UK: No Negative Interest Payable Under Standard ISDA Credit Support Annex Says English Court

Last Updated: 3 August 2018
Article by Guy Usher, Edward Miller, Luke Whitmore and Emma Spiers

On 25 July the English High Court ruled1 that there is no obligation to pay negative interest under an English law CSA. This has been a thorny and much disputed issue in the market for some time and was only partially cured by the ISDA 2014 Collateral Agreement Negative Interest Rate Protocol (the "NI Protocol"), as adherence was patchy and it did not, in any event, pick up all CSAs.

The Court considered whether the provider of cash collateral, under an unadulterated (save for usual paragraph 11 elections and variables) English law ISDA 1995 Credit Support Annex (Bilateral Form – Transfer), is obliged, absent an express provision to such effect, to pay interest to the holder of the cash collateral in circumstances where the rate stipulated in the CSA is negative. The Court, for a variety of reasons based on established principles of contractual interpretation, concluded that the cash collateral provider is under no such obligation.

The case concerned a CSA between Deutsche Bank ("DB") and the State of the Netherlands (the "State"). The CSA was one-way in effect, obliging DB to provide cash collateral to the State to the extent that the State was net in-the-money under the various transactions outstanding under the ISDA Master Agreement between them (also governed by English law). The contractually agreed interest rate stipulated in the CSA is and has for some time been negative. The NI Protocol was not applicable.

The State argued that DB should pay negative interest to it on the cash collateral. There was no express provision to that effect in the CSA, so the State claimed that accrued but unpaid interest (including negative interest) was to be included in the calculation of the Credit Support Balance (as defined in the CSA) and was therefore to be accounted for in the calculation of other amounts (i.e. Delivery Amounts and Return Amounts) payable between the parties. Those familiar with the workings of the CSA will appreciate the force of the argument. The State also argued that the commercial purpose of the CSA (which provides for an amount equal to the value of the Credit Support Balance to be included as an Unpaid Amount) was to protect it from a DB default and used that fact to argue for commercial "equivalence" in the treatment of interest.

The State additionally relied on ISDA's 2013 Statement of Best Practice for the OTC Derivatives Collateral Process (which contains a principle setting out that the parties should consult and decide how to address negative interest rates) and the NI Protocol.

DB's position was simply that, if the parties had wanted to address negative interest, they should have done so expressly. DB also relied on a statement in the ISDA User's Guide to the effect that paragraph 5(c) of the CSA provides that the Transferee will pay interest on any cash collateral at the agreed rate (which may be zero).

The Court decided in favour of DB for the following reasons:

  • the approach to interpreting the CSA should follow usual contractual principles and should be no different to the approach adopted by the Court in Firth Rixson in relation to interpretation of the ISDA Master Agreement – in other words, the Court will look at the language employed and investigate the commercial consequences and will do so in a manner that serves the objectives of clarity, certainty and predictability
  • the State had to show that there was an obligation on the part of DB in respect of negative interest, but had failed to do so – there was no such obligation
  • in this regard, paragraph 5(c)(ii) of the CSA was of no help – it contemplated only (and unless otherwise specified – another factor) the transfer of interest by the person holding the collateral to the person who posted it; it did not require the person who posted the collateral to pay interest to the person holding it
  • as for the State's 'Credit Support Balance' argument, this would necessitate concluding that positive interest should be dealt with in one way (through direct payments) but that negative interest should be dealt with through the (different) accounting machinery of the Credit Support Balance – a conclusion that had "no credible commercial rationale"
  • as for the State's "equivalence" argument, the Court noted that it was not necessarily the case that the State would incur loss by holding cash in a negative interest rate environment and that it was free to invest the cash to earn interest elsewhere
  • the ISDA materials on which the State sought to rely post-dated the ISDA Master Agreement, were not in the parties' contemplation and could not therefore assist in its interpretation; by contrast the User's Guide on which DB sought to rely was an aid to interpretation

All in all this is a sensible and expected outcome which addresses uncertainties that have existed for some time in the market as to how negative interest should be dealt with in the absence of express contractual provisions and where the NI Protocol is not in play.

There are broader consequences and implications of this decision however.

One of the issues that has given rise to long-dated disputes and "agreements to disagree" in the market is the fact that under IFRS parties have had to book P&L against the cost or benefit of collateral under CSAs. Whether interest is or would be payable in a negative interest environment has a material impact on that determination which, for many market participants, has led them to prefer not to have a definitive decision on the issue. The fact that a court has now decided in this regard is likely to make it difficult to sustain a position that negative interest is or would be payable, thereby resulting in provisions or the reversal of provisions being made in an institution's books.

The principle in this case is not just relevant to negative interest under CSAs but will be of practical application to all forms of financial contracts that provide for the payment of interest and should encourage parties to address the issue of negative interest in relation to both legacy and future transactions.

In view of these considerations it will be interesting to see if there is now an appeal or further cases brought which seek to achieve a different outcome by advancing different arguments or taking the issue to a higher level of Court.

Footnotes

1 The State of the Netherlands v Deutsche Bank AG [2018] EWHC 1935 (Comm) (25 July 2018)

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Luke Whitmore
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions