Laws and Regulations Governing Bank Credit in Malaysia PDF

Home About FIN367 Laws and Regulations Governing Bank Credit in Malaysia Sub-topic 1.2 Next Slide  FIN367 1.2 Laws and Regulations Governing Bank Credit in Malaysia 1.2.1 Roles and Responsibilities of BNM 1....

Home About FIN367 Laws and Regulations Governing Bank Credit in Malaysia Sub-topic 1.2 Next Slide  FIN367 1.2 Laws and Regulations Governing Bank Credit in Malaysia 1.2.1 Roles and Responsibilities of BNM 1.2.2 Financial Services Act (FSA) 2013 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM Read More...  FIN367 Laws and Regulations Governing Bank Credit in Malaysia BANK NEGARA MALAYSIA (BNM) Regulations, Guidelines, Notices and Directions Financial Services Act Issued by Bank Negara 2013 Malaysia Exposure to Single Counterparty Credit Transactions and Anti-Money Laundering Exposure with Connected and Counter Financing Parties for Terrorism Taking shares of Licensed Person as Security Classifications of Impairment Provision for Loans or Financing Banking Secrecy  FIN367 Laws and Regulations Governing Bank Credit in Malaysia The Banking system plays the role of financial intermediary and facilitate settlement of payment obligation. It is important for the banking industry to maintain a high level of public trust in its operations, and to ensure that it carries its roles in an efficient and reliable manner. The absence of trust can lead to mass withdrawal of deposit funds, which has the potential to collapse the entire banking system. There is a crucial need for regulatory control over the banking system to safeguard public interest, and maintain public trust within the banking sector. The regulation ensure that banking players perform their fiduciary duties to exercise competency and prudence in all lending activities using public funds. Banking regulations also protect the banking system from a whole range of risks ranging from human error, system malfunction and fraud. Read More...  FIN367 1.2.1 Roles and Responsibilities of BNM BNM, the Central Bank of Malaysia is the principle regulatory agency responsible for enforcing FSA 2013. BNM will issue guidelines from time to time to all banks and financial institutions, which are covered by the FSA 2013. BNM through FSA shall: Foster the safety and soundness of financial institutions. Ensure orderly functioning of money market and foreign exchange market. Maintain reliability and efficiency of the payment system. Ensure responsible and professional conduct of financial institutions. Protect the interests of financial services and product’s consumers. BNM has through FSA 2013 restricts the amount of exposure a licensed institution can have to a single counterparty and persons connected to the counterparty to ensure that banking institution uphold the principle of well spread lending portfolio. It also covers exposure to a particular financial instrument or a particular market segment. Read More...  FIN367 1.2.1 Roles and Responsibilities of BNM (cont.) BNM enforces Banking Secrecy through section 133 of FSA 2013. BNM has also specified standards relating to Credit Transaction and Exposure with Connected Party to prevent conflict of interest and misuse of power by connected party. BNM enforces a stringent guideline pertaining to Classification and Impairment Provision for Loans/Financing. BNM requires banking institution to adopt the Best Practice for Risk Management which necessitate: An integrated risk management process Adequate credit policies and procedures Adequate independent of credit risk management committee and internal audit for comprehensive internal control. BNM has through FSA 2013, provided Anti-Money Laundering and Counter Terrorism Financing (AMLCTF) guideline. Read More...  FIN367 1.2.2 Financial Services Act (FSA) 2013 Bank Negara Malaysia (BNM) FSA 2013 The principle objective of FSA 2013 is to promote financial stability. Taking shares of Exposure to Single Licensed Person as Banking Secrecy Counterparty Security Read More...  FIN367 1.2.2 Financial Services Act (FSA) 2013 (cont.) 1. Exposure to Single Counter Party a) Single Counterparty Exposure Limit (SCEL) For purpose of section 50(1) FSA: i. A banking institution’s SCEL shall be 25% of the banking institution’s Total Capital; and ii. Large exposure to a single counterparty is >=10% of the Banking institution’s Total Capital Rationale of The Policy SCEL is to mitigate concentration risk Risk concentration refers to an excessive exposure to a single counterparty and persons connected to it, a particular instrument or market segment with the potential to produce losses that are substantial enough to threaten the financial condition of a banking institution.  