REG - Royal Bk Scot.Grp. - Annual Report and Accounts 2015 <Origin Href="QuoteRef">RBS.L</Origin> - Part 3

NatwestAnnouncement

26/02/2016 07:12

- Part 3: For the preceding part double click  ID:nRSZ2368Qb 

depend on its ability to attract, retain and remunerate highly skilled and
qualified personnel, including senior management (which includes directors and
other key employees), in a highly competitive labour market. This cannot be
guaranteed, particularly in light of heightened regulatory oversight of banks
and the increasing scrutiny of, and (in some cases) restrictions placed upon,
employee compensation arrangements, in particular those of banks in receipt of
Government support (such as the Group), which may place the Group at a
competitive disadvantage. In addition, the market for skilled personnel is
increasingly competitive, thereby raising the cost of hiring, training and
retaining skilled personnel. 
 
Certain of the Group's directors as well as members of its executive committee
and certain other senior managers and employees will also be subject to the
new responsibility regime introduced under the Banking Reform Act 2013 which
introduces clearer accountability rules for those within the new regime. The
senior managers' regime and certification regime take effect on 7 March 2016,
whilst the conduct rules will apply to the wider employee population from 7
March 2017 onwards, with the exception of some transitional provisions. The
new regulatory regime may contribute to reduce the pool of candidates for key
management and non-executive roles, including non-executive directors with the
right skills, knowledge and experience, or increase the number of departures
of existing employees, given concerns over the allocation of responsibilities
introduced by the new rules. 
 
The Group's evolving strategy has led to the departure of a large number of
experienced and capable employees, particularly in the CIB business. The
restructuring relating to the ongoing implementation of the Group's strategic
programme may cause experienced staff members to leave and prospective staff
members not to join the Group. The lack of continuity of senior management and
the loss of important personnel coordinating certain or several aspects of the
Group's restructuring could have an adverse impact on its implementation. The
failure to attract or retain a sufficient number of appropriately skilled
personnel to manage the complex restructuring required to implement the
Group's strategy could prevent the Group from successfully implementing its
strategy and meeting regulatory commitments. This could have a material
adverse effect on the Group's business, financial condition and results of
operations. 
 
In addition, many of the Group's employees in the UK, continental Europe and
other jurisdictions in which the Group operates are represented by employee
representative bodies, including trade unions. Engagement with its employees
and such bodies is important to the Group and a breakdown of these
relationships could adversely affect the Group's business, reputation and
results. 
 
HM Treasury (or UKFI on its behalf) may be able to exercise a significant
degree of influence over the Group and any further offer or sale of its
interests may affect the price of securities issued by the Group. 
 
On 6 August 2015, the UK Government made its first sale of RBSG ordinary
shares since its original investment in 2009 and sold approximately 5.4% of
its stake in RBSG. Following this initial sale, the UK Government exercised
its conversion rights under the B Shares on 14 October 2015 which resulted in
HM Treasury holding 72.88% of the ordinary share capital of RBSG. The UK
Government, through HM Treasury, currently holds 72.6% of the issued ordinary
share capital of the Group. The UK Government has indicated its intention to
continue to sell down its shareholding in the Group over the next five years.
Any offers or sale, or expectations relating to the timing thereof, of a
substantial number of ordinary shares by HM Treasury, could negatively affect
prevailing market prices for the outstanding ordinary shares of RBSG and other
securities issued by the Group and lead to a period of increased price
volatility for the Group's securities. 
 
In addition, UKFI manages HM Treasury's shareholder relationship with the
Group and, although HM Treasury has indicated that it intends to respect the
commercial decisions of the Group and that the Group will continue to have its
own independent board of directors and management team determining its own
strategy, should HM Treasury's intentions change, its position as a majority
shareholder (and UKFI's position as manager of this shareholding) means that
HM Treasury or UKFI might be able to exercise a significant degree of
influence over, among other things, the election of directors and appointment
of senior management, dividend policy, remuneration policy or the conduct of
the Group's operations. The manner in which HM Treasury or UKFI exercises HM
Treasury's rights as majority shareholder could give rise to conflicts between
the interests of HM Treasury and the interests of other shareholders. The
Board has a duty to promote the success of the Group for the benefit of its
members as a whole. 
 
The Group's earnings and financial condition have been, and its future
earnings and financial condition may continue to be, materially affected by
depressed asset valuations resulting from poor market conditions. 
 
The Group's businesses are inherently subject to risks in financial markets
and in the wider economy, including changes in, and increased volatility of,
interest rates, inflation rates, credit spreads, foreign exchange rates and
commodity, equity, bond and property prices. In previous years, severe market
events resulted in the Group recording large write-downs on its credit market
exposures. 
 
Any further deterioration in economic and financial market conditions or weak
economic growth could lead to additional impairment charges and write-downs.
Moreover, market volatility and illiquidity (and the assumptions, judgements
and estimates in relation to such matters that may change over time and may
ultimately not turn out to be accurate) make it difficult to value certain of
the Group's exposures. 
 
Valuations in future periods reflecting, among other things, the
then-prevailing market conditions and changes in the credit ratings of certain
of the Group's assets may result in significant changes in the fair values of
the Group's exposures, such as credit market exposures, and the value
ultimately realised by the Group may be materially different from the current
or estimated fair value. 
 
As part of its strategic programme, the Group is executing the run-down or
disposal of a number of businesses, assets and portfolios, the most important
of which is the divestment of the William & Glyn business which may be carried
out as a trade sale or through an IPO. The disposal of Williams & Glyn could
lead the Group to recognise further write-downs in the event that the sale
proceeds are less than the carrying value of Williams & Glyn in the Group's
accounts. In addition, the Group's interest in the remainder of the businesses
and portfolios within the exiting business may be difficult to sell due to
unfavourable market conditions for such assets or businesses. Any of these
factors could require the Group to recognise further significant write-downs
and realise increased impairment charges or goodwill impairments, all of which
may have a material adverse effect on its financial condition, results of
operations and capital ratios. 
 
The financial performance of the Group has been, and may continue to be,
materially affected by customer and counterparty credit quality and
deterioration in credit quality could arise due to prevailing economic and
market conditions and legal and regulatory developments. 
 
The Group has exposure to many different industries, customers and
counterparties, and risks arising from actual or perceived changes in credit
quality and the recoverability of monies due from borrowers and other
counterparties are inherent in a wide range of the Group's businesses. 
 
In particular, the Group has significant exposure to certain individual
customers and other counterparties in weaker business sectors and geographic
markets and also has concentrated country exposure in the UK, the US and
across the rest of Europe principally Germany, the Netherlands, Ireland and
France.  At 31 December 2015, credit risk assets in the UK were £311.4
billion, in the US were £24.6 billion and in Western Europe (excluding the UK)
were £84.5 billion); and within certain business sectors, namely personal
finance, financial institutions, commercial real estate, shipping and the oil
and gas sector (at 31 December 2015, personal finance lending amounted to
£155.3 billion, lending to financial institutions was £73.1 billion,
commercial real estate lending was £27.6 billion, lending to the oil and gas
sector was £3.5 billion and shipping was £7.1 billion). 
 
Provisions for default on loans have decreased in recent years in line with
the perceived reduction in risks relating to these customers, counterparties
or assets classes. 
 
If the risk profile of these loans were to increase, including as a result of
a degradation of economic or market conditions, this could result in an
increase in the cost of risk and the Group may be required to make additional
provisions, which in turn would reduce earnings and impact the Group's
profitability. 
 
The Group's lending strategy or processes may also fail to identify or
anticipate weaknesses or risks in a particular sector, market or borrower
category, which may result in an increase in default rates, which may, in
turn, impact the Group's profitability. 
 
