Mega Bank Annual Report 2017

79 Annual Report 2017 -79- It becomes probable that the borrower will enter bankruptcy or other financial reorganisation; The disappearance of an active market for that financial asset because of financial difficulties; or observable data indicating that there is a measurable decrease in the estimated future cash flows from a group of financial assets since the initial recognition of those assets, although the decrease cannot yet be identified with the individual financial asset in the Bank and subsidiaries, including: Adverse changes are in the payment status of borrowers in the Bank and subsidiaries; or adverse changes in national or local economic conditions that correlate with defaults on the assets in the Bank and subsidiaries. Financial assets that are not impaired are included in the Bank and subsidiaries of financial assets sharing similar credit risk characteristics for collective assessment. Financial assets that are assessed individually with impairment recognized need not be included in the collective assessment. The amount of the impairment loss is the difference between the financial assets’ book value and the estimated future cash flow discounted using the original effective interest rate. The present value of estimated future cash flows must reflect the cash flows that might generate from collaterals less acquisition or selling cost regarding the collateral. Financial assets through collective assessment are grouped based on similar credit risk characteristics, such as types of assets, industry and collaterals. Such credit risk characteristics represent the ability of the debtors to pay all the amounts at maturities according to the contract term, which is related to future cash flows of group of financial assets. The future cash flows of group of financial assets for collective assessment are estimated based on historical impairment experience, reflecting the change in observable data for each period, and the estimation of the future cash flows should move in the same direction. The Bank and subsidiaries review the assumptions and methods for estimation of the future cash flows regularly. For loan loss provision and guarantee reserve, the Bank and subsidiaries have established the regulations for assets assessment and loss reserve. According to the regulations of the Financial Supervisory Commission for banks, bills companies and insurance companies, all assets in balance sheets and off balance sheets are classified as five categories. For credit assets on balance sheets and off balance sheets, in addition to normal credit assets which shall be classified as "Category One", the remaining unsound credit assets that required special attention shall be evaluated based on the status of the creditor’s the length of time ove rdue financial situation, and loan collaterals, and classified as "Category Two". Assets that are substandard shall be classified as "Category Three". Assets that are doubtful shall be classified as "Category Four", and assets for which there is loss shall be classified as "Category Five". "Category Two" to "Category Five" shall be assessed one by one for possible loss and set aside sufficient loss provision. And loss provision shall be also set aside for "Category One" proportionately in accordance with regulations of competent authorities. C. Policies of hedging and mitigation of credit risk To reduce credit risk, the Bank and subsidiaries adopt the following policies: (A) Obtaining collaterals and guarantors The Bank and subsidiaries have established policies on collateral management, mortgage loan line setting, scope of collaterals, collateral valuation, collateral management and disposal. Besides, protection of creditor’s right, collateral terms and offse tting terms are all addressed in the credit extension contract in case of any occurrence of credit event, of which the amount may be deductible, loan repayment schedule may be shortened or deemed as matured, or the debtor’s deposits can be used to offset its liabilities to mitigate credit risks. (B) Loan limit control To avoid extreme credit risk concentration, subsidiaries established policies for control of credit risk concentration and set up credit extension limit for a single individual, a single group, a single industry, a single area/country, and single collateral. (C) Master netting arrangements The Bank’s and subsidiaries’ transactions predominantly settle at gross amount. Aportion of transactions have entered into master netting arrangements with counterparties or upon the event of a default may cease all transactions with the counterparties and settle by net amount in order to further reduce credit risk. (D) Other credit enhancements The Bank and subsidiaries have offsetting terms within their credit contracts, which clearly define that all deposits in the Bank and subsidiaries from debtors may be offset against their liabilities upon a credit event, and have guarantees from third parties or financial institutions, in order to decrease credit risk. D. Maximum credit risk exposure The maximum credit risk exposure of financial assets within the balance sheets is presented in book values. The maximum credit risk exposure of guarantees and irrevocable commitments off balance sheets is calculated based on their limits. Letters of credit and the guarantee refer to those issued but not used. (A) The maximum credit risk exposure of financial assets of the Bank and subsidiaries excluding collaterals or other credit enhancement instruments is approximately equal to book value. The maximum exposure to credit risk of items off balance sheet is listed below: December 31, 2017 December 31, 2016 NT$ US$ NT$ Credit risk exposure of items off balance sheet: Irrevocable commitments $ 168,797,259 $ 5,693,378 $ 171,787,313 Guarantee and letters of credit 243,153,847 8,201,357 257,027,894 Total $ 411,951,106 $ 13,894,735 $ 428,815,207