Regulations on related party transactions

I. General provisions

1.1. These Regulations have been developed in accordance with the Laws of the Republic of Azerbaijan on the National Bank of the Republic of Azerbaijan and on Banks and aims to minimize credit risks arising from debts of persons related to any commercial (joint-stock commercial) bank and foreign bank branch office (hereinafter – banks).
1.2. The purpose of regulating such debts is to ensure equitable opportunities for utilization of banking services by all customers, regardless of related party’s position with the bank, or his/her ability or title to exercise control or influence over bank’s activities and increase confidence of the population in the banking system.
Definitions used in these Regulations:
1.3. Bank’s related parties include:
a) bank officers;
b) heads of bank’s structural units;
c) other bank employees participating in bank’s decision making;
d) persons with close relations with the persons in sub items a), b) and c) (spouses, parents, including parents of spouses, grandparents, children, including adopted children, siblings);
e) any person with qualifying holding in the bank;
f) a legal person with qualifying holding in the bank;
g) any person with qualifying holding in legal entities in sub items d) and e);
h) heads of executive bodies of the legal entities in sub items d), e) and f).
1.4. A person is deemed to act on behalf of a bank’s related party, by the virtue of their relations, if he/she acts upon instructions of the bank’s related party, or a transaction with him/her results in benefit of the bank’s related party. Persons acting on behalf of a related party include:
a) person contractually entitled by the bank’s related party to act on his/her behalf;
b) a legal entity that a bank’s related party can have significant influence on;
c) a representative of the bank’s related party.
1.5. An officer – members of the bank’s Supervisory Board, Audit Committee and Management Board, as well as chief accountant of the bank (head of the financial service), internal audit unit staff, department heads and chief accountants of the bank’s branch, division or representative office.
1.6. Immediate family members of include parents, grandparents, spouses, children (including adopted children), siblings.
1.7. Bank’s related parties and persons acting on their behalf are deemed to have significant influence on a legal entity if:

• the person owns qualifying holding of the legal entity;
• it is the person with qualifying holding of the legal entity, by virtue of a formal agreement or any other arrangement with the legal entity’s large shareholders, or members of the Supervisory Board, Audit Committee, Management Board and other officials, has the ability to manage or direct the affairs of the entity;
• the person is a founder of the legal entity with a subsidiary responsibility.

1.8. Qualifying holding – is direct or indirect ownership of the share that makes 10 or more percent of the share capital or the voting right, or allows to influence significantly decision-making of the legal entity that it is a party to on a contractual basis.
1.9. Loans to bank’s related parties and persons acting on their behalf herein mean:

• principal amount of all current and past due loans (loans, factoring and financial leasing);
• transferred off-balance sheet liabilities, including credit lines, guarantees, letters of credit and warranties of other forms to be executed;
• overdrafts (regardless of whether previously agreed or not);
• any charge-offs from balance sheet (except for charge-offs made upon termination of the borrower’s liability by a court ruling passed in result of bankruptcy proceedings or upon expiry of the period of claim for court rulings).
• other rights related to the purchase of debt securities at a discount or with interest and return of funds provided in any form under the contract. 

These indicators, considered a risk for bank’s related parties and persons acting on their behalf, will be hereafter referred to as bank’s credit claims.
1.10. Low-quality assets (loans) include:

• assets identified during inspection or reported by banks as ‘unsatisfactory’, ‘doubtful’ or ‘loss’;
• non-accrual loans;
• whose principal or interest payments are delinquent for over 30 days;
• assets rolled-over or re-negotiated due to financial difficulties experienced by the borrower.

1.11. Bank’s aggregate capital is calculated under the ‘Regulations on calculation of bank capital and its adequacy’ of the National Bank.

2. Maximum credit exposure to related parties and persons acting on their behalf

2.1. Unless otherwise provided herein, a direct or indirect credit claim on bank’s related parties and persons acting on their behalf should not exceed:
a) for legal entities, 10 per cent of bank’s aggregate capital;
b) for individuals, 3 per cent of bank’s aggregate capital.
2.2. Total amount of credit claims on bank’s related parties and persons acting on their behalf may not exceed 20 per cent of bank’s aggregate capital.
2.3. Bank’s credit claims on related parties and persons acting on their behalf should be secured with:

• securities issued by the government of Azerbaijan or central governments or central banks of member countries of the Organization for Economic Cooperation and Development (OECD), provided that the market value of the security is not less than 125 per cent of the amount of the underlying loan;
• any other collateral, provided that its market value is not less than 150 per cent of the amount of the underlying loan.

