QIS 3 FAQ: F. Definition of Default/Loss
1. We plan to use gross principal write-off adjusted for expected recovery as the definition of loss. Is this acceptable?
Answer: Banks providing LGD information in QIS 3 should take account of all of the required loss elements, including unpaid principal and accrued interest, discount effects and the direct and indirect costs of collecting on defaulted exposures. Where this information is not (or is not easily) available, banks should incorporate estimates for each of these elements. Use of estimates for one or more of the required loss elements, and the basis of the estimates, should be reported in the 'Notes' worksheet of the QIS electronic workbook.
2. We understand that data should be reported using the 90-days past due trigger except for credit cards, for which banks in our country will follow the national industry and accounting practice of 180-days past due. Will similar treatment be extended to non-retail exposures? For example, are the following cases considered acceptable: (i) for a loan which is fully (i.e. 100%) government guaranteed, a 365 days past due trigger will apply; (ii) for fully secured loans (where the collection of the debt is in process and the collection efforts are reasonably expect to result in the repayment of the debt or in restoring to current status), a 180-days past due trigger will apply.
Answer: In the case of retail (i.e. not just credit cards) and PSE (Public Sector Entities) exposures, national supervisors may substitute figures of up to 180 days for the usual 90-days figure. Banks should refer to the National Discretions checklist (Item 28) provided by their national supervisor to see if they should apply a longer than 90-days definition to certain products.
3. The IRB definition of default introduces the term 'material' credit obligation. The 90-days past due trigger is supposed to be a backstop. So if the credit obligation is considered immaterial, then the obligor or obligation in question would not be in default. If this is correct, will the level of materiality be determined by the Basel Committee, national supervisors or the banks themselves?
Answer: It is unlikely that the Committee will provide an exact definition of materiality. The fact that the word materiality is mentioned mainly functions as a safety valve that ensures that it is not necessary to declare default in situations where a default definitely is not in order (e.g. a corporate obligor who is € 1 over its overdraft limit for more than 90 days but also has a performing multimillion euro facility). Banks should explain what definition of material they used for QIS purposes.
4. In the proposed 'Definition of Default', the 'elements to be taken as indications of unlikeliness to pay' include 6 items (refer QIS 3 Technical Guidance para. 400). Does this mean that if one or more of the conditions are met, then the borrower is to be classified as in 'default'?
Answer: Since the publication of the second consultative paper the Committee has interacted intensively with industry in order to improve the definition of default. The definition of default published in the Technical Guidance is the result of that process. The new definition of default gives more flexibility to reflect the particular circumstances of each jurisdiction. The definition requires that any assets past due more than 90 days are classified as in default, i.e. the 90 days only function as a backstop. But in other respects national supervisors are given freedom to give guidance to banks on how the 'unlikely to pay' leg applies in their jurisdiction, taking account of the particularities of that jurisdiction. In framing such guidance they will include at least the local application of the six indicators. That does not mean that data histories of each event need to be maintained separately but it does mean that the bank will need to know if any of the six events has happened with respect to an exposure.
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