Treasury has issued a Discussion Paper on proposed legislative changes to ensure that contractual loss absorption provisions contained in Additional Tier 1 and Tier 2 capital instruments issued by ADIs, general insurers (GIs) and life insurers (LIs) operate as intended and are not rendered ineffective by provisions in the Corporations Act 2001 that may restrict the ability of companies to issue, vary, convert or cancel shares where an administrator has been appointed to the issuer of the capital instrument.

It is also arguable that the write-off of capital instruments in the nature of preference shares may be challenged as an unauthorised reduction of capital under section 256D of the Corporations Act and that the write-off of capital instruments in the nature of preference shares would be contrary to certain provisions of the ASX Listing Rules.

It is proposed that relevant legislation be amended to explicitly state that an ADI, GI or LI may give effect to contractual loss absorption provisions in complying securities despite any provision in the Corporations Act or any applicable listing rules. Contractual loss absorption provisions would also be given priority over any provision in the constitution of the issuer or its parent and any contract or arrangement to which the issuer and, where relevant, its parent or non-operating holding company, is a party.

Contractual loss absorption provisions could include provisions that allow securities to be replaced with ordinary shares, converted into ordinary shares, cancelled or written-down in value when the CET1 ratio of an issuer falls below 5.125 per cent of risk weighted assets (in the case of ADIs) or when a non-viability event occurs (in the case of ADIs, GIs and LIs). These provisions could also provide for capital issued by mutually owned ADIs to convert to mutual equity interests.