FIN367 1.2.2 Financial Services Act (FSA) 2013 (cont.) 2. Taking Shares of Licensed Persons as Security Section 87 (1) Prohibits a person from entering into an agreement to acquire any interest in shares of a licensed person which will result in such person holding (together with any interest in shares already held by such person) an aggregate interest of five per cent or more in the shares of the licensed person unless the approval of BNM is obtained. Section 87 (2) Prohibits a person from entering into an agreement to acquire any interest in shares of a licensed person which will result in such person holding more than fifty per cent of interest in shares of a licensed person unless the approval of the Minister of Finance, on the recommendation of BNM is obtained. Section 88 Prohibits a person from exercising control over a licensed person, unless the approval of the Minister of Finance, on the recommendation of BNM is obtained.  FIN367 1.2.2 Financial Services Act (FSA) 2013 (cont.) 2. Taking Shares of Licensed Persons as Security (Cont.) Section 89 Requires a person who has an aggregate interest in shares of a licensed person of: More than fifty per cent; or Fifty per cent or less but has control over the licensed person, to obtain the prior written approval of the Minister of Finance, on recommendation of BNM, if he disposes his interest in shares in licensed person, or ceases to have control over a licensed person. Section 92 States that an individual shareholder shall not hold more than ten per cent of interest in shares of a licensed person. Rationale of the Policy To minimize the impact of lender’s enforceability in the event of loan default.  FIN367 1.2.2 Financial Services Act (FSA) 2013 (cont.) 3. Banking Secrecy Section 133 (1) Prohibits: i. A person who has access to any document or information relating to the affairs or account of any customer of the relevant institutions (including banks and investment banks); and ii. The institution itself and any of its director, officer or agent of the institution, whether during his tenure of office or during his employment or after that to disclose to another person any information or document relating to the affairs or account of any customer of an institution. Section 133 (4) Any person who commits an offence, shall upon conviction, be liable to imprisonment of not exceeding 5 years, or/and fine of not exceeding RM10 million. Rationale of the Policy To instill public confidence within banking sector and uphold the professionalism and integrity of banking players.  FIN367 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM Bank Negara Malaysia (BNM) Regulations, Guidelines, Notices and Directions Issued by Bank Negara Malaysia Credit Transactions and Classifications of Anti-Money Laundering Exposure with Impairment Provision and Counter Financing Connected Parties for Loans or Financing for Terrorism Read More...  FIN367 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM (cont.) 1. Credit Transactions and Exposures with Connected Parties This guideline is issued pursuant to section 47 of Financial Service Act 2013. Connected parties are: i. Director of a licensed institution (LI) and his close relatives ii. Controlling shareholder or influential shareholder of LI and close relatives iii. Executive Officer, Credit Officer and his close relatives iv. Firms, partnership, companies or legal; entities controlled by i, ii, iii v. Legal entities in which i, ii, and iii is a director, partner, officer, guarantor vi. i, ii, and iii above and close relatives are a guarantor Total credit exposure to connected parties (including credit exposure through subsidiaries or other entities that are under Licensed Institutional control) shall not exceed 100% of Total Capital or 25%of Total Outstanding Credit Exposure, whichever is lower.  FIN367 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM (cont.) 1. Credit Transactions and Exposures with Connected Parties (Cont.) Credit transaction with connected parties must be on arm’s length basis, and complied with the following principles: Credit worthiness of the connected parties not less than what is normally required of other persons. The terms and conditions of connected parties’ transaction should not be more favourable than those enters with other counterparties. The credit transaction must ne in the interest of licensed institutions. The credit transaction is approved by the Board of Directors with not less than 3 quarters of all the board members present.  