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CFTC Excludes Utility Swaps from Swap Dealer Calculations
Practical Law Legal Update 3-581-7486 (Approx. 4 pages)
CFTC Excludes Utility Swaps from Swap Dealer Calculations
by Practical Law Finance
| Published on 18 Sep 2014 • USA (National/Federal) |
The CFTC has adopted a final rule that permits the exclusion of certain swaps with public utilities from de minimis swap dealer threshold calculations under Title VII of the Dodd-Frank Act.
On September 17, 2014, the CFTC adopted final rules that permit the exclusion of so-called "utility operations-related swaps" entered into by "utility special entities," including most public utilities, from de minimis swap dealer (SD) threshold calculations under CFTC Regulation 1.3(ggg), introduced under Title VII of the Dodd-Frank Act. A $25 million notional threshold applies for designation as an SD for parties that enter into swaps with special entities, including utility special entities, as opposed to the current $8 billion notional threshold for other swap-dealing activity (see Practice Note, Is Your Client a Swap Dealer or Major Swap Participant?: Swaps Entered into with "Special Entities"). These swaps must still be included when calculating whether the person exceeds the general $8 billion threshold.
The CFTC adopted the rule to avoid discouraging market participants from entering into swaps with public utilities that provide necessary services to the general public. These utilities benefit from additional market liquidity provided by non-SD market participants, reducing costs. Public utilities had feared that smaller market participants would be driven from the market if entering into a relatively small ($25 million) utility operations-related swap with a utility special entity would cause them to be designated as SDs under Dodd-Frank rules, subjecting them to a framework of additional business conduct and other rules (see The Dodd-Frank Act: Requirements for Swap Dealers and MSPs Checklist).
Utility Operations-related Swap
In order to qualify as a "utility operations-related swap," a swap must meets all of the following conditions:
- A party to the swap is a utility special entity (see Utility Special Entity).
- The utility special entity party is using the swap to hedge or mitigate commercial risk, as defined in Regulation 50.50(c) (17 C.F.R. 50.50(c)).
- The swap is related to an exempt commodity (as that term is defined in Section 1a(20) of the Commodity Exchange Act (CEA)), or to an agricultural commodity insofar as the agricultural commodity is used for fuel for generation of electricity, or is otherwise used in the normal operations of the utility special entity.
- Either the swap is an electric energy or natural gas swap or the swap is associated with:
- the generation, production, purchase or sale of natural gas or electric energy, the supply of natural gas or electric energy to a utility special entity, or the delivery of natural gas or electric energy service to customers of a utility special entity;
- fuel supply for the facilities or operations of a utility special entity;
- compliance with an electric system reliability obligation; or
- compliance with an energy, energy efficiency, conservation, renewable energy or environmental statute, regulation or government order applicable to a utility special entity.
The rule permits parties to rely upon written representation by the utility special entity that it is a utility special entity. Any such representation must be retained in accordance with the general recordkeeping requirements of CFTC Regulation 1.31.
Utility Special Entity
A "utility special entity" is defined as a special entity, as that term is defined in Section 4s(h)(2)(C) of the CEA and CFTC Regulation 23.401 (for example, a state or local government, a government agency, or an instrumentality, department or corporation established by a state), that engages in at least one of the following activities:
- Owns or operates electric or natural gas facilities, electric or natural gas operations, or anticipated electric or natural gas facilities or operations;
- Supplies natural gas or electric energy to other utility special entities;
- Has public service obligations or anticipated public service obligations under Federal, State or local law or regulation to deliver electric energy or natural gas service to utility customers; or
- Is a federal power marketing agency as defined in Section 3 of the Federal Power Act (16 U.S.C. § 796(19)).
The rule permits parties to rely upon a written representation by the utility special entity that the swap is a utility operations-related swap. Any such representation must be retained in accordance with the general recordkeeping requirements of CFTC Regulation 1.31.
Further Details and Practical Implications
Earlier this year, the CFTC issued a no-action letter (No-action Letter 14-34) creating a temporary exclusion from SD calculations for these swaps, and subsequently proposed a rule that was substantially similar to the final rule (see Legal Update, CFTC Provides Relief Excluding Utility Swaps from Swap Dealer Calculations). However, the proposed rule would have required market participants looking to take advantage of the exclusion to file a one-time electronic notice with the National Futures Association (NFA). However, that requirement was eliminated from the final rule.
Note that swap dealers are subject to external business conduct standards (EBCS) for swaps entered into with special entities (see Swap Dealers and MSPs: Final Dodd-Frank External Business Conduct (EBC) Rules: Swaps with Special Entities). Those rules will not apply to these swaps, which reduces cost for the end-user utility, and therefore for the public. However, depriving end-user public entities of certain Title VII protections from which they may have benefitted somewhat reduces this public benefit.
The CFTC has released a fact sheet and Q&A on the final rule.