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FRM Part II · FRM Exam Part II · Capital Structure in Banks

A bank wants to issue an instrument to count as Additional Tier 1 capital. Which feature would disqualify it from AT1 treatment under Basel III?

A mandatory fixed coupon disqualifies the instrument from AT1 status. AT1 must be perpetual, loss-absorbing through write-down or conversion, and have fully discretionary non-cumulative distributions, so the bank can cancel payments without defaulting.

  1. ADiscretionary and non-cumulative coupon payments
  2. BA perpetual term with no step-up or incentive to redeem
  3. CLoss absorption through write-down or conversion to common equity at a pre-specified trigger
  4. DA fixed coupon that must be paid each period regardless of the bank's profitabilityCorrect

Explanation

AT1 instruments must have fully discretionary, non-cumulative distributions so that coupons can be cancelled without triggering default. A mandatory coupon makes the instrument a debt-like obligation and fails the criteria. The other features are required characteristics of AT1.

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