In addition, as the Group implements its new strategy and withdraws from many
geographic markets and continues to materially scale down its international
activities, the Group's relative exposure to the UK and certain sectors and
asset classes in the UK will increase significantly as its business becomes
more concentrated in the UK.  In particular, in the UK the Group is at risk
from volatility in property prices in both the residential and commercial
sectors. With UK home loans representing the most significant portion of the
Group's total loans and advances to the retail sector, the Group has a large
exposure to adverse developments in the UK retail property sector. As a
result, a fall in house prices, particularly in London and the South East of
the UK, would be likely to lead to higher impairment and negative capital
impact as loss given default rate increases. In addition, reduced
affordability of residential and commercial property in the UK, for example,
as a result of higher interest rates or increased unemployment, could also
lead to higher impairment. 
 
The credit quality of the Group's borrowers and its other counterparties is
impacted by prevailing economic and market conditions and by the legal and
regulatory landscape in their respective markets. Credit quality has improved
in certain of the Group's core markets, in particular the UK and Ireland, as
these economies have improved.  However, a further deterioration in economic
and market conditions or changes to legal or regulatory landscapes could
worsen borrower and counterparty credit quality and also impact the Group's
ability to enforce contractual security rights. In addition, the Group's
credit risk is exacerbated when the collateral it holds cannot be realised as
a result of market conditions or regulatory intervention or is liquidated at
prices not sufficient to recover the full amount of the loan or derivative
exposure that is due to the Group, which is most likely to occur during
periods of illiquidity and depressed asset valuations, such as those
experienced in recent years. 
 
This has particularly been the case with respect to large parts of the Group's
commercial real estate portfolio. Any such deteriorations in the Group's
recoveries on defaulting loans could have an adverse effect on the Group's
results of operations and financial condition. 
 
Concerns about, or a default by, one financial institution could lead to
significant liquidity problems and losses or defaults by other financial
institutions, as the commercial and financial soundness of many financial
institutions may be closely related as a result of credit, trading, clearing
and other relationships. Even the perceived lack of creditworthiness of, or
questions about, a counterparty may lead to market-wide liquidity problems and
losses for, or defaults by, the Group. 
 
This systemic risk may also adversely affect financial intermediaries, such as
clearing agencies, clearing houses, banks, securities firms and exchanges with
which the Group interacts on a daily basis. 
 
The effectiveness of recent prudential reforms designed to contain systemic
risk in the EU and the UK is yet to be tested. Counterparty risk within the
financial system or failures of the Group's financial counterparties could
have a material adverse effect on the Group's access to liquidity or could
result in losses which could have a material adverse effect on the Group's
financial condition, results of operations and prospects. 
 
The trends and risks affecting borrower and counterparty credit quality have
caused, and in the future may cause, the Group to experience further and
accelerated impairment charges, increased repurchase demands, higher costs,
additional write-downs and losses for the Group and an inability to engage in
routine funding transactions. 
 
The Group is committed to executing the run-down and sale of certain
businesses, portfolios and assets forming part of the businesses and
activities being exited by the Group. Failure by the Group to do so on
commercially favourable terms could have a material adverse effect on the
Group's operations, operating results, financial position and reputation. 
 
The Group's ability to dispose of the remaining businesses, portfolios and
assets forming part of the businesses and activities being exited by the Group
and the price achieved for such disposals will be dependent on prevailing
economic and market conditions, which remain volatile. As a result, there is
no assurance that the Group will be able to sell, exit or run down these
businesses, portfolios or assets either on favourable economic terms to the
Group or at all or that it may do so within the intended timetable. Material
tax or other contingent liabilities could arise on the disposal or run-down of
assets or businesses and there is no assurance that any conditions precedent
agreed will be satisfied, or consents and approvals required will be obtained
in a timely manner or at all. The Group may be exposed to deteriorations in
the businesses, portfolios or assets being sold between the announcement of
the disposal and its completion, which period may span many months. 
 
In addition, the Group may be exposed to certain risks, including risks
arising out of ongoing liabilities and obligations, breaches of covenants,
representations and warranties, indemnity claims, transitional services
arrangements and redundancy or other transaction-related costs, and
counterparty risk in respect of buyers of assets being sold. 
 
