CRAR, CET1 and Tier 1 Ratio Calculations - Article

Introduction

Capital-adequacy questions are among the most calculation-oriented areas of banking risk regulation.

A question may provide:

• CET1 capital;

• Additional Tier 1 capital;

• Tier 2 capital;

• risk-weighted assets for different risks; or

• total RWA.

The learner then has to calculate or identify:

• CET1 Ratio

• Tier 1 Capital Ratio

• CRAR or Total Capital Ratio

The current IIBF CAIIB BFM Module B covers Basel capital regulation, capital charges for credit, market and operational risks, Capital Conservation Buffer, leverage ratio and related prudential concepts. IIBF also advises candidates to remain updated on regulatory developments relevant to the examination.

For numerical questions, remember one central rule:

The denominator is Risk-Weighted Assets, not total assets.

Learning Objectives

After studying this topic, you should be able to:

• calculate CET1, Tier 1 and CRAR correctly;

• select the correct numerator for each ratio;

• understand what enters total risk-weighted assets;

• compare calculated ratios with current RBI minimum requirements;

• understand the effect of the Capital Conservation Buffer; and

• avoid common numerator, denominator and percentage mistakes.

What Is CRAR?

CRAR stands for Capital to Risk-Weighted Assets Ratio.

It measures the bank’s eligible regulatory capital in relation to the risk represented by its Risk-Weighted Assets.

A higher CRAR generally indicates a larger regulatory-capital cushion relative to the bank’s measured risk exposure.

For scheduled commercial banks covered by RBI’s Basel III Capital Regulations, the current published Master Circular is dated 1 April 2025 and excludes Small Finance Banks, Payments Banks and Regional Rural Banks from that circular’s scope.

Understand the Numerators First

The easiest way to solve a capital-ratio question is to identify the capital hierarchy before touching the RWA.

CET1 Capital

This is the highest-quality regulatory capital after applicable regulatory adjustments.

Tier 1 Capital

Tier 1 consists of:

• CET1; and

• eligible Additional Tier 1 or AT1 capital.

Total Regulatory Capital

Total regulatory capital consists of:

• Tier 1 capital; and

• eligible Tier 2 capital.

Therefore, the numerator becomes progressively wider:

CET1 Ratio → only CET1

Tier 1 Ratio → CET1 + AT1

CRAR → CET1 + AT1 + Tier 2

How the Three Ratios Are Calculated

CET1 Ratio = (CET1 Capital ÷ Total RWA) × 100

Tier 1 Capital Ratio = (Tier 1 Capital ÷ Total RWA) × 100

CRAR = (Total Regulatory Capital ÷ Total RWA) × 100

These ratios measure different levels of eligible regulatory capital against the same risk-weighted exposure base.

Refer to the Formula Section for a detailed explanation, variables, and solved examples.

What Is Total RWA?

A common CAIIB mistake is to use the bank’s total balance-sheet assets as the denominator.

That is incorrect.

Under the Basel risk-based framework, RWA covers regulatory risk exposure arising from:

• Credit Risk

• Market Risk

• Operational Risk

under the applicable measurement methods. The current Basel Framework expressly describes RWA calculations for these three risk categories.

Why Risk Weighting Is Used

Suppose two assets have the same accounting value.

They may not have the same regulatory risk.

An exposure carrying a lower prescribed risk weight contributes less to RWA than an otherwise comparable exposure carrying a higher risk weight.

Therefore:

Total Assets ≠ Total RWA

RWA is the risk-adjusted regulatory denominator.

Calculation Sequence for CAIIB Questions

Use the following order.

Step 1: Identify CET1

Take the eligible CET1 amount given in the question.

If the question already states “CET1 Capital”, do not add AT1 or Tier 2 to it.

Step 2: Determine Tier 1 Capital

Combine:

• CET1; and

• eligible AT1.

Step 3: Determine Total Regulatory Capital

Combine:

• Tier 1; and

• eligible Tier 2.

Step 4: Determine Total RWA

Use the total RWA provided or derived under the applicable regulatory treatment.

Do not substitute:

• total assets;

• advances;

• balance-sheet size; or

• only credit-risk RWA

unless the question specifically establishes that these represent the relevant total.

Step 5: Calculate All Required Ratios

Apply the correct numerator against total RWA.

