Restrictions on Qualified Financial Contracts of Systemically Important U.S. Banking Organizations and the U.S. Operations of Systemically Important Foreign Banking Organizations; Revisions to the Definition of Qualifying Master Netting Agreement and Related Definitions, 42882-42926 [2017-19053]

Download as PDF 42882 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations FEDERAL RESERVE SYSTEM 12 CFR Parts 217, 249, and 252 [Regulations Q, WW, and YY; Docket No. R–1538] RIN 7100–AE52 Restrictions on Qualified Financial Contracts of Systemically Important U.S. Banking Organizations and the U.S. Operations of Systemically Important Foreign Banking Organizations; Revisions to the Definition of Qualifying Master Netting Agreement and Related Definitions Board of Governors of the Federal Reserve System (Board), Federal Reserve System. ACTION: Final rule. AGENCY: The Board is adopting a final rule to promote U.S. financial stability by improving the resolvability and resilience of systemically important U.S. banking organizations and systemically important foreign banking organizations pursuant to section 165 of the DoddFrank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act). Under the final rule, any U.S. top-tier bank holding company identified by the Board as a global systemically important banking organization (GSIB), the subsidiaries of any U.S. GSIB (other than national banks, federal savings associations, state nonmember banks, and state savings associations), and the U.S. operations of any foreign GSIB (other than national banks, federal savings associations, state nonmember banks, and state savings associations) would be subjected to restrictions regarding the terms of their non-cleared qualified financial contracts (QFCs). First, a covered entity generally is required to ensure that QFCs to which it is party provide that any default rights and restrictions on the transfer of the QFCs are limited to the same extent as they would be under the Dodd-Frank Act and the Federal Deposit Insurance Act. Second, a covered entity generally is prohibited from being party to QFCs that would allow a QFC counterparty to exercise default rights against the covered entity, directly or indirectly, based on the entry into a resolution proceeding under the Dodd-Frank Act or Federal Deposit Insurance Act, or any other resolution proceeding, of an affiliate of the covered entity. The final rule also amends certain definitions in the Board’s capital and liquidity rules; these amendments are intended to ensure that the regulatory capital and liquidity treatment of QFCs to which a covered entity is party is not affected by mstockstill on DSK30JT082PROD with RULES2 SUMMARY: VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 the final rule’s restrictions on such QFCs. The Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) are expected to issue final rules that would subject GSIB subsidiaries for which the OCC and FDIC are the appropriate Federal banking agency to requirements substantively identical to those in this final rule. DATES: The final rule is effective on November 13, 2017. FOR FURTHER INFORMATION CONTACT: Anna Harrington, Senior Supervisory Financial Analyst (202) 452–6406, or Sean Campbell, Associate Director, (202) 452–3760, Division of Supervision and Regulation; or Will Giles, Senior Counsel, (202) 452–3351, or Lucy Chang, Senior Attorney, (202) 475–6331, Legal Division, Board of Governors of the Federal Reserve System, 20th and C Streets NW., Washington, DC 20551. For the hearing impaired only, Telecommunications Device for the Deaf (TDD) users may contact (202) 263– 4869. SUPPLEMENTARY INFORMATION: Table of Contents I. Introduction A. Background B. Notice of Proposed Rulemaking and General Summary of Comments C. Overview of Final Rule D. Consultation With U.S. Financial Regulators, the Council, and Foreign Authorities II. Restrictions on QFCs of GSIBs A. Covered Entities (Section 252.82(b) of the Final Rule) B. Covered QFCs (Section 252.82(c) of the Final Rule) C. Definition of ‘‘Default Right’’ (Section 252.81 of the Final Rule) D. Required Contractual Provisions Related to the U.S. Special Resolution Regimes (Section 252.83 of the Final Rule) E. Prohibited Cross-Default Rights (Section 252.84 of the Final Rule) F. Process for Approval of Enhanced Creditor Protections (Section 252.85 of the Final Rule) III. Transition Periods IV. Costs and Benefits V. Revisions to Certain Definitions in the Board’s Capital and Liquidity Rules VI. Regulatory Analysis A. Paperwork Reduction Act B. Regulatory Flexibility Act: Final Regulatory Flexibility Analysis C. Riegle Community Development and Regulatory Improvement Act of 1994 D. Use of Plain Language I. Introduction 1 81 A. Background In May 2016, the Board invited comment on a notice of proposed rulemaking (‘‘proposal’’ or ‘‘proposed rule’’) to impose restrictions on the PO 00000 Frm 00002 Fmt 4701 qualified financial contracts (QFCs)— such as derivatives contracts and repurchase agreements—of U.S. global systemically important banking organizations (GSIBs) and the U.S. operations of global systemically important foreign banking organizations or ‘‘foreign GSIBs’’ (collectively, ‘‘covered entities’’).1 The proposal would have required the QFCs of covered entities to contain contractual provisions that opt into the temporary stay-and-transfer treatment of the Federal Deposit Insurance Act (FDI Act) and the Dodd-Frank Wall Street Reform and Consumer Protection Act (DoddFrank Act), thereby reducing the risk that the stay-and-transfer treatment would be challenged by a QFC counterparty or a court in a foreign jurisdiction. The FDI Act and Title II of the Dodd-Frank Act create special resolution frameworks for failed financial firms that provide that the rights of a failed firm’s counterparties to terminate their QFCs are temporarily stayed when the firm enters a resolution proceeding to allow for the transfer of the relevant obligations under the QFC to a solvent party. The proposal also would have prohibited the exercise of default rights in QFCs related, directly or indirectly, to the entry into resolution of an affiliate of a covered entity (crossdefault rights), subject to certain creditor protection exceptions that would not be expected to interfere with an orderly resolution. This final rule, which is part of a set of actions by the Board to address the ‘‘too-big-to-fail’’ problem, addresses one of the ways in which the severe distress or failure of a major financial firm can destabilize the U.S. financial system. Protecting the financial stability of the United States by helping to address this too-big-to-fail problem is a core objective of the Dodd-Frank Act,2 which Congress passed in response to the 2007–2009 financial crisis and the ensuing recession. As illustrated by the failure of Lehman Brothers in September of 2008, the failure of a large, interconnected financial company could cause severe damage to the U.S. financial system and, ultimately, to the economy as a whole. The Dodd-Frank Act and the actions that U.S. financial regulators have taken to implement it and to otherwise protect U.S. financial stability help to address the too-big-to- Sfmt 4700 FR 29169 (May 11, 2016). Dodd-Frank Act was enacted on July 21, 2010 (Pub. L. 111–203). According to its preamble, the Dodd-Frank Act is intended ‘‘[t]o promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail’, [and] to protect the American taxpayer by ending bailouts.’’ 2 The E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 fail problem in two ways: By reducing the probability that a systemically important financial company will fail, and by reducing the damage that such a company’s failure would do if it were to occur. The second of these strategies, which is supported by this final rule, centers on measures designed to help ensure that a failed company’s passage through a resolution proceeding—such as bankruptcy or the special resolution process created by the Dodd-Frank Act—would be more orderly, thereby helping to mitigate destabilizing effects on the rest of the financial system.3 This final rule represents a further step to increase the resolvability and resilience of U.S. GSIBs and foreign GSIBs that operate in the United States. The final rule complements the Board’s final rulemaking on total loss-absorbing capacity, long-term debt, and clean holding company requirements for GSIBs (TLAC final rule) 4 and the ongoing work of the Board and the Federal Deposit Insurance Corporation (FDIC) on resolution planning requirements for GSIBs. The final rule focuses on improving the orderly resolution of a GSIB by limiting disruptions to a failed GSIB through its financial contracts with other companies. In particular, the requirements of the final rule seek to facilitate the orderly resolution of a failed GSIB by limiting the ability of the firm’s QFC counterparties to terminate such contracts immediately upon entry of the GSIB or one of its affiliates into resolution. Given the large volume of QFCs to which covered entities are a party, the exercise of default rights en masse as a result of the failure or significant distress of a covered entity could lead to failure and a disorderly resolution if the failed firm were forced to sell off assets, which could spread contagion by increasing volatility and lowering the value of similar assets held 3 The Dodd-Frank Act itself pursues this goal through numerous provisions, including by requiring systemically important financial companies to develop resolution plans (also known as ‘‘living wills’’) that lay out how they could be resolved in an orderly manner if they were to fail and by creating a new resolution regime, the Orderly Liquidation Authority, applicable to systemically important financial companies. 12 U.S.C. 5365(d), 5381–5394. Moreover, section 165 of the Dodd-Frank Act directs the Board to promote financial stability through regulation by subjecting large bank holding companies and nonbank financial companies designated for Board supervision to enhanced prudential standards ‘‘[i]n order to prevent or mitigate risks to the financial stability of the United States that could arise from the material financial distress or failure, or ongoing activities, of large, interconnected financial institutions.’’ 12 U.S.C. 5365(a)(1). 4 82 FR 8266 (Jan. 24, 2017). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 by other firms, or to withdraw liquidity that it had provided to other firms. The largest financial firms are interconnected with other financial firms through large volumes of financial contracts of various types, including derivatives transactions. The severe distress or failure of one entity within a large financial firm can trigger disruptive terminations of these contracts, as the counterparties of both the failed entity and other entities within the same firm exercise their contractual rights to terminate the contracts and liquidate collateral. These terminations, especially if counterparties lose confidence in the GSIB quickly and in large numbers, can destabilize the financial system and potentially spark a financial crisis through several channels. They can destabilize the failed entity’s otherwise solvent affiliates, causing them to fail and thereby destabilizing the entire organization, as well as potentially causing their counterparties to fail in a chain reaction that can ripple through the system. They also may result in fire sales of large volumes of financial assets, such as the collateral that secures the contracts, which can in turn weaken and cause stress for other firms by lowering the value of similar assets that they hold. For example, the triggering of default rights by counterparties of Lehman Brothers (Lehman) in 2008 was a key driver of the destabilization that resulted from its failure.5 At the time of its failure, Lehman was party to very large volumes of financial contracts, including over-the-counter derivatives contracts.6 When its holding company declared bankruptcy, Lehman’s counterparties exercised their default rights.7 Lehman’s default ‘‘caused disruptions in the swaps and derivatives markets and a rapid, market-wide unwinding of trading positions.’’ 8 Meanwhile, ‘‘out-of-the-money counterparties, which owed Lehman money, typically chose not to terminate their contracts’’ and instead suspended 5 See ‘‘The Orderly Liquidation of Lehman Brothers Holdings Inc. under the Dodd-Frank Act’’ 3, FDIC Quarterly (2011) (‘‘The Lehman bankruptcy had an immediate and negative effect on U.S. financial stability and has proven to be a disorderly, time-consuming, and expensive process.’’), https:// www.fdic.gov/bank/analytical/quarterly/2011_vol5_ 2/lehman.pdf. 6 See Michael J. Fleming and Asani Sarkar, ‘‘The Failure Resolution of Lehman Brothers,’’ FRBNY Economic Policy Review 185 (Dec. 2014), https:// www.newyorkfed.org/medialibrary/media/research/ epr/2014/1412flem.pdf. 7 See id. 8 ‘‘The Orderly Liquidation of Lehman Brothers Holdings Inc. under the Dodd-Frank Act’’ 3, FDIC Quarterly (2011), https://www.fdic.gov/bank/ analytical/quarterly/2011_vol5_2/lehman.pdf. PO 00000 Frm 00003 Fmt 4701 Sfmt 4700 42883 payment, reducing the liquidity available to the bankruptcy estate.9 The complexity and disruption associated with Lehman’s portfolios of financial contracts led to a disorderly resolution of Lehman.10 This final rule is meant to help avoid a repeat of the systemic disruptions caused by the Lehman failure by preventing the exercise of default rights in financial contracts from leading to such disorderly and destabilizing severe distress or failures in the future. This final rule responds to the threat to financial stability posed by such default rights in two ways. First, the final rule reduces the risk that courts in foreign jurisdictions would disregard statutory provisions that would stay the rights of a failed firm’s counterparties to terminate their contracts when the firm enters a resolution proceeding under one of the special resolution frameworks for failed financial firms created by Congress under the FDI Act and the Dodd-Frank Act. Second, the final rule facilitates the resolution of a large financial entity under the U.S. Bankruptcy Code and other resolution frameworks by ensuring that the counterparties of solvent affiliates of the failed entity cannot unravel their contracts with the solvent affiliate based solely on the failed entity’s resolution. The Board is issuing this final rule under section 165 of the Dodd-Frank Act, as well as its safety and soundness and other relevant authorities.11 Section 165 instructs the Board to impose enhanced prudential standards on bank holding companies with total consolidated assets of $50 billion or more ‘‘[i]n order to prevent or mitigate risks to the financial stability of the 9 Michael J. Fleming and Asani Sarkar, ‘‘The Failure Resolution of Lehman Brothers,’’ FRBNY Economic Policy Review 185 (Dec. 2014), https:// www.newyorkfed.org/medialibrary/media/research/ epr/2014/1412flem.pdf. 10 See Mark J. Roe and Stephen D. Adams, ‘‘Restructuring Failed Financial Firms in Bankruptcy: Selling Lehman’s Derivatives Portfolio,’’ Yale Journal on Regulation (2015) (‘‘Lehman’s failure exacerbated the financial crisis, especially after AIG’s collapse in the days afterwards prompted counterparties to close out positions, sell collateral, and thereby depress and freeze markets. Many financial players stopped trading for fear that their counterparty would be the next Lehman or that their counterparty had large unseen exposures to Lehman that would make the counterparty itself fail. Such was the case with the Reserve Primary Fund, a money market fund that held too many defaulting obligations of Lehman. That reaction led to a further panic, a threat of a run on money market funds, and a government guarantee of all money market funds to stem the ongoing financial degradation throughout the economy.’’). 11 12 U.S.C. 321–338a, 481–486, 1467a, 1818, 1828, 1831n, 1831o, 1831p–l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 3101 note, 3904, 3906–3909, 4808, 5361, 5362, 5365, 5366, 5367, 5368, 5371. E:\FR\FM\12SER2.SGM 12SER2 42884 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations United States that could arise from the material financial distress or failure, or ongoing activities, of large, interconnected financial institutions.’’ 12 These enhanced prudential standards must increase in stringency based on the systemic footprint and risk characteristics of covered firms.13 Section 165 requires the Board to impose enhanced prudential standards of several specified types and also authorizes the Board to establish ‘‘such other prudential standards as the Board of Governors, on its own or pursuant to a recommendation made by the Council, determines are appropriate.’’ 14 The enhanced prudential standards in this final rule are intended to prevent or mitigate risks to the financial stability of the United States that could arise from the material financial distress or failure of a GSIB. In particular, the final rule’s requirements are intended to improve the resolvability and resilience of U.S. GSIBs under the U.S. Bankruptcy Code, Title II of the Dodd-Frank Act, or, with reference to insured depository institutions that are GSIB subsidiaries, the FDI Act, and reduce the potential that resolution of the firm will be disorderly and lead to disruptive asset sales and liquidations. The final rule should also improve the resilience of the U.S. operations of foreign GSIBs, and thereby increase the likelihood that a failed foreign GSIB with U.S. operations would be successfully resolved by its home jurisdiction authorities without the severe distress or failure of the foreign GSIB’s U.S. operating entities and with limited effect on the financial stability of the United States.15 The Board has tailored this final rule to apply only to those banking organizations whose disorderly failure or severe distress would be likely to 12 12 U.S.C. 5365(a)(1). U.S.C. 5365(a)(1)(B), (b)(3)(A)–(D). 14 12 U.S.C. 5365(b)(1)(B)(iv). 15 As discussed in detail in this SUPPLEMENTARY INFORMATION section, this rule is intended to help prevent systemic disruptions that may arise as a result of the exercise of certain contractual rights contained in QFCs entered into by GSIBs or their subsidiaries. This rule includes certain limitations on the exercise of these rights with a view to preventing such systemic disruptions. Separate from these limitations, both Title II of the DoddFrank Act and the FDI Act include various restrictions on the exercise of rights by parties to QFCs and provide the FDIC, as receiver of a company subject to resolution under Title II or the FDI Act, with special authorities. None of the provisions of this rule should be construed as being intended to modify or limit, in any manner, the rights and powers of the FDIC as receiver under Title II or the FDI Act, including, without limitation, the rights of the FDIC as receiver to enforce provisions of Title II or the FDI Act that limit the enforceability of certain contractual provisions. mstockstill on DSK30JT082PROD with RULES2 13 12 VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 pose the greatest risk to U.S. financial stability: The U.S. GSIBs and the U.S. operations of foreign GSIBs. The Board believes that limiting the application of this final rule in this way sensibly balances the costs and benefits of the rule by effectively managing systemic risk while at the same time limiting the burden of compliance by not requiring non-GSIB firms with total assets in excess of $50 billion to comply with any part of this final rule. Qualified financial contracts, default rights, and financial stability. The final rule pertains to several important classes of financial transactions that are collectively known as ‘‘qualified financial contracts.’’ 16 QFCs include derivatives, repurchase agreements (also known as ‘‘repos’’), reverse repos, and securities lending and borrowing agreements.17 GSIBs enter into QFCs for a variety of purposes, including to borrow money to finance their investments, to lend money, to manage risk, and to enable their clients and counterparties to hedge risks, make markets in securities and derivatives, and take positions in financial investments. QFCs play a role in economically valuable financial intermediation when markets are functioning normally. But they are also a major source of financial interconnectedness, which can pose a threat to financial stability in times of market stress. The final rule focuses on a context in which that threat is especially great: The severe distress or failure of a GSIB that is party to large volumes of QFCs, which are likely to include QFCs with counterparties that are themselves systemically important. By contract, a party to a QFC generally has the right to take certain actions if its counterparty defaults on the QFC (that is, if it fails to meet certain contractual obligations). Common default rights include the right to suspend performance of the nondefaulting party’s obligations, the right to terminate or accelerate the contract, the right to set off amounts owed between the parties, and the right to seize and liquidate the defaulting party’s collateral. In general, default rights allow a party to a QFC to reduce the credit risk associated with the QFC by granting it the right to exit the QFC and thereby reduce its exposure to its counterparty upon the occurrence of a 16 The final rule adopts the definition of ‘‘qualified financial contract’’ set out in section 210(c)(8)(D) of the Dodd-Frank Act, 12 U.S.C. 5390(c)(8)(D). See final rule § 252.81. 17 The definition of ‘‘qualified financial contract’’ is broader than this list of examples, and the default rights discussed are not common to all types of QFC. See final rule § 252.81. PO 00000 Frm 00004 Fmt 4701 Sfmt 4700 specified condition, such as its counterparty’s entry into a resolution proceeding. Where the defaulting party is a GSIB entity, the private benefit of allowing counterparties of GSIBs to take certain actions must be weighed against the harm that these actions may cause by contributing to the severe distress or disorderly failure of a GSIB and increasing the threat to the stability of the U.S. financial system as a whole. For example, if a significant number of QFC counterparties exercise their default rights precipitously and in a manner that would impede an orderly resolution of a GSIB, all QFC counterparties and the financial system may potentially be worse off and less stable. This may occur through several channels. First, the exits may drain liquidity from a troubled GSIB, forcing the GSIB to rapidly sell off assets at depressed prices, both because the sales must be done within a short timeframe and because the elevated supply may push prices down. These asset fire sales may cause or deepen balance-sheet insolvency at the GSIB, causing a GSIB to fail more suddenly and reducing the amount that its other creditors can recover, thereby imposing losses on those creditors and threatening their solvency. The GSIB may also respond to a QFC run by withdrawing liquidity that it had offered to other firms, forcing them to engage in fire sales. Alternatively, if the GSIB’s QFC counterparty itself liquidates the QFC collateral at fire sale prices, the effect will again be to weaken the GSIB’s balance sheet as the GSIB marks those assets down to the new fire sale induced price level.18 The counterparty’s rights to set-off amounts owed, terminate the contract, or suspend payments may allow it to further drain the GSIB’s capital and liquidity by withholding payments that it would otherwise owe to the GSIB. The GSIB may also have rehypothecated collateral that it received from QFC counterparties, for instance in repo or securities lending transactions that fund other client arrangements, in which case demands from those counterparties for the early 18 See ‘‘The Orderly Liquidation of Lehman Brothers Holdings Inc. under the Dodd-Frank Act’’ 8, FDIC Quarterly (2011), https://www.fdic.gov/ bank/analytical/quarterly/2011_vol5_2/lehman.pdf (‘‘A disorderly unwinding of [qualified financial contracts] triggered by an event of insolvency, as each counterparty races to unwind and cover unhedged positions, can cause a tremendous loss of value, especially if lightly traded collateral covering a trade is sold into an artificially depressed, unstable market. Such disorderly unwinding can have severe negative consequences for the financial company, its creditors, its counterparties, and the financial stability of the United States.’’). E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 return of their rehypothecated collateral could be especially disruptive.19 The asset fire sales discussed above can also spread contagion throughout the financial system by increasing volatility and by lowering the value of similar assets held by other firms, potentially causing these firms to suffer mark-to-market losses, diminished market confidence in their own solvency, margin calls, and creditor runs (which could lead to further fire sales, worsening the contagion). Finally, the early terminations of derivatives upon which the surviving entities of the failed GSIB relied to hedge their risks could leave those entities with major risks unhedged, increasing the entities’ potential losses going forward. Where there are significant simultaneous terminations and these effects occur contemporaneously, such as upon the failure or severe distress of a GSIB that is party to a large volume of QFCs, they may pose a substantial risk to financial stability. In short, QFC continuity is important for the orderly resolution of a GSIB because it helps to ensure that the GSIB entities remain viable and to avoid instability caused by asset fire sales. Consequently, the Board and the FDIC have identified the exercise of certain default rights in financial contracts as a potential obstacle to orderly resolution in the context of resolution plans filed pursuant to section 165(d) of the DoddFrank Act 20 and have instructed the most systemically important firms to demonstrate that they are ‘‘amending, on an industry-wide and firm-specific basis, financial contracts to provide for a stay of certain early termination rights of external counterparties triggered by insolvency proceedings.’’ 21 19 See generally Adam Kirk, James McAndrews, Parinitha Sastry, and Phillip Weed, ‘‘Matching Collateral Supply and Financing Demands in Dealer Banks,’’ FRBNY Economic Policy Review 127 (Dec. 2014), http://www.newyorkfed.org/medialibrary/ media/research/epr/2014/1412kirk.pdf. 20 12 U.S.C. 5365(d). 