Banco Santander (Mexico) S.A., Institucion de Banca Multiple, Grupo Financiero Santander Mexico | CIK:0001698287 |

24. Provisions

a)   Breakdown

The breakdown of Provisions is as follows:

 

 

b)   Changes

The changes in Provisions were as follows:

 

(*)Included in these amounts are payments made by the Bank to the Tax Administration Service of 19 million pesos in 2015, 18 million pesos in 2016 and 5 million pesos in 2017 due to the fact that the Bank was not withholding income tax in their derivative transactions with certain counterparties.

c)   Provisions for pensions and similar obligations

Defined contribution plan

The Bank sponsors a defined contribution retirement benefit plan for all qualifying employees of its subsidiaries whereby the Bank agrees to contribute pre-established cash amounts to a given investment fund, in which the employee’s benefits consist of the sum of such contributions, plus or minus the gains or losses from the management of such funds of those employees who form part of this defined contribution retirement benefit plan. The qualifying employees are those who began working for the Bank after 2006. The retirement age is 65 years.

The assets of the plan are held separately from those of the Bank in funds under the control of trustees.

The Bank recognized as personnel expenses in the consolidated income statement the amounts of 272 million pesos, 300 million pesos and 330 million pesos in 2015, 2016 and 2017, respectively (see Note 41), related to contributions payable to the defined contribution retirement benefit plan.

Defined benefit plan

According to Mexican Labor Law, the Bank is liable for severance payments for employees who are terminated by the Bank and seniority premiums, which are statutory retirement benefits. In addition, the Bank offers a defined benefit pension plan and other post-retirement benefits agreed under a collective bargaining agreement. The defined benefit plans are administered in a pension fund that is legally separated from the Bank. The trustee of the pension fund is required by law to act in the best interests of the plan participants and is responsible for setting certain policies (e.g. investment, contribution and indexation policies) of the fund.

During the year, the Bank estimates and records the net periodic cost to create a provision that covers the net projected obligation from pensions, medical expenses, seniority premiums and severance payments. These estimates are related to the obligations derived from Mexican Labor Law, as well as the obligations derived from the collective bargaining agreement. Therefore, the liability is accrued at the present value of future cash flows required to settle the obligation from benefits projected to the estimated retirement date of the Bank’s employees calculated based on the projected unit credit method.

The plans typically expose the Bank to actuarial risks such as investment risk, interest rate risk, longevity risk and salary risk.

 

Provisions for defined benefit post-employment plan, which benefits include a pension and medical expenses plan, severance payments and seniority premiums, amounted to 3,951 million pesos and 3,830 million pesos as of December 31, 2016 and 2017, respectively.

The investment fund of the defined benefit post-employment plan was 3,426 million pesos and 2,901 million pesos as of December 31, 2016 and 2017, respectively. Investments are well-diversified, such that the failure of any single investment would not have a material impact on the overall level of assets. Plan assets in 2016 and 2017 consist of debt and equity instruments. The Bank believes that equities offer the best returns over the long-term with an acceptable level of risk.

Prior to January 1, 2006, the Bank offered a defined benefit medical expenses plan to all eligible employees (and their families) that upon retirement provided for the payment of 100% of medical expenses due to illness or accidents. Under this medical expenses plan, the Bank accrues the estimated medical expenses based upon actuarial calculations during the period of employment up to the date of retirement.

Beginning on January 1, 2006, the Bank introduced a new defined contribution medical expenses plan referred to as the “Retirement Medical Coverage Plan”. All individuals employed after January 1, 2006 were automatically enrolled in this plan. Employees with more than six months of service as of January 1, 2006 were given the option of remaining under the defined benefit medical expenses plan or to be transferred to the “Retirement Medical Coverage Plan”. Under the “Retirement Medical Coverage Plan”, the Bank pays pre-established cash amounts to a given investment fund. An employee’s benefit consists of the sum of such contributions, plus or minus the gains or losses from the management of such funds.

As of December 31, 2016 and 2017, approximately 1.30% and 1.00% of the Bank’s employees, respectively, were still enrolled in the defined benefit pension plan while the rest of the employees were enrolled in the defined contribution pension plan.

As of December 31, 2016 and 2017, approximately 83.30% and 81% of the Bank’s employees enrolled in the defined contribution pension plan have been included in the “Retirement Medical Coverage Plan”. Employees that start working for the Bank on August 16, 2014 and later, do not have the option to be enrolled in the “Retirement Medical Coverage Plan”, because they are registered in the Mexican Institute of Social Security (IMSS) as their medical coverage. In addition, they have a medical insurance that covers its major medical expenses.

