From 1 January 2016, all EEA incorporated banks and credit institutions are required to include a term in any non-EEA law governed contract under which they have liabilities, giving contractual recognition of the bail-in powers of EU financial regulators. This is a requirement under Article 55 of the EU Bank Recovery and Resolution Directive (2014/59/EU) (BRRD) and a failure to comply with such requirement can result in penalties and public censure for a non-compliant financial institution.
What is the EU bail-in regime and, specifically, Article 55
The BRRD gives EEA regulators the ability to manage failing financial institutions by the early exercising of certain ‘bail-in’ powers, which include the ability to write-down, convert into equity or otherwise modify the institutions liabilities.
Article 55 of the BRRD is designed to mitigate the risk of a court in a non-EEA jurisdiction challenging the effectiveness of the bail-in powers of EEA regulators.
Which financial institutions are required to comply?
The BRRD affects any EEA financial institution (a credit institution or investment firm) established in an EEA member country, or such institution’s EEA established parent, or such institution’s EEA established subsidiaries, where they are subject to consolidated supervision.
Overseas branches of financial institutions to whom the BRRD applies will also be caught with the scope of the BRRD, however subsidiaries of such institutions that are established outside the EEA will not. Similarly, European branches of non-EEA institutions or firms will not fall within the scope of the BRRD.
When does a contractual recognition provision need to be included?
Article 55 of the BRRD provides that contractual recognition of the bail-in powers must be included in any non-EEA law governed contracts under which a financial institution covered by the BRRD has liabilities to which the bail-in powers would apply.
The requirement came into effect on 1 January 2016 and any will apply to any new contracts to which an EEA financial institution is a party, as well as to any existing contract that is materially amended or where new liabilities arise under such contract after that date.
The definition of liabilities is very broad, with few exceptions, and will therefore include lending commitments, requirements to share or turnover recoveries made from a borrower, confidentiality duties, restrictions on a creditor’s actions and potentially certain non-contractual liabilities, such as claims in negligence or misrepresentation.
As such, contractual recognition provisions will need to be included not just in credit agreements, but also under letters of credit, intercreditor agreements, security agreements and commitment letters. If an EEA financial institution were to buy into a fully-funded term debt following 1 January 2016, the contractual recognition provisions would still be required to be included as a result of, for example, the liabilities arising under indemnification provisions.
It is likely therefore, that EEA financial institutions will be required to include the contractual recognition provisions in almost every new contract.
What wording to use?
Each of the LMA, LSTA, AFME and ICMA have published standard form contractual recognition of bail-in provisions. Article 55 also requires that the contractual recognition provision expressly refer to the applicable legislation of the relevant European state. To address this, the LMA has published (and will maintain) on its website, a schedule of the European legislation to which the contractual provisions can cross-refer.
The European Banking Authority published the ‘Regulatory Technical Standards’ (RTS), to be adopted by the European Commission, which are intended to provide further guidance to interpreting the BRRD, however these remain in draft form. In addition, the Prudential Regulation Authority of the UK is currently reviewing its regulations by which it has implemented Article 55.
Until further clarity on the scope of Article 55 is provided by publication of the RTS and the various regulators finally settle their respective sets of regulations, it is safe to assume that Article 55 will affect almost every new or modified finance document to which an EEA financial institution is party,