not an institution's frameworks, policies, procedures are achieving the intended outcomes. And I'll just add, this is a point that we do hear from time to time from some institutions. And we do recognize that we do need to strike that balance between flexibility and clarity. So, if you do have suggestions that you want to provide in terms of areas that could be clarified more in the rule or maybe a little more specific than currently drafted, we would welcome those in your written submissions during the consultation period.
Thank you, Dan. The next question is around oversight of in-house internal audit and whether oversight of it in-house is sufficiently independent and whether it would be appropriate for the size and the complexity of the credit union.
Yeah. So again, those are outcomes-focused requirements in the rule that are intended to be applied on a proportionate basis. So that is something that might look different from institution to institution. The requirement is that there'd be sufficient independence. And actually, there is a definition of what we mean by independence in the rule, in the interpretation section, Section 1 of the rule, which might be helpful for institutions when they are trying to assess whether or not their internal audit or any of their oversight functions are sufficiently independent because, again, we don't want to be prescriptive. We don't want to set prescriptive requirements. We want to ensure that the oversight functions are operating in a way that's appropriate for that institution and that they have the right status, the right resources, the right independence on that basis.
Thank you. And we’re just going to take one last question as we're getting to time, but please fear not. If your question wasn't announced, we will certainly answer your questions and make them available on our website. And the last question is, how does market conduct fit into the Proposed Rules?
Well, that's a good question. So, the Proposed Sound Business and Financial Practices Rule sets out a number of areas where a board would have oversight responsibilities. And one of those areas is oversight over its market conduct code. Now, I'm sure many in the audience know that under the new CUCPA 2020, there's a legislative requirement for credit unions to have a market conduct code in place. The code is referenced in the act, and FSRA has the ability to supervise against it. And from the perspective of the Sound Business and Financial Practices Rule, the board would be required to have oversight over that code, and senior management would be required to ensure that it's operationalized, executed, and implemented effectively within the organization so that the organization's activities are consistent with the code. So, there's a responsibility at the board level and a responsibility at the senior management level on two different aspects.
Okay. Thank you, Dan, for those great answers, and I think we're going to have to close this particular Q&A period. But please fear not. We will take all of your questions, and we will make the answers available on our website after the meeting. We're now going to move to our next presentation, and I'm going to pass it over to Brad to talk about capital adequacy. Over to you, Brad.
Thank you, Alena, and thank you, Dan, for that great overview of the Sound Business and Financial Practices rule. Good afternoon, everyone. I have the privilege today of presenting on the proposed Capital Adequacy and the Liquidity Adequacy rules. Following my presentation on the Proposed Rules, I will be happy to address any of the questions that you have on these two topics. So, let's begin with the Capital Rule. The current capital framework is detailed in three places, the regulation, which outlines the criteria and calculations for determining capital adequacy, the Capital Adequacy Guideline, which provides additional details for the determination of adequate capital, and the Internal Capital Adequacy Assessment Process, otherwise known as ICAAP, Guidance, which sets out the requirements for credit unions to assess their risk as it relates to capital adequacy. To echo what Dan previously mentioned as the impetus for change, the current capital framework is not reflective of current international standards. Proposed Capital Adequacy Rule is designed to be more closely aligned with current international standards and best practices in a way that is appropriate for Ontario credit unions and is aligned with FSRA's transition to a principles-based - excuse me - supervisory approach and the new Risk-Based Supervisory Framework, which is currently under development.
The next few slides outline some of the key factors that were considered in the development of the Capital Rule. A couple of the areas that are not captured in the current capital adequacy regime are the lack of both capital buffers and a focus on higher quality capital. The proposed Capital Rule will be based on the Basel III framework, which is more risk sensitive than the current framework and will enhance credit union resiliency. I'd like to thank everyone who's taken the opportunity to provide feedback on the capital adequacy requirements through the variety of stakeholder consultations that have taken place over the past several years. The proposed Capital Rule reflects the feedback provided through these engagements. FSRA completed a review of the capital frameworks used in other Canadian as well as international jurisdictions to better understand the requirements and best practices adopted in their frameworks. As mentioned earlier-- sorry, back one. As mentioned earlier, FSRA is moving towards a more principles-based and outcomes-focused regulatory model. This is a collaborative model where Ontario credit unions work with FSRA to achieve the desired regulatory outcomes. While the Capital Rule does contain more prescriptive elements such as the minimum capital ratios, these have been agreed upon with the sector through previous sector engagements and align with international standards.
While there are changes proposed to the capital adequacy framework, I want to acknowledge that the sector is in relatively good shape. Since almost all credit unions currently meet or exceed the proposed capital requirements, there is no anticipation of any net new cost to the sector associated with the introduction of the new Proposed Rule. The requirements outlined in the Capital Rule balance the need for credit unions to maintain adequate capital to protect depositors while enabling credit unions to remain competitive and able to meet the needs of their members. We've talked about the international standards and the Basel III framework specifically already, as well as sector collaboration through sector engagements. So, let's just skip ahead to the third bullet here, proportional. And outcomes-focused approach leaves room for proportionality. For example, the ICAAP requirements, as detailed in the Capital Rule, would be applied proportionally. This provides credit unions with the opportunity to comply with the requirements in a manner that is reflective of their nature, size, complexity, and risk profile.
I'm sure many of you have already taken the opportunity in preparation for today's session to read through the three rules. That being said, this slide gives you an overview of the different topics that are captured in the Capital Rule. I will be happy to go into any of these sections in more detail during the question-and-answer period, but during this presentation, I will be focusing on the following topics, the changes to minimum capital ratios, the leverage ratio, as well as the addition to the-- the addition of the capital conservation buffer. The Capital Rule updates the existing capital adequacy requirements and introduces some new requirements, including those outlined in the table shown here. ICAAP requirements that are currently detailed in FSRA's guidance are proposed to be moved into the Capital Rule, thus giving it force of law. I will provide additional details on the minimum capital ratios on the next slide, but for now, let me just walk through the changes at a high level. The minimum total capital, which is the sum of Tier 1 and Tier 2 capital, remains at 8% of risk-weighted assets, but a new minimum Tier 1 capital requirement of 6.5% of risk-weighted assets is introduced. The minimum leverage ratio, which is currently set at 4% of on-balance sheet assets only, will be amended to be 3% of both on and off-balance sheet items. Please note that not all off-balance sheet items are included in the leverage ratio calculation, and the Capital Rule clearly identifies which assets are to be included in this calculation.
