PASHA_BANK_ANNUAL REPORT 2022

EXPLANATIONS ON ACCOUNTING POLICIES (Continued) These financial assets are divided into three categories depending on the gradual increase in credit risk observed since their initial recognition: · Stage 1: For the financial assets at initial recognition or for those which do not have a significant increase in credit risk since initial recognition. Allowance for credit risk is recorded in the amount of 12-month expected credit losses. · Stage 2: In the event of a significant increase in credit risk since initial recognition, the financial asset is transferred to Stage 2. Allowance for credit risk is determined on the basis of the instrument’s lifetime expected credit losses. · Stage 3: Stage 3 includes financial assets that have objective evidence of impairment at the reporting date. For these assets, lifetime expected credit losses are recognized. Individual assessment would be applied for stage 2 and stage 3 financial assets when it is necessary by considering various scenarios including discounting cash flows of financial assets. In the general application of TFRS 9, the probability of default (PD) and loss given default (LGD) is determined within the framework of the Bank’s models and expected loss provisions are calculated by taking into account the exposure at default (EAD). Within the scope of TFRS 9, three types of expected loss provisions are defined: · 12-month expected credit losses: For the financial assets that do not have a significant increase in credit risk since initial recognition. Impairment for these classes of assets are recorded in Stage 1. · Lifetime expected credit losses: It expresses credit losses that have significant increase in credit risk since initial recognition. These assets are evaluated in Stage 2. · Provision for defaulted financial assets: This classification represents the losses that are subject to default. It is used for assets classified as Stage 3. The expected loss calculations are used for financial assets at amortized cost and financial assets at fair value through other comprehensive income. In addition, expected loss provision is calculated for financial guarantees, sureties and liabilities that are monitored in off-balance sheet accounts, where the Bank will be exposed to a credit risk. While the Bank takes into account the interest amount in the calculation of the impairment, Stage 1 and Stage 2 consider the interest for the financial assets as gross value and the interest rate for Stage 3 is based on net value. Within the framework of the credit rating methodology, the Bank uses LGD ratios to be calculated by using the PDs corresponding to the external/internal ratings and the coefficient of approximation used within the framework of Basel and BRSA applications. In the calculation of the expected loss provision, for banks and central governments the ratings given by the internationally accepted independent rating institutions are taken as basis. For corporate loans and financial customers other than banks, internal rating model of the Bank are used to evaluate customers. In determining the internal rating grades, the rating scale published by independent credit institutions is taken as a basis, and sub-notches are used to better differentiate customers with low grade bands. In the determination of PD values, independent credit rating agency methodology based on the historical default rates and Bank’s calibration methodology with a forward-looking perspective taking macroeconomic expectations into consideration is used. For customers having a better rating than the Turkey’s rating, the country’s rating is applied as a cap. Thus, a prudent approach is applied that doesn’t allow to assign a better rating than country’s one for customers residing in that country. 136 PASHA Bank 2022 Annual Report Notes to Unconsolidated Financial Statements at 31 December 2022 Pasha Yatırım Bankası A.Ş. (Amounts are expressed in thousands of Turkish Lira (“TL”) unless otherwise stated.) Convenience translation of publicly announced unconsolidated financial statements originally issued in turkish, see note I of section three