The occurrence of any of the risks described above could have a material
adverse effect on the Group's business, results of operations, financial
condition and capital position and consequently may have the potential to
impact the competitive position of part or all of the Group's business. 
 
The value or effectiveness of any credit protection that the Group has
purchased depends on the value of the underlying assets and the financial
condition of the insurers and counterparties. 
 
The Group has some remaining credit exposure arising from over-the-counter
derivative contracts, mainly credit default swaps ("CDSs"), and other credit
derivatives, each of which are carried at fair value. 
 
The fair value of these CDSs, as well as the Group's exposure to the risk of
default by the underlying counterparties, depends on the valuation and the
perceived credit risk of the instrument against which protection has been
bought. Many market counterparties have been adversely affected by their
exposure to residential mortgage-linked and corporate credit products, whether
synthetic or otherwise, and their actual and perceived creditworthiness may
deteriorate rapidly. If the financial condition of these counterparties or
their actual or perceived creditworthiness deteriorates, the Group may record
further credit valuation adjustments on the credit protection bought from
these counterparties under the CDSs. The Group also recognises any
fluctuations in the fair value of other credit derivatives. Any such
adjustments or fair value changes may have a material adverse impact on the
Group's financial condition and results of operations. 
 
The Group relies on valuation, capital and stress test models to conduct its
business, assess its risk exposure and anticipate capital and funding
requirements. Failure of these models to provide accurate results or
accurately reflect changes in the micro-and macroeconomic environment in which
the Group operates could have a material adverse effect on the Group's
business, capital and results. 
 
Given the complexity of the Group's business, strategy and capital
requirements, the Group relies on analytical models to manage its business,
assess the value of its assets and its risk exposure and anticipate capital
and funding requirements, including with stress testing. The Group's
valuation, capital and stress test models and the parameters and assumptions
on which they are based, need to be constantly updated to ensure their
accuracy. Failure of these models to accurately reflect changes in the
environment in which the Group operates or the failure to properly input any
such changes could have an adverse impact on the modelled results or could
fail to accurately capture the risk profile of the Group's financial
instruments. Some of the analytical models used by the Group are predictive in
nature. The use of predictive models has inherent risks and may incorrectly
forecast future behaviour, leading to flawed decision making and potential
losses. 
 
The Group also uses valuation models that rely on market data inputs. If
incorrect market data is input into a valuation model, it may result in
incorrect valuations or valuations different to those which were predicted and
used by the Group in its forecasts or decision making. Internal stress test
models may also rely on different, less severe, assumptions or take into
account different data points than those defined by the Group's regulators.
The Group could face adverse consequences as a result of decisions which may
lead to actions by management based on models that are poorly developed,
implemented or used, or as a result of the modelled outcome being
misunderstood or such information being used for purposes for which it was not
designed. Risks arising from the use of models could have a material adverse
effect on the Group's business, financial condition and/or results of
operations, minimum capital requirements and reputation. 
 
The reported results of the Group are sensitive to the accounting policies,
assumptions and estimates that underlie the preparation of its financial
statements.  Its results in future periods may be affected by changes to
applicable accounting rules and standards. 
 
The preparation of financial statements requires management to make
judgements, estimates and assumptions that affect the reported amounts of
assets, liabilities, income and expenses. Due to the inherent uncertainty in
making estimates, results reported in future periods may reflect amounts which
differ from those estimates. Estimates, judgements and assumptions take into
account historical experience and other factors, including expectations of
future events that are believed to be reasonable under the circumstances. The
accounting policies deemed critical to the Group's results and financial
position, based upon materiality and significant judgements and estimates,
include pensions, goodwill, provisions for liabilities, deferred tax, loan
impairment provisions, fair value of financial instruments, which are
discussed in detail in "Critical accounting policies and key sources of
estimation uncertainty" on page 276. In addition, further development of
standards and interpretations under IFRS could also significantly impact the
financial results, condition and prospects of the Group. IFRS and
Interpretations that have been issued by the International Accounting
Standards Board ("the IASB") but which have not yet been adopted by the Group
are discussed in "Accounting developments" on page 279. 
 