The breakdown of Provisions for pensions and similar obligations is as follows:

 

The amount of the defined benefit obligations was determined using the following actuarial techniques:

 

The determination of the discount rate considers the term and performance of high-quality corporate bonds.

The funding status of the defined benefit obligations is as follows:

 

The amounts recognized in the consolidated income statement in relation to the aforementioned defined benefit obligations are as follows:

 

The changes in the present value of the accrued defined benefit obligations were as follows:

 

The duration of the defined benefit obligation is 9.35 years.

The changes in the fair value of plan assets were as follows:

 

The fair value of the plan assets is determined based on quoted market prices in active markets.

The Bank does not expect to make contributions to post-employment benefit plans for the year ending December 31, 2018.

The major categories of plan assets as a percentage over the total plan assets are as follows:

 

The fair value measurement of the financial instruments that comprises the plan assets is categorized as Level 1 since the inputs to the fair value measurement are quoted market prices in active markets.

Sensitivity analysis

Significant actuarial assumptions for the determination of the defined benefit obligation are discount rate, medical cost trend rate, annual salary increase, annual INPC growth and mortality. The sensitivity analyses below have been determined based on reasonably possible changes of the respective assumptions occurring at the end of the reporting period, while holding all other assumptions constant.

The sensitivity analysis presented above may not be representative of the actual change in the defined benefit obligation as it is unlikely that the change in assumptions would occur in isolation of one another as some of the assumptions may be correlated.

Furthermore, in presenting the above sensitivity analysis, the present value of the defined benefit obligation has been calculated using the projected unit credit method at the end of the reporting period, which is the same as that applied in calculating the defined benefit obligation recognized in the consolidated balance sheet.

d)   Other disclosures

In July 2001, the Bank entered into a collective lifetime payment insurance operation agreement for certain retirees with Principal México Compañía de Seguros, S.A. de C.V. (hereinafter, Principal). Such agreement establishes that with the payment of the single premium by the Bank, Principal commits to paying insured retirees a lifetime payment until the death of the last insured retiree.

Under such agreement, the Bank’s net worth would not be affected in the future by these insured persons, since the risk was transferred to Principal. However, in order to record the Bank’s legal obligation to its retirees in the consolidated balance sheet, the Bank recognizes the projected benefit obligation of the insured retirees surrendered to Principal under Provisions - Provisions for pensions and similar obligations, and a long-term account receivable with Principal, which is recognized under Provisions - Provisions for pensions and similar obligations for the funds that it transferred thereto. The amount of the projected benefits obligation was calculated at the close of the year, based on the estimates used for labor liabilities and the remaining personnel. As of December 31, 2016 and 2017, such liability was 865 and 826 million pesos, respectively. For presentation purposes, the arrangement has not impact on net assets as the asset and liability are offset.

e)   Provisions for tax and legal matters

The Bank is a party to various tax claims for which it has recognized total provisions of 177 million pesos and 49 million pesos as of December 31, 2016 and 2017, respectively.

i.   Tax-related proceedings

The main tax-related proceeding concerning the Bank was as follows:

ii.  Other tax issues

The Bank operates a branch in Nassau, Bahamas through which it carries out tax-free operations principally involving derivative instruments. The Tax Administration Service has reviewed the operations of the Nassau branch and determined that the Bank is liable for Mexican withholding taxes. During December 2009, the Bank negotiated a settlement with the Mexican tax authorities for cumulative back withholding taxes on transactions carried out from 2004 through 2009. The Bank made settlement payments of 18 million pesos in 2016 and 5 million pesos in 2017.

iii.  Non-tax-related proceedings

As of December 31, 2016 and 2017, as a result of its business activities, the Bank has had certain claims and lawsuits representing contingent liabilities filed against it. Notwithstanding, Management and its internal and external legal and labor advisers do not expect such proceedings to have a material effect on the consolidated financial statements in the event of an unfavorable outcome. As of December 31, 2016 and 2017, the Bank has recognized provisions for the amounts of 1,129 million pesos and 1,023 million pesos, respectively, for matters which based on the opinion of its internal and external legal advisers, Management has assessed losses to be probable. Management considers such provisions to be adequate and, based on its best estimates, does not believe that actual losses will vary materially from the recognized provisions.

The total amount of payments made by the Bank arising from litigation in 2015, 2016 and 2017 is not material with respect to these consolidated financial statements.

During 2016 and 2017, the amount paid by the Bank to external lawyers was 322 million pesos and 431 million pesos, respectively, for the management of all the outstanding claims.

f)    Provisions for off-balance-sheet risk

The provisions for off-balance-sheet risk are estimated with the same methodology used for calculating the impairment of loans and receivables. Refer to Note 2.g. above for further description.

The breakdown of the off-balance-sheet risks is as follows: