Page 157 - DMGT512_FINANCIAL_INSTITUTIONS_AND_SERVICES

Financial Institutions and Services

Notes (ii) Revaluation reserves: These reserves often serve as a cushion against unexpected
losses, but they are less permanent in nature and cannot be considered as
'Core Capital'. Revaluation reserves arise from revaluation of assets that are
undervalued on the bank's books, typically bank premises and marketable
securities. The extent to which the revaluation reserves can be relied upon as
a cushion for unexpected losses depends mainly upon the level of certainty
that can be placed on estimates of the market values of the relevant assets, the
subsequent deterioration in values under difficult market conditions or in a
forced sale, potential for actual liquidation at those values, tax consequences
of revaluation, etc. Therefore, it would be prudent to consider revaluation
reserves at a discount of 55 percent while determining their value for inclusion
in Tier II capital. Such reserves will have to be reflected on the face of the
Balance Sheet as revaluation reserves.
(iii) General provisions and loss reserves: Such reserves, if they are not attributable to
the actual diminution in value or identifiable potential loss in any specific
asset and are available to meet unexpected losses, can be included in Tier II
capital. Adequate care must be taken to see that sufficient provisions have
been made to meet all known losses and foreseeable potential losses before
considering general provisions and loss reserves to be part of Tier II capital.
General provisions/loss reserves will be admitted up to a maximum of
1.25 percent of total risk weighted assets.

(iv) Hybrid debt capital instruments: In this category, fall a number of capital
instruments which combine certain characteristics of equity and certain
characteristics of debt. Each has a particular feature which can be considered to
affect its quality as capital. Where these instruments have close similarities to
equity, in particular when they are able to support losses on an ongoing basis
without triggering liquidation, they may be included in Tier II capital.
(v) Subordinated debt: To be eligible for inclusion in Tier II capital, the instrument
should be fully paid-up, unsecured, subordinated to the claims of other
creditors, free of restrictive clauses, and should not be redeemable at the
initiative of the holder or without the consent of the Reserve Bank of India.
They often carry a fixed maturity, and as they approach maturity, they should
be subjected to progressive discount, for inclusion in Tier II capital. Instruments
with an initial maturity of less than 5 years or with a remaining maturity of
one year should not be included as part of Tier II capital. Subordinated debt
instruments eligible to be reckoned as Tier II capital will be limited to 50
percent of Tier I capital.
In the case of public sector banks, the bonds issued to the VRS employees as a part of
the compensation package, net of the unamortised VRS Deferred Revenue
Expenditure, could be treated as Tier II capital, subject to compliance with the terms
and conditions stipulated.
(e) Banks should indicate the amount of subordinated debt raised as Tier II capital by
way of explanatory notes/remarks in the Balance Sheet as well as in Schedule 5
under 'Other Liabilities & Provisions'.
(i) The Investment Fluctuation Reserve would be eligible for inclusion in Tier II
capital.
(ii) Banks are allowed to include the 'General Provisions on Standard Assets' and
'Investment Fluctuation Reserve' in Tier II capital. However, the provisions

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