A new-- sorry, back one. A new 1250% risk weight category for high-risk commercial entities and specific types of securitizations has been included in order to align with Basel III requirements. Credit union investments in financial technology or FinTech, as well as community projects, would receive a 100% risk weight for investments up to a total combined amount of 1% of total capital. The Capital Rule sets out the following minimums that all Ontario credit unions must be in compliance with at all times. These updated ratios and the underlying elements to be used in their calculations are important because they bring the sector in line with the current international best practices. Under the Basel III framework, there is a category of capital called common equity Tier 1 or CET1, which is comprised of common equity and retained earnings. As credit unions do not raise capital through the issuance of common equity, only retained earnings would qualify as CET1. As an alternative to introducing CET1 as a separate metric, the capital rule adopts a minimum retained earnings requirement as part of the Tier 1 capital, which is set at 3% of risk-weighted assets. Please note that in order to allow a newly incorporated credit union time that it would need to build up their retained earnings, the minimum retained earnings requirement would not be applicable for the first six years after incorporation.
Credit unions would be required to maintain a minimum capital conservation buffer of 2.5% of risk-weighted assets, which must be comprised entirely of Tier 1 capital. This amount of Tier 1 capital is in addition to the minimum 6.5% required to meet the minimum total capital ratio of 8% of risk-weighted assets. Therefore, the minimum Tier 1 capital component of the minimum total supervisory capital ratio is 9% of risk-weighted assets. If the capital conservation buffer falls below this minimum of 2.5%, the credit union must implement a plan to replenish its Tier 1 capital and limit distributions until such time that the buffer, once again, exceeds this minimum value. Before I take your questions on the proposed Capital Adequacy Rule, I'm going to first provide an-- I'm going to first provide an overview of the proposed Liquidity Adequacy Rule. Please take this opportunity to submit any questions that you may have about the Capital as well as the Liquidity Rule into the question box.
The rationale and the development of the proposed Liquidity Rule is similar to the Capital Rule, and therefore, this slide looks very familiar to the one I presented a few minutes ago. The current liquidity requirements are detailed in the regulation and several FSRA guidance documents, and these include completion guides for the calculation of three liquidity metrics, which are the Liquidity Coverage Ratio, the Net Stable Funding Ratio, and the Net Cumulative Cash Flow. FSRA recently updated the liquidity guidance this year, and the current framework is largely aligned with current international standards. The Proposed Rule more closely aligns with international standards, and the migration of the requirements from guidance to the rule will strengthen enforceability and streamline requirements through the consolidation. The factors considered for developing the Liquidity Adequacy Rule are similar to those for the Capital Rule. In order to enhance the liquidity framework, alignment of requirements with other jurisdictions was considered during the development of the proposed Liquidity Rule. Targeted stakeholder consultations through a working group provided FSRA with the opportunity to validate the recommended approach and elements of the Liquidity Rule. In developing the Liquidity Rule, FSRA considered topics covered under the frameworks in other Canadian as well as international jurisdictions.
As with the first two rules that we've talked about today, the Liquidity Rule contains elements that are principles based and outcomes focused, for example, the implementation by credit unions and, by extension, FSRA's expectations of the Internal Liquidity Adequacy Assessment Process or ILAAP. More prescriptive elements of the proposed Liquidity Rule, such as liquidity metrics, have been previously agreed upon with the sector and align with international standards. Since the substantive requirements of the Proposed Rule are largely in place through existing liquidity guidance, no additional material costs for the sector are expected with the implementation of the new rule. Almost all Ontario credit unions currently either meet or exceed the requirements specified in the Liquidity Rule. The Liquidity Rule includes updates to input used in the calculation of liquidity metrics to align with the Basel III more closely and OSFI frameworks. As with the other rules we have discussed today, the principle of proportionality is incorporated into the Liquidity Rule. Migration of requirements from existing guidance to the Liquidity Rule would strengthen the enforceability of the liquidity framework over the existing regime while providing greater certainty and predictability for the sector.
This slide provides the key topics that are covered and how they are laid out in the Proposed Rule. The majority of these items are part of the current liquidity framework and, therefore, should be familiar to many of you. As I stated earlier in the capital portion of the presentation, I will be happy to answer your questions about any of these topics. But for now, I would like to highlight the diversification of funding topic. As outlined in the Proposed Rule, the credit union is required to include in its liquidity policy the standards, procedures, and limits for maintaining prudent diversification of funding sources. Requirements for diversification of funding are proportional and based on the liquidity profile of each individual credit union. Prudent diversification of funding sources includes minimizing dependencies on and concentrations within the credit union's funding sources.
Next slide, please. The Liquidity Rule consolidates most of what's already detailed in existing guidance, but we've made some small adjustments to align with Basel III requirements and best practices more closely in other jurisdictions. I have briefly touched on the topic of Internal Liquidity Adequacy Assessment Process or ILAAP a few times during this presentation, and this may be a new term to some or perhaps many of you. The Liquidity Rule specifies the elements that a credit union must include in their ILAAP. This includes the requirement for a credit union to implement reasonable stress-testing scenarios and sets out requirements for credit unions to assess their risk as it relates to liquidity. The requirements for the ILAAP outlined in the Liquidity Rule incorporate many of the concepts and requirements outlined in the existing liquidity and stress-testing guidance. In this presentation, I've tried to strike a balance between providing a high-level overview of these topics while providing just enough detail to help you understand the scope of the requirements in the proposed Capital and Liquidity Rule. I'm looking forward to your questions and addressing the areas where you would like to delve further into the details. I thank you for your attention. I will now hand it back to Alena to take us through the question-and-answer period. Alena?