FIN367 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM (cont.) 2. Classification and Impairment Provision for Loans/ Financing Financial institutions must classify a loan as impaired if: The principal and interest is more than three months or 90 days in arrears. For revolving facilities (e.g. overdraft) are in excess of the approved limit for a similar period. Where the amount is past due or in excess of the approved limit for 90 days or 3 months or less, the loan exhibits weaknesses according to the institution’s credit risk grading framework. Payments scheduled to be made at interval of 3 months or more, than as soon as default occurred. Once classified as impaired, a loan can only be reclassified as non-impaired when it has been continuously performing based on its restructured terms for the period set by the institution in its policy. Loans rescheduled or restructured by “Agensi Kaunseling dan Pengurusan Kredit (AKPK)” can be immediately reclassified as non-impaired once customers and banking institutions agreed to the new terms and conditions.  FIN367 1.2.3 Regulations, Guidelines, Notes, and Directions Issued by BNM (cont.) 3. Anti-Money Laundering and Counter Financing of Terrorism (AML/CFT) The primary aim is to increase vigilance against deposit and transfer of illegally sourced money within the financial system of the country. Sources of illegal money include money from illegal drug operations, tax evasion, human trafficking and money intended for terrorism activities. BNM is the Competent Authority appointed by the Ministry of Finance for AMLATF 2001 through its Financial Intelligence and Enforcement Department (FIED). Under the guideline, Financial Institutions are required to conduct the followings: Identify new customers using proper processes and procedures Report suspicious transactions by all bank employees Keep customer records for future inquiries Provide training to bank employees on AMLATFA BNM guidelines require a Customer Due Diligence (CDD) process or an Enhanced Customer Due Diligence (ECDD) process by which the Bank can identify, verify, and understand the customer and its background. This is part of the  Home About FIN367 Ethics and Corporate Governance in Bank Credit Sub-topic 1.3 Next Slide  FIN367 Ethics and Corporate Governance in Bank Credit 1.3.1 The roles of ethics and governance in bank credit decisions 1.3.1.1 Compliance to laws 1.3.1.2 Mitigating misbehaviors in credit decisions 1.3.1.3 Strengthening Conduct and Culture in the Financial Industry 1.3.2 Corporate Governance for Financial Read More... Institutions 1.3.3 Code of Ethics for Financial Institutions  FIN367 Ethics and Corporate Governance in Bank Credit (Cont.) PRUDENTIAL REQUIREMENTS 1.3.1 The roles of ethics and Division 1 governance in bank Standards on prudential matters credit decisions ✔ Power of Bank to specify standards on prudential matters 1.3.1.1 Compliance to laws ✔ Institution, director and officer to comply with standards Division 2 Corporate governance ✔ Functions and duties of board of directors ✔ Duties of directors  FIN367 Ethics and Corporate Governance in Bank Credit (Cont.) 1.3.1.2 Mitigating misbehaviors in credit decisions (Del Gaudio et al., 2022). The European Systemic Risk Board (ESRB) (2015) defines misconduct as risk related to how customers and investors are treated, mis-selling of financial products, violations of rules and manipulation of markets. Misconduct risk has gained prominence in financial stability debates in recent years. Misconduct risk is a critical issue because it can be a source of losses caused by negligence and insufficiently cautious management and, therefore, has the potential to harm investors and overall banking stability Therefore, the mitigation of misconduct risk represents an important issue for both banks and financial regulators. To preserve the integrity of the financial system, Banks and other financial providers to engage in misconduct. However, engaging in illegal behaviour with their clients may expose organizations to detrimental effects.  FIN367 Ethics and Corporate Governance in Bank Credit (Cont.) 1.3.1.2 Mitigating misbehaviors in credit decisions (cont.) According to many commentators, the credit crisis was caused by moral deficiencies on the part of market parties in the financial sector (Graafland & van de Ven, 2011): unrealistic and risky mortgage loans to poor residents; packaging and selling of these loans in a way that disguised the real risks; unreliable ratings by specialists; risky investment policies (of banks); driven by an exorbitant bonus culture of top management. In response, a renewed sense of the importance of ethics is necessary to prevent a future crisis  FIN367 Ethics and Corporate Governance in Bank Credit (Cont.) 1.3.1.3 Strengthening Conduct and Culture in the Financial Industry (Li and Tsan, 2018). Recent instances of conduct failures present a major threat to this continuing trust, as they can be seen as a reflection of underlying weaknesses of governance in financial institutions. Recognising that addressing misconduct calls for a multifaceted approach, a number of regulators have begun to focus on reinforcing ethical and professional behaviour in the financial sector. Corporate Ethics Governance  FIN367 1.3.1.3 Strengthening Conduct and Culture in the Financial Industry (cont.) BASIS FOR