Total Loss-Absorbing Capacity (TLAC)

Total loss-absorbing capacity (TLAC) is an international standard that requires the world's largest banks to maintain a minimum amount of capital and long-term debt that can be written down or converted into equity if the bank fails. The purpose is to make sure that losses fall on shareholders and creditors, and that enough resources remain to recapitalise the bank's critical operations, without taxpayer support. The standard applies to global systemically important banks (G-SIBs), a group of around thirty institutions identified each year.

TLAC was issued by the Financial Stability Board (FSB) in November 2015 as part of the response to the 2008 financial crisis, when governments rescued banks that were considered too big to fail. It complements the Basel III capital rules: capital requirements aim to keep a bank alive, while TLAC is designed to make its failure manageable. It is the quantitative backbone of resolution planning and of the bail-in tool.

The FSB standard sets a common floor, expressed against two measures. From 1 January 2019, G-SIBs had to hold TLAC of at least 16% of risk-weighted assets and 6% of the exposure measure used for the Basel III leverage ratio. From 1 January 2022 the minimums rose to 18% and 6.75%. Banks headquartered in emerging market economies were given a longer timetable.

Regulatory capital buffers, such as the capital conservation buffer and the surcharge for G-SIBs, must be met in addition to the TLAC minimum, so the same common equity cannot be counted towards both. Authorities may set a higher requirement for an individual firm.

TLAC is made up of regulatory capital and other eligible liabilities. Common Equity Tier 1 (CET1), Additional Tier 1 capital (AT1) and Tier 2 capital all count. Beyond these, a bank can include debt that meets criteria set out in the FSB's term sheet:

• Unsecured and paid in. The liability must not be secured, guaranteed or funded by the bank itself.
• Remaining maturity of at least one year. Short-term funding is excluded because it could run off before resolution.
• Subordinated to excluded liabilities. Eligible debt must absorb losses before operating liabilities. This can be achieved by contract, by statute, or structurally, through issuance from a holding company that has no operating liabilities of its own.
• No set-off or early redemption rights. Holders cannot generally demand repayment, and redemption needs supervisory approval if it would cause a breach.

Certain liabilities can never count: insured deposits, sight and short-term deposits, liabilities arising from derivatives, structured notes, tax liabilities and anything that cannot legally be bailed in. The FSB also stated an expectation that at least one third of the requirement be met with debt instruments, so that some resources remain even if equity has been exhausted before failure. Eligible debt of this kind is often described as bail-inable debt, and in several countries it has produced a new class of senior non-preferred or holding company senior bonds.

Large banking groups operate through subsidiaries in many countries. To give host authorities confidence that losses in a local subsidiary will be passed up to the parent, the standard requires each material sub-group to hold internal TLAC, issued to the parent, of 75% to 90% of the amount it would need if it were a stand-alone resolution group. How losses flow depends on the group's resolution strategy, which may involve a single point of entry at the top holding company or multiple points of entry at regional entities.

To limit contagion, the Basel Committee on Banking Supervision requires banks that invest in other banks' TLAC instruments to deduct those holdings from their own Tier 2 capital above certain thresholds. G-SIBs must also publish the amount, composition and ranking of their TLAC as part of Pillar 3 disclosure.

The FSB standard is not directly binding and has been written into law by each jurisdiction. In the United States, the Federal Reserve adopted a rule requiring the top-tier holding companies of US G-SIBs, and the US intermediate holding companies of foreign G-SIBs, to hold minimum amounts of TLAC and long-term debt. In the European Union, the standard was incorporated into banking legislation for G-SIBs and sits alongside the minimum requirement for own funds and eligible liabilities (MREL), which applies to all banks and is set firm by firm by the relevant bank resolution authority.

TLAC increases banks' funding costs, since loss-absorbing debt pays more than ordinary senior debt, and some argue that the cost is passed on to borrowers. A further concern is who holds the instruments: if they are bought by other banks, insurers or retail investors, imposing losses could spread distress or prove politically difficult. The framework has been tested only to a limited degree. In the 2023 rescue of Credit Suisse, a G-SIB, the authorities arranged a takeover and wrote down AT1 instruments instead of carrying out the planned bail-in, which prompted debate about whether resolution strategies built on TLAC would be used as designed in a fast-moving crisis.

• Financial Stability Board
• Basel Committee on Banking Supervision