LIBOR Replacement and other Market Updates

LIBOR Replacement and US Tax Law Considerations for Multi-Currency and Cross-Border Financing Transactions

A Global Approach

September 13, 2018

With material assistance from Kimia Basyuk, Associate

Reggie Clark, Partner

Christina Rissler, Partner

Jessica Rissmiller, Senior Attorney

Joint Meeting of the Cross-Border Lending Sub-Committee and the International Finance Sub-Committee of the Commercial Finance Committee and the International Commercial Law Sub-Committee of the UCC Committee of the Business Law Section of the ABA

Lizet Steele, Associate

Eversheds Sutherland

Part ILIBOR Replacement


Why Is LIBOR Being Retired, and What Will Replace It?

─ In July 2017, the UK Financial Conduct Authority announced that it will no longer require LIBOR panel banks to submit information for calculation of LIBOR after the end of 2021

─ What does this mean for LIBOR? • It is possible that LIBOR will no longer be calculated or reported after

the end of 2021 or will become unreliable

─ Why is the regulator taking this action? • $500 million of daily trading + survey determines rates for $200-

$350 trillion in transactions• LIBOR is created based on a survey of 17 panel banks asking: At

what rate could you borrow funds, were you to do so by asking for and then accepting interbank offers in a reasonable market size just prior to 11 a.m. London time?

• LIBOR is illiquid, lacks transparency and is easily manipulated• Post financial crisis, we have seen billions of dollars in misconduct

fines assessed, and people have gone to jail for LIBOR manipulation

3


Why Is LIBOR Being Retired, and What Will Replace It?

4


Is LIBOR Retirement by 2022 for Real?

─ In July 2018, the Chief Executive of the UK Financial Conduct Authority stated: “I hope it is already clear that the discontinuation of LIBOR should not be considered a remote probability `black swan’ event. Firms should treat it as something that will happen and which they must be prepared for.” The Chairman of the Commodity Futures Trading Commission also stated that LIBOR is “unsustainable”

─ However, ICE is actively working to reform LIBOR with a new three-tier waterfall reporting system for panel banks which is to be implemented in early 2019

─ Public opinion (domestic and international) seems mixed but the wise will be ready for anything … zombie LIBOR, illegal EURIBOR, Tolkian sounding replacement rates, piratical lenders, bank regulators set to take over the world

5


LIBOR Is Not the Only Rate on the Chopping Block –the Future of EURIBOR Is Also Bleak

─ EURIBOR is short for Euro Interbank Offered Rate• EURIBOR rates have been available for nearly 20 years, are based on the interest

rates at which a panel of 20 European banks (down from 44 banks 6 years ago) from 10 different countries borrow funds from one another and are published and administered by the European Money Markets Institute (EMMI)

• EURIBOR is available in Euros in tenures of 1 and 2 weeks and 1, 2, 3, 6, 9 and 12 months. However, 2-week, 2-month and 9-month tenures will not be available as of December 3, 2018

• EURIBOR is estimated to be in some US$150 trillion worth of transactions• EURIBOR has many of the same problems as LIBOR (e.g., vulnerable to

manipulation and lacks transparency)• EURIBOR is also on the chopping block, but with a hard deadline that will come two

years earlier• After 2019, if the EURIBOR fails to obtain the proper authorization under the EU

Benchmarks Regulation, it will be prohibited for new contracts• A grandfathering period for the non-compliant benchmark may be available subject

to the (i) availability of alternative rates and (ii) the inclusion of fallback rates in contracts referencing the benchmark

• There is an urgent need to replace or develop the fallback for the existing interest benchmarks, since no extension of the transitional period should be expected after 2020

6


Other Rates Are Keeping LIBOR and EURIBOR Company

─ EONIA (Euro OverNight Index Average)

─ TOIS (Tomorrow/Next Overnight Indexed Swaps)

─ TIBOR (Tokyo Interbank Offered Rate)

─ CORRA (Canadian Overnight Repo Rate Average)

─ So…what about CDOR (Canadian Dollar Offer Rate)• Post financial crisis reform, CDOR is the average rate at which

banks will lend funds (versus the other IBORs = rate at which bank can borrow) against issuance of bankers’ acceptances in the Canadian market with a term maturity of one year or less

• So far so good for CDOR…

7


So Back to LIBOR: What Will Replace It?

─ Will all currencies have a uniform replacement benchmark? • LIBOR is currently published for five currencies: US$, £, ¥, € and

₣ • Each currency will be required to find or create a replacement

rate • The goal is generally to meet the Principles for Financial

Benchmarks published by the International Organization of Securities Commissions (IOSCO) in 2013 – deep, liquid, transparent, etc.