21 Board and FDIC, ‘‘Agencies Provide Feedback on Second Round Resolution Plans of ‘First-Wave’ Filers’’ (Aug. 5, 2014), http:// www.federalreserve.gov/newsevents/press/bcreg/ 20140805a.htm. See also Board and FDIC, ‘‘Guidance for 2018 § 165(d) Annual Resolution Plan Submissions By Foreign-based Covered Companies that Submitted Resolution Plans in July 2015,’’ (Mar. 24, 2017), https://www.federal reserve.gov/newsevents/pressreleases/files/bcreg 20170324a21.pdf; Board and FDIC, ‘‘Guidance for 2017 § 165(d) Annual Resolution Plan Submissions By Domestic Covered Companies that Submitted Resolution Plans in July 2015,’’ (Apr. 13, 2016), https://www.federalreserve.gov/newsevents/press releases/files/bcreg20160413a1.pdf; Board and FDIC, ‘‘Agencies Provide Feedback on Resolution Plans of Three Foreign Banking Organizations,’’ (Mar. 23, 2015), http://www.federalreserve.gov/news events/press/bcreg/20150323a.htm; Board and FDIC, ‘‘Guidance for 2013 165(d) Annual VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 Direct defaults and cross-defaults. This final rule focuses on two distinct scenarios in which a non-defaulting party to a QFC is commonly able to exercise the rights described above. These two scenarios involve a default that occurs when either the GSIB legal entity that is a direct party 22 to the QFC or an affiliate of that legal entity enters a resolution proceeding.23 The first scenario occurs when a GSIB entity that is itself a direct party to the QFC enters a resolution proceeding; this preamble refers to such a scenario as a ‘‘direct default’’ and refers to the default rights that arise from a direct default as ‘‘direct default rights.’’ The second scenario occurs when an affiliate of the GSIB entity that is a direct party to the QFC (such as the direct party’s parent holding company) enters a resolution proceeding; this preamble refers to such a scenario as a ‘‘cross-default’’ and refers to default rights that arise from a cross-default as ‘‘cross-default rights.’’ For example, a GSIB parent entity might guarantee the derivatives transactions of its subsidiaries, and those derivatives contracts could contain cross-default rights against a subsidiary of the GSIB that would be triggered by the bankruptcy filing of the GSIB parent entity even though the subsidiary continues to meet all of its financial obligations.24 Importantly, this final rule does not affect all types of default rights. Moreover, the final rule is concerned Resolution Plan Submissions by Domestic Covered Companies that Submitted Initial Resolution Plans in 2012’’ (Apr. 15, 2013), http://www.federal reserve.gov/newsevents/press/bcreg/bcreg 20130415c2.pdf. 22 In general, a ‘‘direct party’’ refers to a party to a financial contract other than a credit enhancement (such as a guarantee). The definition of ‘‘direct party’’ and related definitions are discussed in more detail below. 23 This preamble uses phrases such as ‘‘entering a resolution proceeding’’ and ‘‘going into resolution’’ to encompass the concept of ‘‘becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding.’’ These phrases refer to proceedings established by law to deal with a failed legal entity. In the context of the failure of a systemically important banking organization, the most relevant types of resolution proceeding include the following: For most U.S.-based legal entities, the bankruptcy process established by the U.S. Bankruptcy Code (Title 11, United States Code); for U.S. insured depository institutions, a receivership administered by the FDIC under the FDI Act (12 U.S.C. 1821); for companies whose ‘‘resolution under otherwise applicable Federal or State law would have serious adverse effects on the financial stability of the United States,’’ the DoddFrank Act’s Orderly Liquidation Authority (12 U.S.C. 5383(b)(2)); and, for entities based outside the United States, resolution proceedings created by foreign law. 24 See Michael J. Fleming and Asani Sarkar, ‘‘The Failure Resolution of Lehman Brothers,’’ FRBNY Economic Policy Review 185 (Dec. 2014), https:// www.newyorkfed.org/medialibrary/media/research/ epr/2014/1412flem.pdf. PO 00000 Frm 00005 Fmt 4701 Sfmt 4700 42885 only with default rights that run against a GSIB—that is, direct default rights and cross-default rights that arise from the entry into resolution of a GSIB entity. The final rule does not affect default rights that a GSIB entity (or any other entity) may have against a counterparty that is not a GSIB entity. This limited scope is appropriate because, as described above, the risk posed to financial stability by the exercise of QFC default rights is greatest when the defaulting counterparty is a GSIB entity. Single-point-of-entry resolution. Cross-default rights are especially significant in the context of a GSIB failure because GSIBs typically enter into large volumes of QFCs through different entities controlled by the GSIB. For example, a U.S. GSIB is made up of a U.S. bank holding company and numerous operating subsidiaries that are owned, directly or indirectly, by the bank holding company. From the standpoint of financial stability, the most important of these operating subsidiaries are generally a U.S. insured depository institution, a U.S. brokerdealer, and similar entities organized in other countries. Many complex GSIBs have developed resolution strategies that rely on a single-point-of-entry (SPOE) resolution strategy. In an SPOE resolution of a GSIB, only a single legal entity—the GSIB’s top-tier bank holding company— would enter a resolution proceeding. The losses that led to the GSIB’s failure would be passed up from the operating subsidiaries that incurred the losses to the holding company and would then be imposed on the equity holders and unsecured creditors of the holding company through the resolution process.25 This strategy is designed to help ensure that the GSIB subsidiaries remain adequately capitalized and that operating subsidiaries of the GSIB are able to continue to meet their financial obligations without defaulting or entering resolution themselves. The expectation that the holding company’s equity holders and unsecured creditors would absorb the GSIB’s losses in the event of failure would help to maintain the confidence of the operating subsidiaries’ creditors and counterparties (including their QFC 25 The Board’s final rule regarding total lossabsorbing capacity, long term debt and clean holding company requirements (TLAC rule) addresses the need for adequate external lossabsorbing capacity at the holding company level by requiring the top-tier holding companies of the U.S. GSIBs and the U.S. intermediate holding companies of foreign GSIBs to maintain outstanding required levels of unsecured long-term debt and TLAC, which is defined to include both tier 1 capital and eligible long-term debt. See 82 FR 8266, 8287 (Jan. 24, 2017). E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42886 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations counterparties), reducing their incentive to engage in potentially destabilizing funding runs or margin calls and thus lowering the risk of asset fire sales. A successful SPOE resolution would also avoid the need for separate resolution proceedings for separate legal entities run by separate authorities across multiple jurisdictions, which would be more complex and could therefore destabilize the resolution of a GSIB. The Board’s TLAC rule is intended to help, though not exclusively, to lay the foundation necessary for the SPOE resolution of a GSIB by requiring the top-tier holding companies of U.S. GSIBs and the U.S. intermediate holding companies of foreign GSIBs to maintain sufficient amounts of loss-absorbing capacity that could be used for resolution and to adopt a ‘‘clean holding company’’ structure, under which certain financial activities that could pose obstacles to orderly resolution would be impermissible for the holding company and could only be conducted by its operating subsidiaries.26 Other orderly resolution strategies. This final rule is also intended to yield benefits for other approaches to resolution. For example, preventing early terminations of QFCs would increase the prospects for an orderly resolution under a multiple-point-ofentry (MPOE) strategy involving a foreign GSIB’s U.S. intermediate holding company going into resolution or a resolution plan that calls for a GSIB’s U.S. insured depository institution to enter resolution under the FDI Act. As discussed above, the final rule should help support the continued operation of one or more affiliates of an entity that has entered resolution to the extent the affiliate continues to perform on its QFCs. U.S. Bankruptcy Code. When an entity goes into resolution under the U.S. Bankruptcy Code, attempts by the debtor entity’s creditors to enforce their debts through any means other than participation in the bankruptcy proceeding (for instance, by suing in another court, seeking enforcement of a preexisting judgment, or seizing and liquidating collateral) are generally blocked by the imposition of an automatic stay.27 A key purpose of the automatic stay, and of bankruptcy law in general, is to maximize the value of the bankruptcy estate and the creditors’ ultimate recoveries by facilitating an orderly liquidation or restructuring of the debtor. The automatic stay thus solves a collective action problem in which the creditors’ individual 26 See 27 See 82 FR 8266 (Jan. 24, 2017). 11 U.S.C. 362. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 incentives to become the first to recover as much from the debtor as possible, before other creditors can do so, collectively cause a value-destroying disorderly liquidation of the debtor.28 However, the U.S. Bankruptcy Code largely exempts QFC 29 counterparties of the debtor from the automatic stay through special ‘‘safe harbor’’ provisions.30 Under these provisions, any rights that a QFC counterparty has to terminate the contract, set-off obligations, or liquidate collateral in response to a direct default are not subject to the stay and may be exercised against the debtor immediately upon default. (The U.S. Bankruptcy Code does not itself confer default rights upon QFC counterparties; it merely permits QFC counterparties to exercise certain rights created by other sources, such as contractual rights created by the terms of the QFC.) The U.S. Bankruptcy Code’s automatic stay also does not prevent the exercise of cross-default rights against an affiliate of the party entering resolution. The stay generally applies only to actions taken against the party entering resolution or the bankruptcy estate,31 whereas a QFC counterparty exercising a cross-default right is instead acting against a distinct legal entity that is not itself in resolution— the debtor’s affiliate. Title II of the Dodd-Frank Act and the Orderly Liquidation Authority. Title II of the Dodd-Frank Act imposes stay requirements on QFCs of financial companies that enter resolution under that Title. In general, no financial firm (regardless of size) is too-big-to-fail and a U.S. bank holding company (such as the top-tier holding company of a U.S. GSIB) that fails would be resolved under the U.S. Bankruptcy Code. Congress recognized, however, that a financial company might fail under extraordinary circumstances in which an attempt to resolve it through the bankruptcy process would have serious adverse effects on financial stability in the United States. Title II of the Dodd-Frank Act establishes the Orderly Liquidation Authority (OLA), an alternative 28 See, e.g., Aiello v. Providian Financial Corp., 239 F.3d 876, 879 (7th Cir. 2001). 29 The U.S. Bankruptcy Code does not use the term ‘‘qualified financial contract,’’ but the set of transactions covered by its safe harbor provisions closely tracks the set of transactions that fall within the definition of ‘‘qualified financial contract’’ used in Title II of the Dodd-Frank Act and in this final rule. 30 11 U.S.C. 362(b)(6), (7), (17), (27), 362(o), 555, 556, 559, 560, 561. The U.S. Bankruptcy Code specifies the types of parties to which the safe harbor provisions apply, such as financial institutions and financial participants. Id. 31 See 11 U.S.C. 362(a). PO 00000 Frm 00006 Fmt 4701 Sfmt 4700 resolution framework intended to be used in rare circumstances to manage the failure of a firm that poses a significant risk to the financial stability of the United States in a manner that mitigates such risk and minimizes moral hazard.32 Title II authorizes the Secretary of the Treasury, upon the recommendation of other government agencies and a determination that several preconditions are met, to place a financial company into a receivership conducted by the FDIC as an alternative to bankruptcy.33 Title II empowers the FDIC to transfer the QFCs to a bridge financial company or some other financial company that is not in a resolution proceeding and should therefore be capable of performing under the QFCs.34 To give the FDIC time to effect this transfer, Title II temporarily stays QFC counterparties of the failed entity from exercising termination, netting, and collateral liquidation rights ‘‘solely by reason of or incidental to’’ the failed entity’s entry into OLA resolution, its insolvency, or its financial condition.35 Once the QFCs are transferred in accordance with the statute, Title II permanently stays the exercise of default rights for those reasons.36 Title II addresses cross-default rights through a similar procedure. It empowers the FDIC to enforce contracts of subsidiaries or affiliates of the failed covered financial company that are ‘‘guaranteed or otherwise supported by or linked to the covered financial company, notwithstanding any contractual right to cause the termination, liquidation, or acceleration of such contracts based solely on the insolvency, financial condition, or receivership of’’ the failed company, so long as, if such contracts are guaranteed or otherwise supported by the covered financial company, the FDIC takes certain steps to protect the QFC counterparties’ interests by the end of the business day following the company’s entry into OLA resolution.37 These stay-and-transfer provisions of the Dodd-Frank Act are intended to mitigate the threat posed by QFC default rights. At the same time, the provisions allow appropriate protections for QFC counterparties of the failed financial 32 Section 204(a) of the Dodd-Frank Act, codified at 12 U.S.C. 5384(a). 33 See section 203 of the Dodd-Frank Act, codified at 12 U.S.C. 5383. 34 See 12 U.S.C. 5390(c)(9). 35 12 U.S.C. 5390(c)(10)(B)(i)(I). This temporary stay generally lasts until 5:00 p.m. eastern time on the business day following the appointment of the FDIC as receiver. 36 12 U.S.C. 5390(c)(10)(B)(i)(II). 37 12 U.S.C. 5390(c)(16). E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations company. The provisions stay only the exercise of default rights based on the failed company’s entry into resolution, the fact of its insolvency, or its financial condition. Further, the stay period is brief, unless the FDIC transfers the QFCs to another financial company that is not in resolution (and should therefore be capable of performing under the QFCs) or, if applicable, provides adequate protection that the QFCs will be performed. The Federal Deposit Insurance Act. Under the FDI Act, a failing insured depository institution would generally enter a receivership administered by the FDIC.38 The FDI Act addresses direct default rights in the failed bank’s QFCs with stay-and-transfer provisions that are substantially similar to the provisions of Title II of the Dodd-Frank Act discussed above.39 However, the FDI Act does not address cross-default rights, leaving the QFC counterparties of the failed depository institution’s affiliates free to exercise any contractual rights they may have to terminate, net, or liquidate collateral based on the depository institution’s entry into resolution. Moreover, as with Title II of the Dodd-Frank Act, there is a possibility that a court of a foreign jurisdiction might decline to enforce the FDI Act’s stay-and-transfer provisions under certain circumstances. mstockstill on DSK30JT082PROD with RULES2 B. Notice of Proposed Rulemaking and General Summary of Comments The proposal was intended to increase GSIB resolvability and resiliency by addressing two QFCrelated issues. First, the proposal sought to address the risk that a court in a foreign jurisdiction may decline to enforce the QFC stay-and-transfer provisions of Title II and the FDI Act discussed above. Second, the proposal sought to address the potential disruption that may occur if a counterparty to a QFC with an affiliate of a GSIB entity that goes into resolution under the U.S. Bankruptcy Code or the FDI Act exercises cross-default rights. Scope of application. The proposal’s requirements would have applied to all ‘‘covered entities.’’ Under the proposal, ‘‘covered entity’’ included: Any U.S. top-tier bank holding company identified as a GSIB under the Board’s rule establishing risk-based capital surcharges for GSIBs (GSIB surcharge rule); 40 any subsidiary of such a bank holding company; and any U.S. subsidiary, U.S. branch, or U.S. agency 38 12 U.S.C. 1821(c). 12 U.S.C. 1821(e)(8)–(10). 40 12 CFR 217.402; 80 FR 49106 (Aug. 14, 2015). 39 See VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 of a foreign GSIB.41 ‘‘Covered entity’’ did not include national banks and Federal savings associations that are supervised by the Office of the Comptroller of the Currency (OCC), because the OCC was expected to issue, and ultimately did issue, a proposed rule that would subject those institutions to requirements substantively identical to those proposed by the Board’s rule for covered entities. In the proposal, ‘‘qualified financial contract’’ or ‘‘QFC’’ was defined to have the same meaning as in section 210(c)(8)(D) of the Dodd-Frank Act,42 and included, among other things, derivatives, repos, and securities borrowing and lending agreements. Subject to the exceptions discussed below, the proposal’s requirements would have applied to any QFC to which a covered entity is party (covered QFC). Under the proposal, a covered entity would have been required to conform pre-existing QFCs if a covered entity enters into a new QFC with a counterparty or its affiliate. Required contractual provisions related to the U.S. Special Resolution Regimes. Under the proposal, covered entities would have been required to ensure that covered QFCs include contractual terms explicitly providing that any default rights or restrictions on the transfer of the QFC are limited to at least the same extent as they would be pursuant to the OLA and the FDI Act (U.S. Special Resolution Regimes).43 The proposed requirements were not intended to imply that the statutory stay-and-transfer provisions would not in fact apply to a given QFC, but rather to help ensure that all covered QFCs would be treated the same way in the context of an FDIC receivership under the Dodd-Frank Act or the FDI Act. This provision was intended to address the first issue listed above and to decrease the QFC-related threat to financial stability posed by the failure and resolution of an internationally active GSIB. This section of the proposal was also consistent with analogous legal requirements that have been imposed in other national jurisdictions 44 and with the Financial Stability Board’s 41 See proposed rule § 252.81. U.S.C. 5390(c)(8)(D). See proposed rule § 252.81. 43 See proposed rule § 252.83. 44 See, e.g., Bank of England Prudential Regulation Authority, Policy Statement, ‘‘Contractual stays in financial contracts governed by third-country law’’ (Nov. 2015), http://www.bank ofengland.co.uk/pra/Documents/publications/ps/ 2015/ps2515.pdf. 42 12 PO 00000 Frm 00007 Fmt 4701 Sfmt 4700 42887 ‘‘Principles for Cross-border Effectiveness of Resolution Actions.’’ 45 Prohibited cross-default rights. Under the proposal, a covered entity would have been prohibited from entering into covered QFCs that would allow the exercise of cross-default rights—that is, default rights related, directly or indirectly, to the entry into resolution of an affiliate of the direct party—against it.46 Covered entities would have been similarly prohibited from entering into covered QFCs that included a restriction on the transfer of a credit enhancement supporting the QFC from the covered entity’s affiliate to a transferee upon the entry into resolution of the affiliate. The Board did not propose to prohibit a covered entity from entering into QFCs that allow its counterparties to exercise direct default rights against the covered entity. Under the proposal, a covered entity also could, to the extent not inconsistent with Title II or the FDI Act, enter into a QFC that grants its counterparty the right to terminate the QFC if the covered entity fails to perform its obligations under the QFC. Industry-developed protocol. As an alternative to bringing their covered QFCs into compliance with the requirements set out in the proposed rule, covered entities would have been permitted to comply with the requirements of the proposed rule by adhering to the International Swaps and Derivatives Association (ISDA) 2015 Universal Resolution Stay Protocol, including the Securities Financing Transaction Annex and the Other Agreements Annex (together, the ‘‘Universal Protocol’’).47 The preamble to the proposal explained that the Board viewed the Universal Protocol as achieving an outcome consistent with the outcome intended by the requirements of the proposed rule by 45 Financial Stability Board, ‘‘Principles for Crossborder Effectiveness of Resolution Actions’’ (Nov. 3, 2015), http://www.fsb.org/wp-content/uploads/ Principles-for-Cross-border-Effectiveness-ofResolution-Actions.pdf. The Financial Stability Board (FSB) was established in 2009 to coordinate the work of national financial authorities and international standard-setting bodies and to develop and promote the implementation of effective regulatory, supervisory, and other financial sector policies to advance financial stability. The FSB brings together national authorities responsible for financial stability in 24 countries and jurisdictions, as well as international financial institutions, sectorspecific international groupings of regulators and supervisors, and committees of central bank experts. See generally Financial Stability Board, http://www.fsb.org. 46 See proposed rule § 252.83(b). 47 ISDA, ‘‘Attachment to the ISDA 2015 Universal Resolution Stay Protocol,’’ (Nov. 4, 2015), http:// assets.isda.org/media/ac6b533f-3/5a7c32f8-pdf/. See proposed rule § 252.85(a). E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42888 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations similarly limiting direct default rights and cross-default rights. Process for approval of enhanced creditor protection conditions. The proposal also would have allowed the Board, at the request of a covered entity, to approve as compliant with the proposal covered QFCs with creditor protections other than those that would otherwise be permitted under section 252.84 of the proposal.48 The Board would have been permitted to approve such a request if, in light of several enumerated considerations,49 the alternative creditor protections would mitigate risks to the financial stability of the United States presented by a GSIB’s failure to at least the same extent as the proposed requirements. Amendments to certain definitions in the Board’s capital and liquidity rules. The proposal also would have amended certain definitions in the Board’s capital and liquidity rules to help ensure that the regulatory capital and liquidity treatment of QFCs to which a covered entity is party would not be affected by the proposed restrictions on such QFCs. Specifically, the proposal would have amended the definition of ‘‘qualifying master netting agreement’’ in the Board’s regulatory capital and liquidity rules and would similarly amend the definitions of the terms ‘‘collateral agreement,’’ ‘‘eligible margin loan,’’ and ‘‘repo-style transaction’’ in the Board’s regulatory capital rules. Comments on the Proposal. The Board received approximately 30 comments on the proposed rule from banking organizations, trade associations, public interest advocacy groups, and private individuals. Board staff also met with some commenters at their request to discuss their comments on the proposal, and summaries of these meetings may be found on the Board’s public Web site. A number of commenters, including GSIBs that would be subject to the requirements of the proposal, expressed strong support for the proposed rule as a well-considered effort to reduce systemic risk with minimal burden and as one of the last important steps to ensure a more efficient and orderly resolution process for all covered entities and thereby to protect the stability of the U.S. financial system. Other commenters, however, expressed concern with the proposed rule. These commenters generally argued that the proposal should not restrict contractual rights of GSIB counterparties and contended that the proposal shifts the costs of resolving the covered entities to 48 See 49 See proposed rule § 252.85. proposed rule § 252.85(c). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 non-defaulting counterparties. Some commenters argued that the proposal would not assuredly mitigate systemic risk, as the requirements could result in increased market and credit risk for QFC counterparties of a GSIB. Commenters also argued that it would be more appropriate for Congress to impose the proposal’s restrictions on contractual rights through the legislative process rather than for the Board to do so through a regulation. As described above, the proposal applied to ‘‘covered entities,’’ which was defined to mean all U.S. GSIBs and their subsidiaries, as well as the U.S. operations (subsidiaries, branches, and agencies) of GSIBs that are foreign banking organizations. The proposal generally defined ‘‘subsidiary’’ as an entity controlled by a GSIB under the Bank Holding Company Act (BHC Act). Commenters urged the Board to move to a financial consolidation standard to define the subsidiaries of covered entities, arguing that the concept of control under the BHC Act includes entities (1) that are not under the operational control of the GSIB and over whom the GSIB does not have the practical ability to require remediation and (2) which are unlikely to raise the types of concerns for the orderly resolution of GSIBs targeted by the proposal. For similar reasons, these commenters argued that, for purposes of the requirement that a covered entity conform existing QFCs if a covered entity enters into a new QFC with a counterparty or its affiliate, a counterparty’s ‘‘affiliate’’ should also be defined by reference to financial consolidation rather than BHC Act control. Commenters also expressed concern that the definition of ‘‘covered QFCs’’ under the proposal was overly broad. The proposal required a covered QFC to explicitly provide that it is subject to the stay-and-transfer provisions of Title II and the FDI Act and prohibited a covered entity from being a party to a QFC that would allow the exercise of cross-default rights. Commenters argued that the final rule should exclude QFCs that do not contain any contractual transfer restrictions, direct default rights, or cross-default rights, as these QFCs do not give rise to the risk that counterparties will exercise their contractual rights in a manner that is inconsistent with the provisions of the U.S. Special Resolution Regimes. Commenters also urged the Board to exclude QFCs governed by U.S. law from the requirement that QFCs explicitly ‘‘opt in’’ to the U.S. Special Resolution Regimes since it is already sufficiently clear that such QFCs are PO 00000 Frm 00008 Fmt 4701 Sfmt 4700 subject to the stay-and-transfer provisions of Title II and the FDI Act. With respect to the proposal’s prohibition against provisions that would allow the exercise of crossdefault rights in covered QFCs of a GSIB, commenters argued that the final rule should clarify that QFCs that do not contain such cross-default rights or transfer restrictions regarding related credit enhancements are not within the scope of the prohibition. Commenters also requested that certain types of contracts that may include transfer or default rights subject to the proposal’s requirements (e.g., warrants; certain commodity contracts, including commodity swaps; certain utility and gas supply contracts; certain retail customer and investment advisory agreements; securities underwriting agreements; securities lending authorization agreements) be excluded from all requirements of the final rule because these types of contracts do not raise the risks to the resolution of a covered entity or financial stability that are the target of this final rule and because certain existing contracts of these types would be difficult, if not impossible, to amend. Commenters also requested that securities contracts that typically settle in the short term or that typically include only transfer restrictions and not default rights similarly be excluded from all requirements of the final rule because they do not impose ongoing or continuing obligations on either party after settlement. In all of the above cases, commenters argued that remediation of such outstanding contracts would be burdensome with no meaningful resolution benefits. Certain commenters also urged the Board to apply the final rule only to contracts entered into after the final rule’s effective date and not to contracts existing as of the final rule’s effective date. As noted above, the proposal would have deemed compliant covered QFCs amended by the existing Universal Protocol (which allows for creditor protections in addition to those otherwise permitted by the proposed rule). Commenters generally supported this aspect of the proposal, although they requested express clarification that adherence to the existing Universal Protocol would satisfy all of the requirements of the final rule. Commenters urged that the final rule should also provide a safe harbor for a future ISDA protocol that would be substantially similar to the existing Universal Protocol except that it would seek to address the specific needs of buy-side market participants, such as E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 asset managers, insurance companies, and pension funds who are counterparties to QFCs with GSIBs, to allow, for example, entity-by-entity adherence and the exclusion of certain foreign special resolution regimes. Commenters expressed support for the exemption in the proposal for cleared QFCs but requested that this exemption be broadened to extend to the client leg of a cleared back-to-back transaction and also to exclude any contract cleared, processed, or settled on a financial market utility (FMU) as well as any QFC conducted according to the rules of an FMU. Commenters also requested an exemption for QFCs with sovereign entities and central banks. Commenters further requested a longer period of time for covered entities to conform covered QFCs with certain types of counterparties to comply with the requirements of the final rule. Commenters also requested that the Board coordinate with other regulatory agencies, consider comments submitted to the OCC regarding its proposal and from entities not regulated by the Board, and finalize a rule with conformance periods consistent with the OCC’s final rule. In addition, commenters requested confirmation that modifications to contracts to comply with this rule would not trigger other regulatory requirements (e.g., margin requirements for non-cleared swaps) or impact the enforceability of QFCs. The Board has considered the comments received on this proposal, including those of entities not regulated by the Board, as well as the comments submitted to the OCC and FDIC regarding their respective proposals, and these comments and changes in the final rule are described in more detail throughout the remainder of this SUPPLEMENTARY INFORMATION. C. Overview of Final Rule The Board is adopting this final rule to improve the resolvability and resilience of GSIBs and thereby reduce threats to financial stability. The Board has made a number of changes to the proposal in response to concerns raised by commenters, as further described below. The final rule is intended to facilitate the orderly resolution of the most systemically important banking firms— the GSIBs—by limiting the ability of the firms’ counterparties to terminate QFCs upon the entry of the GSIB or one or more of its affiliates into resolution. The rule requires the inclusion of contractual restrictions on the exercise of certain default rights in those QFCs. In particular, the final rule requires the QFCs of covered entities to contain contractual provisions that opt into the VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 stay-and-transfer treatment of the FDI Act and the Dodd-Frank Act to reduce the risk that the stay-and-transfer treatment would be challenged by a QFC counterparty or a court in a foreign jurisdiction. The final rule also prohibits covered entities from entering into QFCs that contain cross-default rights, subject to certain creditor protection exceptions that would not be expected to interfere with an orderly resolution. The final rule also facilitates the implementation of the Universal Protocol, which can extend, through contractual agreement, the application of the resolution frameworks of the FDI Act and the Dodd-Frank Act to all QFCs entered into by a GSIB and its subsidiaries, including QFCs entered into by covered entities outside of the United States, and establishes restrictions on cross-default rights that are similar to those in the final rule. The final rule is necessary to implement the Universal Protocol provisions regarding the resolution of a GSIB under the U.S. Bankruptcy Code, as these provisions do not become effective until implemented by U.S. regulations. To support further adherence to the Universal Protocol, the final rule creates a safe harbor allowing covered entities to sign up to the Universal Protocol and thereby amend their QFCs pursuant to the Universal Protocol as an alternative to implementing the restrictions of the final rule on a counterparty-bycounterparty basis. In addition, the final rule provides that covered QFCs amended pursuant to adherence of a covered entity to a new protocol (the ‘‘U.S. Protocol’’) would be deemed to conform to the requirements of the final rule. The U.S. Protocol may differ from the Universal Protocol in the certain respects discussed below, but otherwise must be substantively identical to the Universal Protocol. The final rule requires covered entities to conform certain covered QFCs to the requirements of the final rule on the first day of the first calendar quarter that begins a year after issuance of the final rule (first compliance date) and phases in conformance requirements with respect to all covered QFCs over a two-year period depending on the type of counterparty. As explained below, a covered entity generally is required to conform preexisting QFCs only if the covered entity or an affiliate of the covered entity enters into a new QFC with the same counterparty or a consolidated affiliate of the counterparty on or after the first compliance date. PO 00000 Frm 00009 Fmt 4701 Sfmt 4700 42889 1. Covered Entities The final rule continues to apply to ‘‘covered entities,’’ which generally are U.S. GSIBs and their subsidiaries and the U.S. operations of foreign GSIBs. ‘‘Subsidiary’’ continues to be defined in the final rule by reference to BHC Act control. Because the FDIC and OCC are expected to finalize substantively identical final rules to that of the Board, the definition of ‘‘covered entity’’ in the final rule excludes state savings associations and state nonmember banks (FSIs), which are supervised by the FDIC, and GSIB subsidiaries (e.g., national banks), U.S. branches, and U.S. agencies that are supervised by the OCC. The final rule refers to FSIs and entities supervised by the OCC (e.g., national banks) that would be covered entities but for this exclusion as ‘‘excluded banks.’’ 50 As discussed below, certain other types of GSIB subsidiaries, such as merchant banking portfolio companies, are also excluded from the final rule. 2. Covered Qualified Financial Contracts The final rule, like the proposal, defines ‘‘qualified financial contract’’ or ‘‘QFC’’ to have the same meaning as in section 210(c)(8)(D) of the Dodd-Frank Act 51 and would include, among other things, derivatives, repos, and securities lending agreements.52 Subject to the exceptions discussed below, the final rule’s requirements apply to any QFC to which a covered entity is party (covered QFC). The final rule makes clear that covered entities do not need to conform QFCs that have no transfer restrictions, direct default rights, or cross-default rights, as these QFCs have no provisions that the rule is intended to address.53 The final rule also excludes retail investment advisory agreements and certain existing warrants.54 It also provides the Board with authority to exempt one or more covered entities from conforming certain contracts or types of contracts to the requirements of the final rule after considering, in addition to any other factor the Board deems relevant, the burden the exemption would relieve and the potential impact of the exemption on the resolvability of the covered entity or its affiliates.55 The final rule also makes clear that a covered entity must conform existing 50 See final rule § 252.81 for definitions of ‘‘excluded bank’’ and ‘‘FSI.’’ See also 12 U.S.C. 1813. 51 12 U.S.C. 5390(c)(8)(D). 52 See final rule § 252.81; proposed rule § 252.81. 53 See final rule § 252.84(a). 54 See final rule § 252.88(c). 55 See final rule § 252.88(d). E:\FR\FM\12SER2.SGM 12SER2 42890 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations QFCs with a counterparty if the GSIB group (i.e., the covered entity or its affiliates that are covered entities or excluded banks) enters into a new QFC with that counterparty or its affiliate, defined by reference to financial consolidation principles. In particular, the final rule provides that a covered QFC includes a QFC that the covered entity entered, executed, or otherwise became a party to before the first compliance date of this final rule if the covered entity or any affiliate that is a covered entity or excluded bank also enters, executes, or otherwise becomes a party to a QFC with the same person or a consolidated affiliate of that person on or after the first compliance date.56 ‘‘Consolidated affiliate’’ is a defined term in the final rule that is defined by reference to financial consolidation principles.57 3. Required Contractual Provisions Related to the U.S. Special Resolution Regimes Under the final rule, covered entities are required to ensure that covered QFCs include contractual terms explicitly providing that any default rights or restrictions on the transfer of the QFC are limited to the same extent as they would be pursuant to the U.S. Special Resolution Regimes.58 However, any covered QFC that is governed under U.S. law and involves only parties (other than the covered entity) that are domiciled in, incorporated in, organized under, or whose principal place of business is located in the United States, including any state, or that is a U.S. branch or agency (U.S. counterparties) is also excluded from the requirements of the final rule relating to Title II of the Dodd-Frank Act and the FDI Act because it is sufficiently clear that the stay-and-transfer provisions of those acts would be enforceable.59 mstockstill on DSK30JT082PROD with RULES2 4. Prohibited Cross-Default Rights Under the final rule, a covered entity is prohibited from entering into covered QFCs that would allow the exercise of cross-default rights—that is, default rights related, directly or indirectly, to the entry into resolution of an affiliate of the direct party—against it.60 Covered entities are similarly prohibited from entering into covered QFCs that would restrict the transfer of a credit enhancement supporting the QFC from the covered entity’s affiliate to a final rule § 252.82(c). final rule § 252.81. 58 See final rule § 252.83. 59 See final rule § 252.83(a). 60 See final rule § 252.84(b). transferee upon the entry into resolution of the affiliate.61 The final rule does not prohibit covered entities from entering into QFCs that provide their counterparties with direct default rights against the covered entity. Under the final rule, a covered entity may be party to a QFC that, to the extent not inconsistent with Title II or the FDI Act, provides the counterparty with the right to terminate the QFC if the covered entity fails to perform its obligations under the QFC. liquidity rules to help ensure that the regulatory capital and liquidity treatment of QFCs to which a covered entity is party is not affected by the proposed restrictions on such QFCs. Specifically, the final rule amends the definition of ‘‘qualifying master netting agreement’’ in the Board’s regulatory capital and liquidity rules and similarly amends the definitions of the terms ‘‘collateral agreement,’’ ‘‘eligible margin loan,’’ and ‘‘repo-style transaction’’ in the Board’s regulatory capital rules. 5. Industry-Developed Protocol D. Consultation With U.S. Financial Regulators, the Council, and Foreign Authorities As an alternative to bringing their covered QFCs into compliance with the requirements of the final rule, the final rule allows covered entities to comply with the rule by adhering to the Universal Protocol.62 The final rule also permits compliance with the final rule through adherence to a new protocol (the U.S. Protocol) that is the same as the existing Universal Protocol but for minor changes intended to encourage a broader range of QFC counterparties to adhere only with respect to covered entities and excluded banks. The Universal Protocol and the U.S. Protocol differ from the requirements of this final rule in certain respects. Nevertheless, as described in greater detail below, the final rule allows compliance through adherence to these protocols in light of the fact that the protocols contain certain desirable features that the final rule lacks and produce outcomes substantially similar to this final rule. 6. Process for Approval of Enhanced Creditor Protection Conditions The final rule also allows the Board, at the request of a covered entity, to approve as compliant with the final rule covered QFCs with creditor protections other than those that would otherwise be permitted under section 252.84 of the final rule.63 The Board could approve such a request if, in light of several enumerated considerations, the alternative approach would prevent or mitigate risks to the financial stability of the United States presented by a GSIB’s failure and would protect the safety and soundness of bank holding companies and state member banks to at least the same extent as the final rule’s requirements.64 7. Amendments to Certain Definitions in the Board’s Capital and Liquidity Rules The final rule also amends certain definitions in the Board’s capital and 56 See 57 See VerDate Sep<11>2014 17:13 Sep 11, 2017 61 See id. final rule § 252.85(a). 63 See final rule § 252.85(c). 64 See final rule § 252.85(c)–(d). 62 See Jkt 241001 PO 00000 Frm 00010 Fmt 4701 Sfmt 4700 In developing this final rule, the Board consulted with the FDIC, the OCC, and the Financial Stability Oversight Council (Council).65 The final rule reflects input received by the Board during this consultation process. Furthermore, the Board has consulted with, and expects to continue to consult with, foreign financial regulatory authorities regarding this final rule and the establishment of other standards that would maximize the prospects for the cooperative and orderly cross-border resolution of a failed GSIB on an international basis.66 The OCC is expected to finalize a rulemaking that would subject national banks, Federal savings associations, Federal branches, and Federal agencies of GSIBs to requirements substantively identical to those proposed here for covered entities. Similarly, the FDIC is expected to finalize a rulemaking that would subject state nonmember bank and state savings association subsidiaries of GSIBs to requirements substantively identical to those proposed here for covered entities. The Board has consulted with the OCC and FDIC in the development of their respective final rules. The banking agencies have endeavored to harmonize their respective rules to the extent possible and to provide specificity and clarity in the final rule to minimize the possibility of conflicting interpretations or uncertainty in their application. Moreover, the banking agencies intend to consult with each other and coordinate as needed regarding implementation of the final rule. 65 One commenter also requested that the Board consult with other agencies with entities under their jurisdiction affected by the final rule. Several commenters requested that the Board consult with the OCC in developing its final rule and coordinate its final rule with that of the OCC. Board staff has consulted with the Council as well as the FDIC and OCC in developing this final rule. 66 Certain commenters also requested that the Board consult with foreign regulatory authorities in developing its final rule. E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations II. Restrictions on QFCs of GSIBs mstockstill on DSK30JT082PROD with RULES2 A. Covered Entities (Section 252.82(b) of the Final Rule) The proposed rule applied to ‘‘covered entities,’’ which included (a) any U.S. GSIB top-tier bank holding company, (b) any subsidiary of such a bank holding company that is not a ‘‘covered bank,’’ and (c) the U.S. operations of any foreign GSIB, with the exception of any ‘‘covered bank.’’ In the proposal, the term ‘‘covered bank’’ was defined to include certain entities, such as certain national banks, that are supervised by the OCC. Covered banks would have been exempt from the requirements of the proposal because the OCC was expected to issue a proposed rule that would impose substantively identical requirements on covered banks.67 Commenters supported this exemption for QFCs of covered banks on the basis that these banks should not have to comply with two sets of rules.68 Under the proposal, covered entities included the entities identified as U.S. GSIB top-tier holding companies under the Board’s GSIB surcharge rule 69 as well as all subsidiaries of U.S. GSIBs (other than covered banks, as defined in the proposal).70 The definition of ‘‘subsidiary’’ under the proposal included any company that is owned or controlled directly or indirectly by another company, where the term ‘‘control’’ was defined by reference to the BHC Act.71 The BHC Act definition of control includes ownership, control or the power to vote 25 percent of any class of voting securities; control in any manner of the election of a majority of the directors or trustees; or exercise of a controlling influence over the management or policies.72 A few commenters urged the Board not to expand the scope of covered entity to include non-GSIBs, arguing 67 Section 252.88 of the Board’s proposal also clarified that covered entities would not be required to conform covered QFCs with respect to a part of a covered QFC that a covered bank also would be required to conform under the proposed rule that the OCC subsequently issued. 68 Commenters requested further clarification on the interaction between the final rules of the Board and the OCC to avoid legal uncertainty. As noted above, the OCC and FDIC are expected to finalize rules that are substantively identical to this final rule, and the banking agencies are expected to coordinate in the interpretation of the rules. Section 252.88(b) of the final rule, which addresses potential overlap between the agencies’ final rules, has been clarified in response to commenters’ requests. Section 252.88(b) is discussed in more detail below. 69 12 CFR 217.402. See also 80 FR 49082 (Aug. 14, 2015). 70 See proposed rule § 252.82(a)(1). 71 See 12 CFR 252.2. 72 See 12 U.S.C. 1841(a). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 that such an expansion would exceed the Board’s statutory authority under the Dodd-Frank Act. The Board is not including non-GSIBs as covered entities in its final rule. A number of commenters urged the Board to move to a financial consolidation standard to define a ‘‘subsidiary’’ of a covered entity instead of BHC Act control.73 These commenters argued that, under Generally Accepted Accounting Principles, a company generally would consolidate an entity in which it holds a majority voting interest or over which it has the power to direct the most significant economic activities, to the extent it also holds a variable interest in the entity. In addition, commenters pointed out that financially consolidated subsidiaries are often subject to operational control and generally fully integrated into the parent’s enterprise-wide governance, policies, procedures, control frameworks, business strategies, information technology systems, and management systems. These commenters pointed out that the concept of BHC Act control was designed to serve other policy purposes (e.g., separation between banking and commercial activities). A number of commenters argued that BHC Act control may include an entity that is not under the day-to-day operational control of the GSIB and over whom the GSIB does not have the practical ability to require remediation of that entity’s QFCs to comply with the proposed rule. Moreover, commenters contended that entities that are not consolidated with a GSIB for financial reporting purposes are unlikely to raise the types of concerns for the orderly resolution of GSIBs targeted by the proposal. Commenters also noted that the ISDA master agreements and the Universal Protocol define ‘‘affiliate’’ by reference to ownership of a majority of the voting power of an entity or person. For these reasons, commenters urged the Board to define the term ‘‘subsidiary’’ of a covered entity based on financial consolidation under the final rule. Commenters urged that, regardless of whether a financial consolidation standard is adopted for the purpose of defining ‘‘subsidiary,’’ the final rule should exclude from the definition of ‘‘covered entity’’ entities over which the covered entity does not exercise operational control, such as merchant 73 Commenters generally expressed a similar view with respect to the definition of ‘‘affiliate’’ of a covered entity as the term is used in sections 252.83 and 84 of the proposed rule. That term which was similarly defined by reference to BHC Act control under the proposal. PO 00000 Frm 00011 Fmt 4701 Sfmt 4700 42891 banking portfolio companies, section 2(h)(2) companies, joint ventures, sponsored funds as distinct from their sponsors or investment advisors, securitization vehicles, entities in which the covered entity holds only a minority interest and does not exert a controlling influence, and subsidiaries held pursuant to provisions for debt previously contracted in good faith (DPC subsidiaries).74 With respect to merchant banking authority, which allows a financial holding company to make a majority or minority investment in a portfolio company that is engaged in activity that is not financial in nature, certain commenters noted that section 4(k) of the BHC Act prohibits the financial holding company from routinely managing or operating the portfolio company except as may be necessary or required to obtain a reasonable return on investment upon resale or other disposition of the portfolio company.75 Regarding sponsored funds, commenters argued that each sponsored or advised fund is a separate legal entity that is distinct from its sponsor or investment advisor regardless of whether the fund is consolidated and that the sponsor or advisor has no claim on the fund’s assets and may not use the fund’s assets for its benefit. In terms of foreign GSIBs, certain commenters argued that foreign banking organization (FBO) subsidiaries for which the FBO has been given special relief by Board order not to hold the subsidiary under an intermediate holding company should not be included in the definition of covered entity, even if such entities would be consolidated under financial consolidation principles.76 These commenters argued that, since neither the covered entity nor the foreign GSIB parent would provide credit support to these entities or name such entities in a cross-default provision in a QFC or related agreement, the failure of any of these types of entities would be unlikely to affect QFCs entered into by the covered entity or any other affiliate. These commenters further noted that the few such requests that have been granted by the Board often involved situations in which the FBO did not have sufficient operational control over the entity to ensure its compliance. Commenters also requested that U.S. 74 See, e.g., 12 U.S.C. 1842(a)(A)(ii), 1843(c)(2); 12 CFR 225.12(b), 225.22(d)(1). 75 12 U.S.C. 1843(k)(4)(H)(iv); 12 CFR 225.171(a). 