ETHICS GOVERNANCE COMPARISON (CODE OF ETHICS) (CODE OF CONDUCT) Meaning An aspirational document, issued by the A directional document containing specific board of directors containing core practices and behavior, that are followed or ethical values, principles and ideals of restricted under the organization is Code of the organization is Code of Ethics. Conduct. Nature General Specific Scope Wide Narrow Governs Decision making Actions Length Short Comparatively longer Disclosure Publicly disclosed. Employees only. Focused on Values or principles Compliance and rules Source: https://keydifferences.com/difference-between-code-of-ethics-and-code-of-conduct.html#  FIN367 1.3.2 Corporate Governance for Financial Institutions Guidelines on Corporate Governance for Licensed Institutions The Guidelines set out broad principles and minimum standards as well as specific requirements for sound corporate governance, which are expected of Licensed Institutions and Bank Holding Companies/Financial Holding Companies. The adoption of sound corporate governance standards and practices ensures that Licensed Institutions are managed safely and soundly where risk -taking activities and business prudence are appropriately balanced so as to maximise shareholders’ returns and protect the interests of all stakeholders. Effective corporate governance by financial institutions is critical to strengthen public trust and confidence in the financial system (Li and Tsan, 2018).  FIN367 1.3.2 Corporate Governance for Financial Institutions (cont.) Principle 1: Every Licensed Institution should be headed by an effective board, which assumes specific responsibilities. The vision, strategy and corporate values of the Licensed Institution should be clearly specified and understood Principle 2: There should be an effective board composition, with a strong independent element where no individual or small group of individuals should be allowed to dominate the board’s decision making Principle 3: There should be a clear division of responsibilities at the helm of a Licensed Institution, which will ensure a balanced and clear lines of role, responsibility, authority and accountability throughout the Licensed Institution Principle 4: There should be a formal and transparent process for the appointment of directors to the board and the appointment of CEO Principle 5: Directors must be persons of caliber, credibility and integrity with the necessary skills and experience and be able to devote time and commitment Principle 6: Board should meet regularly and be duly furnished with complete and timely information Principle 7: There should be a formal and an ongoing assessment of the effectiveness of the board as a whole, the directors and the CEO  FIN367 1.3.2 Corporate Governance for Financial Institutions (cont.) Principle 8: There should be a formal and transparent procedure for fixing theremuneration packages of board members, CEO and senior management and the remuneration policies and practices should be in line with the Licensed Institution’s ethical values, objectives and culture Principle 9: Persons empowered with decision-making authority (including directors) should exercise care to avoid situations that may give rise to a conflict of interest situation Principle 10: There should be clear separation between shareholders and management so as not to impede sound corporate governance Principle 11: There should be robust auditing requirements and the auditor, board and management need to maintain professional and objective relationships Principle 12: Licensed Institution should engage in regular, effective and fair communication with shareholders/stakeholders Principle 13: Conducting corporate governance in a transparent manner can reinforce sound corporate governance Principle 14: Board is collectively responsible and accountable for the veracity of disclosures and management of risk  FIN367 1.3.2 Corporate Governance for Financial Institutions (cont.) Best practice for the governance system related to bank credit revolves around four key principles, which are critical to the quality of the credit originated (Golin and Delhaise, 2013). 1. Guidelines: Clear guidelines governing the approval of transactions generating credit risk. ▪ Guidelines are a set of documents that explain the rules that must be complied with before a transaction is concluded. These guidelines are sometimes called “credit policies,” “risk management standards,” ▪ Bad human judgment is a common characteristic of poor transactions, but the executive management of a firm is ultimately accountable if the guidelines, either by direct authorization or omissions, permit certain transactions to occur. ▪ Process must be in place to maintain guidelines, keeping them up to date and in-step with the evolution of the business. 