Tier II Bonds:
Several banks are actively issuing Tier II bonds to bolster their capital adequacy ratios (CAR) as required under Basel III norms, with total issuances expected to reach Rs 25,000 crore in FY 2025–26.
- Tier II bonds are subordinated debt instruments banks issue to boost capital and support operations. They count as Tier II (supplementary) capital under Basel-III and help improve the CAR.
- CAR indicates a bank’s financial strength, with a higher ratio providing a stronger buffer against distress. CAR = (Eligible Capital ÷ Risk-Weighted Assets) × 100%.
- Tier II Bonds are different from Tier I Bonds as they strengthen a bank’s supplementary capital, whereas Tier I (AT1) Bonds strengthen its core capital (equity and retained earnings).
- Key Features of Tier II Bonds:
- Maturity: They are typically long-term instruments with original maturities of at least 5 years.
- Subordination: Tier II bondholders are paid after all depositors, senior debt holders, and general creditors in the event of a liquidation.
- Coupon Payments: They pay regular interest (coupons) and generally offer higher coupon rates than senior bonds due to higher risk.
- Call Options: Most Tier II bonds include a call option, allowing the bank to redeem the bonds after a specified period (e.g., 5 or 10 years).
- Loss Absorbency (Gone-Concern Capital): Tier I capital is considered “gone-concern” capital, meaning it is intended to absorb losses if a bank fails and is in the process of being wound up.
