On May 24, 2016, the CFTC adopted a final rule specifying that CFTC uncleared swaps margin rules released in late 2015 (see Practice Note, The Dodd-Frank Act: Margin Posting and Collection Rules for Uncleared Swaps: Final CFTC Margin Rules) apply to swaps with non-US counterparties that are entered into by a non-US registered swap dealer (SD) or major swap participant (MSP), for which there is no prudential bank regulator (collectively, nonbank covered swap entities or CSEs), which is a consolidated subsidiary of an ultimate US parent entity, regardless of the presence of any actual guaranty of the swap by the parent.

The final rule attempts to address the "de-guaranty" practice under which US parent entities remove guaranties of non-US swaps (swaps entered into by their non-US subsidiaries with non-US counterparties) to avoid the application of Dodd-Frank swaps rules (see Legal Update, Is It Safe to "De-Guaranty" Cross-Border Swaps to Avoid Dodd-Frank?). US regulators have pointed out that even in the absence of a direct guaranty, the economic impact of these swaps still falls on the US parent and therefore could pose a threat to the US financial system. US regulators therefore want these swaps to be collateralized.

The final rule utilizes a "foreign consolidated subsidiary" (FCS) concept to delineate when the margin rules apply. FCS are non-US CSEs whose obligations under the relevant swap are not guaranteed by a US person, but whose financial statements are included in those of a US ultimate parent entity. FCS are treated the same as other non-US CSEs and are broadly eligible for substituted compliance, except that they are not entitled to an exclusion from the uncleared swaps margin rules.

The FCS definition is designed to resolve the de-guaranty issue by clarifying a bright-line test for identifying non-US CSEs whose uncleared swaps activities present greater supervisory interest and ensuring that they comply with either US margin requirements or substituted compliance. This is designed to lower the incentive for market participants to structure guarantee arrangements in order to avoid application of the Dodd-Frank margin requirements.

This rule becomes effective on August 1, 2016.

The CFTC also provided a fact sheet on the final rule.

For purposes of the final cross-border uncleared swap margin rules, a US person includes any individual or entity whose activities have a significant nexus to the US market because they are either organized or domiciled in the US. The "US person" definition includes certain legal entities owned by one or more US person(s) and for which that person(s) bears unlimited responsibility for the obligations and liabilities of the legal entity.

This definition is substantially similar to the definition used by the SEC in the context of cross-border regulation of security-based swaps (see Practice Note, The Dodd-Frank Act: Cross-Border Application of Swaps Rules: SEC "US Person" Definition) and incorporates proposed changes to the original definition of "US person" from the CFTC's 2013 cross-border guidance (see Practice Note: The Dodd-Frank Act: Cross-Border Application of Swaps Rules: Revised CFTC "US Person" Definition for Cross-Border Margin Requirements).

The definition of "US Person" in the final rule:

The final rule provides an exclusion from CFTC margin rules for an uncleared swap entered into by a non-US CSE with a non-US-person counterparty (including a non-US CSE), as long as:

Under the final rule, substituted compliance is limited to circumstances where the non-US counterparty’s swap obligations are not guaranteed by a US person. This limitation aims to avoid incentivizing market participants to structure their swaps solely for purposes of avoiding US uncleared margin rules.

The final rule allows the use of substituted compliance:

The final rule sets out a process for requests for comparability determinations, including eligibility and submission requirements, as well as the standard of review that will apply to CFTC comparability determinations.

When requesting a comparability determination, parties must provide the CFTC with either a hard copy or electronic copy of:

In deciding whether to grant a comparability determination, the CFTC will consider all relevant factors, including:

The final rule includes two special provisions designed to accommodate swap activity in jurisdictions that do not have the legal framework to support custodial arrangements, or that do not have the netting arrangements that comply with the CFTC's margin rule.

The third section of the final rule details the CFTC's framework for issuing comparability determinations including the various factors that should be considered. One such important consideration is compliance with the international framework developed by the Basel Committee on Banking Supervision (BCBS) and the International Organization of Securities Commissions (IOSCO) (see Practice Note, The Dodd-Frank Act: Margin Posting and Collection Rules for Uncleared Swaps: Final BCBS/IOSCO Guidelines on Uncleared Swap Margin Collateral).

CFTC staff worked with the staff of the prudential bank regulators in order to align, to the maximum extent practicable, the CFTC final rules with the cross-border framework in the final bank margin rules for uncleared swaps (see Practice Note, The Dodd-Frank Act: Margin Posting and Collection Rules for Uncleared Swaps: Cross-Border Transactions). In writing the final rule, the CFTC aimed to further efforts towards harmonization and avoid conflicts with the rules of other jurisdictions.

As the first compliance date for CFTC's margin rules is approaching on September 1, 2016, the CFTC encourages those who plan to request a comparability determination to promptly submit their request.