United States: CFTC Proposes Rules Governing Cross-Border Application Of Swap Regulations

Last Updated: October 19 2016
Article by Nihal S. Patel

Most Read Contributor in United States, August 2018

The CFTC voted unanimously to propose rules and interpretations that address the cross-border application of certain swap provisions under the CEA.

The proposal would, among other things, base the definitions of "U.S. person" and "Foreign Consolidated Subsidiary" on similar definitions in the CFTC's recent cross-border margins rulemaking in order to apply Dodd-Frank Act swaps provisions to cross-border transactions. The proposal also addresses the cross-border application of registration thresholds and external business conduct ("EBC") standards for swap dealers ("SDs") and major swap participants ("MSPs"), including whether the standards would apply to swap transactions that are arranged, negotiated or executed ("ANE transactions") using personnel located in the United States.

In her concurring statement, CFTC Commissioner Sharon Y. Bowen voiced general support for the proposal, but "invited robust comment" on aspects of the proposal, particularly (i) the disinclusion of the concept of "conduit affiliates," as used in the CFTC Cross-Border Guidance, and the fact that it does not capture the affiliates' dealing activity, and (ii) the fact that so-called ANE transactions in which both parties are not U.S. persons do not fall within the criteria for scrutinizing whether a swap dealer has crossed the de minimis threshold.

CFTC Commissioner J. Christopher Giancarlo commended the CFTC for "at last putting the guidance and advisory through the formal rulemaking process," and for limiting the scope of CEA requirements that will apply to ANE transactions. Commissioner Giancarlo urged CFTC staff to extend No-Action Letter 16-64 in order to clarify that the Dodd-Frank Act swap requirements will not apply to ANE transactions "until the [CFTC] takes further action."

Comments on the proposal must be submitted within 60 days after its publication in the Federal Register.

Commentary / Nihal Patel

In the proposed rules, the CFTC takes a similar approach to that which it took in its Cross-Border Guidance. However, the proposal deviates from the guidance in a few noteworthy ways. The 114-page proposal requires more careful scrutiny than a short comment can provide (a Cadwalader memorandum on the topic will be published in the coming days), but a few notable aspects of the rulemaking are highlighted below.

  • The definition of "U.S. Person" is the same as that which is used in the cross-border application of requirements in the uncleared swap margin rules. Most notably, the definition does not cover investment vehicles solely because they are majority-owned by U.S. persons.
  • In what might be an oversight, the CFTC does not include a definition of "guarantee" in the unofficial rule text. But see release at p. 6 (indicating that the same definition of "guarantee" used in margin rulemaking would be used here).
  • Generally, foreign subsidiaries of U.S. parent companies that are consolidated for accounting purposes are required to count all of their transactions for registration purposes. The CFTC indicated that it would not necessarily treat such entities in the same way as it does U.S. persons according to "other Dodd-Frank swap provisions." See release at p. 19 and n. 41.
  • Unlike the Cross-Border Guidance, the proposal would require a fully non-U.S. person (i.e., one who is neither guaranteed by, nor consolidated with, a U.S. parent) to count, for registration purposes, transactions with the foreign branches of U.S. swap dealers. The CFTC expressed concern that allowing for an exception in the proposal could create a "substantial regulatory loophole," resulting in additional risks to the U.S. financial system. That aspect of the proposal deserves further analysis, since it potentially could damage the competitiveness of U.S. bank swap dealers who transact overseas. See release at pp. 37-38.

In its approach to ANE transactions, the CFTC proposal is more reasonable than many market participants expected. The CFTC does not propose applying the full scope of external business conduct requirements to ANE transactions, but, rather, only the anti-fraud and "fair dealing" aspects found in CFTC Regulations 23.410 and 23.433. With regard to swap dealer registration, the CFTC allowed that transactions between two fully non-U.S. persons will not be counted solely because the transactions are arranged, negotiated or executed by personnel in the United States.

The CFTC also expounded on what it would consider to be "arranging," "negotiating" or "executing" a transaction. See pp. 27-31 of the release. In that section, the CFTC seems largely to have taken the approach used by the SEC in its comparable rulemaking.

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.

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