High-NPL institution: Requirements for NPL strategy, governance and operational organisation

BaFin – Focus on Financial Market Risks 2026: A Look at the NPL Ratio

At the start of each year, BaFin sets out the key risks it will prioritise in its supervisory role for credit institutions. With regard to the institutions’ lending business, these are as follows for 2026:

• Risks arising from corporate loan defaults
• Risks arising from the commercial property markets

In its assessments, BaFin takes into account segment-specific credit quality in the form of the NPL¹ ratio.

Regulatory context

We have already provided an analysis of NPL trends in Europe in the context of the financial market crisis in our blog post Impairment Tests for the Lending Business (PAAR) – An Analysis – Banking.Vision.

We would therefore simply like to add here that the issue of non-performing loans was not, primarily, a systemic issue for German institutions.

For information: The quarterly updated REBA Risk Dashboard provides a structured insight into the development and distribution of NPL ratios at European level. It also allows for a deep dive into specific NPL ratios at sector level.

However, we are currently observing that, in the current economic climate, a few institutions are reaching or exceeding NPL ratios of 5 per cent and are therefore classified as high-NPL institutions.

Consequences for institutions with high NPL ratios⁵

NPL reduction strategy

In addition to the MaRisk risk strategy, institutions with high NPL ratios must develop a so-called NPL reduction strategy. This should set out the NPL reduction targets, i.e. the reduction of non-performing exposures over a realistic yet sufficiently ambitious time horizon.

Key elements of the NPL reduction strategy are

• an analysis of the causes behind the development of the NPL ratio:
• What are the drivers? (Customer segments/economic sectors/business areas…)
• an assessment of the operational business environment:
  • Internal capacities/self-assessment (annual):
    • As an institution, am I in a position to effectively manage and reduce the NPL portfolio using the available resources?
    • What are the implications for the implementation plan (see below)?
  • External conditions and operational environment, for example:
    • What are the relevant macroeconomic conditions for setting realistic targets?
    • How should the institution’s own NPL ratio be viewed systemically within the context of market developments?
    • What other framework conditions influence the NPL portfolio (‘regulatory, legal and judicial framework’)?
  • Implications for the normative perspective on risk-bearing capacity:
    • Total risk exposure, NPL backstop, impact on the profit and loss account…
• Strategy formulation in the strict sense:
  • Implementation options:
    • The range of possible courses of action available to the institution to influence the NPL ratio (retention strategies/forbearance/active portfolio reduction/risk transfer….)
  • Short-, medium- and long-term objectives:
    • Formulation of ‘target NPL ratios’ (upper limits/development paths/target corridors…) differentiated according to time horizons: short term (< 1 year) / medium term (< 3 years) / long term (>= 3 years)
  • Implementation plan:
    • How specifically will the strategy be implemented at an operational level?
    • How will the shortcomings and areas for action identified in the self-assessment be addressed?
    • Which NPL-related performance indicators will be used to monitor progress against the implementation plan?

Governance requirements

In short, the aim here is to integrate the NPL reduction strategy into the institution’s management and decision-making processes, in other words, to transition to ‘routine NPL management’. This includes topics such as

• NPL strategy process and strategy monitoring
• Specific requirements for the risk control function
• Integration of NPL developments into risk reporting

Structural and procedural organisation

BTO 1.2.5, paragraph 1, is initially unambiguous in this regard:

Depending on the size of the institutions and the complexity of the business they conduct, a strict implementation in the form of a dedicated workout unit may not always be practicable and – depending on the findings of the portfolio analysis and the implementation plan – may not be the most effective approach. In this respect, the challenge here is to explore possible scope for implementation from the perspective of ‘proportionality’, without undermining the guiding principles of these requirements

• avoiding conflicts of interest and
• ensuring the best possible technical expertise for NPL reduction.

An effective internal control system is of particular importance in the context of utilising the scope for proportionality. Notwithstanding the fact that EBA/GL/2018/06 is deemed to have been implemented in the MaRisk and therefore has no direct effect on institutions, it is nevertheless advisable for the institutions concerned to consult Chapter 5.2.1 on NPE resolution units. This is intended as a guide to interpreting the above-mentioned requirement of BTO 1.2.5, paragraph 1, with a view to identifying implementation options that are both risk-adequate and practicable.

Recommendation

The NPL ratio is routinely defined as a so-called MaSanV indicator to gauge the quality of assets in accordance with Section 7 of the MaSanV. It is also routinely used as a monitoring metric for credit quality within the portfolio. Assessment is routinely carried out here using a ‘green/yellow/red’ traffic-light system.

A ‘Yellow’ threshold, as an early warning indicator, should therefore already trigger a control process that initiates a proactive response to the specific requirements of the MaRisk mentioned above.