What are Tier I and Tier II Capital?

The Basel-I defined two tiers of the Capital in the banks to provide a point of view to the regulators. The Tier-I Capital is the core capital while the Tier-II capital can be said to be subordinate capitals. The following info shows the 2 tiers of the Capital Fund under the Basel II.

Tier-I Capital 

  • Paid up Capital
  • Statutory Reserves
  • Other disclosed free reserves
  • Capital Reserves which represent surplus arising out of the sale proceeds of the assets.
  • Investment Fluctuation Reserves
  • Innovative Perpetual Debt Instruments (IPDIs)
  • Perpetual Noncumulative Preference Shares.

Minus:

  • Equity Investment in subsidiaries.
  • Intangible assets.
  • Losses (Current period + past carried forward)

Tier-II Capital 

  • Undisclosed reserves and cumulative perpetual preference shares.
  • Revaluation Reserves
  • General Provisions and loss reserves
  • Hybrid debt capital instruments such as bonds.
  • Long term unsecured loans
  • Debt Capital Instruments.
  • Redeemable cumulative Preference shares
  • Perpetual cumulative preference shares.  
  • As per the Basel II accords, the banks have to maintain the Minimum Total CRAR of 8%. The RBI stipulated 9% for India and within that the Tier Capital would be 6% (By 31.3.2010)
  • Most banks prefer to hold at least 12% CAR at all points of time because a lower CAR increases their cost of resource

Please note that banks have to follow the following minimum requirements of Capital Fund:

  • Minimum Total CRAR (Basel II Recommendations) :         8%
  • Minimum Total CRAR (RBI Guidelines) :             9%
  • For New Private Sector Banks :                 10%
  • The banks that undertake insurance business:         10%
  • Local Area Banks                         15%
  • For dividend declaration by banks                 9%

12 Comments

  1. jyoti

    January 11, 2012 at 12:09 pm

    how a lowere CAR increases the cost of resourse??

    • Tuhin

      November 19, 2014 at 12:00 pm

      lower CAR means more money can be lent to castomers. So more money in market. Inflation is the effect.

    • sakthivel

      November 30, 2014 at 8:11 am

      The value of the resources are always fixed when the CAR increases PPP value increase gradually.example if a car cost 5 lac when we approach bank for loan they gave loan with heavy interest.

  2. saugata

    March 23, 2012 at 1:01 am

    Why do the Banks has to maintain Tier-I capital ratio at 8% ? and how the lower CAR increases the cost of resources?

  3. Gaurav Dobhal

    May 6, 2012 at 10:21 am

    As we study that CAR = Capital/risk
    if CAR is low means risk is high. And if risk in production is high then it will definitely affect the resources

  4. Gaurav Dobhal

    May 6, 2012 at 10:25 am

    As per Basel I suggestions Assets of banks are catagorised on the basis of the credit risk or the risk weightage of assets from 0% risk weightage to 100 and more than 100%. 0% refers to sovereign capital or the Govt capital where more than 100% refers to corporate sector. So according to Basel I banks having international presence have to hold atleast 8% to cover their risk and the risk as calculated as per the different catagories mentioned above

  5. shmare

    December 14, 2012 at 7:16 pm

    Please explain Tier 1 and Tier 2 in simple language ????

    Sir , Need help badly .

    • anurag

      June 14, 2014 at 4:54 pm

      Two types of capital are measured – tier one capital which can absorb losses without a bank
      being required to cease trading, e.g. ordinary share capital, and tier two capital which can
      absorb losses in the event of a winding-up and so provides a lesser degree of protection to
      depositors, e.g. subordinated debt

  6. Dev

    August 16, 2013 at 9:33 pm

    Please explain tier-I and tier-II in simple language.???

  7. ava

    May 9, 2014 at 12:22 pm

    From Wikipedia,

    Tier I Capital : core capital, which consists primarily of common stock (equity share) and disclosed reserves (or retained earnings) and other items as explained in the article.

    Tier II Capital : supplement capital, which consists elements as explained in the article.

  8. Thuydung

    November 8, 2014 at 11:33 am

    Can anyone can help me explain what is the difference between the tier 1 and tier 2, pls ???

  9. nitin

    January 7, 2015 at 6:55 pm

    please explain tier 1 and tier 2 capital in simple language with examples.

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