Hi Brad, thank you for this. And I will now move over to the question-and-answer period for this particular rule set. So, the first question we have is around asset risk weightings outlined in Table 2. It seemed to execute a few common-- exclude - pardon me - a few common assets to CUs, and therefore, they only could be placed in the other category with the risk weighted of 1250. These include C1 class A shares, investment grade and corporate bonds, as well as private equity. What is the intent? And how would this be put into your credit union-- would this not put them at large disadvantage?
Thank you. I was just trying to find Table 2, and now I found it on my screen here now, so, we can address those specifics. As to disadvantaging a credit union, that was never the intention as we put this Proposed Rule together. The requirements, as laid out in Table 2, are aligned as close as we could to those outlined in the OSFI regulations, and therefore, they would be held at the same standard as laid out in that situation. So, I think I'll let Mark-- I think Mark wants to make a comment here. Or maybe I misjudged.
Yeah. No, no, sorry. I couldn't get my microphone on. Yeah, let's take a look at that. I mean, I would have thought that investment grade corporate bonds would not be rated 1250 because that's equivalent to deduction from capital. I will say that we probably are going to have to hear some submissions on why something like private equity or an equity investment in the central would not be considered to be a deduction from capital because then the norm is that capital, like an equity risk requires a capital treatment. That's kind of the rule of thumb that I think you'll see in the Basel framework and in most risk-weighting frameworks around the world. So, we can probably take this offline. But if investment grade bonds are indeed considered as deduction, that probably doesn't make sense. But the private equity and the shares in central one, I think we need to understand why those shouldn't require a deduction or an equivalent to deduction from capital.
Thank you, Mark and Brad. The next question is, for those credit unions who are not currently in compliance with the proposed threshold of 3% or any capital threshold, what type of action plans are expected?
So, I think the question is the transition period, I guess, would be another way of interpreting that. So, at the time that the rule would come into force, which would be after the new act comes into force. At that time, the expectation would be that-- and just to be clear, well, the majority of credit unions currently meet the requirements as laid out in the Proposed Rule. And so therefore, for any credit union that would, at that time or in the future, fall below those thresholds, a plan would have to be brought forward. But if at the date of coming into force of this rule, you were offside of one of those metrics, you would have to put together a plan to FSRA to say how you were going to, once again, meet those thresholds. So that's the expectation as it's laid out in the rule right now. So, in the rule, there is a section which states that upon the rule coming into force, if you are not onside with these requirements, then you have to submit a plan to FSRA for our approval as to how long and how-- how and how quickly you will get back on side.
Thank you, Brad. The next question is on Capital Rule 7(3). Are there any current plans for FSRA's CEO to specify any risk weights contained in Table 2, in section ZZ?
No, not at this time. So, if there was a request, we'd have to look at it. But as of right now, everything that we want is in that table currently. And if there's something that is not on that table, then we can take that as part of the consultation period. So please submit, as Mark said earlier, if there were things that you believe that are not in the right category-- or are missing, I should say, not the right category but are missing, please submit those, and we will review them as part of a review of the consultation documents. So, we'd welcome any submissions on that. Thank you.
Thank you, Brad. It's on the same point, but the question is of clarification. In Table 2, ZZ, is the intent of FSRA to have fixed assets, prepaids, etc., risk weighted at 1250%?
Fixed assets, prepaids, and risk weighted.
We'll have to take that one offline.
Okay. Thank you. We'll move on to the next question. Will profit shares held in capital accounts, for example, profits paid into capital accounts in a member's name, be included in the 3% retained earnings requirement? They're not accessible generally to members and do form capital. If not paid, they would stay.
Sorry. Could you clarify the first part of that? So, what part of the member shares?
Will the profit shares held in capital accounts, profits paid into capital accounts in a member's name-- will be included in the 3% [crosstalk]?
So, I guess they were talking about patronage shares at this point that would be paid back. So, they would be brought in-- as long as they meet the criteria as set out and the requirements for Tier 1 capital, then they would be brought in.
Yeah. And that may be a case by case because I know that some-- I believe that some patronage or profit shares have terms that they can be redeemed, in which case they may not need the permanence test for retained earnings. But on the other hand, if it is just an appropriation of retained earnings but as permanent capital, then I think you're right, Brad. So that is something-- I think it'd be good if credit unions looked at their own profit shares if they want to treat them as retained earnings and do the analysis and then ask this question during the consultation about which side of the line that's on. And then, of course, you could then ask us to clarify where that line is if you don't think it's clear because that may be a tricky question in some cases.
Section 7, credit risk. For corporate bonds, investment, and league central one share investment, what risk weighting would they apply? Could you please clarify?
Brad, I think that's a question we already had, that someone said it was 1250 [crosstalk] the other category. It's just that someone asked it in a different way. So, I think we undertook to look at that. But as I said, if it is equivalent to an equity investment in another institution, then 1250 is the norm. But in corporate bonds, it shouldn't actually be treated as-- and I don't expect they would be treated as a 1250%.
Okay. Thank you. Question on the Capital Adequacy Rule, Section 4(3). Can we get a clarity on the rule after deciding the policy question as to whether the five years should start from the date of issuance in the case of investment shares subsequently issued as dividends on shares of the same class? In other words, consider any relevant reasons why the period should not start from the original issue date of the first shares.
So, you're saying that if after three years of the original investment share being issued, if we're paying patronage shares on those investment shares or dividends that are kept at the credit union, did they only have to be kept for another couple of years and still be-- I would have to say no. In order to meet the permanence criteria, everything has to be five years. So, if you're issuing additional shares based on those original shares, then they have to be held for five years because otherwise, you'd be issuing dividends as shares in the fourth year, and they would qualify as Tier 1 for only the next year. And then they could walk away. And so that would sort of go against the spirit and the requirements of the rule.
Okay. Thank you. I do not believe we had this question. Section 7(2), Table 2, BB, in March, you asked and put on higher potential limits for FinTech and community investments, but the Proposed Rule still limits 100% risk weighted to aggregate of 1% of capital. Those are not sufficient rationale to raise this limit.
A decision was made to leave that limit at 1%, and we will welcome comments through the consultation period and any rationale, and we will take that under advisement before we make a change. But the decision was made to keep it at the 1% for the purposes of the consultation period.
