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Certain Affiliate Financial Entity Transactions Exempted from Mandatory Clearing by CFTC
Practical Law Legal Update 5-531-5969 (Approx. 4 pages)
Certain Affiliate Financial Entity Transactions Exempted from Mandatory Clearing by CFTC
by PLC Finance
| Published on 11 Jun 2013 • USA (National/Federal) |
The CFTC issued a no-action letter exempting from mandatory Dodd-Frank swap clearing requirements swaps entered into by certain financial entities (known as "treasury affiliates") that would otherwise be subject to clearing but need not be cleared because the financial entity is entering into the swap on behalf of a non-financial affiliate hedging commercial risk.
On June 4, 2013, the CFTC issued No-action Letter 13-22 exempting from mandatory swap clearing requirements added to the CEA by Title VII of the Dodd-Frank Act swaps entered into by certain financial entities (known as "treasury affiliates") that would otherwise be subject to clearing but need not be cleared because the financial entity is entering into the swap on behalf of a non-financial affiliate from its corporate group that is hedging commercial risk. Treasury affiliates are entities that are part of a corporate group and engage in financial activities on behalf of the other members of the corporate group, such as cash management, debt administration and risk hedging.
An entity may qualify as a treasury affiliate that is not required to clear certain types of swaps if it both:
- Qualifies as a "financial entity" under section 2(h)(7)(C)(i) of the CEA solely because of section 2(h)(7)(C)(i)(VIII).
- Is part of a corporate group that includes non-financial entities and engages in activities that are financial in nature on behalf of its corporate affiliates.
Non-financial entities that execute swaps through a centralized treasury unit (CTU) such as a treasury subsidiary, may avail themselves of this relief provided, among other things:
- The CTU is wholly owned directly by a non-financial entity.
- The CTU's ultimate parent company is a non-financial entity.
- The CTU does not trade on behalf of any financial affiliates.
As of June 10, 2013, so-called Category 1 and Category 2 Entities must clear certain types of interest rate swaps and credit default swaps (CDS) under Section 2(h) of the CEA as added by Title VII of the Dodd-Drank Act (see Legal Update, June 10, 2013 Deadline for Category 2 (Buy-side) Swap Clearing Approaches and for details on which swaps are subject to the clearing requirement, see Legal Update, Final Clearing Determination for CDS and Interest Rate Swaps Issued by CFTC). If the requisite conditions are met, certain entities are exempted from the clearing requirement, including:
- Commercial end-users. Non-financial entities that utilize swaps to hedge or mitigate commercial risk may elect to not clear their swaps under the Title VII commercial end-user exception (see Practice Note, The Commercial End-user Exception to the Dodd-Frank Mandatory Swap Clearing Requirement).
- Affiliated entities. Swaps between affiliated entities do not need to be cleared. This exception may be used by financial and non-financial entities, but is expected to be primarily used by entities that do not qualify for the end-user exception (see Legal Update, Inter-affiliate and Certain Other Swaps Exempted from Mandatory Clearing Requirements by CFTC).
Absent no-action relief, treasury affiliates that engage in swaps activity to hedge commercial risk on behalf of affiliated end-users would be ineligible for either of these swaps clearing exceptions. Under this no-action letter, an eligible treasury affiliate that enters into a swap on behalf of another member of its corporate group (a term which is not defined in the release) need not clear that swap.
Certain CFTC requirements remain in place for swaps that a counterparty elects not to clear, whether under this no-action letter or otherwise, including, among others, the requirement that the reporting party to the swap:
- Give notice to a registered swap data repository (SDR), or if none is available to the CFTC, that the election not to clear the swap has been made.
- Specify under which exception the election not to clear the swap has been made (in this case, for example, under No-action Letter 13-22).
- Include other information about the entity electing the exception from the clearing requirement.
For information on which is the reporting party to a swap, see US Derivatives Regulation: Practical Guide to Over-the-Counter (OTC) Swap Data Reporting: Box, Which Is the Reporting Party?.
UPDATE: ISDA has published a standard treasury-affiliate representation letter to be used in connection with this exemption.