During 2012, many of those involved in drafting and negotiating facility agreements will have followed the progress of draft legislation, and other related developments, on FATCA, Basel III and LIBOR. Adam Pierce explains what is expected to happen next in each of these areas, and how these changes are likely to affect English law facility agreements in 2013.

FATCA

What is next?

The US Treasury and the IRS are expected to publish the final form of FATCA regulations by the end of 2012.

It is also expected that the UK Government will publish draft legislation before the end of 2012 to implement the US/UK intergovernmental agreement on FATCA dated 12 September 2012 (the US/UK IGA). This will form part of the Finance Bill 2013.

Facility agreements: any change in 2013?

For an earlier SNR Denton summary of how FATCA affects syndicated lending see SNR Denton - FATCA: Is It Relevant to my Syndicated Loan?

Since their publication in July 2012, the LMA’s FATCA riders have been the starting point for allocating FATCA risk in facility agreements. This is likely to change in 2013 for the following reasons:

  • The LMA riders were drafted on the basis “that grandfathering will prima facie apply” to payments under the agreements they were to be added to. That will not be the case on any new deals after 2012 where FATCA is relevant because of a US borrower in the transaction: “US source” payments under agreements dated on or after 1 January 2013 will not benefit from FATCA grandfathering. (Until October 2012, the same was true of “foreign passthru payments”, but the IRS has announced an extension to the grandfathering provisions on these.)
  • The LMA riders were drafted before the US/UK IGA was finalised, and before publication of the model intergovernmental agreement on which it was based. The US/UK IGA should ensure that FATCA withholding will not apply on payments to or by financial institutions when operating from the United Kingdom. On 8 November, the US Treasury Department announced that it hopes to finalise equivalent agreements with 16 other countries by the end of 2012 and is in FATCA negotiations with over 50 countries in total.

So what will replace the current LMA riders in 2013? Can lenders now bear FATCA gross-up risk, as in the US market? The US/UK IGA should simplify matters for finance parties operating from within the United Kingdom on a relevant transaction: their principal risk in accepting the US market position would be the transferability of their commitments to financial institutions operating outside the United Kingdom. For transactions involving finance parties operating from outside the United Kingdom, much will depend on the progress made on other intergovernmental agreements.

Basel III

What is next?

Basel III, the regulatory capital rules published by the Basel Committee in December 2010, is officially due to be implemented in the European Union on 1 January 2013 by a new regulation and a new directive known collectively as “CRD IV”. However, it now looks inconceivable that the 1 January 2013 deadline will be met. The relevant EU bodies have not yet finalised the new legislation, but officially remain committed to doing so by the end of 2012.

CRD IV will create more onerous regulatory capital requirements for EU financial institutions, but these will be phased in between 2013 and 2019.

Facility agreements: any change in 2013?

Since the Basel III rules were published, there has been much negotiation over whether Increased Costs clauses in facility agreements should cover lenders’ “Increased Costs” relating to Basel III. Lenders have generally insisted that they do. EU lenders should note that the LMA Increased Costs clause will not cover Basel III-related “Increased Costs” in agreements dated after CRD IV becomes law. It seems likely that lenders will look to factor the more onerous capital requirements into their pricing, rather than rely on Increased Costs clauses.

LIBOR

What is next?

For a summary of the recommendations in the final report (the Report) of the Wheatley review on LIBOR, published in September 2012, see SNR Denton - What next for LIBOR? The Wheatley Review reports

HM Treasury accepted the Report’s recommendations, and has published proposed amendments to the Financial Services Bill (the Bill) to take account of some of them. The Government is aiming for the Bill to become law by the end of 2012. The amendments to the Bill focus on bringing the LIBOR process within the regulated regime. Many of the more detailed recommendations of the Report are for the British Bankers Association (the BBA) or successor administrator of LIBOR to consider separately.

Facility agreements: any change in 2013?

  • BBA administration and LIBOR definitions. The Report recommended that the BBA should cease to have responsibility for administering LIBOR.

LMA facility agreements currently define “Screen Rate” LIBOR as the “British Bankers Association Interest Settlement Rate … displayed on the appropriate page of the Reuters screen”. If the BBA does pass on responsibility to LIBOR, this definition is likely to be updated. But will the current definition still work? The definition provides a mechanism to enable “another page or service” to be used “if the agreed page is replaced or service ceases to be available”. But this appears to cover a situation where Reuters ceases publishing the rate, rather than where the “British Bankers Association Interest Settlement Rate” itself is replaced or unavailable.

So it is unclear whether “LIBOR” after these reforms will still fall within the current Screen Rate definition. If it does not, parties that have used the current definition will need to fall back on the reference bank rate or (more likely) amend their agreement. In an attempt to avoid this, parties should consider amending the Screen Rate definition on new deals so that it refers to the British Bankers Association Interest Settlement Rate “as reformed or renamed from time to time”.

  • Reduced currencies and tenors. LIBOR is currently published for 10 currencies and 15 maturities. The Report recommended narrowing this to five currencies (US dollar, sterling, Swiss franc, Japanese yen and euro) and 10 (or fewer) maturities. The BBA is already consulting on implementing this recommendation. Although any change in the current scope is likely to be subject to transitional arrangements, lenders should consider:
    • whether to use LIBOR as a benchmark on new loans denominated in a currency that may be discontinued; and
    • whether to allow borrowers to choose interest period maturities for which rates may no longer be published

In either case, if they do so there is a risk of having to rely on a reference bank rate (or other back-up rate) on a long-term basis following the relevant discontinuation. However, this is unlikely to affect many transactions: the Report recommended discontinuing certain currencies and maturities precisely because they are so rarely used.

  • Use of reference bank rates. The Report argued against the use of reference bank rates as a “fall back” if screen rate LIBOR becomes unavailable (as provided for in the LMA facility agreements). It argued that if LIBOR is not published for any reason, reference banks may not be able to provide quotes for the same reason. The Report recommended that “new contingency provisions should be designed to function without reliance on submissions from LIBOR panel banks”.

However, using other existing published rates instead, as suggested by the Report, would not be straightforward either. Whether lenders or the LMA will want to act on this recommendation remains to be seen.

Law stated as at 27 November 2012