Thank you. The next question talks about templates. Do you have draft templates of the new liquidity metrics, LCR, NSFR, NCCF, and the new capital metrics so we can begin to quantify the impact on the credit union?
Now, as far as the liquidity metrics, the templates are the same. Items that have changed as far as the liquidity metrics, the LCR, the NSFR, and the NCCF that have changed-- it's a more robust listing, so what qualifies and what you would put into each category. We've been much more robust as to what qualifies for the different areas. And so, it's taken out some of the guesswork as to, "Does this fit into this box or that box?" And so, you'll notice on the rule, these tables are extremely long, contain a great deal of detail, and hopefully, point you better as to where you should be putting the components or how you fill in the different components. But the template itself, we envision to stay the same. So, the template that’s there is currently on the website will be the one that goes forward. We may have to change a few tweaking of the words, but the way you fill it out is the same way. Now, sorry. There was a question about the capital template. What was that question, Alena?
Yeah. Sorry. I moved off, but it's LCR and NSFR.
So that's the liquidity ones. As far as a capital template, I'm not quite sure what capital template they are referring to. There’re the calculations that are currently in the regulations that will now be brought into the rule, but as far as a template that you'd have to fill out, unless they were referring to the iMIR, that would have to come up. That's under discussion right now. So perhaps certain aspects of the iMIR, the monthly filing will have to be updated, and that's under advisement right now. So as far as the timing for any potential changes to the iMIR, I'm not aware of any changes at this point to the iMIR to reflect these changes to the Proposed Rule. But there's nothing stopping a credit union from taking into account the asset classes and the risk weightings that are outlined in this document to be able to see if there are any changes to their capital levels.
Thank you. There's another clarification question. 3% of retained earnings minimum, is that of total assets or risk-weighted assets?
Risk-weighted assets. All of the metrics for capital-- all of the minimum capital ratios are based on risk-weighted assets. The leverage ratio is based on total assets, as defined in the rule, currently on-balance sheet. Going forward, it will be the combination of on and qualifying off-balance sheet items.
Okay. Thank you. The next question is, what is the rationale behind reducing minimum leverage ratio from 4% to 3%?
For those credit unions that have qualifying off-balance sheet assets that would qualify, keeping it at 4% would result in a much higher hurdle in order to meet. And so, to align with Basel as well as that expression-- I'm sorry. That explanation I'm trying to come up with right now is that 3% is the international standard, and by including those assets, off-balance sheet assets, would be the right way to go. And so, we're aligning with the Basel and OSFI interpretations in that regard. And so, the inclusion of off-balance sheet would be regarded as being extra penal in that situation. So that's the explanation.
Thank you. To liquidity rules, will credit unions with assets less than 500 million have to report NCCF and NSFR or only LCR?
Excellent. I like that question. No, no. This is where proportionality comes into play. So, for credit unions with less than $500 million in total assets, the management and the board of the credit union have to make a decision as to whether they want to complete those filing-- I'm sorry, complete those calculations and present those to FSRA. And if they decide not to do that, then they have to put into place comparable examinations that would explain how they're ensuring that they have appropriate liquidity for time frames longer than the 30-day horizon that the LCR captures. So as long as they have comparable, and comparable, ways to measure their longer-term liquidity risks and ensuring that they have appropriate liquidity over the longer term, then no, credit unions under $500 million in total assets would not be required to submit the NSFR or the NCCF.
Thank you. The next question is on the diversification of funding commentary that's part of the presentation, links it back to off-balance sheet positions and capital adequacy seems to be at odds. Why is holding of capital needed for risks that have been legally moved to a third party?
[inaudible]. Why don't--
We can take it offline.
Let's take that one offline. Take that one offline.
We can take it offline and answer the question in our-- so another question is on Section 4(5), and that section requires deferred tax assets, except those arising from temporary differences, to be deducted from Tier 1 capital. As per our understanding, deferred tax due to permanent differences is not recorded as an asset liability as the changes are reflected in the effective tax rate. So, what is the rationale behind the inclusion of this item among other deductions from Tier 1 capital?
The rationale was to maintain consistency with best practices in other jurisdictions, and that included Basel III. And that was the rationale for that item, it was to ensure that the credit unions were being held to the same standard as other jurisdictions.
Okay. Thank you. Just going to the next question here. Is the grand parenting of existing investment shares indefinite?
So as long as an investment share that currently qualifies under the requirements-- as laid out in the regulations, under regulation 237, they would be allowed to continue. Now, indefinitely? I would have to say no because investment shares have to be included-- can only be included as long as they qualify in the appropriate category. So yes, they could continue to qualify as Tier 2 capital. But after a certain amount of time, after the five-year period, a certain amount of the investment shares, for the calculation purposes, need to be run off or put into Tier 2 capital because after the five-year period, there has to be an expectation, as laid out, that up to 10% of the shares could be paid out to members and, therefore, would no longer qualify as Tier 1 capital. So yes, they could continue to be called capital, but whether they would continue to be called Tier 1 capital would depend on the provisions within the prospectus of the investments and would have to be brought into Tier 2 as appropriate, as they are sort of run down-- or not run down, but as the expectation would be that they could be paid out to their members over time.
Okay. Thank you. As we're starting to run down the questions, the question we have is on the Liquidity Rule, Section 5(8), Table 3G. Can you provide guidance on FSRA's expectations for credit union definitions of retail large deposit, example, what constitutes large, or could it be a percentage of total deposits or another metric?
So sorry. That was 5(8), subcategory?
It's 5(8), Table 3G.
Oh, okay. Right. Okay. We are allowing credit unions to define what a large deposit is, but that is why as part of the completion of the templates-- is that credit unions should be putting in what their assumption is, so how are you defining a large deposit? So, then FSRA can review how you have defined a large deposit and if we have a concern about its size, then we can get back to you. So, the current templates, as laid out, do have the ability for credit unions and the expectation of credit unions to be providing those types of assumptions as to how they've defined these metrics.
Good, very good, staying on the same Section 5(8), Table 3H, trust accounts. Trust accounts have a runoff rate of 10%, but should they not be included, would be, where there is an established trustee relationship with a runoff rate of only 3%?