In July 2014, the IASB published a new accounting standard for financial
instruments (IFRS 9) effective for annual periods beginning on or after 1
January 2018. It introduces a new framework for the recognition and
measurement of credit impairment based on expected credit losses, rather than
the incurred loss model currently applied under IAS 39. The inclusion of loss
allowances with respect to all financial assets will tend to result in an
increase in overall impairment balances when compared with the existing basis
of measurement under IAS 39. 
 
The valuation of financial instruments, including derivatives, measured at
fair value can be subjective, in particular where models are used which
include unobservable inputs. Generally, to establish the fair value of these
instruments, the Group relies on quoted market prices or, where the market for
a financial instrument is not sufficiently active, internal valuation models
that utilise observable market data. In certain circumstances, the data for
individual financial instruments or classes of financial instruments utilised
by such valuation models may not be available or may become unavailable due to
prevailing market conditions. In such circumstances, the Group's internal
valuation models require the Group to make assumptions, judgements and
estimates to establish fair value, which are complex and often relate to
matters that are inherently uncertain. Resulting changes in the fair values of
the financial instruments has had and could continue to have a material
adverse effect on the Group's earnings, financial condition and capital
position. 
 
The Group and its subsidiaries are subject to a new and evolving framework on
recovery and resolution, the impact of which remains uncertain, and which may
result in additional compliance challenges and costs. 
 
In the EU, the UK and the US, regulators have implemented or are in the
process of implementing recovery and resolution regimes designed to prevent
the failure of financial institutions and resolution tools to ensure the
timely and orderly resolution of financial institutions. These initiatives are
coupled with a broader set of initiatives to improve the resilience of
financial institutions and reduce systemic risk, including  the UK
ring-fencing regime, the introduction of certain requirements and powers under
CRD IV, including the rules relating to MDA, and certain of the measures
introduced under the BRRD which came into force on 1 January 2015, including
the requirements relating to MREL. The tools and powers introduced under the
BBRD include preparatory and preventive measures, early supervisory
intervention powers and resolution tools. In addition, banks headquartered in
countries which are members of the eurozone are now subject to the European
banking union framework. In November 2014, the ECB assumed direct supervisory
responsibility for RBS NV and Ulster Bank Ireland Limited under the Single
Supervisory Mechanism ("SSM"). As a result of the above, there remains
uncertainty as to how the relevant resolution regimes in force in the UK, the
eurozone and other jurisdictions, would interact in the event of a resolution
of the Group. 
 
In the UK, the BRRD came into effect in January 2015, subject to certain
secondary rules being finalised by the European authorities, and therefore the
requirements to which the Group is subject may continue to evolve to ensure
compliance with these rules or following the publication of review reports
produced by the European Parliament and the Council of the EU relating to
certain topics set out by the BRRD. Such further amendments to the BRRD or the
implementing rules in the EU may also be necessary to ensure continued
consistency with the FSB recommendations on resolution regimes and resolution
planning for GSIBs, in particular with respect to TLAC requirements. 
 
In addition, the PRA is currently consulting on a new framework requiring
financial institutions to ensure the continuity of critical shared services
(provided by entities within the group or external providers) to facilitate
recovery action, orderly resolution and post-resolution restructuring, which
will apply from 1 January 2019. 
 
The application of such rules to the Group may require the Group to
restructure certain of its activities or reorganise the legal structure of its
operations, may limit the Group's ability to outsource certain functions
and/or may result in increased costs resulting from the requirement to ensure
the financial and operational resilience and independent governance of such
critical services. Such rules will need to be implemented consistently with
the UK ring-fencing regime. 
 
The BRRD requires national resolution funds to raise "ex ante" contributions
on banks and investment firms in proportion to their liabilities and risk
profiles and allow them to raise additional "ex post" funding contributions in
the event the ex ante contributions do not cover the losses, costs or other
expenses incurred by use of the resolution fund. Although the UK government
indicated that it would consider using receipts from the UK bank levy to meet
the ex ante and ex post funding requirements, the Group may be required to
make additional contributions in the future. In addition, Group entities in
countries subject to the European banking union are required to pay
supervisory fees towards the funding of the SSM as well as contributions to
the single resolution fund. 
 