• A proposed replacement rate has not been definitively identified for all of the currencies/jurisdictions, but working groups in all jurisdictions have made significant progress

• There are significant differences between the proposed replacement rates, the most important being that some are secured and some are not

8


What Will Replace LIBOR for US$?

─ The likely replacement benchmark for US$ transactions is known as the Secured Overnight Financing Rate (SOFR), which the New York Federal Reserve Bank began publishing on a daily basis in April 2018

─ SOFR is a combination of three Treasury repo rates with a total daily trading volume of around $750 billion

─ CME Group, which is the largest financial and commodity derivatives exchange in the US, began quoting monthly and quarterly SOFR futures on May 7, 2018

─ The Alternative Reference Rates Committee gave a presentation this summer including a calculation of a three-month indicative SOFR Term Rate

─ The New York Federal Reserve Bank has indicated it intends to produce SOFR term rates by the end of 2021

9


What Will Replace LIBOR for US$?

─ Late July, Fannie Mae issued the first SOFR bond

─ Mid-August, World Bank priced its first SOFR bond

─ Late August, Barclays became the first commercial bank to issue commercial paper tied to SOFR• Rumors are also circulating of using SOFR in non-public deals

─ Late September, ARRC will release two potential options for LIBOR replacement language for a market-wide consultation and aspires to release a final recommendation by the end of 2018• Potential Option 1: amendment approach • Potential Option 2: hardwired approach

10


What Will Replace LIBOR for £, ¥, € and ₣?

─ Of the other currencies that must address the retirement of LIBOR, the working groups for the Sterling have made the most progress, and have identified SONIA (Sterling Overnight Index Average) as the most likely replacement rate

─ The Loan Market Association (LMA) published a form of replacement screen rate clause and user guides on May 25, 2018… more on that later…

─ However, market adoption of SONIA has been somewhat limited• Late June 2018, the European Investment Bank issued the first

public bond using SONIA (approximately US$1.3 billion)• But… in late July 2018, the European Bank for Reconstruction

and Development opted to tie its latest issuance to LIBOR citing investor demand for a term rate versus SONIA

11



─ With respect to the other currencies, working groups in the relevant jurisdictions have identified the following rates as the frontrunners for a replacement rate, but none of the below are set in stone: • Euro: Has three possible replacement rates for LIBOR/EURIBOR

• (1) Euro Short-Term Rate (ESTER): a wholesale unsecured overnight Euro-area bank borrowing rate, which the European Central Bank (ECB) will begin publishing by October 2019. This rate will replace EONIA, and potentially EURIBOR as well if no fix to EURIBOR is made prior to the end of 2019

• ECB finalized methodology for calculating ESTER in late June 2018• ECB has started publishing “Pre-ESTER” and has provided historical time series data

going back to March 15, 2017• The Intercontinental Exchange (ICE) intends to offer futures contracts on ESTER once a

replacement benchmark is established and available• ESTER appears to be the winner but ECB describes it as a backstop reference rate that

will complement existing benchmark rates produced by the private sector• (2) GS Pooling Deferred Rate: a one-day secured, centrally cleared, general collateral

repo rate, which is produced by STOXX, a wholly owned subsidiary of Deutsche BörseGroup

• (3) RepoFunds Rate: a one-day secured, centrally cleared, combined general and specific collateral repo rate, which is produced by NEX Data Services Limited, a wholly owned subsidiary of NEX Group plc, soon to be acquired by CME Group

12



• Swiss Franc: National Working Group on Swiss Franc Reference Rates recommended the Swiss Average Rate Overnight (SARON) for secured loans in October 2017

• Current estimate is that there is US$6.12 trillion of contracts using Swiss Franc LIBOR

• SARON was launched in 2009 and is calculated using overnight repo transactions and trade quotes posted on the Eurex Zurich trading platform

• TOIS (Tomorrow/Next Overnight Indexed Swaps) was unsecured and was discontinued in late 2017

• June 2018 – NWG released a term sheet for three month SARON futures

• ICE intends to offer futures contracts on SARON• Recommendations of NWG are not legally binding

13



• Yen: The Study Group on Risk-Free Reference Rates, a working group in Japan, recommended the Tokyo Overnight Average Rate (TONAR) for uncollateralized overnight calls as an alternative to Japanese yen LIBOR

• The Study Group also recommended TONAR as a replacement for the Tokyo Interbank Offered Rate

• March 2018 - minutes of the Study Group identified next steps but proposed no additional meetings since the Study Group had completed its two tasks: (a) recommend a rate and (b) publish a guide

• Late April 2018 – the Study Group guide containing basic information and case studies regarding Japanese yen overnight index swaps to help financial institutions was to be published by the Bank of Japan

14


Replacement of LIBOR with SONIA for £ Transactions

─ SONIA was originally launched in March 1997 as an index that tracks the rates of actual overnight funding deals on the wholesale money markets

─ As of April 2016, the Bank of England (BoE) took over the administration of SONIA, and issued a series of reforms to the well-established benchmark as part of its implementation as a replacement to LIBOR

─ SONIA is now published for a given London business day at 09:00 a.m. the following day. BoE estimates that reformed SONIA averages approximately £50 billion worth of financial contracts each day, more than three times larger than the previous version

─ Like many of the other identified replacement rates, the biggest remaining hurdle for financing transactions looking to replace LIBOR with SONIA is the lack of an established futures market. As of now, BoE and other authorities are leaving it to the market to work out how to get from the new overnight rate to term rates, creating uncertainty for the industry

─ ICE and the London Stock Exchange (through CurveGlobal) have already launched futures contracts based on SONIA, and CME Group has recently announced its intention of launching a futures contract linked to the BoE SONIA published rates beginning October 1, 2018

15


Snapshot Comparison of LIBOR, SOFR and SONIA

16

LIBOR SOFR SONIA

Forward looking/available in 7 tenures

Backward looking/overnight Backward looking/overnight

Established (30 years +) New Newly reformed

Survey + $500 million of daily trading

$750 billion of daily trading Roughly £40 - £50 billion of daily trading

Unsecured Secured Unsecured

Available for five currencies Only for US$ Only for Pound Sterling (£)

Hypothetically reflects bank cost of funds

Risk-free rate Risk-free rate

Rises in a market disruption/time of increased credit risk

May stay the same or even fall in a market disruption/time of increased credit risk

Presumably between the two


It is Not Likely That SOFR, SONIA or Any Other Proposed Rates Will Be Inserted As-Is Into Contracts, Because: ─ To recap: (i) all five proposed replacement rates = overnight

rates which do not price in banks’ cost of funds, credit risk or tenure risk, (ii) two of the five proposed replacement rates are secured, and (iii) there will no longer be a common geography/ panel of participants/administrator among the five rates

─ Thus all need some credit spread adjustment relative to LIBOR and this adjustment is likely to be different for each rate

─ Types of credit spread adjustments under discussion fall into three categories: • Static – insufficient data to calculate for now for most rates and in the future will

not adjust with the market in times of increased credit risk • (SOFR vs. US$ LIBOR - 30-75 bps versus 400 bps)

• Dynamic – sounds good but … how to determine… how to tie with related products• Blended – easier than dynamic to imagine drafting but not without deal-to-deal

negotiation/litigation risk over the conditions to trigger and … still must tie with related products

17


It Is Not Likely That SOFR, SONIA or Any Other Proposed Rates Will Be Inserted As-Is Into Contracts, Because: ─ Overnight rates require daily calculations of interest

─ Parties to the loan do not know how much interest will accrue until the end of the period

─ Term rates need to be made available for all replacement rates, and some reference rates are further along in that process than others• Consider limiting hedging requirements to “if available” or

“commercially reasonable efforts” if there are feasibility concerns

─ Assumptions regarding what final resolution will look like seem to vary among proposed replacement rates

─ Market differences may result

18


Replacement of LIBOR Documentation Considerations

─ No true “market” language in the US yet for an amendment approach, but common threads: • Triggers

• Standard and existing unavailability of LIBOR trigger, with possible addition that unavailability is expected to be permanent

• Public announcement by relevant governmental authority of a definitive date for discontinuation of LIBOR

• LIBOR no longer widely recognized benchmark rate for newly originated US$ loans in the syndicated market/applicable currency

• A rate other than LIBOR has become widely recognized as new benchmark for US$ loans in the US market

─ Quick audience poll: Has anyone seen a hardwire approach used in the US market yet?

