Issuers and distributors of retail fixed and floating rate notes, and simple rate-linked structured notes, were probably pleased about the potential for issuers to include these types of instruments in an issuer’s “TLAC.”4 Under the Federal Reserve Board’s proposed regulations and definitions, a variety of these instruments are eligible instruments.
However, there are a variety of potential limitations here. For example, under the proposed regulations, these types of instruments could be disqualified by the inclusion of a survivor’s option feature.5
Proposed Regulation 252.61 contains the definition of “eligible debt security.” Clause (5) of the definition would exclude any instrument that can be accelerated based upon any condition other than a failure to pay or a bankruptcy-related event. This would appear to exclude instruments that provide for a survivor’s option, which become payable when the beneficial holder passes (or becomes incompetent). In addition, Regulation 252.62, which spells out the long-term debt requirement for G-SIBs, would exclude from the calculation those debt instruments that have a remaining term of less than one year, and would treat an instrument with a conditional right of the investor to request repayment of the debt as if all of the necessary conditions had been satisfied - hence, the deemed remaining term of an instrument with a survivor’s option would be reduced to zero - providing no value for purposes of the required long-term debt calculation.
Some survivor options limit the principal amount per year, or in total, that can be exercised. Although these limitations are designed to ensure that most of the principal amount could not become payable under a survivor’s option over a short period, provisions of this kind would not appear to help ensure the eligibility of the debt securities for TLAC purposes.
Accordingly, when it comes to retail notes and simple rate-linked notes, G-SIB instruments may become less attractive than similar instruments that are issued by non-G-SIBs, to the extent that G-SIBs are unable to offer a survivor option feature. Accordingly, in connection with these types of offerings, G-SIB issuers may need to offer investors a higher interest rate or other superior terms as compared to G-SIBs. This result seems inconsistent with the regulatory design to ensure that G-SIBs achieve the required levels of long-term debt and to maintain a broad investor base.