The new recovery and resolution regime implementing the BRRD in the UK
replaces the previous regime and has imposed and is expected to impose in the
near-to medium-term future, additional compliance and reporting obligations on
the Group which may result in increased costs, including as a result of the
Group's mandatory participation in resolution funds, and heightened compliance
risks and the Group may not be in a position to comply with all such
requirements within the prescribed deadlines or at all.  The implementation of
this new regime has required and will continue to require the Group to work
with its regulators towards putting in place adequate resolution plans, the
outcome of which may impact the Group's operations or structure. 
 
The Group may become subject to the application of stabilisation or resolution
powers in certain significant stress situations, which may result in various
actions being taken in relation to the Group and any securities of the Group,
including the write-off, write-down or conversion of the Group's securities. 
 
In the context of the recovery and resolution framework set out above, as the
parent company of a UK bank, RBSG is subject to the "Special Resolution
Regime" under the Banking Act 2009, that gives wide powers to HM Treasury, the
Bank of England, the PRA and the FCA in circumstances where a UK bank has
encountered or is likely to encounter financial difficulties, such that it is
assessed as failing or likely to fail. 
 
The Special Resolution Regime under the Banking Act 2009, as amended to
implement the relevant provisions of the BRRD in the UK from 1 January 2015,
includes powers to (a) transfer all or some of the securities issued by a UK
bank or its parent, or all or some of the property, rights and liabilities of
a UK bank or its parent, to a commercial purchaser or, transfer of the bank
into temporary public ownership, or, in the case of property, rights or
liabilities, to a bridge bank (an entity owned by the Bank of England); (b)
together with another resolution tool only, transfer impaired or problem
assets to one or more publicly owned asset management vehicles; (c) override
any default provisions, contracts or other agreements, including provisions
that would otherwise allow a party to terminate a contract or accelerate the
payment of an obligation; (d) commence certain insolvency procedures in
relation to a UK bank; and (e) override, vary or impose contractual
obligations, for reasonable consideration, between a UK bank or its parent and
its group undertakings (including undertakings which have ceased to be members
of the group), in order to enable any transferee or successor bank of the UK
bank to operate effectively. Where stabilisation options are used under (a) or
(b) above which rely on the use of public funds, the option can only be used
once there has been a contribution to loss absorption and recapitalisation of
at least 8% of the total liabilities of the institution under resolution. 
 
In addition, among the changes introduced by the Banking Reform Act 2013 and
amendments made subsequently to implement the relevant provisions of the BRRD,
the Banking Act 2009 was amended to insert a bail-in power as part of the
powers available to the UK resolution authority. The bail-in power includes
both a capital instruments write-down and conversion power applicable to Tier
1 and Tier 2 instruments and triggered at the point of non-viability of a
financial institution and a bail-in tool applicable to eligible liabilities
(including the senior unsecured debt securities issued by the Group) and
available in resolution. 
 
The capital instruments write-down and conversion power may be exercised
independently of, or in combination with, the exercise of a resolution tool
(other than the bail-in tool, which would be used instead of the capital
instruments write-down and conversion power), and it allows resolution
authorities to cancel all or a portion of the principal amount of capital
instruments and/or convert such capital instruments into common equity Tier 1
instruments when an institution is no longer viable. The point of
non-viability for such purposes is the point at which the Bank of England or
the PRA determines that the institution meets the conditions for entry into
the Special Resolution Regime as defined under the Banking Act 2009 or will no
longer be viable unless the relevant capital instruments are written down or
extraordinary public support is provided, and without such support the
appropriate authority determines that the institution would no longer be
viable. 
 
