TLAC and MREL: Building a new layer in the bank capital structure

  • Loss absorbency requirements imposed on systemically important banks have been subject to considerable revision and uncertainty but their final shape is now becoming clear
  • TLAC applies only to a small number of global banks with in relatively consistent business models; it doesn’t rely on national bank recovery and resolution laws
  • MREL applies to a more diverse group of institutions, from complex G-SIBs to smaller national or regional cooperative banks; it’s based on a harmonized legal framework

A decade on from the financial crash, there is greater clarity about systemically important banks’ loss-absorbing liabilities (which must be easily convertible into capital if a bank fails and becomes subject to ‘resolution’).

The world’s 30 largest banks, known as Global Systemically Important Banks (G-SIBs), are identified by the Financial Stability Board (FSB) on an annual basis. The standard used for these banks is Total Loss Absorbing Capacity (TLAC).

For Domestic Systemically Important Banks (D-SIBs) in the European Union (EU), a similar standard applies, called Minimum Requirement for Own Funds and Eligible Liabilities (MREL). A number of other jurisdictions such as the US, Canada and Australia have also either implemented or are considering similar requirements for their D-SIBs.

Both TLAC and MREL ensure that resolution authorities can recapitalize a failing bank without spending taxpayer money. TLAC and MREL eligible liabilities are ‘bailed in’ to recapitalize the bank instead of relying on a taxpayer-funded bail out. However, they differ in the following ways:

  • TLAC applies only to a small number of global banks and doesn’t rely on national bank recovery and resolution laws. In contrast, MREL relies on a harmonized legal framework (principally the EU’s Bank Recovery and Resolution Directive (BRRD)).
  • MREL also applies to a more diverse group of institutions, from complex G-SIBs to smaller national or regional cooperative banks. Consequently, MREL is more flexible to accommodate different business models and different EU member states.

The FSB’s task in setting clear TLAC requirements for G-SIBs has been relatively straightforward: the 30 institutions to which TLAC applies operate on a global scale and have relatively consistent business models.

In contrast, the Single Resolution Board (SRB), which is the resolution authority for participating Member States within the EU’s Banking Union, is responsible for setting MREL for the top 130-140 banks in Europe. This group includes G-SIBs, which also have to meet TLAC requirements and therefore seek consistency between the two standards in order to ensure a level playing field in terms of competition. MREL also applies to D-SIBs as well as many much smaller operations and those with unusual business models, such as traditional equity-funded Danish mortgage banks.

As the SRB’s mandate is clearly biased in favor of harmonization, there is no easy solution to the challenge of implementing MREL. Some additional complicating factors are the rules on State Aid and the BRRD requirement for a minimum of 8% of liabilities to be bailed in as a pre-requisite for access to national resolution funds.

Some important issues relating to TLAC, such as where capital must be held within a group, are unresolved. However, most of the central aspects of the standard – and perhaps most importantly the compliance date – are now clear. In contrast, some critical elements of MREL, including when it will be introduced, remain uncertain – partly as a result of the complexity described above. Most issues are expected to clarified imminently, however.

For further insights and more detailed analysis of TLAC, MREL and related subordination and regulation issues – as well as how they impact you, click here.


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