19


Replacement of LIBOR Documentation Considerations, Consent Requirements for Choosing the New Rate─ US Market: Borrower versus Administrative Agent:

• Borrower and Agent “endeavor” to agree• Borrower and Agent must agree to successor rate and amendments• Agent selects successor rate

─ US Market: Type of Lender consent required:• Negative consent by 50% of Lenders

• 70% per LSTA survey reported in May 2018• Overwhelming portion publicly available credit agreements from the last 30

days • Consider limiting objections to “made in good faith”

• Consent of Administrative Agent only • 28% per LSTA survey in May 2018

• Affirmative consent by 50% of Lenders or unanimous affirmative consent

• 2% per LSTA survey in May 2018

20


For Multicurrency Deals, Special Considerations for LIBOR Replacement Language

─ In a multicurrency deal, lenders and borrowers will likely need to trigger the LIBOR replacement provisions multiple times as new rates are firmly established for the applicable currencies. It may also be necessary to trigger replacement language for other reference rates• Triggers – need to ensure triggers capture most likely events for

given currencies and rates • Amendments – need to ensure that replacement provisions may

be exercised multiple times (i.e., once for each currency for LIBOR) and that any amendments that are made leave flexibility for other future adjustments (i.e., any changes to margins are for the currency being updated at the given time, and future margins can be added for other currency when new rates are added)

21


LMA Release

─ May 25, 2018, the LMA released sample optional language for amending facility agreements to address the replacement of a reference rate together with a user guide (the Release)• Permission was received from the LMA to distribute paper

copies of the Release to those attending this joint meeting

─ LMA Release:• Allows amendment option to be triggered for different

reference rates and for different currencies• Types of modifications that can be made by such amendment

are described• Includes modifications for a credit spread adjustment

• Amendment requires consent of Borrower and Agent, acting on instructions of some TBD% of the syndicate

• Look for snooze/lose language that may be generally applicable

22


LMA Release

─ LMA Release:• Screen Rate Replacement Event

• Some triggers we do not typically see in the US market• What about reforms to LIBOR in early 2019? Would that be a

material change to the methodology?• Some triggers are similar to those in the US market

• How would “will cease” play out if distant date is announced?• Scheduled outside date for a zombie reference rate

• Replacement Benchmark• Limited hardwire selection

• Which of our proposed replacement rates would currently meet this threshold?

23


What Happens if We Cannot Get Reference Rate Replacement Language Right

─ Existing loan documentation likely will fall back to base rate, but that is insufficient

─ Rising interest rate environment may provide incentives for lenders to object to a proposed replacement rate or for borrowers to object to a determination that a trigger event has occurred

─ Failure to develop replacement language for US LIBOR alone could mean repricing some US$4 trillion in syndicated loans plus market disruption created by prepayment fees, transaction costs, litigation, breakage costs, unwinding swaps… speaking of which…

24


Part IIAdditional Considerations for Swaps


Estimated USD LIBOR Market Footprint by Asset Class1Derivatives Footprint in USD LIBOR Market

26Published in the Second Report of the Alternative Reference Rate Committee, March 2018.


ISDA Efforts

─ The International Swaps and Derivatives Association (ISDA), which is a member of the ARRC, developed initiatives that consider changes to documentation in connection with the transition away from LIBOR, including:• The development of the IBOR fallbacks (and SOFR)• Addressing compliance with Article 28(2) of the European Benchmark Regulation

27


Development of the IBOR Fallbacks

─ The IBOR fallback discussion is bifurcated into two topics: • Why do we need to amend OTC derivatives documentation (i.e., why is existing fallback language not sufficient)? (Note that exchange traded derivatives will likely transfer to the new rate via an amendment to the relevant exchange or clearing house rulebook)

• Current developments regarding the implementation of revised fallback language into swaps documentation

28


Current Fallback Language

─ 2006 ISDA Definitions (The 2006 ISDA Definitions are intended for use in confirmations of individual transactions governed by ISDA Master Agreements):

─ USD-LIBOR-BBA fallback definition:• USD-LIBOR-BBA fallback: rate will be determined on the basis of the rate at which

deposits in US Dollars are offered by the Reference Banks at approximately 11:00 a.m., London time, on the day that is two London Banking Days preceding that Reset Date to prime banks in the London interbank market for a period of the Designated Maturity commencing on that Reset Date and in a Representative Amount. The Calculation Agent will request the principal London office of each of the Reference Banks to provide a quotation of its rate. If at least two such quotations are provided, the rate for that Reset Date will be the arithmetic mean of the quotations. If fewer than two quotations are provided as requested, the rate for that Reset Date will be the arithmetic mean of the rate quoted by major banks in New York City, selected by the Calculation Agent, at approximately 11:00 a.m., New York City time, on that Reset Date for loans in US Dollars to leading European banks for a period of the Designated Maturity commencing on that Reset Date and in a Representative Amount

29


Development of the IBOR Fallbacks

─ The IBOR Fallbacks Working Groups are tasked with: • The development of fallback rates and other fallback mechanisms that would apply upon permanent discontinuation of a particular IBOR

• Amending the 2006 ISDA Definitions to add selected fallbacks that apply upon permanent discontinuation of a particular IBOR

• The development of a plan to amend legacy contracts referencing IBORs that are permanently discontinued

30


IBOR Fallback TriggersDevelopment of the IBOR Fallbacks

─ The fallbacks in the 2006 ISDA Definitions will be triggered upon:• A public statement or publication of information by or on behalf of the

administrator of [the relevant IBOR] announcing that it has ceased or will cease to provide [the relevant IBOR] permanently or indefinitely, provided that, at that time, there is no successor administrator that will continue to provide [the relevant IBOR]; or

• A public statement or publication of information by the regulatory supervisor for the administrator of [the relevant IBOR], the central bank for the currency of [the relevant IBOR], an insolvency official with jurisdiction over the administrator for [the relevant IBOR], a resolution authority with jurisdiction over the administrator for [the relevant IBOR] or a court or an entity with similar insolvency or resolution authority over the administrator for [the relevant IBOR], which states that the administrator of [the relevant IBOR] has ceased or will cease to provide [the relevant IBOR] permanently or indefinitely, provided that, at that time, there is no successor administrator that will continue to provide [the relevant IBOR]

─ Note that the fallbacks will not apply until the actual discontinuation of the relevant IBOR (if that is after the announcement date)

31


IBOR Fallback RatesDevelopment of the IBOR Fallbacks

─ ISDA has developed Benchmark Working Groups that will consider the IBOR fallbacks to improve the contractual robustness of derivatives referencing an IBOR

─ Each of the following currencies/regions are represented: USD, EUR/GBP/CHF, JPY and APAC

─ Because risk-free rates, unlike IBORs, do not account for interbank credit risk and do not have term structures, the IBOR Fallbacks Working Groups include the Benchmark Fallbacks Spread Calculation and Term Fixing Sub-Group, which focuses on credit spreads and term structures

─ ISDA has launched a market-wide consultation to seek input on these technical issues, which relate to new benchmark fallbacks for derivatives contracts that reference certain IBORs. ISDA will accept responses to the consultation until October 12, 2018

32


Fallback RatesDevelopment of the IBOR Fallbacks

33

Relevant IBOR Corresponding floating rate option in 2006 ISDA Definition

Fallback rate

GBP LIBOR GBP-LIBOR-BBAGBP-LIBOR-Bloomberg

SONIA

CHF LIBOR CHF-LIBOR-BBACHF-LIBOR-Bloomberg

SARON

JPY LIBOR JPY-LIBOR-FRASETTJPY-LIBOR-BBA

JPY-LIBOR-Bloomberg

TONAR

TIBOR JPY-TIBOR-TIBMJPY-TIBOR-17096JPY-TIBOR-17097

JPY-TIBOR-TIBM (All Banks)-Bloomberg

TONAR

Euroyen TIBOR JPY-TIBOR-ZTIBOR TONAR

BBSW AUD-BBR-AUBBSWAUD-BBR-BBSW

AUD-BBR-BBSW-Bloomberg

TONAR

USD LIBOR USD-LIBOR-BBAUSD-LIBOR-BBA-Bloomberg

USD-LIBOR-LIBO

SOFR


The Development of the IBOR Fallbacks Term Rates and Credit Spread Methodologies

─ To account for the move from an unsecured rate to a secured rate, ISDA is developing a credit spread methodology. ISDA has proposed the following calculation methodologies for determining a credit spread to apply to the relevant risk-free rate if fallbacks are triggered:

─ In addition to the credit spread, the consultation also asks for feedback on term adjustments for the risk-free rates that will apply if fallbacks are triggered. SOFR is an overnight rate, but the relevant USD-LIBORs are published for various tenors (three-month USD LIBOR being the most popular). The consultation sets out four options to account for the move from a term rate to an overnight rate:

34

Forward Approach

Spot-Spread Approach

Historical Mean/Median Approach

Spot overnight rate

Convexity adjusted overnight rate

Compounded setting in arrears rate

Compound setting in advance rate


SOFR Fallback RatesDevelopment of SOFR

─ “USD-SOFR-COMPOUND” means that the rate for a Reset Date will be the rate of return of a daily compound interest investment. Upon the occurrence of a SOFR Index Cessation Event, the rate for each day in a Calculation Period occurring on or after the SOFR Index Cessation Effective Date will be determined as if references to SOFR were references to the rate (inclusive of any spreads or adjustments) recommended as the replacement for SOFR by the Federal Reserve Board and/or the Federal Reserve Bank of New York, or by a committee officially endorsed or convened by the Federal Reserve Board and/or the Federal Reserve Bank of New York for the purpose of recommending a replacement for SOFR. If no such rate is recommended within one US Government Securities Business Day of the SOFR Index Cessation Event, then the rate for each day in a Calculation Period occurring on or after the SOFR Index Cessation Effective Date will be determined as if references to SOFR were references to OBFR, references to US Government Securities Business Day were references to New York City Banking Day and references to SOFR Index Cessation Event were references to OBFR Index Cessation Event. If no such rate is recommended within one US Government Securities Business Day of the SOFR Index Cessation Event and an OBFR Index Cessation Event has occurred, then the rate for each day in a Calculation Period occurring on or after the SOFR Index Cessation Effective Date will be determined as if references to SOFR were references to FOMC Target Rate and references to US Government Securities Business Day were references to New York City Banking Day

35


SOFR TriggersDevelopment of SOFR

─ “SOFR Index Cessation Event” means the occurrence of one or more of the following events:• (a) a public statement by the Federal Reserve Bank of New

York (or a successor administrator of SOFR) announcing that it has ceased or will cease to provide SOFR permanently or indefinitely, provided that, at that time, there is no successor administrator that will continue to provide SOFR;

• (b) the publication of information which reasonably confirms that the Federal Reserve Bank of New York (or a successor administrator of SOFR) has ceased or will cease to provide SOFR permanently or indefinitely, provided that, at that time, there is no successor administrator that will continue to provide SOFR; or

• (c) a public statement by a regulator or other official sector entity prohibiting the use of SOFR that applies to, but need not be limited to, all Swap Transactions, including existing Swap Transactions

36


Creating Liquidity in SOFR – Paced Transition PlanDevelopment of SOFR

37Source: Second Report of the Alternative Reference Rate Committee, March 2018.


Where Are We Now?Development of SOFR

─ CME launched SOFR Futures on May 7, 2018 (60 participants in the first week)

─ On July 2, 2018, Risk.net reported that CME started using SOFR for PAI and discounting while LCH is sticking to Fed funds

─ On July 18, 2018, LCH cleared the first US dollar interest rate swaps referencing the Secured Overnight Financing Rate (SOFR)

─ On July 26, 2018, Fannie Mae issued the market’s first-ever SOFR securities: a three-tranche $6 billion SOFR debt transaction that was scheduled to settle on July 30, 2018

─ On August 14, 2018, the World Bank issued its first Secured Overnight Financing Rate (SOFR) bond; a two-year USD-denominated benchmark bond that raised US$1 billion from investors in the Americas and Europe

─ On August 30, 2018, Bloomberg reported that MetLife Inc. issued a $1 billion bond tied to SOFR

─ On October 1, 2018, CME is scheduled to provide OTC clearing for SOFR OIS

38


Article 28(2) EU Benchmark Regulation GroupCompliance with Benchmark Regulation

─ Article 28(2) of the European Benchmark Regulation requires supervised users to plan for cessation of any benchmark and reflect such plan in their contracts

─ The European Benchmark Regulation became effective on January 1, 2018

─ The Article 28(2) EU Benchmark Regulation Group has proposed supplements to the 2006 ISDA Definitions Benchmarks Annex, the 2002 ISDA Equity Derivatives Definitions, the 2005 ISDA Commodity Definitions, the 1998 FX and Currency Option Definitions, and the 2008 ISDA Inflation Derivatives Definitions. These supplements are expected to be published in fall 2018 and will affect US end-users in connection with EU dealer counterparties

─ The IBOR Fallback Working Groups will likely use the proposals of the Article 28(2) EU Benchmark Regulation Group to the 2006 ISDA Definitions as their starting point

39


Article 28(2) EU Benchmark Regulation GroupUSD LIBOR Reform

─ Proposed supplement/amendment to the 2006 ISDA Definitions Benchmarks Annex

─ The application of the waterfall is triggered by regulation and cessation of a relevant benchmark)

─ Note that amendments to the IBOR definitions trump the Benchmark Supplement’s cessation trigger, but not the Benchmark Supplement’s is regulatory trigger

40

Please note that this is a simplification of the waterfall proposed by the Article 28(2) EU Benchmark Regulation Group and that the proposal is subject to ongoing discussion.