Where the conditions for resolution exist and it is determined that a
stabilisation power may be exercised, the Bank of England may use the bail-in
tool (in combination with other resolution tools under the Banking Act 2009)
to, among other things, cancel or reduce all or a portion of the principal
amount of, or interest on, certain unsecured liabilities of a failing
financial institution and/or convert certain debt claims into another
security, including ordinary shares of the surviving entity. In addition, the
Bank of England may use the bail-in tool to, among other things, replace or
substitute the issuer as obligor in respect of debt instruments, modify the
terms of debt instruments (including altering the maturity (if any) and/or the
amount of interest payable and/or imposing a temporary suspension on payments)
and discontinue the listing and admission to trading of financial instruments.
The exercise of the bail-in tool will be determined by the Bank of England
which will have discretion to determine whether the institution has reached a
point of non-viability or whether the conditions for resolution are met, by
application of the relevant provisions of the Banking Act 2009, and involves
decisions being taken by the PRA and the Bank of England, in consultation with
the FCA and HM Treasury. As a result, it will be difficult to predict when, if
at all, the exercise of the bail-in power may occur. 
 
The potential impact of these powers and their prospective use may include
increased volatility in the market price of shares and other securities issued
by the Group, as well as increased difficulties in issuing securities in the
capital markets and increased costs of raising such funds. If these powers
were to be exercised (or there is an increased risk of exercise) in respect of
the Group or any entity within the Group such exercise could result in a
material adverse effect on the rights or interests of shareholders which would
likely be extinguished or very heavily diluted. 
 
Holders of debt securities (which may include holders of senior unsecured
debt), would see the conversion of part (or all) of their claims into equity
or written down in part or written off entirely.  In accordance with the rules
of the Special Resolution Regime, the losses imposed on holders of equity and
debt instruments through the exercise of bail-in powers would be subject to
the "no creditor worse off" safeguard, which requires losses not to exceed
those which would be realised in insolvency. 
 
In the UK and in other jurisdictions, the Group is responsible for
contributing to compensation schemes in respect of banks and other authorised
financial services firms that are unable to meet their obligations to
customers. 
 
In the UK, the Financial Services Compensation Scheme (FSCS) was established
under the FSMA and is the UK's statutory fund of last resort for customers of
authorised financial services firms. 
 
The FSCS can pay compensation to customers if a firm is unable, or likely to
be unable, to pay claims against it and may be required to make payments
either in connection with the exercise of a stabilisation power or in exercise
of the bank insolvency procedures under the Banking Act 2009. 
 
The FSCS is funded by levies on firms authorised by the FCA, including the
Group. In the event that the FSCS raises funds from the authorised firms,
raises those funds more frequently or significantly increases the levies to be
paid by such firms, the associated costs to the Group may have an adverse
impact on its results of operations and financial condition. 
 
To the extent that other jurisdictions where the Group operates have
introduced or plan to introduce similar compensation, contributory or
reimbursement schemes, the Group may make further provisions and may incur
additional costs and liabilities, which may have an adverse impact on its
financial condition and results of operations. 
 
The Group's results could be adversely affected in the event of goodwill
impairment. 
 
The Group capitalises goodwill, which is calculated as the excess of the cost
of an acquisition over the net fair value of the identifiable assets,
liabilities and contingent liabilities acquired. Acquired goodwill is
recognised initially at cost and subsequently at cost less any accumulated
impairment losses. As required by IFRS, the Group tests goodwill for
impairment annually, or more frequently when events or circumstances indicate
that it might be impaired. An impairment test involves comparing the
recoverable amount (the higher of the value in use and fair value less cost to
sell) of an individual cash generating unit with its carrying value. 
 
At 31 December 2015, the Group carried goodwill of £5.6 billion on its balance
sheet, taking into account an impairment charge of £498 million in respect of
Private Banking in Q4 2015 which was made in light of a number of factors,
including a reduction in anticipated future profitability due to the
continuing low interest rate environment, a higher tax rate, margin pressure
and higher capital allocations. The value in use and fair value of the Group's
cash-generating units are affected by market conditions and the performance of
the economies in which the Group operates. 
 