The rationale behind that was that we believed that those could be moved a little bit more-- if the only relationship with a credit union was through a trust account or a brokered account for that matter, then that money would be considered a little bit more hot or could move more freely. And so, for that matter, you could not make the argument that the long term-- I mean, if the credit union wants to make the argument and put that into the assumption as to how they've done it, we can review that at that point. But the expectation as this table has been laid out would be that from a trust account, the trustee could move that money freely. There's not a long standing-- if the only relationship with the individual member is through a trust account as opposed to having a mortgage or other avenues that the member is using, the expectation would be that that is a fairly lean relationship, and therefore, the assets could-- or sorry, the deposits could leave more freely.
Thank you. And as we're winding down the time, there's actually a question for Dan with respect to Sound and Financial Business Practices and in terms of the transition period. Dan, would you be able to speak to that?
So, are you referring to a transition period for credit unions to comply with the new requirements in the rule?
Okay. So, the Sound Business and Financial Practices Rule-- so as you mentioned earlier, all of these rules are going to be made under the new CUCPA 2020. That legislation has not yet been proclaimed into force. And when it was introduced last fall as part of the fall budget bill, the government made an announcement that it would proclaim the new act into force in 2022. But there was no specific date in 2022 that was provided. So, the government's commitment was to proclaim it into force at some point during the year. And so, we're currently now working on these rules, as Mark mentioned in his opening remarks. These rules are necessary in order to be able to implement the new framework and have it proclaimed into force. So, we have a process to develop these rules. And as part of that process, it has to go to the Minister for approval once we finish the consultation period and finalize the rule. So, what our plan is to work with the ministry so that we coordinate timing so that we can consider an appropriate transition period between when the rules are finalized and approved and when that provision in the new act is proclaimed into force. Of course, if you have thoughts in terms of what an adequate transition period for the Sound Business and Financial Practice Rule would be, we certainly welcome that feedback through the consultation process. We're certainly happy to consider the thoughts that you have, and we can take that away with us as we work with the ministry to try to coordinate an appropriate transition time.
Thanks, Dan. Just staying on the time to comply, there's another question on the Liquidity and Capital Rules. The question is, it seems that the Proposed Capital Rules will have a significant impact on current ratios. Will FSRA look to apply an appropriate time for CU to comply? I think we answered a little bit of that, but perhaps we can address it a little bit more clearly.
So, the changes to the-- as I alluded to earlier or maybe I think-- I stated a little bit more clearly, I thought, that no transition period is being contemplated at this point because the majority of credit unions are currently onside with all capital requirements at this time. For those credit unions who are not onside, as laid out in the rule, they have the ability to apply for a variance or an extension or transition period, I should say, to allow them to get onside. But they would have to submit an application to FSRA asking for the ability to extend the period, to which time they would have to be in full compliance. And the same thing happens after the fact. So, whether it's at the point of introduction of the new rules or at any time in the future, if a credit union is offside, then a plan has to come in. I mean, they have to apply for a variance at that point. So, at the start, they're asking for a transition period. Later on, you'd be asking for a variance to the capital liquidity rules. And so, the same process which is in place now for credit unions who would become offside would exist at the transition-- would exist at the time of the implementation of the new rules.
Thank you. And I think we're pretty much done here, and we're almost out of time, and we wanted to thank each of you for taking the time out of your busy day to join us today. If you didn't have a chance to ask a question or your question was not answered, we will get to them. And please feel free to email email@example.com, and we will address them. Once again, this webinar was recorded, and the recording, along with the transcript and the presentations and any questions that we didn't get to today, will be available on FSRA website. We thank everyone and have a great day.
<END Video transcript>
- Mark White, Chief Executive Officer
- Guy Hubert, Executive Vice President, Credit Union & Prudential
- Alena Thouin (Emcee), Director, Policy Support and Approvals
- Daniel Padro, Director, Policy – Credit Union
- Bradley Hodgins, Senior Manager, Policy and Research
The presentations highlighted the proposed structure and content of each Rule, key factors influencing the proposed changes, how each Rule differs from the current requirements, and considerations for implementation.
Over 330 participants tuned in and had an opportunity to ask questions directly to the FSRA team. Topics included:
- Expectations of board governance, risk management, and oversight functions;
- Independence and proportionality;
- Asset classifications and risk weighting rationales; and
Implementation periods and transition timelines.
If you require an Accessibility for Ontarians with Disabilities Act, 2015 (AODA)-approved accommodation, descriptive transcript or recording, please write to firstname.lastname@example.org.
Credit Union technical briefing
FSRA response to audience questions
Q1. How is control of the size, makeup, and skills of the board consistent with member democratic control?
A1. It is important for credit unions to ensure that the size, makeup, and skills of the board are appropriate given the nature, size, complexity, and risk profile of the credit union, to ensure that the board is capable of providing effective governance and oversight of the institution.
As co-operative financial institutions, members have the right to elect board members. Section 2 of the Rule requires that the credit union's governance be consistent with co-operative principles, which are set out in the Rule.
Q2. In Section 4(1) on board composition, there does not seem to be a requirement of proper board representation to match the membership in regards to gender and age, as example.
A2. Section 4(1) of the Proposed Rule requires a credit union to have a board with directors who have the appropriate skills, education, experience, and commitment to enable them to discharge their duties and responsibilities effectively. This is an outcomes-focused requirement, so each credit union can determine what constitutes "appropriate," relative to the nature, size, complexity, operations, and risk profile of the credit union.
The Rule does not preclude a credit union from considering age and gender in their board compositions, which could be set out in their by-laws, but it does not impose prescriptive requirements in that regard (subject to membership approval).
Q3. Does the current requirement for all board members to be strong in all nine competency areas within 24 months still apply and/or subject to each credit unions discretion taking into consideration the outcomes-focused approach?
A3. The Proposed Rule sets outcomes-focused requirements to ensure that board members possess the appropriate skills, education, and experience to carry out their duties effectively. The specific skills, education, and experience will differ from institution to institution depending on the size, nature, complexity, operations and risk profile of the credit union.
Prescriptive requirements that were previously set out guidance associated with the current DICO By-law No. 5 will be phased out.