Step 6: Compare with Regulatory Minimums

A calculated percentage alone does not tell you whether the bank complies.

It must be compared with the applicable RBI minimum and buffer requirements.

Current RBI Minimum Ratios

For scheduled commercial banks covered by the RBI Basel III framework, the principal minimum ratios are:

RBI’s Basel III framework specifies CET1 of at least 5.5%, Tier 1 of at least 7% and total capital of at least 9% of RWA, with an additional 2.5% Capital Conservation Buffer in CET1.

Basel Global Minimum vs RBI Minimum

The international Basel minimums are lower than RBI’s corresponding minimums for covered Indian scheduled commercial banks.

The current Basel Framework requires minimum CET1 of 4.5%, Tier 1 of 6% and Total Capital of 8%, plus a 2.5% CET1 conservation buffer.

For an Indian CAIIB question asking the RBI requirement, use the Indian requirement rather than automatically selecting the Basel global minimum.

How CCB Changes Compliance Analysis

The Capital Conservation Buffer (CCB) does not create another type of capital.

It is an additional capital buffer that must be maintained in CET1.

Therefore:

• minimum CET1 = 5.5%;

• CCB = 2.5%;

• CET1 required to fully maintain the minimum plus CCB = 8.0%.

Similarly:

• minimum Total Capital = 9%;

• plus CCB = 11.5%.

Important Interpretation

A bank should not be declared fully compliant merely because:

“Total CRAR is above 11.5%.”

You must also examine the quality and composition of the capital.

For example, excess Tier 2 cannot substitute for a CET1 shortfall in meeting the CET1 requirement or CCB.

The capital hierarchy matters as much as the total percentage.

CET1 Ratio Calculation Logic

When the question asks for the CET1 Ratio:

Numerator

Use only eligible CET1 Capital.

Do not include:

• AT1; or

• Tier 2.

Denominator

Use Total RWA.

Comparison

For covered Indian SCBs, compare the result first with:

• 5.5% minimum CET1; and

• where full CCB compliance is relevant, the additional CET1 buffer requirement.

Common Error

Adding AT1 to CET1 because both form part of Tier 1.

That would calculate Tier 1 capital, not CET1.

Tier 1 Ratio Calculation Logic

When calculating the Tier 1 Capital Ratio:

Numerator

Use:

• eligible CET1; plus

• eligible AT1.

Denominator

Use Total RWA.

Regulatory Benchmark

The current RBI minimum for covered SCBs is 7% of RWA.

Common Error

Adding Tier 2.

Tier 2 belongs in Total Capital/CRAR, not in the Tier 1 ratio.

CRAR Calculation Logic

For CRAR:

Numerator

Use total eligible regulatory capital:

• CET1;

• AT1; and

• Tier 2,

after applicable adjustments and eligibility conditions.

Denominator

Use Total RWA.

Regulatory Benchmark

The current RBI minimum CRAR for the covered scheduled commercial banks is 9%.

RBI’s current banking-sector reporting continues to use CRAR as a principal capital-adequacy measure, while the Basel III Master Circular remains the governing consolidated framework for covered SCBs.

Why Capital Composition Must Be Checked Separately

Assume a question gives a bank a very large amount of Tier 2 capital.

It may produce an apparently high total capital figure.

That alone does not establish compliance.

The bank must satisfy the applicable minimum requirements for:

• CET1;

• Tier 1; and

• Total Capital.

Therefore:

Passing CRAR does not automatically prove that CET1 and Tier 1 requirements are satisfied.

This is a high-value numerical trap.

Effect of a Change in RWA

Capital ratios can change even when regulatory capital remains unchanged.

If RWA Increases

With capital unchanged:

• CET1 ratio falls;

• Tier 1 ratio falls;

• CRAR falls.

This can happen when:

• business grows;

• exposures receive higher risk weights; or

• additional risk exposure increases RWA.

If RWA Decreases

With capital unchanged, the ratios rise.

Thus, capital adequacy depends on both:

• the amount of eligible capital; and

• the amount of risk-weighted exposure.

Effect of Raising Different Types of Capital

New Eligible CET1

An increase in CET1 can improve:

• CET1 Ratio;

• Tier 1 Ratio; and

• CRAR.