Where the Group is required to recognise a goodwill impairment, it is recorded
in the Group's income statement, but it has no effect on the Group's
regulatory capital position. Further impairments of the Group's goodwill could
have an adverse effect on the Group's results and financial condition. 
 
Recent changes in the tax legislation in the UK are likely to result in
increased tax payments by the Group and may impact the recoverability of
certain deferred tax assets recognised by the Group. 
 
In accordance with IFRS, the Group has recognised deferred tax assets on
losses available to relieve future profits from tax only to the extent it is
probable that they will be recovered. The deferred tax assets are quantified
on the basis of current tax legislation and accounting standards and are
subject to change in respect of the future rates of tax or the rules for
computing taxable profits and offsetting allowable losses. 
 
The Finance Act 2015 included new restrictions on the use of certain brought
forward tax losses of banking companies to 50% of relevant profits from 1
April 2015, which has impacted the extent to which the Group is able to
recognise deferred tax assets and has been reflected in its year-end accounts.
At 31 December 2015, the Group recognised a net deferred tax asset (taking
account of the Finance Act 2015 changes) of £2.6 billion. Failure to generate
sufficient future taxable profits or further changes in tax legislation
(including rates of tax) or accounting standards may reduce the recoverable
amount of the recognised deferred tax assets. Further changes to the treatment
of deferred tax assets may impact the Group's capital, for example by reducing
further the Group's ability to recognise deferred tax assets. Further, the new
8% tax surcharge which applies to banking companies from 1 January 2016 cannot
be offset by brought forward tax losses arising before this time, or by any
tax losses arising in non-banking companies within the Group. In addition, the
implementation of the rules relating to the UK ring-fencing regime and the
resulting restructuring of the Group may further restrict the Group's ability
to recognise tax deferred tax assets in respect of brought forward losses. 
 
Related parties 
 
UK Government 
 
On 1 December 2008, the UK Government through HM Treasury became the ultimate
controlling party of The Royal Bank of Scotland Group plc. The UK Government's
shareholding is managed by UK Financial Investments Limited, a company wholly
owned by the UK Government. As a result, the UK Government and UK Government
controlled bodies became related parties of the Group. During 2015, all of the
B shares held by the UK Government were converted into ordinary shares of £1
each and the Dividend Access Share Retirement Agreement was agreed between RBS
and HM Treasury (see Note 24 on page 325). 
 
The Group enters into transactions with many of these bodies on an arm's
length basis. Transactions include the payment of: taxes principally UK
corporation tax (page 292) and value added tax; national insurance
contributions; local authority rates; and regulatory fees and levies
(including the bank levy (page 282) and FSCS levies (page 334) together with
banking transactions such as loans and deposits undertaken in the normal
course of banker-customer relationships. 
 
Bank of England facilities 
 
The Group may participate in a number of schemes operated by the Bank of
England in the normal course of business. 
 
Members of the Group that are UK authorised institutions are required to
maintain non-interest bearing (cash ratio) deposits with the Bank of England
amounting to 0.18% of their average eligible liabilities in excess of £600
million. They also have access to Bank of England reserve accounts: sterling
current accounts that earn interest at the Bank of England Rate. 
 
Other related parties 
 
(a) In their roles as providers of finance, RBS companies provide development
and other types of capital support to businesses. These investments are made
in the normal course of business and on arm's length terms. In some instances,
the investment may extend to ownership or control over 20% or more of the
voting rights of the investee company. However, these investments are not
considered to give rise to transactions of a materiality requiring disclosure
under IAS 24. 
 
(b) RBS recharges The Royal Bank of Scotland Group Pension Fund with the cost
of administration services incurred by it. The amounts involved are not
material to the Group. 
 
(c) In accordance with IAS 24, transactions or balances between RBS entities
that have been eliminated on consolidation are not reported. 
 
(d) The captions in the primary financial statements of the parent company
include amounts attributable to subsidiaries. These amounts have been
disclosed in aggregate in the relevant notes to the financial statements. 
 
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