Efficiency and proportionality in banking supervision

FINMA’s supervision and regulation have long been guided by the principles of efficiency and proportionality. In recent years it has systematically incorporated the principle of proportionality into its circulars and, particularly for smaller institutions, introduced various exceptions and relaxations.

FINMA is following this approach through the new small banks regime and its streamlined auditing. The aim is to consistently focus its supervisory activities and reduce complexity and expense for the institutions concerned.

New auditing orientation

Regulatory auditing is an important tool in the ongoing monitoring of licence holders. FINMA established a basis for aligning its auditing more closely with the relevant risks and improving the cost-benefit ratio through its revision of the relevant circular.

FINMA is hereby strengthening the risk orientation of regulatory auditing by audit firms. As a result, regulatory audits will not be as extensive as before, focusing instead on detailed audits in higher-risk areas. This will make the audit more effective.

FINMA also stated in its strategic goals that it would keep its supervision costs stable and achieve further efficiency gains. This includes the targeted improvement of the regulatory audit cost-benefit ratio while maintaining the same protection level and with increased cost transparency.

Audit firms make an important contribution to supervising Switzerland’s financial market through their work on behalf of FINMA. Even after the revision, the selection and mandating of the regulatory auditor will remain within the competence of the supervised institution.

The revised Circular 2013/3 “Auditing” came into force on 1 January 2019. The changes mainly affect audits of banks and securities dealers, institutions regulated by the Collective Investment Schemes Act (CISA) and financial-market infrastructures. Significance of the risk analysis The risk analysis is an important element of the audit and it forms the starting point and basis for defining the audit strategy. The audit firms continue to assess the inherent risk and control risk in the individual audit areas and fields.

Stronger influence on the audit strategy and audits of large supervised institutions

FINMA is responsible for approving regulatory audit strategies. In future, FINMA will exercise stronger influence on the audit strategies for systemically important supervised institutions (banks in Supervisory Categories 1 and 2) and selected institutions under the CISA in Supervisory Category 4. They are defined through a two-way process between FINMA and the audit firm. The cost estimates for the planned audits submitted by the audit firms provide FINMA with additional information. FINMA influences the risk orientation of regulatory audits in this way.

Extending the audit cycles for the basic audit

Basic audits conducted by audit firms cover individual audit areas and fields in predefined audit cycles. As a result of the audit review, the audit cycles were relaxed for each audit area and field, whereby the regular basic audit is no longer so extensive, favouring a more selective and focused approach instead. By way of example, an audit area or field representing a “medium” net risk will only be audited every six years, as opposed to the previous frequency of every three years. The focus is risk-based, i.e. cycles are lengthened for institutions in those areas where the risks are not regarded as very high.

Audits once every two or three years for small supervised institutions

Audit firms have hitherto performed regulatory audits of supervised institutions annually. This was an undifferentiated standard approach and thus unaffected by the business model or risk situation of the supervised institution. By revising the auditing process, FINMA has enabled supervised institutions to exempt themselves from the annual audit. The re duced audit frequency means supervised institutions in Supervisory Category 4 will only undergo an audit once every two years and those in Category 5 once every three years. This applies solely to supervised institutions that are free of high risks and do not have major shortcomings. FINMA makes a decision on the reduction of the frequency on the basis of an application by the supervised institution’s executive management.

By reducing the audit frequency, FINMA is observing the proportionality principle. Supervised institutions will benefit from the resulting synergies, as regulatory audits will be pooled and reporting will only take place every two or three years.

Increased flexibility in reaching audit conclusions

The regulatory audit principles remain lean even after the latest changes. At the same time, there is one major new feature: the increased flexibility regarding the concept of spot checks. This enables the audit firm to have an increased focus on the highrisk elements while performing a random check and still be able to give its verdict on that basis. FINMA also values the fact that the audit sector is further refining the auditing principles (Statement 70 EXPERTsuisse). One major aim is to determine a set of basic principles for establishing the spot check applicable to all audit firms conducting a regulatory audit.

Increased reliance on internal audit

While the audit firm conducts the regulatory audit, internal audit also conducts its own audit in the interests of adequate corporate governance. Both processes have been strictly separated thus far. By introducing these changes in the circular, FINMA is enabling the audit firm to benefit more from the work done by internal audit. This applies particularly to findings from the risk analysis, a coordination of the audit strategy and for specific actions within the defined audit areas and fields. The outcome will be a better and more efficient coordination between the audit firm and internal audit.

Simplified reporting

The annual reports submitted by the audit firms include detailed descriptions of processes and control functions for audit areas and fields. By adjusting its reporting requirements, FINMA has made audit firms focus more on irregularities and recommendations. Audit firms will also classify their findings according to clear criteria (“high”, “medium”, “low”). This allows FINMA to act in a targeted and riskoriented way, draw conclusions and, where necessary, define supervisory measures.

Moreover, FINMA’s new survey platform will enable it to receive supervisory information through digital channels in future. The platform will enable a leaner and more cost-efficient audit reporting process. The survey platform can also be used to submit risk analyses and audit strategies.

Small banks regime pilot phase

The wealth of diversity in Switzerland’s banking industry confers several advantages. The accessibility of sophisticated banking services, client proximity and knowledge of regional characteristics add significant value to Switzerland as a business location. Small banks stimulate competition in this environment. Their innovative potential contributes significantly to the further development of the business models. In autumn 2017 FINMA announced that it would reduce unnecessary complexity in its regulation of smaller institutions and relax the existing requirements for particularly healthy small banks. The planned changes are intended to increase the efficiency of regulation and supervision and prevent unnecessary administrative burdens, while at the same time maintaining the current level of stability and safety margins in the sector.

In the first half of 2018 the emphasis was on defining key values, known as the term sheet, in conjunction with the Swiss Bankers Association (SBA) and selected institutional representatives. The term sheet was completed at the end of June 2018 and includes the admittance criteria for participation and the intended simplifications. There is also a simplified leverage ratio in excess of 8%; an average liquidity coverage ratio of over 120% over the past 12 months; a refinancing rate of over 100% and no increased risks, especially for conduct and interest rate change risks. The plan is for small banks in the regime not to have to calculate risk-weighted assets in future. There are also plans for additional relaxations and simplifications to qualitative requirements for the post-pilot phase.

The project started in mid-July 2018 with 68 institutions from Supervisory Categories 4 and 5 and is scheduled to last until the end of 2019. Participants in the scheme benefited from relaxations in the areas of liquidity, disclosure and auditing during the reporting year. Switzerland is one of the first nations worldwide to conduct such a pilot, which is based on a detailed concept. The transition from a pilot to a permanent regime for small banks requires specific adjustments to the CAO and FINMA circulars. Preparations are under way to make the required changes to the Federal Council’s CAO under the direction of the Federal Department of Finance (FDF). The amended regulations are scheduled to come into force on 1 January 2020. FINMA is consistently focusing its supervisory activities and reducing complexity and expense for small banks through the new regime and its streamlined auditing.

 

(From the Annual Report 2017)