The European Banking Authority has clarified that current European Union banking rules prevent lenders that own asset ‍management firms through ‍an insurance unit from applying to the asset managers favourable capital treatment reserved ​for the bank's insurance businesses.

The measure closes a potential loophole that regulators say could enable ⁠capital arbitrage. Under a provision in the EU's Capital Requirements Regulation (CRR) known as the "Danish Compromise", banks ⁠owning an ‌insurer can hold capital against their insurance subsidiaries on a risk-weighted basis rather than deducting the holdings in full from their capital, reducing the burden ⁠for banks of owning an insurer.

Now permanent, the Danish Compromise was initially introduced as a temporary benefit to facilitate the introduction of international banking rules known as the "Basel framework" which the EU adopted after the global financial crisis of 2008-2009. A lack ⁠of regulatory clarity on whether the ​Danish Compromise could apply to a bank buying an asset manager through its insurance arm last year resulted ‍in Italy's Banco BPM buying asset manager Anima Holding on the expectation - mistaken as it has turned out - ​that it could make use of the favourable capital rules.

In a document published on its website on Friday, the EBA said it had reviewed transactions where asset managers had been acquired through insurance subsidiaries of banking groups.

The EBA noted "these cases have raised questions" about whether the asset manager should be consolidated at group level for regulatory purposes, or could benefit from the Danish Compromise like the insurance units that owned them when it came to assessing the adequacy of banks' capital buffers.

"Such treatment could lead to regulatory ⁠arbitrage, where group structures are designed to place financial institutions under ‌insurance subsidiaries to benefit from more favourable capital treatment or avoid deductions," the EBA said.

The EBA said the rules forbade such a move because the CRR "explicitly ‌includes subsidiaries of ⁠subsidiaries, meaning that a financial institution held through an insurance undertaking qualifies as a subsidiary of ⁠the parent institution".

(Reporting by Valentina Za; Editing by Hugh Lawson)