Part IIIUS Tax Law Considerations


Section 956 – Pre Tax Cuts and Jobs Act – Worldwide I. Tax System

Tax Law Changes

─ Prior to the 2017 Tax Cuts and Jobs Act, US used worldwide tax system

─ Both domestic and foreign income of businesses with US headquarters subject to US tax

─ Income earned through a foreign subsidiary was generally only taxable upon distribution to the US parent

─ However, certain types of passive and other income (“Subpart F” income) of a foreign subsidiary were taxed currently to its US parent even if not distributed – enacted to limit the deferral of passive income earned and held abroad by a CFC

─ In addition, Section 956 required that a “US shareholder” of a “controlled foreign corporation” include in income its pro rata share of the CFC’s earnings that was deemed to be invested in US property

─ A controlled foreign corporation’s earnings were treated as being so invested where the foreign subsidiary provided credit support for a loan to its US parent through:• A pledge of 2/3 or more of its capital stock• Guaranteeing payment of the underlying obligation, or• Granting a security interest in its assets

─ “Controlled foreign corporation” – was defined as a foreign corporation majority-owned by one or more US shareholders that held at least 10% of the voting stock of the foreign corporation

─ Intent of Section 956 was to prevent US corporations from avoiding tax on dividends from overseas earnings by having a foreign subsidiary instead make an investment in US property

42


Section 956 – After Tax Cuts and Jobs ActTax Law Changes

─ US moves to a territorial tax system, with a full exemption system for foreign dividends• The Tax Cuts and Jobs Act created a 100% “participation” exemption or “dividends-received” deduction for

dividends received by US corporate shareholders from a controlled foreign corporation• 10% domestic corporate shareholders of a CFC may now generally receive distributions of the foreign

subsidiary’s earnings without being subject to a federal income tax

─ Given the change in treatment of dividends of CFCs under the new laws, for the sake of consistency, Section 956 should have been repealed since an investment by the CFC in US property would no longer serve to avoid US tax that would have been incurred on a distribution – but it was not, and was instead amended to make application of Section 956 even more complicated

─ GILTI (Global Intangible Low Taxed Income) – New provisions require US shareholders to include in income not only Subpart F income, but also their share of a CFC’s GILTI• GILTI may reduce the pool of untaxed foreign earnings to which Section 956 may potentially apply

─ Definition of US shareholder• Prior Law – A “US shareholder” was any US person owning 10% or more of the combined voting power of all

classes of voting stock of a foreign corporation• Modified Law – Definition of a “US shareholder” has been expanded to include a US person holding stock

representing 10% or more of the total voting power or total value of all shares of all classes of stock• For example, a US person owning stock with 8% of the votes but 15% of the value would be a US shareholder

under the new definition43


Section 956 – After Tax Cuts and Jobs ActTax Law Changes

─ Upward Attribution• A US shareholder is deemed to own not only the stock of a foreign subsidiary that it holds directly, but also

stock that is attributed to it from related parties• A parent corporation is treated as owning any stock which is owned by a 10% or more subsidiary of the

parent• If a US parent company has multiple subsidiaries each holding 10% of a foreign corporation, the 50%

threshold for a CFC can be reached by attributing to the parent the stock which each of its subsidiaries owns in the foreign corporation

─ Downward Attribution• Any stock which is owned, or deemed to be owned, directly, indirectly or constructively, by the parent

corporation, is attributed from the parent to a 50% or more subsidiary (“downward attribution”)• Prior to the Tax Cuts and Jobs Act, downward attribution was not used to attribute a foreign parent’s

ownership of stock in a foreign subsidiary from the foreign parent to a domestic subsidiary of the foreign parent

• The Act removed the prohibition on attributing foreign subsidiary stock from a foreign parent to a domestic subsidiary

• For example, if a domestic subsidiary of a foreign parent corporation owns less than 10% of a foreign corporation’s stock, and a sister foreign subsidiary holds the remaining 90% of the foreign corporation’s stock, the ownership of this 90% interest will first be attributed up to the foreign parent, and then attributed down from the foreign parent to the domestic subsidiary

─ The domestic subsidiary will thereby be considered a “US shareholder” of the foreign corporation and be subject to Section 956

44


How Might This Affect Your Existing Loan Documentation?Tax Law Changes

─ Definition of “Foreign Subsidiary” often uses any “Subsidiary” of the Borrower that is a “controlled foreign corporation” under Section 956 of the IRC

─ Given the change in attribution rules under the revised Section 956, which change how a “controlled foreign corporation” is determined, you may need to change the reference from “Subsidiary” to a controlled foreign corporation with respect to which the Borrower is a US shareholder within the meaning of Section 956 of the IRC

45


Questions?

46

Eversheds Sutherland 47

Reggie ClarkPartner, Atlantat: +1 404 853 8032 e: [email protected]

An early interest in business law ultimately led Reggie Clark to Eversheds Sutherland (US)'s Tax Practice Group, where he counsels a variety of corporate clients on the complex tax issues that affect corporate acquisitions, restructurings, spinoffs and other transactions. Reggie also advises clients in tax disputes, often serving as their representative before the National Office of the Internal Revenue Service (IRS) in connection with ruling or technical advice requests. In addition to corporate clients, Reggie represents university endowment fund managers on the taxation and legal issues associated with private equity and other investments.

