UPDATE 1-EU watchdog sets out tougher rules for planned bank tests
* New rule sets 90 days as threshold for souring loans
* Replaces patchwork of national definitions
* 2nd rule defines when forbearance on a loan takes place
* Analyst says how new rules applied will be key
* Results of EU tests expected around October 2014
By Huw Jones
LONDON, Oct 21 (Reuters) - Europe's top banking regulator has set out tougher rules for its forthcoming tests on the finances of top lenders, potentially paving the way for further multi-billion euro fundraising measures by banks deemed shaky.
The rules, part of attempts to ensure the bank sector is less likely to suffer a near-collapse as during the 2007-2008 credit crunch, impose centrally defined standards to ensure EU banks cannot rely on national definitions to obscure the state of their books.
The last two rounds of the EU's tests on banks, widely criticised for not being tough enough, gave national authorities leeway to set key definitions such as what counted as a bad loan and which loans were subject to "forbearance", when a bank revises the terms of a loan when the borrower is in difficulty.
This time around, with its credibility resting on the third attempt to convince investors banks have enough cash, top regulator the European Banking Authority (EBA) has prescribed detailed rules that will be used to assess all the banks in question.
But the new rules themselves are less important than making sure there is consistency and comparability in how data are compiled and disclosed, said Steve Hussey, head of financial institutions credit research at AllianceBernstein.
The rules will be used by the European Central Bank (ECB) in its upcoming asset quality review (AQR) looking at whether the eurozone's top 130 banks such as Deutsche Bank, Unicredit and BNP Paribas have properly faced up to the extent of their bad loans.
The 11 EU countries outside the eurozone must also carry out their own AQRs, which will also have to use the new rules.
The impact of the rules could be significant. A Morgan Stanley survey of investors this month showed between five and 10 of the 130 "systemically important" banks to be tested by the ECB are expected to fail the tests and could be forced to raise up to 50 billion euros ($68 billion) to bolster their capital.
The ECB will announce initial details of how its tests will be conducted at 0800 GMT on Wednesday.
"These recommendations promote consistency to the process and outcomes of the AQRs at the European level so that remaining doubts about the quality of assets across the EU may be alleviated," the watchdog said in a statement on Monday.
The bloc's financial services chief Michel Barnier said last week the results of the EU's tests were not expected to be dramatic and any shortfalls of capital will most likely be plugged by tapping markets - rather than having to go cap in hand to taxpayers as during the credit crunch.
The EBA said all asset reviews across the EU should be completed by the end of October 2014. A separate bloc-wide stress test - to see if banks are prepared to deal with economic and financial shocks - will also be completed by October 2014.
A single set of bank-by-bank results showing any capital shortfalls will be published around October 2014. The EBA has yet to say what the "pass" threshold will be or how long lenders will have to plug any capital gaps.
The Authority's two previous stress tests failed to convince investors that lenders hold enough capital to withstand shocks unaided when the ECB money many of them hold is returned.
Its first rule set out on Monday relates to when a loan has gone sour - thus forcing the bank to set aside more capital - and replaces the patchwork of national definitions which have made it hard for investors to compare banks.
The EBA defines a loan as non-performing when a repayment is more than 90 days overdue or when repayment is unlikely.
A second rule defines when forbearance on a loan has taken place, meaning the bank has allowed the borrower to skip or reduce payments.
The watchdog said forborne loans can be identified in both non-performing and performing loans portfolios, meaning a forborne loan is not automatically deemed to be non-performing and thus trigger extra capital requirements.
"Maybe more important is the assessment of forbearance and restructured loans, as well as assessments on collateral values used to offset potential provision requirements on these loans," AllianceBernstein's Hussey said.
"The presence of an independent third-party reviewer is essential to provide some credibility to this process."