76 Board orders granting requests from FBOs for such treatment can be found at Regulation YY Foreign Banking Organization Requests, https:// www.federalreserve.gov/supervisionreg/regulationyy-foreign-banking-organization-requests.htm. E:\FR\FM\12SER2.SGM 12SER2 42892 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 branches and agencies of FBOs be excluded from the definition of ‘‘covered entity’’ and ‘‘U.S. operations’’ of foreign GSIBs where the foreign GSIB’s home country legal framework meets the objectives of the final rule. These commenters argued that the requirements of the final rule would be duplicative of requirements on a foreign GSIB’s U.S. branches and agencies if those entities’ QFCs are already subject to existing and substantially equivalent resolution powers in the home country, without a proportionate incremental benefit to their resolvability or reduction in risk to U.S. financial stability.77 Under the final rule, a ‘‘covered entity’’ is generally (a) any U.S. GSIB top-tier bank holding company; (b) any subsidiary of such a company that is not a national bank, Federal savings association, Federal branch, Federal agency, or FSI; and (c) the U.S. operations of any foreign GSIB that is not a national bank, Federal savings association, Federal branch, Federal agency, or FSI, with certain specified exceptions.78 ‘‘FSI’’ is defined to include state nonmember banks and state savings associations, which are supervised by the FDIC.79 National banks, Federal savings associations, Federal branches, Federal agencies, and FSIs that are exempt from the final rule are ‘‘excluded banks’’ under the final rule.80 Excluded banks are exempt from the requirements of this final rule because the OCC and FDIC are expected to issue final rules that would impose substantively identical requirements on excluded banks in the near future.81 77 In the alternative, these commenters requested that the requirements only apply to U.S. branches of foreign GSIBs insofar as the home resolution regime and group resolution strategy would not adequately ensure that early termination rights, including cross-default rights against the U.S. IHC or subsidiaries, will not be triggered in resolution. 78 See final rule § 252.82(b). 79 The terms ‘‘state non-member bank’’ and ‘‘state savings association’’ are defined in the final rule by reference to section 3 of the Federal Deposit Insurance Act, 12 U.S.C. 1813. See final rule § 252.81. 80 See final rule § 252.81. However, excluded banks do not include subsidiaries of a GSIB that are DPC subsidiaries or portfolio companies owned under the Small Business Investment Act of 1956, or public welfare investments. 81 Section 252.88(b) of the final rule, like the proposal, clarifies that covered entities are not required to conform covered QFCs with respect to a part of a covered QFC that an excluded bank also would be required to conform under the final rules that the OCC and FDIC are expected to issue. Such overlap could occur, for example, where a bank holding company that is a covered entity provides, as part of a master agreement governing swaps, a guaranty for a swap between a subsidiary that is an excluded bank and the excluded bank’s counterparty. See also 12 U.S.C 5390(c)(8)(D)(vi)(V), (viii). As requested by commenters, this provision VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 U.S. GSIB bank holding companies. As in the proposal, covered entities include the entities identified as U.S. GSIB top-tier holding companies under the Board’s GSIB surcharge rule.82 Under the GSIB surcharge rule, a U.S. top-tier bank holding company subject to the advanced approaches rule 83 must determine whether it is a GSIB by applying a multifactor methodology established by the Board.84 The methodology evaluates a banking organization’s systemic importance on the basis of its attributes in five broad categories: Size, interconnectedness, cross-jurisdictional activity, substitutability, and complexity.85 Accordingly, the methodology provides a tool for identifying those banking organizations whose failure or material distress would pose especially large risks to the financial stability of the United States. Improving the orderly resolution and resolvability of such firms, including by reducing risks associated with their QFCs, would be an important step toward achieving the goals of the Dodd-Frank Act. The final rule’s focus on GSIBs is also in keeping with the Dodd-Frank Act’s mandate that more stringent prudential standards be applied to the most systemically important bank holding companies.86 Moreover, several of the attributes that feed into the determination of whether a given firm is a GSIB incorporate aspects of the firm’s QFC activity. These attributes include the firm’s total exposures, its intra-financial system assets and liabilities, its notional amount of over-the-counter derivatives, and its cross-jurisdictional claims and liabilities. Under the GSIB surcharge rule’s methodology, there are currently eight U.S. GSIBs: Bank of America Corporation, The Bank of New York Mellon Corporation, Citigroup Inc., Goldman Sachs Group, Inc., JPMorgan Chase & Co., Morgan Stanley Inc., State Street Corporation, and Wells Fargo & Company. This list may change in the future in light of changes to the relevant attributes of the current U.S. GSIBs and of other large U.S. bank holding companies. U.S. GSIB subsidiaries. Covered entities also include all subsidiaries of the U.S. GSIBs (other than excluded banks and the exceptions described below).87 U.S. GSIBs generally enter in the final rule has been revised to further clarify its application. 82 See final rule § 252.82(b)(1); 12 CFR 217.402. 83 12 CFR part 217, subpart E. 84 12 CFR 217.402, 217.404. 85 12 CFR 217.404. 86 12 U.S.C. 5365(a)(1)(B). 87 See final rule § 252.82(b)(2). PO 00000 Frm 00012 Fmt 4701 Sfmt 4700 into QFCs through subsidiary legal entities rather than through the top-tier holding company.88 Therefore, in order to increase GSIB resilience and resolvability by addressing the potential obstacles to orderly resolution posed by QFCs, it is necessary to apply the restrictions to the U.S. GSIBs’ subsidiaries. In particular, to facilitate the resolution of a GSIB under an SPOE strategy, in which only the top-tier holding company would enter a resolution proceeding while its subsidiaries would continue to meet their financial obligations, or an MPOE strategy where an affiliate of an entity that is otherwise performing under a QFC enters resolution, it is necessary to ensure that those subsidiaries or affiliates do not enter into QFCs that contain cross-default rights that the counterparty could exercise based on the holding company’s or an affiliate’s entry into resolution (or that any such cross-default rights are stayed when the holding company enters resolution). Moreover, including U.S. and non-U.S. entities of a U.S. GSIB as covered entities should help ensure that such cross-default rights do not affect the ability of performing and solvent entities of a GSIB—regardless of jurisdiction—to remain outside of resolution proceedings. ‘‘Subsidiary’’ in the final rule continues to be defined by reference to BHC Act control, as does the definition of ‘‘affiliate.’’ 89 The final rule does not define covered entities to include only those subsidiaries of GSIBs that are financially consolidated, as requested by certain commenters. Defining ‘‘subsidiary’’ and ‘‘affiliate’’ by reference to BHC Act control is consistent with the definitions of those terms in the FDI Act and Title II of the Dodd-Frank Act. Specifically, Title II permits the FDIC, as receiver of a covered financial company or as receiver for its subsidiary, to enforce QFCs and other contracts of subsidiaries and affiliates, defined by reference to the BHC Act, notwithstanding cross-default rights based solely on the insolvency, financial condition, or receivership of the covered financial company.90 Therefore, maintaining consistent definitions of subsidiary and affiliate with Title II should better ensure that QFC stays may be effected in resolution under a U.S. Special Resolution Regime. As covered entities are subject to the activity 88 Under the clean holding company component of the Board’s recent TLAC final rule, the top-tier holding companies of U.S. GSIBs would be prohibited from entering into direct QFCs with third parties. See 82 FR 8266, 8298 (Jan. 24, 2017). 89 See 12 CFR 252.2. 90 12 U.S.C. 5390(c)(16). E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 restrictions and other requirements of the BHC Act, they should already know all of their BHC Act-controlled subsidiaries and be familiar with BHC Act control principles.91 Moreover, GSIBs should be able to rely on governance rights and other negotiated mechanisms to ensure that such subsidiaries conform their QFCs to the final rule’s requirements. The final rule excludes from the scope of covered entity DPC subsidiaries and merchant banking portfolio companies, as requested by certain commenters. The final rule also excludes portfolio companies held under section 4(k)(4)(I) of the BHC Act, which is an investment authority for insurance companies that is similar to merchant banking authority; portfolio companies held under the Small Business Investment Act of 1956; and certain companies engaged in the business of making public welfare investments.92 In general, subsidiaries held under these authorities are temporary, and there are legal restrictions and other limitations on the involvement of the GSIB in the operations of these kinds of subsidiaries. Moreover, it is unlikely that the resolution of a GSIB would cause the disorderly unwind of the QFCs of these subsidiaries in a manner that would impair the orderly resolution of the GSIB. Therefore, the impact of these exclusions should be relatively small while responding to commenter concerns and reducing burden. U.S. operations of foreign GSIBs. Finally, covered entities include almost all U.S. operations of foreign GSIBs— their U.S. subsidiaries, U.S. branches, 91 For example, a covered entity may own more than 5 percent (and less than 25 percent) of the voting shares of a registered investment company for which the covered entity provides investment advisory, administrative, and other services, and has a number of director and officer interlocks, without controlling the fund for purposes of the BHC Act. See letter to H. Rodgin Cohen, Esq., Sullivan & Cromwell (First Union Corp.), from Jennifer J. Johnson, Secretary, Board of Governors of the Federal Reserve System (June 24, 1999) (finding that a bank holding company does not control a mutual fund for which it provides investment advisory and other services and that complies with the limitations of section 4(c)(7) of the BHC Act (12 U.S.C. 1843(c)(7)), so long as (i) the bank holding company reduces its interest in the fund to less than 25 percent of the fund’s voting shares after a six-month period, and (ii) a majority of the fund’s directors are independent of the bank holding company and the bank holding company cannot select a majority of the board); see also 12 CFR 225.86(b)(3) (authorizing a financial holding company to organize, sponsor, and manage a mutual fund so long as (i) the fund does not exercise managerial control over the entities in which the fund invests, and (ii) the financial holding company reduces its ownership in the fund, if any, to less than 25 percent of the equity of the fund within one year of sponsoring the fund or such additional period as the Board permits). 92 See final rule § 252.82(b). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 and U.S. agencies that are not national banks, Federal savings associations, Federal branches, Federal agencies, or FSIs. The term ‘‘global systemically important foreign banking organization’’ (which this preamble shortens to ‘‘foreign GSIB’’) is defined to include any FBO that it or the Board determines has the characteristics of a GSIB under the methodology for identifying GSIBs adopted by the Basel Committee on Banking Supervision (global methodology).93 Foreign GSIB also is defined to include a foreign banking organization or U.S. intermediate holding company required to be formed by the Board’s Regulation YY (IHC) that the Board determines would be designated as a GSIB under the Board’s GSIB surcharge rule if the entity were subject to the rule.94 As discussed above, the Board’s GSIB surcharge rule identifies the most systemically important banking organizations on the basis of their attributes in the categories of size, interconnectedness, cross-jurisdictional activity, substitutability, and complexity. While the GSIB surcharge rule applies only to U.S. bank holding companies, its methodology is equally 93 See final rule § 252.87(a). The Basel Committee on Banking Supervision (BCBS) is a committee of bank supervisory authorities established by the central bank governors of the Group of Ten countries in 1975. The committee’s membership consists of senior representatives of bank supervisory authorities and central banks from Argentina, Australia, Belgium, Brazil, Canada, China, France, Germany, Hong Kong SAR, India, Indonesia, Italy, Japan, Korea, Luxembourg, Mexico, the Netherlands, Russia, Saudi Arabia, Singapore, South Africa, Spain, Sweden, Switzerland, Turkey, the United Kingdom, and the United States. In 2011, the BCBS adopted the global methodology to identify global systemically important banking organizations and assess their systemic importance. See ‘‘Global systemically important banks: Assessment methodology and the additional loss absorbency requirement,’’ (Nov. 2011), http:// www.bis.org/publ/bcbs207.htm. In 2013, the BCBS published a revised document, which provides certain revisions and clarifications to the global methodology. See ‘‘Global systemically important banks: Updated assessment methodology and the higher loss absorbency requirement,’’ (July 2013), http://www.bis.org/publ/bcbs255.htm. In November 2016, the FSB and the BCBS published an updated list of banking organizations that are GSIBs under the assessment methodology. The list includes the eight U.S. GSIBs and the following 22 foreign banking organizations: Agricultural Bank of China, Bank of China, Barclays, BNP