Q4. Does FSRA have authority to review decisions of boards where board is expected to formulate and implement policies that are "proportional," or do boards have complete discretion? It isn't difficult to imagine situations in which the policies are not in fact proportional, and may not be likely to achieve the desired outcomes. What remedies are available to FSRA?
A4. During the supervisory process, FSRA will review and examine board approved policies and decisions. Boards will be required to demonstrate that their policies, procedures and frameworks are appropriate on a proportional basis to FSRA supervisory staff. If a board does not comply with the requirements set out in the Proposed Rule, this could impact the overall risk rating of the institution and/or result in enforcement action.
Q5. Do all candidates need to be pre-approved by the board before the nomination is put forward?
A5. The Rule does not require pre-approval of candidates that are nominated for the board. However, it does require that when candidates are nominated or appointed to the board (in a case of a vacancy), those candidates possess the appropriate skills, education, experience, and a commitment to discharge their duties and responsibilities effectively.
Q6. While the board is to stick with policy matters and management with day-to-day operational matters, does the board not have the right to ask questions of an operational matter if they see something going radically go wrong in the operations?
A6. A credit union's board not only has the right, but has the responsibility to ask questions relating to operational matters if it is concerned that there may be wrongdoing within the organization. This is consistent with the board's role in providing governance and oversight of the credit union, while not managing the day-to-day operations of the institution.
Q7. If a CEO can sit on the board, will they have to be elected?
A7. The new Credit Unions and Caisses Populaires Act, 2020 permits a credit union's CEO to sit on its board if permitted by the by-laws of the credit union, subject to any limitations that may be set out in regulations under that act. All directors of the credit union would be elected by members in accordance with the credit union's by-laws.
Q8. Are "Closed Ethnic Bond" credit unions still relevant in the face of the Charter of Rights and Freedoms?
A8. This question goes beyond the scope of the Proposed Rule. The Rule does not impose requirements around bonds of association.
Q9. Regarding the internal audit function: if outsourced, there could be a conflict between 11(5)iii and 11(7), as surely it is the credit union accountable manager that is responsible for policy and procedure development, not the third-party auditor firm.
A9. The head of the internal audit function, whether internal or outsourced, is responsible for policy and procedure development and is not permitted to have other management responsibilities.
In a situation where the head of the internal audit function is outsourced, a member of senior management must be accountable, but this accountability does not make that individual subject to the requirements of the head of the oversight function.
Q10. For the whistleblower policy and reporting to auditor, is it an internal or external auditor?
A10. A credit union's whistleblower policy should set out procedures and processes for providing information regarding misconduct or fraud on a confidential basis to both the internal and external auditor of the credit union.
Q11. On the concept of "independence" of board members (see section 4), has FSRA considered adding the criteria of not having a conflict of interest, such as membership in a union, where the credit union's employees are unionized? This has been a huge problem in the past, where the union has had tremendous influence over board elections.
A11. The new CUCPA 2020 addresses conflicts of interest through legislative requirements. FSRA encourages feedback on this point in written submissions, if participants feel that the legislative requirements should be supplemented by requirements in the Rule.
Q12. Should the CRO report to the board for independence?
A12. Section 12(2) of the Proposed Rule requires that the head of the risk management function of the credit union be appointed by and have a reporting relationship to the board. The intent is to ensure that there is sufficient independence in that function and that the board has sufficient oversight of the function. The provision does not require that the board play an operational role in the recruitment process, but rather that the board make the official appointment, which could be based on the advice of senior management.
Q13. Rule 10(2) - I think it would be helpful to further clarify the relationship of the Head, the CEO and the Board where the Head is an employee. Is the CEO responsible for the performance of a Head who is an employee if, now, the Head will have a direct reporting line (rather than a dotted reporting line) to the Board? I think this could be problematic if the CEO really has no managerial responsibility for or authority over the Head's work.
A13. Section 10(2) of the Proposed Rule addresses the necessity of having someone in the credit union's senior management who is accountable for making sure that the outsourced function performs adequately. FSRA will consider clarifying this aspect of the Rule as it reviews feedback from the consultation process.
Q14. Regarding 1(5)iii, can Board Chair and Vice Chair, as Officers of the Credit Union, still be considered "independent"?
A14. The Board Chair and Vice-Chair would be directors of the credit union and have responsibilities as set out in section 5 of the Proposed Rule. Directors are required to discharge their responsibilities in a manner that results in independent oversight of the credit union’s management and provide effective challenge to credit union management.
Q1. So in effect the minimum Tier 1 capital requirement is now 9% of total assets?
A1. Yes, that is correct.
Q2. CAR 7(2), Table 2 bb) - Can you confirm/clarify that 3-4 unit residential property mortgages will be at 35% risk weighting? Will non-owner occupied residential mortgages (Commercial/Residential) still be treated as commercial?
A2. Regulation 237 section 55. under the Credit Unions and Caisses Populaires Act, 1994 states: a residential mortgage loan is a loan that is secured by a mortgage on residential property that is occupied by the borrower. FSRA does not have the authority to change this definition.
Therefore, only three to four living unit residential property mortgages where the owner occupies one of the units qualify for the "residential mortgage" treatment.
Q3. Can you clarify that Total Capital of 8% is based on Risk Weighted Assets?
A3. Yes, the Total Capital Ratio is based on Risk Weighted Assets, as with all the minimum capital ratios, with the exception of the Leverage Ratio which is by Total Assets (for qualifying assets as defined in the Rule).
Q4. Is it 125% or 1250% risk weighting for some commercial loans?
A4. It is 1250% risk weight for high-risk commercial entities.
Q5. Are the ratios in Table 1 the same in the Proposed Rule as in the presentation materials?
A5. Yes, the information in Table 1 is the same as the slide deck for the same metrics. We added "Retained Earnings" to the slide deck for illustrative purposes. This information is in the Rule text and not the Table.
Q6. Is Accumulated Other Comprehensive Income (AOCI) considered as Retained Earnings?
The new proposed Capital Adequacy Rule still excludes AOCI gains from capital but requires a deduction from capital for certain AOCI losses.
A6. FSRA will take this away for consideration.