New Eligible AT1

An increase in AT1 can improve:

• Tier 1 Ratio; and

• CRAR.

It does not increase the CET1 Ratio.

New Eligible Tier 2

An increase in Tier 2 can improve:

• CRAR.

It does not increase:

• CET1 Ratio; or

• Tier 1 Ratio.

This relationship is extremely useful in statement-based and calculation questions.

Regulatory Capital vs Accounting Capital

Do not automatically use every reserve or capital-looking balance given in a question.

Only eligible regulatory capital after prescribed adjustments should enter the regulatory ratios.

This matters because Basel III applies deductions and adjustments to specified items before arriving at recognised CET1, AT1 and Tier 2.

In many CAIIB numerical questions, the eligible capital figure may already be supplied. If so, use the figure stated rather than reconstructing capital unless the question specifically requires classification.

Practical Banking Application

A bank’s management reviews its capital position before expanding its loan portfolio.

It should not ask only:

“How much capital do we have?”

It must ask:

1. How much eligible CET1 is available?

2. How much eligible Tier 1 capital is available?

3. What is total regulatory capital?

4. How much RWA is generated by the bank’s risk exposures?

5. What are the resulting CET1, Tier 1 and CRAR percentages?

6. Is the CCB fully maintained?

7. Are any additional bank-specific buffers applicable?

8. How would planned asset growth affect RWA and the ratios?

This shows why capital ratios are important for both:

• regulatory compliance; and

• business planning.

CAIIB Exam Focus

Remember these high-value points:

• CRAR means Capital to Risk-Weighted Assets Ratio.

• CRAR uses total eligible regulatory capital in the numerator.

• CET1 Ratio uses only CET1 capital.

• Tier 1 Ratio uses CET1 plus eligible AT1.

• CRAR uses Tier 1 plus eligible Tier 2.

• All three ratios use Total RWA as the denominator.

• Do not use total assets in place of RWA.

• RWA covers credit, market and operational risk under the applicable framework.

• RBI minimum CET1 for covered SCBs is 5.5%.

• RBI minimum Tier 1 ratio is 7%.

• RBI minimum CRAR is 9%.

• CCB is 2.5% of RWA and must be maintained in CET1.

• CET1 minimum plus CCB is 8%.

• Total minimum capital plus CCB is 11.5%.

• Basel global minimums of 4.5%, 6% and 8% differ from RBI’s 5.5%, 7% and 9%.

• An increase in CET1 improves all three capital ratios.

• An increase in AT1 improves Tier 1 and CRAR, but not CET1 Ratio.

• An increase in Tier 2 improves CRAR, but not CET1 or Tier 1 Ratio.

• A higher CRAR alone does not prove compliance with CET1 composition requirements.

Common Exam Traps

Trap 1: Using Total Assets as the Denominator

Incorrect.

Capital adequacy ratios use Risk-Weighted Assets.

Trap 2: Using CET1 + AT1 for CET1 Ratio

Incorrect.

That is Tier 1 capital. CET1 Ratio uses only CET1.

Trap 3: Including Tier 2 in Tier 1 Ratio

Incorrect.

Tier 2 enters Total Capital/CRAR.

Trap 4: Using Only Credit-Risk RWA

Incorrect where the question provides other applicable RWA components.

The relevant denominator is Total RWA.

Trap 5: Applying Basel 8% When Asked for RBI CRAR

Incorrect.

For covered Indian scheduled commercial banks, the RBI minimum Total Capital/CRAR requirement is 9%.

Trap 6: Treating CCB as Tier 2 Capital

Incorrect.

The 2.5% CCB must be maintained in CET1.

Trap 7: Assuming CRAR above 11.5% Automatically Means Full Compliance

Incorrect.

Capital composition must also satisfy applicable CET1 and Tier 1 requirements and any other relevant buffers.

Trap 8: Thinking Additional Tier 2 Improves CET1 Ratio

Incorrect.

Tier 2 increases Total Capital but does not increase CET1.

Memory Technique

Remember C-T-A:

• C – CET1 Ratio: Core CET1 only

• T – Tier 1 Ratio: CET1 + AT1

• A – All eligible capital: CET1 + AT1 + Tier 2 for CRAR

And always keep the denominator:

RWA, RWA, RWA