Colombia: The Financial Conglomerates Law

Author: | Published: 12 Mar 2019
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The Colombian Financial Conglomerates Law (FCL) came into force on February 6 2019. This watershed moment marks the most important regulatory event for the Colombian financial system in over a decade. The wide powers that the FCL grants the local regulator and supervisor will align the country to international best practices. They will also give way to a framework that reflects the growing complexity, importance and internationalisation of financial conglomerates (FCs).

Why was the FCL important and necessary?

Before the FCL the Colombian regulatory framework allowed for the so-called parent-subsidiary model. Under this model, banking and financial groups were allowed to conduct a wide range of operations (accept deposits, make loans and other forms of financing, provide trust services, asset management, stockborkerage and make principal investments, among other things). Such operations had to be undertaken by discrete entities holding specialised licences. The rationale behind this model was that banking and financial groups would be allowed to carry out a wide range of financial activities, but that the vehicle and licence-centric approach would enable the better management of the risks inherent to said activities, as well as better supervision and management of conflicts of interest.

This approach worked well following its enactment in 1990. Since then, local banking and financial groups have expanded and consolidated in Colombia (as of June 2018, 77% of the Colombian financial system's assets were held by FCs). They proved to be resilient during the global financial crisis and made a successful internationalisation drive (in 2006, Colombian financial institutions had 29 subsidiaries holding assets worth $3.86 billion; by 2018, they had 221 subsidiaries holding assets worth $90.53 billion). This drive took place particularly in Central America (Colombian FCs hold 24.25%, 53.24%, 50%, 16.11%, 16.20%, and 22% of banking assets in Panama, El Salvador, Costa Rica, Guatemala, Honduras and Nicaragua, respectively).

However, success led to new problems which the existing framework was ill-suited to tackle. Colombian regulations before the FCL allowed for a comprehensive and consolidated supervision of banking and financial groups, and the Finance Superintendence of Colombia (SFC) adopted a risk-based approach to supervision with the assistance of Canada's Toronto Centre. However this regulation and supervision focused on banking and financial groups (ie, where the holding company was a bank or some other financial institution, which controlled discrete vehicles with their own licences to conduct additional financial activities). This no longer reflected all industry participants, where:

  1. Non-supervised holding companies in effect controlled several financial institutions, banking and financial groups, and offshore investment in financial services;
  2. Financial conglomerates were increasingly large and economically important, and carried out a wide array of activities, which often entailed relevant conflicts of interest that had to be managed properly;
  3. Financial conglomerates had substantial and often complex links to the real economy; and,
  4. The Colombian financial system had a relatively high degree of internationalisation with the potential of making further investments in international markets.

How the FCL solves these problems

In 2018 the Colombian Congress enacted Law 1870, which contains the FCL. In doing this, Congress focused its attention on solving the problems outlined above. For this purpose, the FCL introduced the measures mentioned below.

It created the legal category of financial holding companies (FHC) and FCs. Financial conglomerates are defined as a grouping of two or more institutions that carry out activities (in Colombia or overseas) that fall or would fall under the supervision of the SFC, and that fall under common control of a third entity (ie, the FHC).

In this light the FHC comes under the supervision of the SFC only with regard to its activities as an investor and holding company.

The FCL gives the Colombian government the power to:

  1. Impose capital adequacy requirements on the FC on an aggregate/consolidated basis with a particular emphasis on avoiding double leveraging;
  2. Set criteria to identify an FC's related parties and for the disclosure and management of conflicts of interest in related party transactions; and,
  3. Set conglomerate level risk exposure and concentration limits.

It gives the SFC additional authorisation and supervisory powers, in particular to:

  1. Set conditions for adequate risk management, conflict of interest management, corporate governance, disclosure and internal control;
  2. Conduct in situ and extra situ supervision on the FHC and members of the FC that are not supervised by the SFC (eg, investment vehicles); and,
  3. Authorise any direct or indirect overseas investment in financial services by any member of the FC, and exceptionally order changes in an FC's structure and revoke the licence of a local member of an FC having an offshore FHC when this situation precludes adequate supervision in Colombia.

Road to implementation

The SFC is in the process of notifying each of the 13 FCs it has identified as operating in Colombia to date. Of these, five have a local FHC and eight have an offshore FHC, including global players such as BBVA, BNP and Scotiabank, as well as regional groups like Itaú, BTG and Credicorp. Acting within its powers, the SFC excluded from aggregate consolidated supervision 23 FCs which operated only within a single industry, lacked substantial size and market share or where there was no material interconnection between group members.

Financial conglomerates with a foreign FHC will have three months to apply for recognition of the equivalence of the FHC's jurisdiction of origin to the FCL's standards. Upon recognition, the SFC will abstain from conducting any supervisory activities on the foreign FHC. If recognition is not sought or warranted, the SFC is empowered to make any information requests it deems appropriate to the FHC to carry out comprehensive and consolidated supervision.

Financial conglomerates will need to evidence their capital adequacy by November 2019 and have in place their internal policies on conglomerate level risk exposure and concentration limits by February 2020.

The SFC is planning to issue additional regulation throughout 2019 setting out risk management at the FC level, focusing on the idiosyncratic risks affecting the FC as a whole: contagion, concentration and strategic risk. It will also set minimum risk governance and information requirements for FHCs.

Outlook

The FCL brings the legal and regulatory framework up to date, and reflects the existing requirements of the Colombian financial system. Apart from setting forth new legal powers for the local regulator and supervisor, the FCL will require that they change their mindset on how they approach their activities. This includes answering such important questions as to how to staff their divisions, obtain information, carry out supervision, conduct analysis and enforce requirements.

Jorge Castaño Gutiérrez
Financial Superintendent of Colombia