As 2022 drew to a close, the Board of Federal Governors of the Federal Reserve System (Federal Reserve) adopted a final rule addressing “legacy contracts” in order to avert financial chaosi due to potential breaches of trillions of dollars in contracts for which there is no substitute for terms based on the London Interbank Offered Rate (“LIBOR”).

Despite the efforts of many in financial marketplaces to replace LIBOR in financial arrangements, there remain — in Federal Reserve parlance — “tough legacy contracts.” These contracts reference USD LIBOR, mature after the final LIBOR settings cease at the end of June 2023 and lack LIBOR replacement provisions; it is estimated that financial markets include $16 trillion in these contracts.ii

Since July 2017, when the UK Financial Conduct Authority announced that LIBOR would cease to be published eventually, market participants have worked to amend agreements ranging from derivatives to mortgages to other contracts. Recognizing that many parties to legacy contracts (including student loans and mortgages in securitizations) will not, for myriad reasons, amend those contracts by the time that the remaining LIBOR settings cease at the end of June this year, state governments enacted a patchwork of state law to transition legacy contracts away from LIBOR.iii For example, following the passage of New York State LIBOR Legislationiv certain legacy contracts will by operation of law be deemed to be amended to include the “Recommended (LIBOR) Fallback Replacement” mechanics published by the Alternative Reference Rates Committee (ARRC). Not all states have adopted similar LIBOR replacement law, necessitating a uniform, federal approach.

On March 15, 2022, Congress enacted the Adjustable Interest Rate (LIBOR) Act or LIBOR Act. The legislative vehicle for the LIBOR Act was the Consolidated Appropriations Act, 2022v and the LIBOR Act included statutory default provisions for legacy contracts.

The LIBOR Act furthers a “stay together” policy which in essence prevents parties from being subject to any claim or lawsuit (and resulting liability) arising out of the incorporation of LIBOR replacement mechanics published by ARRC into their legacy contracts. The LIBOR Act also mandates that certain LIBOR replacement conforming changes (these changes are typically determined and made by lenders in loans, for example) become part of the legacy contract. The next step following the passage of this federal law was for regulatory action to give color and detail to the LIBOR Act.

In July 2022, the Federal Reserve invited public comment as a part of its notice of proposed rulemaking to implement the LIBOR Act; the comment period ended on August 29, 2022. On December 16, 2022 a final rule implementing the LIBOR Act was published by the Federal Reserve. Among other things, the final rule:

  • Identifies benchmarks based on the Secured Overnight Financing Rate (SOFR) to replace LIBOR settings in multiple categories of legacy contracts;
  • Specifies benchmark conforming changes related to the calculation, administration and other implementing actions of SOFR benchmarks to replace LIBOR, and empowers the party in the legacy contract making the SOFR benchmark selection to make conforming changes; and
  • Preempts state and local LIBOR replacement law or standards relating to the LIBOR benchmark replacement in legacy contracts.