Reggie is a former adjunct professor of law in Emory University School of Law’s graduate tax program.

Christina RisslerPartner, Atlantat: +1 404 853 8041 e: [email protected]

Christina Rissler has more than 15 years of experience representing lenders, borrowers and other market participants in secured and unsecured commercial lending and structured finance.

She advises on senior, second lien and subordinated financings; workouts and restructurings; working capital and leveraged acquisition financings; accounts receivable financings; single-currency and multicurrency, domestic and cross-border financings; equipment financings; project finance; lines of credit; letter of credit transactions; securitization; and loan syndications and participations. Among other industries, Christina’s experience includes transactions in telecommunications, media, automobile, water and timber/agribusiness.

After graduating first in her class from Notre Dame Law School, Christina served as a law clerk for the Honorable Paul J. Kelly, Jr. of the US Court of Appeals for the Tenth Circuit, and is admitted to practice before that court. She is also admitted to practice law in Georgia, New York and Colorado. In April 2018, Christina was admitted to the American College of Commercial Finance Lawyers as a Fellow. She is currently the Chair of the Loan Documentation Subcommittee of the Commercial Finance Committee of the ABA’s Business Law Section. Christina has given a number of presentations for clients, at conferences, and within the firm on topics of interest within the commercial finance space.


Jessica RissmillerSenior Attorney, Atlantat: +1 404 853 8416e: [email protected]

Jessica Rissmiller focuses on secured and unsecured commercial lending and finance. Jessica primarily represents lenders and borrowers in negotiating and documenting syndicated and single lender credit facilities.

Jessica advises on deals involving regulated telecommunications companies nationwide, agricultural finance, timber finance and energy finance. Her experience includes senior, subordinated and mezzanine financings, and she represents both lenders and borrowers through all aspects of structuring, negotiating and documenting transactions.

Before joining Eversheds Sutherland (US), Jessica was an associate at another law firm in Atlanta, where she focused on commercial finance and corporate bankruptcy, restructurings and workouts. She has argued before the US Bankruptcy Courts for the Southern District of New York and the District of Delaware, and is admitted to practice before the US District Court for the Northern District of Georgia.

Lizet SteeleAssociate, Washington, DCt: +1 202 383 0942e: [email protected]

Lizet Steele counsels clients on corporate governance, financial services and transactional matters, including derivatives and structured products. In particular, she helps clients address legal and regulatory concerns under the Dodd-Frank Act.

Lizet also advises on compliance with the Commodity Exchange Act (CEA) and Commodity Futures Trading Commission (CFTC) and US Securities and Exchange Commission (SEC) regulations.

Prior to joining Eversheds Sutherland, Lizet served as a judicial intern for the Honorable Peter J. Messitte of the United States District Court for the District of Maryland. Her previous experience includes working for the Office of the President of Dispute Resolution and Chief Hearing Officer of the Financial Industry Regulatory Authority (FINRA).

Lizet is admitted to the New York State Bar. She has submitted her application to The District of Columbia Bar. Her work is supervised by District of Columbia Bar members.


Kimia BasyukAssociate, Atlantat: +1 404 853 8029e: [email protected]

Kimia Basyuk advises clients on a wide range of transactional matters, including domestic and cross-border financings, project development, mergers and acquisitions, and joint ventures.

Kimia’s finance background includes structured and project financing, note purchase agreements, letter of credit transactions and equity contribution agreements. Her clients include multinational corporations, commercial financial institutions, and project developers and lenders.

Prior to joining Eversheds Sutherland (US), Kimia was a finance associate for an international law firm. Her previous experience includes serving as a law clerk for the American Civil Liberties Union National Prison Project and a legal intern for the District of Columbia Office of the Attorney General.

eversheds-sutherland.com© 2018 Eversheds Sutherland (US) LLPAll rights reserved.This communication cannot be used for the purpose of avoiding any penalties that may be imposed under federal, state or local tax law.

Contact Us:

Reggie [email protected]: +1.404.853.8032

Jessica RissmillerSenior [email protected]: +1.404.853.8416

Lizet [email protected]: +1.202.383.0942

Christina [email protected]: +1.404.853.8041

Kimia [email protected]: +1.404.853.8029

LIBOR Replacement and other Market Updates

Documents

Transcript of LIBOR Replacement and other Market Updates