Application of Articles 52 and 54 of Regulation No. 575/2013 (CRR) at consolidated level

How should the consolidated level of AT1 instruments where the issuer is a 100% fully owned subsidiary of an EU institution where the subsidiary is established in a third country and has not been designated in accordance with Article 12 of Directive 2014/59/EU (BRRD) as part of a resolution group the resolution entity of which is established in the Union be treated?

In considering this question there are some assumptions that are key to the interpretation:   The subsidiary is located in a third country. The parent company is the sole holder of this third-country Subsidiary´s Equity. The issuer is 100% owned by an EU Institution. The subsidiary is not part of the parent company’s resolution group. The dividend stopper term only refer to payments made by the subsidiary and not to dividends or AT1 payments of the parent company -the impact of the dividend stopper is not extendable to other parts of the group. The third country where the subsidiary is located is Basel compliant. In principle CRR´s Articles 52.1 (L) and 53 (b) (i.e. Restrictions on the cancellation of distributions on Additional Tier 1 instruments and features that could hinder the recapitalization of the institution) provide that Distributions under the (AT1) instruments shall have to ensure that the cancellation of distributions imposes no restrictions on the institution and that AT1 instruments shall, in particular, not include a requirement for the payment of distributions on Common Equity Tier 1, AT1 or AT2 instruments to be cancelled in the event that distributions are not made on those AT1 instruments. This requirement could be interpreted in line with the objective of the regulation including recent reforms so, under the circumstances foreseen in this question, a dividend stopper included in a AT1 instrument issued by a third country subsidiary could be counted towards the Own Funds at the Group Level. In the case described the restriction on certain payments is confined to the Issuer and deploys effects at the Issuer´s solvency solo level but does not embed any impact at Group level –given the 100% ownership of the subsidiary-. Therefore, this dividend stopper third country feature is not relevant at a consolidated level as the CRR on art. 11 requires to parent institutions to comply with the obligations laid down in Part two (own funds) on the basis of their consolidated situation, in this case, under full consolidation (art. 18.1). The definition made by the CRR art. 4 (47) of ‘consolidated situation’ means the situation that results from applying the requirements of CRR an institution as if that institution formed, together with one or more other entities, a single institution. For the purpose of applying CRR provisions, the third country subsidiary and the UE parent institution, as a single entity, the intra group dividend cancellation (local dividend AT1 stopper), on a consolidated basis, is not imposing any restriction to the institution. The dividend payments or cancelation of payments of a fully owned subsidiary is not relevant for the CRR application at consolidated level, so this feature for dividend stopper required by the third country regulation should not be considered for assessing the compatibility of this instrument at consolidated level. This interpretation is reinforced by some recent legal amendments. Regulation (EU) 2019/876 amending Regulation (EU) No 575/2013, introduced relevant changes on CRR to introduce among other things the necessary elements to make the prudential framework compatible with the objectives of the European resolution framework, introducing changes that ensures the effectiveness of the own funds and eligible liabilities to guarantee the loss absorption capacity pursued by the regulation. In that respect, and for the purposes of ensuring this loss absorption capacity of AT1 instruments issued by subsidiaries of UE Groups subject to Multiple Point of Entry strategy, changes were introduced on CRR articles 52 and 54. On art. 52 1. (p). Second paragraph, requires that the third regulation and contractual provisions of third country subsidiaries, upon decision of the third country authority may be subject to write-down and conversion powers. The AT1 instrument, to comply with this requirement, has to follow the third country regulation.   In the same vein, art. 54 (1), point a, was introduced to specify that it is the third country national law and contractual provisions that govern the instrument that has to be used to calculate the trigger referred in point (a) of the said art. 54 (1) (provided that the EBA is satisfied that those provisions are equivalent to the requirements of the article). Similar changes have been made also to art. 63 for T2 instruments. These changes seem to point towards CRR being interpreted in a way that allow MPE banks to comply with the European Resolution Authority expectation on the principles governing the high quality of eligible instruments.