Q7. Will there be a Supervisory Review and Evaluation Process (SREP) framework in place to review the the economic capital as captured in the ICAAP document of the credit union?
A7. Supervisory Review and Evaluation Process (SREP) is a set of procedures carried out on an annual basis by the supervising authority to ensure that each financial institution has the appropriate strategies, processes, capital, and liquidity in place relative to the risks to which it is exposed. This is widely used in the European Union.
As FSRA moves toward a more principles-based and outcomes-focused supervisory framework, it will expect credit unions to develop their own frameworks, templates, and/or reports to illustrate their ability to properly meet the requirements outlined in the Capital and Liquidity Rules (specifically the ICAAP and ILAAP).
Q8. Regarding Expected Cash Outflows and Inflows in Table 3 and 4 of the Liquidity Adequacy Rule, are the Run-Off % rates for Inflows phrased correctly?
A8. The term "Run-Off" is used to describe the amount that will be included in each of the "outflows" and "inflows."
A 15% Run-Off rate means that 15% of the total amount will be included in the calculation of the "outflow" and "inflow" amounts in the LCR. This nomenclature is consistent with the current framework and the titles in the LCR templates currently being used by credit unions.
Q9. Regarding the 3% of Retained Earnings minimum, is that of total assets or risk weighted assets?
A9. It is of Risk Weighted Assets, as with all the minimum capital ratios, with the exception of the Leverage Ratio which is by Total Assets (qualifying assets as defined in the Rule)
Q10. Under OSFI, common stock in banks are included in this CET category. In that case, could membership shares which cannot be redeemed unless they leave the credit union, be considered part of the 3% test?
A10. No, because there is no requirement for banks to redeem their shares. In the case of banks, shareholders must find a willing purchaser (usually through a stock exchange), whereas there is an obligation to repay members for their membership shares when they leave the credit union.
Q11. If after 5 years, 10% of investment shares can be redeemed. Does that mean 90% of the shares can be considered tier 1?
A11. Yes, as long as the investment shares meet all the requirements for inclusion in Tier 1.
Q12. Will FSRA be providing credit unions with an updated BIS template which incorporates these new Bassel III changes?
A12. FSRA will take this away for consideration.
Q13. Section 4(5)(iv) indicates that credit unions would need to deduct from Tier 1 capital/retained earnings “any increase in equity capital resulting from securitization transactions.” Can you clarify and provide an example? At our institution, we only have NHA MBS 975 pools that are recorded “on B/S” – in other words, we run a very basic and conservative securitization program (currently Level 1). We use securitization for three main reasons: (1) To help us diversify our funding sources so we are not fully reliant on deposits; (2) To provide long-term funding which assists us in managing our capital duration; (3) To achieve cost savings when securitization funding is less expensive than member deposits.
A13. The intention with this deduction from capital is to remove the “booking” of gains of income (additions to retained earnings) from the securitization transactions prior to the gains being accrued over the term of the securitization. FSRA will ensure that this is more clearly outlined in the final version of the Capital Adequacy Requirements Rule.
Q14. (2) Table 2(zz) indicates that a 1250% risk-weighting will apply to “investments in entities or assets generated by business activities not otherwise included in Table 2.” At the webinar, you indicated that FSRA would take this item away to determine if this means that the 1250% weighting would apply to assets such as fixed assets, prepaids, receivables and other assets. Do you have any further information to share on this? I am trying to estimate the impact of the proposal rule 002 on our institution’s BIS and the answer to this question will have a very significant impact on our ratio if we are to weight these asset groups at 1250%.
A14. The rationale for the 1250% category, along with the other additions to the risk weightings for the calculation of risk weighted assets, was to align with the requirements set out in Basel III framework. The direction to more closely align with the Basel III framework was previously discussed and agreed upon with the sector as part of the review completed by the Ministry of Finance as part of the modernization of the Credit Unions and Caisses Populaires Act (CUCPA).
Assets such as fixed assets, prepaids, receivables, and some other assets would receive a 100% risk weighting. FSRA will ensure that Table 2 of the Capital Adequacy Requirements Rule provides more fulsome details on the items that qualify for the various risk weighting categories.
Q15. (3) Table 2 – I am trying to identify which item in Table 2 would be applicable to our HQLA Level 2A securities. In the proposed Liquidity rule (003), Table 2A clearly calls out “Corporate debt security, not issued by a financial institution or any affiliate of a financial institution, that has a long-term credit rating from a designated rating organization of at least AA- or an equivalent rating.” We have one security (received on transition from Central 1 in January) that would be considered Level 2A. Where does this security fall in Table 2 of the proposed capital rule? I don’t see any specific category and I’m worried that it may default into the (zz) 1250% weighting. Can you please clarify?
A15. The rationale for the 1250% category, along with the other additions to the risk weightings for the calculation of risk weighted assets, was to align with the requirements set out in Basel III framework. The direction to more closely align with the Basel III framework was previously discussed and agreed upon with the sector as part of the review completed by the Ministry of Finance as part of the modernization of the Credit Unions and Caisses Populaires Act (CUCPA).
The “corporate debt security, not issued by a financial institution or any affiliate of a financial institution" would receive a 100% risk weighting. FSRA will ensure that Table 2 of the Capital Adequacy Requirements Rule provides more fulsome details on the items that qualify for the various risk weighting categories.
Q16. Per 3(6), it states the capital conservation buffer is additional capital above minimum Tier 1 capital ratio of 6.5%. Per 3(9), it states “sum of Tier 1 capital, including the capital conservation buffer” in the calculation of total supervisory capital ratio. Could FSRA clarify if the buffer is added to minimum total capital ratio (8%) only or the buffer would have to be added to Tier 1 capital minimum requirements as well? Are there any plans to add it to the Tier 1 capital minimum as well similar to the requirements that OSFI currently has?
A16. The minimum Tier 1 capital ratio of 6.5% is the minimum component of the minimum total capital ratio (of 8.0% as defined in the CUCPA, 2020). Since the minimum capital conservation buffer ratio of 2.5% must be comprised of Tier 1 capital, the minimum amount of Tier 1 capital required to meet the minimum total supervisory capital ratio of 10.5% is 9.0% (6.5% + 2.5%).
