On July 13, 2021, the Financial Services Commission (the “FSC”) designated a total of ten banks and bank holding companies as Domestic Systemically Important Banks (hereinafter, “D-SIB”) and Domestic Systemically Important Financial Institutions (hereinafter, “D-SIFI”) for the year 2022.

Following the financial turmoil during the 2008 financial crisis, the Financial Stability Board (the “FSB”) and the Basel Committee on Banking Supervision recommended countries to introduce D-SIB and D-SIFI to their regulatory framework.  In response, the FSC has been designating D-SIBs for Korea since 2016 pursuant to the Banking Act and the Financial Holding Companies Act.  Starting from June 30, 2021, the FSC has begun designating D-SIFIs pursuant to the amended Act on the Structural Improvement of the Financial Industry.
 
The details of Korea’s D-SIFI framework are as follows.
 

1.   The FSC’s Designation of D-SIFIs, and D-SIFIs’ Submission of Their “Self-Recovery Plan”

Each year, the FSC will designate D-SIFIs from various banks and bank holding companies based on their function and size, and their relation with and influence to other financial institutions.

The financial institutions that have been designated as D-SIFIs must then submit a board-approved “self-recovery plan” within three months from the date of such designation.  The plan must include measures to ensure capital adequacy and financial soundness, plans to review and improve its personnel and organizational structures, evaluations of its business model and implementation of core projects, and evaluation and reforms regarding its governance structures. 
 

2.   Regulators’ Review and Approval of D-SIFIs’ “Self-Recovery Plan”

Once a D-SIFI’s self-recovery plan is submitted, the Financial Supervisory Service (the “FSS”) will promptly send it to the Korea Deposit Insurance Corporation (the “KDIC”).  The FSS will also review the plan and submit its own assessment report to the FSC within three months. 
 
Within six months after receiving the self-recovery plan, the KDIC will formulate and submit to the FSC a contingency “resolution plan,” which shall be implemented in case the D-SIFI fails to improve its financial soundness.  The resolution plan shall include, among other things, analysis of the organizational structure and financial condition of the D-SIFI, restructuring strategies and implementation plans to protect its core financial and economic functions, plans to remove any obstacles to the resolution planning process¹, and measures to protect depositors during the restructuring process.

Afterwards, a review committee consisting of one FSC commissioner and up to four financial experts will review the self-normalization plan and the KDIC’s resolution plan for approval.  If the review committee finds any of the foregoing plans to be insufficient, then it may demand the plan to be supplemented or re-submitted.
 

3.   The FSC’s Demand to Adopt Certain Measures and Temporary Suspension of Close Out or Settlement of Qualified Financial Transactions 

The FSC may (i) assess the expected obstacles to implementing an orderly restructuring process and, if necessary, demand the D-SIFI to remove such obstacles, and (ii) require the D-SIFI to implement its self-recovery plan approved by the FSC if a “management crisis” stated in the self-recovery plan were to arise.

During the 2008 global financial crisis, 80% of all outstanding derivatives contracts (approximately 730,000 transactions) were subject to early termination by its transaction counterparties within five weeks after Lehman Brothers filed for bankruptcy.  This sent shockwaves throughout the global financial market and undermined various restructuring efforts intended to stabilize the market.  To prevent this from happening again, the FSB recommended financial regulators to introduce the right to suspend the close out or settlement of certain qualified financial transactions (in particular, derivatives transactions), and such right was adopted through recent amendments to the Act on the Structural Improvement of the Financial Industry.

Now, the FSC can exercise such temporary suspension rights in the event (i) the D-SIFI is found to be a failing financial institution, (ii) a failing financial institution is normalized through capital injection, or (iii) a qualified financial transaction subject to such temporary suspension is transferred to another financial institution.  Once the FSC exercises such rights, the relevant transaction counterparty’s right to close out or settle the qualified financial transaction shall be suspended until midnight of the following business day, or as otherwise determined by the FSC. 

Implications

The D-SIFI framework is expected to have a significant impact on individuals, companies and foreigners dealing with D-SIFIs as well as institutions designated as D-SIFIs.  It is also worth noting that financial regulators now have the authority to intervene with certain qualified financial transactions in case emergency situations such as a global financial crisis were to arise.