Statement of Guidance – Credit Risk Classification, Provisioning and Management (December 2018)

Summary

This is a Statement of Guidance (SOG) issued by the Cayman Islands Monetary Authority (CIMA) in December 2018, explaining how CIMA expects licensees it calls 'Credit Risk Holders' to implement the Rule on Management of Credit Risk and Problem Assets. It sets out expectations for classifying credit assets by risk, provisioning for loan losses, and governance around credit risk management, rather than creating new binding rules itself, though CIMA will assess compliance against it.

The guidance applies to 'Credit Risk Holders' - essentially banks and similar licensees holding credit risk on and off balance sheet.

• Terminology: Covers terms such as non-performing, impaired, and restructured loans.
• Classification system design: Addresses the design of a Credit Risk Asset Classification System (CRACS).
• Classification scale: Sets a minimum four-category classification scale for poorer-quality facilities: Special Mention, Substandard, Doubtful, Loss.
• Impairment: Covers loan impairment recognition and measurement.
• Provisioning methodology: Covers specific and general provisions, management judgment, and adequacy of overall provisions.
• Re-classification: Covers re-classification of impaired loans.
• Income recognition: Addresses income recognition.
• Restructured loans: Addresses treatment of restructured loans.

It requires Credit Risk Holders to build classification systems proportionate to their size and complexity, covering both on- and off-balance-sheet exposures and connected parties, with independent review of the classification process and any models used. Boards and senior management are expected to take responsibility for credit risk policies, provisioning levels and internal reporting, and firms must report classification and provisioning information to CIMA on a regular basis. An annex provides detailed qualitative factors (earnings, capital, cash flow, management, collateral, etc.) to help firms decide which classification category applies to a given facility.

Key obligations

• Credit Risk Holders must develop a Credit Risk Asset Classification System (CRACS) proportionate to the nature, size and complexity of their operations, covering both on- and off-balance-sheet exposures.
• Poorer quality facilities must be classified into at least four categories (Special Mention, Substandard, Doubtful, Loss) using the criteria and factors described (including Annex 1).
• Connected counterparties must be classified on a group basis.
• A regular independent review function (internal audit, risk management, compliance, or external auditor) must be established to assure the integrity of the classification process, and any models used for classification must be periodically validated.
• Any loan or other asset classified as 'Loss' must be written off within three months of being so classified against the provisions for loan losses account.
• If a Credit Risk Holder uses an alternative asset classification system, it must document the system with appropriate explanations and provide details to CIMA upon request.
• Credit Risk Holders must provide information on provisions held against poorer-quality facility categories and submit asset classification information to CIMA on regular returns as required.
• The Board and senior management must understand and determine the nature and level of credit risk taken and ensure appropriate reporting on CRACS, problem assets and provisioning methodology.
• Renegotiated/restructured loans must continue to be classified as Substandard unless all past-due interest is paid in cash at renegotiation and a sustained record of performance under a realistic repayment program is maintained for at least six months.
• Where pending mitigating factors for a 'Doubtful' classification do not materialise within 180 days, the Credit Risk Holder must re-assess the exposure, which may warrant reclassification as 'Loss'.

Applies to

Credit Risk Holders, banks

Deadlines

• within three months of being classified: A loan or other asset classified as 'Loss' must be written off against the provisions for loan losses account within three months of classification.
• 180 days: If pending mitigating factors supporting a 'Doubtful' classification do not occur within 180 days, the Credit Risk Holder must re-assess the classification, potentially to 'Loss'.
• at least six months: A renegotiated loan may return from Substandard classification only after a sustained record of performance under a realistic repayment program is maintained for at least six months.