2. Skills: Delegation of authority to committees and people with appropriate skills. ▪ The chief risk officer's office will own the guidelines, and it is this department's responsibility to draft, seek approval for, promulgate, and maintain the guidelines.  FIN367 1.3.2 Corporate Governance for Financial Institutions (cont.) Best practice for the governance system related to bank credit revolves around four key principles, which are critical to the quality of the credit originated: 3. Limits: Setting up of limits. ▪ Limits refer to credit exposure limit. Credit limits can be attached to counterparties, industries, countries, or products. 4. Oversight: Qualified staff with adequate independence and resources. ▪ The authority granted by the Board of Directors to the credit risk committees. ▪ Transactions need to be accessed and approved by credit risk committees ▪ The role of risk managers is to see beyond the expected profitability of a transaction and to think of the consequences of a nonfavorable development.  FIN367 1.3.3 Code of Ethics for Financial Institutions 1. CODE OF ETHICS FOR THE FINANCIAL SERVICES INDUSTRY The Financial Services Professional Board (FSPB) launched the Code of Ethics for the financial service industry on 6 January 2016. Organisations and individuals across the financial services industry shall continuously uphold and abide by the following ethical principles that are vital to the achievement of a high standard of professionalism and ethics across the industry.  FIN367 1.3.3 Code of Ethics for Financial Institutions (cont.) Principle 1: Competence Individuals across the financial services industry shall develop and maintain the relevant knowledge, skills and behaviour to ensure that their activities are conducted professionally and proficiently. This includes acting with diligence, as well as obtaining, and regularly updating, the appropriate qualifications, training, expertise and practical experience. Principle 2: Integrity Organisations and individuals across the financial services industry shall be honest and open in all their dealings. This includes behaving in an accountable and trustworthy manner, and avoiding any acts that might damage the reputation of, or bring discredit to the industry at any time. Principle 3: Fairness Organisations and individuals across the financial services industry shall act responsibly and embrace a culture of fairness and transparency. This includes treating those with whom they have professional relationships with respect and ensuring that they consider the impact of their decisions and actions towards all stakeholders.  FIN367 1.3.3 Code of Ethics for Financial Institutions (cont.) Principle 4: Confidentiality Organisations and individuals across the financial services industry shall protect the confidentiality and sensitivity of information provided to them. This includes using it for its intended purposes only and not divulging information to any unauthorised persons, including third parties, without the necessary consent from those involved unless disclosure is required by law or regulation. Principle 5: Objectivity Organisations and individuals across the financial services industry shall not allow any conflict of interest, bias or undue influence of others to override their business and professional judgment. They shall declare, to those concerned, all matters that could impair their objectivity..  FIN367 References ❑ Behr, P., & Güttler, A. (2007). Credit Risk Assessment and Relationship Lending: An Empirical Analysis of German Small and Medium-Sized Enterprises. Journal of Small Business Management, 45(2), 194–213. ❑ Brown, K., & Moles, P. (2014). Credit risk management. Edinburgh Business School Heriot-Watt University Edinburgh, United Kingdom. ❑ Central Bank of Malaysia (2016). Corporate Governance. BNM/RH/PD 029-9. ❑ Deakins, D., & Hussain, G. (1994). Risk Assessment with Asymmetric Information. International Journal of Bank Marketing, 12(1), 24–31. ❑ Del Gaudio, B. L., Salerno, D., Sampagnaro, G., & Verdoliva, V. (2022). Misconduct risk in banking services: Does a propensity to be sanctioned exist?. International Review of Financial Analysis, 81, 102081. ❑ Financial Service Professional Board (2015). Code of Ethics for the Financial Service Industry. ❑ Financial Services Act 2013, Laws of Malaysia. ❑ Graafland, J. J., & van de Ven, B. W. (2011). The credit crisis and the moral responsibility of professionals in finance. Journal of business ethics, 103, 605-619. ❑ Golin, J., & Delhaise, P. (2013). The bank credit analysis handbook: a guide for analysts, bankers and investors. John Wiley & Sons, Singapore. ❑ Li, S.T.Y & Tsan, K. L. S. (2018). Strengthening Conduct and Culture in the Financial Industry. Prudential financial policy department, Central Bank of Malaysia. ❑ Tupangiu, L. (2017). Information asymmetry and credit risk. Finance: Challenges of the Future, 1(19), 153-157.