2.4. If the market value of collateral is below the requirement set forth in Item 2.3, this collateral should be either replaced, or completed within 10 business days.
2.5. Banks may allow credit claims within the ranges specified in Items 2.1 and 2.2 above only in exceptional cases. Banks are recommended to set lower ranges in their internal policies.
2.6. Bank’s related parties and persons acting on their behalf may not claim invalidity of loans received in contravention of these Regulations.

3. Certain peculiarities of calculation of required ratios

3.1. The portion of credit claims on bank’s related parties and persons acting on their behalf secured in any of the below listed manners are not taken into account (excluded from calculation) when calculating the required ratios specified in sub items 2.1 and 2.2 herein:
a) a portion secured with government securities issued by the government of Azerbaijan and central governments or central banks of OECD countries, pursuant to Item 2.3 herein;
b) principal and interest secured unconditionally by the government of Azerbaijan and the portion of a loan thus secured if relevant documentary evidence is available at the bank in accordance with the requirements of the National Bank of the Republic of Azerbaijan. Such security must be approved by the country’s Ministry of Finance and provided for in the budget of the Republic of Azerbaijan as expected outlays;
c) a portion or full amount of a loan sold to another bank without recourse;
ç) investments in the capital (stock) of a legal entity related to a bank;
d) if a bank’s related person is a bank, balances of correspondent accounts opened with this bank in course of ordinary correspondent relations (unless there is a restriction imposed by the National Bank of the Republic of Azerbaijan);
e) a portion of a loan secured with national or foreign currency denominated accounts or term deposits (certificates of deposits) held by the borrower with the lending bank (for purposes of these Regulations, only OECD currencies are accepted).
The following requirements must be met when loans are extended against collateral of certificates of deposits or term deposits:

• deposit certificate or deposit book must be kept by the bank;
• the deposit must be recorded by the bank to a special account designated for securing the loan;
• if the bank’s related party and person acting on his behalf fail to repay the loan upon maturity or perform their obligations in any other manner, the loan and collateral agreements must provide for the bank’s right to unilaterally charge-off the loan on account of the deposit or dispose of the certificate of deposit in accordance with these Regulations;
• banks must stipulate in their internal policies actions required to ensure that the bank-kept deposit is not withdrawn or certificate of deposit is not revoked before the maturity of the loan, and have these conditions properly stated in collateral agreements;
• if the deposit is denominated in a foreign currency, its amount must exceed 10 per cent of the outstanding amount of the loan and must be freely convertible at the foreign exchange market in the Republic of Azerbaijan;

3.2. If the requirements of Item 3.1 hereof are not met, credit claims shall not be reduced while calculating the required ratios, and these required ratios must be brought in compliance with paragraphs 2.1 and 2.2. hereof.

3. Prohibitions with regard to transactions with related parties and persons acting on their behalf

3.1. If transactions with persons not related to a bank are not useful for the bank, such transactions should not be conducted with persons related to the bank and persons acting on their behalf. Such transactions include:

• any transaction normally not conducted with unrelated persons due to high risk rates or other unfavorable conditions;
• when the level of interest rates or commissions applied to loans to persons related to the bank or persons acting on their behalf is lower than the interest rates and commissions applied to loans to unrelated parties or the interest rate on deposits (savings) is higher than the interest rate available in the market;
• where fees paid to related parties and persons acting on their behalf exceed those paid to unrelated persons;
• payment of fees to related parties and persons acting on their behalf where fees are not paid to unrelated parties;
• in case of prolongation or restructuring of loans to bank’s related parties and persons acting on their behalf, when loans to unrelated parties may not be extended or restructured;
• where the cost of property acquired from related parties and persons acting on their behalf is higher than the cost of the property compared to the one bought from the unrelated party;
• where the cost of property sold to related parties and persons acting on their behalf is below the cost of the property compared to the one sold to unrelated parties;
• where the value of collateral required from related parties and persons acting on their behalf is lower than the value of collateral required from unrelated parties;
• where low quality assets (loans) are received from, or provided as security for loans extended to related parties and persons acting on their behalf;
• where no investments are made in the activities of unrelated persons due to high risk whereas investments are made in the activities of related parties and persons acting on their behalf that have the same risk characteristics;
• where bank’s shares held by related parties are used as security for a loan taken from the bank.

3.2. All transactions with related parties and persons acting on their behalf must comply with safe and sound banking criteria and practices, in addition to the norms, restrictions and prohibitions set herein. Such procedures must be as favorable for the bank as the standards governing transactions with unrelated persons.
3.3. Related parties and persons acting on their behalf should refrain from accepting bank’s services and transactions that may be detrimental to the bank.

