Timing of Basel 3.1 implementation in the UK and impact on Real Estate Finance

Quick read

The Bank of England has announced that the proposed date for implementation of the Basel 3.1 standards in the UK has been pushed back by a further six months, with the date now set at 1 July 2025. The transitional period has also been reduced to four and a half years, to ensure full implementation by 1 January 2030.

Near final policies will be published by the Bank of England in two parts: (1) market risk, credit valuation adjustment risk, counterparty credit risk and operational risk will be addressed in Q4 2023; and (2) credit risk, the output floor and reporting and disclosure requirements in Q2 2024.

What is included in the Basel 3.1 standards?

The Basel 3.1 standards are the aspects of the Basel III standards that remain to be implemented in the UK.
They mainly address the measurement of the assets that are used to quantify the minimum amount of capital a bank must hold due to the risk profile of its lending activities and other assets (the risk-weighted assets).
The implementation of proposals to address Basel 3.1 is anticipated to affect the process of valuation of real estate where it is collateral to a bank loan and forms part of a bank's risk-weighted assets.

Proposed implementation by the PRA

The Prudential Regulation Authority (PRA) is responsible for implementing Basel 3.1 in the UK: it has proposed reforms which would revise the calculation of risk-weighted assets by improving the measurement of risk in internal models and standardised approaches, and the comparability of risk measurement across firms.
Loans secured by collateral are considered to be less risky than some assets, however where such collateral is real estate, robust mechanisms for calculating and allocating mortgage risk weighting will further bolster this.
As a result, where the collateral is real estate, the PRA proposes a new approach to residential and commercial mortgage lending which is more risk sensitive. The PRA proposes that the valuation of a property would need to be appraised using 'prudently conservative valuation criteria' and that an independent valuer possessing the necessary qualifications, ability and experience would need to carry it out.
Valuation at 'origination' (time of issue of a new mortgage for the purchase of the property or refinancing of a mortgage secured on property) is also proposed, to avoid the potential impact on risk weights of cyclicality in values.
The proposals aim to ensure valuations of real estate collateral are prudent, and note the importance that is to be given to loan to value under the suggested revised standardised approach.

Concluding comments

Given the proposed changes in relation to risk weighting where real estate is collateral, banks may need to adapt their systems and processes to implement the new rules. The delay to the implementation date will provide something of a helpful additional period for banks to develop and introduce compliant systems once the near-final policies are shared.