Q17. Can FSRA provide more details on definition of financial technology investments and the rationale of the 1% maximum restrictions?
A17. The Capital Rule provides the definition of the types of investments that would be considered as “FinTech Investments” and states that credit union investments in FinTech, as well as community projects, would receive a 100% risk weight for investments up to a total combined amount of 1% of total capital. FSRA made the decision to leave that limit at 1% for the draft of the proposed Capital Rule. FSRA welcomes comments and any associated rationales throughout the consultation period and will take the feedback under advisement before the final is issued.
Q18. Can FSRA elaborate more on this item such as types of securities and type of transactions would be eligible for this treatment?
A18. The excluded amounts would be any realized profits or losses from the sale of securities during the year and they are excluded from the operational risk calculation because the gain or loss on the sale is not considered to be a regular income flow from year to year.
Q19. Can FSRA explain the rationale of using regulatory capital for leverage ratio referencing that OSFI is currently using Tier 1 capital in leverage ratio?
A19. A decision was made to follow the credit union precedent (Saskatchewan), and not the model used by the Office of the Superintendent of Financial Institutions (OSFI).
Q20. Can FSRA provide clarifications on the definition of “L”? Subsection 4(4) and paragraph 5 of the definition of “E” in subsection 17(2) and 17(4) of Ontario Regulation 237/09, those sections are related to investment shares? Under current regulations subsection 16(1), definition of “B”, goodwill and investments in subsidiaries and other items are deducted from total assets. Can FSRA confirm if those exclusions are still available under new rules?
A20. The reference to section 4(4) in section 12(5) of the proposed Capital Adequacy Requirements Rule should reference section 4(5).
Q21. What is the definition of "available for sale"?
A21. Clarifying wording will be added to the Capital Rule stating that "available for sale" will be defined per current GAAP standards.
Q22. The new proposed Capital Adequacy Rule excludes AOCI gains from capital but requires a deduction from Tier 1 capital for certain AOCI losses. Can you explain?
A22. The intent of the treatment of gains and losses for "available for sale" equities included in AOCI is to be the same as in the current Capital regulation. However, in the current draft Capital Rule, the gain on these equities was not included as Tier 2 capital. The Capital Rule will be amended accordingly.
Q23. Section 4(5)(iv) indicates that credit unions would need to deduct from Tier 1 capital/retained earnings “any increase in equity capital resulting from securitization transactions.” Can you clarify and provide an example?
A23. Clarifying wording will be added to the Capital Rule that reflects that "any increase in equity capital resulting from securitization transactions" are those associated with expected future margin income resulting in a gain on sale. For example, "booking" gains as income (additions to retained earnings) from the securitizations prior to the gains being accrued over the term of the securitization.
Q24. What is the capital treatment for investments in private equity funds? 1250% risk weight?
A24. The Basel Standards include a decision tree to determine the treatment of equity investments (reference: Basel Framework, paragraph 60 of the "Calculation of RWA for Credit Risk" chapter). This tree is used in conjunction with specific section dealing with equity investments in funds.
Q25. Will FSRA be providing credit unions with an updated BIS template which incorporates these new Basel III changes?
A25. Updated reporting templates for capital will be provided once the Capital Rule is finalized.
Q26. Can FSRA confirm the Credit union’s capital in the CU’s financial statements refer to equity as reported on our balance sheet and not regulatory capital?
A26. The reference to "equity capital" in section 4 (5) (iv) is a reference to both balance sheet and regulatory capital.
Q27. Please confirm if the intangible assets would include purchased, internally generated, and acquired from acquisition all three sources. If deduct from Tier 1 capital, the intangible assets should be excluded from risk weighted assets calculation according to Basel III framework. Furthermore, in 4(6)(iii), we are able to exclude computer software, and so isn’t 4(5) a deduction for other than software? If so, it should be re-worded to be clear.
A27. Intangible assets from all three sources are included in accordance with GAAP. All intangibles (including computer software assets) would be included in the determination of "B" in section 4(5) except for that portion of computer software assets included in intangibles that is excluded (up to prescribed limit) as outlined in section 4(6).
Q28. In 4(5) (ii), the Rule states “deferred tax assets, except those arising from temporary differences”, in 4(6) (ii) it states again credit union can exclude “deferred tax assets arising from temporary differences from calculation “B”, please confirm. Is “aggregate amount equal to 1% of the credit union’s Tier 1 capital” the net Tier 1 capital or the amount of “A” as determined in subsection 4(2)?
A28. Section 4(5) (ii) refers to "permanent" deferred tax assets and section 4(6) is referring to "temporary" deferred tax assets. The amount of "deferred tax assets arising from temporary differences" not excluded from the calculation of "B" as per section 4(5) will be risk weighted at 100%. Table 2 will be updated to add these assets.
Q29. In section 4(5) (v) it states that "cumulative gains and losses due to changes in the credit union’s credit risk on fair valued financial liabilities". Can FSRA provide further details on this deduction from Tier 1 capital? Does it apply to all the fair valued financial liabilities on balance sheet (i.e. financial instruments that are designated at Fair Value under IFRS 9)?
A29. The financial liabilities of the credit union are fair valued according to GAAP. The "credit risk" is one part of the fair value as determined by GAAP. Credit unions should discuss with their auditors in the determination of the fair value of financial liabilities.
Q30. For Section 7(3), what would be the criteria/process for the Chief Executive Officer TO determine the risk weight? How long the assessment be, and are credit unions supposed to wait to receive CEO approval before designating a risk weight? Do we have a published CUCPA 2020 to reference section 80?
A30. The CEO would have discretionary powers to determine the new risk weight without having to amend the Rule, on a case by case basis. If a credit union is considering an investment in an asset that is not specified in the table, it should bring the matter to the attention of its FSRA Relationship Manager.
The CUCPA has received Royal Assent but has not yet come into force. Section 80(1) of the CUCPA, 2020 states: "A credit union may apply to the Chief Executive Officer for a variation of the requirements under section 77." Section 77 (1) states: "A credit union shall maintain, in relation to its operations, adequate and appropriate forms of capital and liquidity." The variation process has not been finalized.