4. Decision-making procedures with regard to transactions with related parties and persons acting on their behalf

4.1. Banks may engage in transactions with related parties or persons acting on their behalf only upon approval from the Supervisory Board and a unanimous decision of the Management Board except for deposit operations. Meeting minutes of Supervisory and Management Boards on such transactions should include relevant notes. Members of Supervisory and Management Boards should not participate in and affect the decision-making process related to the decisions about:
a) themselves;
b) any close relative of his/hers related to bank’s related parties;
c) any legal entity where he or a member of his immediate family holds a large share or has the ability to exercise significant influence;
d) any person acting on behalf of the persons specified in sub items a), b) and c).
4.2. The Supervisory and Management Boards’ decision on transactions with the bank’s related party and the person acting on his/her behalf should disclose all conditions and conduction of all previous transactions, as well as conditions of current transactions with this person. For instance, when the Supervisory Board takes a decision to issue a loan, meeting minutes should include information on all loans taken by this person previously, their repayment, amount, the interest rate of the loan to be taken, financial information on borrower’s creditability and the value of collateral. The information on sale-purchase of assets should include the acquisition cost and information confirming the value of the asset (e.g. an appraisal report or market research report conforming to the requirements of the National Bank of the Republic of Azerbaijan). When such persons render services or sell an asset to a bank, the bank should obtain information on the proposed service and asset based on the service rendered or sale of the asset, directly or indirectly, from at least three persons (sources) not related to the bank.
4.3 A loan to the bank’s related party or the person acting on his/her behalf should be issued according to bank’s internal procedures in conformity with these Regulations after a decision is taken on issue of a loan to the bank’s related party or the person acting on his/her behalf.
Banks should oversee investments to capital of their related parties and persons acting on their behalf and regularly assess these investments using the same evaluation methodology applied to investments to unrelated persons.

5. Documenting of and reporting on transactions with bank’s related parties and persons acting on their behalf

5.1. Banks should submit reports on transactions with related parties and persons acting on their behalf in the format attached hereto (Annex № 1) to the National Bank of the Republic of Azerbaijan no later than the first 5 business days of the month following the reporting month. The reports should contain names of the persons related to the bank and persons acting on their behalf and amount of transactions, as well as a short description of the terms of transactions over the past month.
5.2. Every bank must keep records to confirm compliance with provisions herein. Such records must contain information on all borrowers related to the bank and persons acting on their behalf, as well as amounts, terms, conditions of each credit extended to and transaction with such persons.
5.3. Every bank should maintain accounting of information on transactions with its officers, employees related to the bank and their close relatives, as well as persons acting on their behalf as per Annex № 2 attached herein.
From the date these Regulations take effect, Item 9 of Regulations No. 2, dated 21 May 1997 on ‘governing activities of credit institutions’ by the National Bank of the Republic of Azerbaijan becomes void.

These Regulations take effect as of 1 January 2002.

Annex № 1
to Regulations on related party transactions

Bank name_____________________________________

“____”_________________________________20_____

Report on transactions with related parties and persons acting on their behalf 

1. Specify relation of the person to the bank (for instance: chairman of the Supervisory Council, brother of the chairman of the Supervisory Council, the chairman of the Supervisory Council holds 15 per cent of this entity’s stock)
2. r.p. is a related person; p.a.r.p. is a person acting on behalf of a related person.
3. Briefly describe the nature of the transaction, i.e., this is a loan, guarantee, letter of credit, asset sale, asset acquisition, service, etc.
4. Specify the last date stated in the loan agreement and contract on off-balance sheet commitments.
5. Specify the type of security provided (i.e., t-bills (tb), current deposit (cd), term deposit (td), certificate of deposit (cod), vehicle (v), immovable property (ip), etc., and the ratio of the security to the underlying loan (for instance: td/130%).
6. Specify other significant terms and conditions.

Chairman of the Supervisory Board (1st, last, middle names)

Chairman of the Board (1st, last, middle names)

Chief Accountant (1st, last, middle names)

Stamp

Annex № 2
to Regulations on related party transactions
(sample form)

Bank name______________________________________

“_____”_________________________________20______

Information on related parties and persons acting on their behalf 

1. Officers and their close relatives

2. Entities under significant influence of officers and their close relatives

3. Heads of structural units and close relatives of other employees involved in decision making

4. Entities under significant influence of close relatives of heads of structural units and employees involved in decision making