Paribas, China Construction Bank, Credit Suisse, Deutsche Bank, Groupe BPCE, ´ Groupe Credit Agricole, Industrial and Commercial Bank of China Limited, HSBC, ING Bank, Mitsubishi UFJ FG, Mizuho FG, Nordea, Royal Bank ´ ´ ´ ´ of Scotland, Santander, Societe Generale, Standard Chartered, Sumitomo Mitsui FG, UBS, and Unicredit Group. See FSB, ‘‘2016 update of list of global systemically important banks’’ (November 21, 2016), http://www.fsb.org/wp-content/uploads/ 2016-list-of-global-systemically-important-banks-GSIBs.pdf. 94 See final rule § 252.87(a). PO 00000 Frm 00013 Fmt 4701 Sfmt 4700 42893 well-suited to evaluating the systemic importance of foreign banking organizations. The global methodology generally evaluates the same attributes and would identify the same set of GSIBs as the Board’s methodology. Moreover, the use of the GSIB surcharge rule to identify both foreign GSIBs and U.S. GSIBs promotes a level playing field between U.S. and foreign banking organizations. The proposal would have required a top-tier foreign banking organization that is, or controls, a covered company under the Board’s resolution plan rule (Regulation QQ) to submit by January 1 of each calendar year a notice of whether its home country supervisor (or other appropriate home country authority) has adopted standards consistent with the global methodology; whether the foreign banking organization prepares or reports the indicators used by the global methodology to identify GSIBs; and, if it does, whether the foreign banking organization has determined that it has the characteristics of a GSIB.95 In order to reduce burden, the notice requirement of the final rule only applies to foreign banking organizations that determine that they have the characteristics of a GSIB.96 The first notice required under this provision of the final rule is due January 1, 2018.97 As with U.S. GSIBs, the final rule’s focus on those foreign banking organizations that qualify as GSIBs is in keeping with the Dodd-Frank Act’s mandate that more stringent prudential standards be applied to the most systemically important banking organizations.98 The final rule, like the proposal, covers only the U.S. operations of foreign GSIBs. Like the proposal, the final rule excludes section 2(h)(2) companies 99 and DPC branch 95 See proposed rule § 252.87(b). final rule § 252.87(b). Like the proposal, the final rule requires top-tier foreign banking organizations that are or control covered companies under Regulation QQ and that prepare or report the indicator amounts necessary to determine whether the organization is a GSIB to use the data to determine whether the organization has the characteristics of a GSIB. See id. at § 252.87(c). 97 The final rule makes clear that foreign banking organizations that are subject to similar notice and determination requirements under the Board’s TLAC rule (12 CFR 252.153(b)(5)–(b)(6)) may comply with the final rule by complying with the similar requirements in the Board’s TLAC rule. See id. at § 252.87(d). 98 12 U.S.C. 5365(a)(1)(B). 99 Section 2(h)(2) of the BHC Act provides that the activity and ownership restrictions of section 4 of the BHC Act do not apply to shares of any company organized under the laws of a foreign country (or to shares held by such company in any company engaged in the same general line of business as the investor company or in a business related to the 96 See E:\FR\FM\12SER2.SGM Continued 12SER2 42894 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations subsidiaries, which are also types of entities excluded by regulation from being held under an IHC.100 To provide the same treatment for foreign GSIBs and U.S. GSIBs, the final rule also excludes DPC subsidiaries, merchant banking portfolio companies, portfolio companies held under section 4(k)(4)(I) of the BHC Act, portfolio companies held under the Small Business Investment Act of 1956, and public welfare investments of foreign GSIBs.101 The final rule does not exempt U.S. branches and agencies of foreign GSIBs or U.S. subsidiaries of foreign GSIBs that are not held under an IHC pursuant to a Board order, as requested by certain commenters. The exemptions by Board order were provided in the context of another rule, and the same considerations do not apply in the context of this final rule as these subsidiaries could impact the resolvability of the U.S. operations of a foreign GSIB.102 As with the coverage of subsidiaries of U.S. GSIBs, coverage of the U.S. operations of foreign GSIBs will enhance the prospects for an orderly resolution of the foreign GSIB and its U.S. operations. In particular, covering QFCs that involve any U.S. subsidiary, U.S. branch, or U.S. agency of a foreign GSIB will reduce the potentially disruptive cancellation of those QFCs if the foreign GSIB or any of its subsidiaries enters resolution, including resolution under the U.S. Bankruptcy Code or the U.S. Special Resolution Regimes.103 mstockstill on DSK30JT082PROD with RULES2 B. Covered QFCs (Section 252.82(c) of the Final Rule) General definition. The proposal applied to any ‘‘covered QFC,’’ generally defined as any QFC that a covered entity enters into, executes, or otherwise becomes party to with the person or an affiliate of the same person.104 Under the proposal, business of the investor company) that is principally engaged in business outside the United States if such shares are held or acquired by a bank holding company organized under the laws of a foreign country that is principally engaged in the banking business outside the United States. 12 U.S.C. 1841(h)(2). As with the similar exclusion to the Board’s U.S. IHC requirement (12 CFR 252.153(b)(1)), the Board has taken into account the nonfinancial activities and affiliations of a foreign banking organization in permitting the exclusion for section 2(h)(2) companies from the final rule. Cf. 79 FR 17240 (Mar. 27, 2014). 100 12 CFR 252.2(j) and (x). 101 See final rule § 252.82(b)(3). 102 See 12 CFR 252.153(c)(1)–(2). 103 The laws and regulations imposed in non-U.S. jurisdictions that commenters noted were similar to the requirements of the proposed rule do not address resolution under U.S. insolvency or the U.S. Special Resolution Regimes. 104 See proposed rule § 252.83(a). For convenience, this preamble generally refers to ‘‘a VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 ‘‘qualified financial contract’’ or ‘‘QFC’’ was defined as in section 210(c)(8)(D) of Title II of the Dodd-Frank Act and included swaps, repo and reverse repo transactions, securities lending and borrowing transactions, commodity contracts, and forward agreements.105 The application of the rule’s requirements to a ‘‘covered QFC’’ was one of the most commented upon aspects of the proposal. Certain commenters argued that the definition of QFC in Title II of the Dodd-Frank Act was overly broad and imprecise and could include agreements that market participants may not expect to be subject to the stay-and-transfer provisions of the U.S. Special Resolution Regimes. More generally, commenters argued that the proposed definition of QFC was too broad and would capture contracts that do not present any obstacles to an orderly resolution. Commenters urged the Board to exclude a variety of types of QFCs from the requirements of the final rule. In particular, a number of commenters urged the Board to exclude QFCs that do not contain any transfer restrictions or default rights, because these types of QFCs do not give rise to the risk that counterparties will exercise their contractual rights in a manner that is inconsistent with the provisions of the U.S. Special Resolution Regimes. Commenters named several examples of contracts that fall into this category, including cash market securities transactions, certain spot FX transactions (including securities conversion transactions), retail brokerage agreements, retirement/IRA account agreements, margin agreements, options agreements, FX forward master agreements, and delivery versus payment client agreements. Commenters contended that these types of QFCs number in the millions at some firms and that remediating these contracts to include the express provisions required by the final rule would require an enormous client outreach effort that would be extremely burdensome and costly while providing no meaningful resolution benefits. For example, commenters pointed out that for certain types of transaction, such as cash securities transactions, FX spot transactions, and retail QFCs, such a requirement could require an overhaul of existing market practice and documentation that affects hundreds of thousands, if not millions, of covered entity’s QFCs’’ or ‘‘QFCs to which a covered entity is party’’ as shorthand to encompass the definition of ‘‘covered QFC.’’ 105 See proposed rule § 252.81. See also 12 U.S.C. 5390(c)(8)(D). PO 00000 Frm 00014 Fmt 4701 Sfmt 4700 transactions occurring on a daily basis and significant education of the general market. Commenters also urged the Board to exclude QFCs that do not contain any default or cross-default rights but that may contain transfer restrictions. Commenters contended that examples of these types of agreements included investment advisory account agreements with retail customers, which contain transfer restrictions as required by section 205(a)(2) of the Investment Advisers Act of 1940, but no direct default or cross-default rights; underwriting agreements; 106 and client onboarding agreements. A few commenters provided prime brokerage or margin loan agreements as examples of transactions that generally do not have default or cross-default rights but may have transfer restrictions. Another commenter also requested the exclusion of securities market transactions that generally settle in the short term, do not impose ongoing or continuing obligations on either party after settlement, and do not typically include default rights.107 In these cases, commenters contended that remediation of these agreements would be burdensome with no meaningful resolution benefits. Commenters also argued for the exclusion of a number of other types of contracts from the definition of covered QFC in the final rule. In particular, a number of commenters urged the Board to exclude contracts issued in the capital markets or related to a capital market issuance, like warrants or a certificate representing a call option, typically on a security or a basket of securities. Although warrants issued in capital markets may contain direct default and cross-default rights as well as transfer restrictions, commenters argued that remediation of outstanding warrant agreements would be difficult, if not impossible, since remediation would require the affirmative vote of a substantial number of separate voting groups of holders to amend the terms of the instruments and that obtaining such consent could be expensive due to ‘‘hold-out’’ premiums. Commenters also 106 However, certain commenters noted that underwriting, purchase, subscription, or placement agency agreements may contain rights that could be construed as cross-default rights or default rights. 107 In the alternative, the commenter requested that such securities market transactions be excluded to the extent they are cleared, processed, and settled through (or subject to the rules of) FMUs through expansion of the proposed exemption for transactions with central counterparties. This aspect of the comment is addressed in the subsequent section discussing requests for expansion of the proposed exemption for transactions with central counterparties. E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 argued that since these instruments are traded in the markets, it is not possible for an issuer to ascertain whether a particular investor in such instruments has also entered into other QFCs with the dealer or any of its affiliates (or vice versa) for purposes of complying with the proposed mechanism for remediation of existing QFCs. Commenters argued that issuers would be able to comply if the final rule’s requirements applied only on a prospective basis with respect to new issuances, since new investors could be informed of the terms of the warrant at the time of purchase and no after-thefact consent would be required, as is the case with existing outstanding warrants. Commenters expressed the view that prospective application of the final rule’s requirements to warrants would allow time for firms to develop new warrant agreements and warrant certificates, to engage in client outreach efforts, and to make any appropriate public disclosures. Commenters suggested that the requirements of the final rule should only apply to such instruments issued after the effective date of the final rule and that the compliance period for such new issuances be extended to allow time to establish new issuance programs that comply with the final rule’s requirements. Other examples of contracts in this category given by commenters include contracts with special purpose vehicles that are multiissuance note platforms, which commenters urged would be difficult to remediate for similar reasons to warrants other than on a prospective basis. Commenters also urged the exclusion of contracts for the purchase of commodities in the ordinary course of business (e.g., utility and gas energy supply contracts) or physical delivery commodity contracts more broadly.108 In general, commenters argued that exempting these contracts would not increase systemic risk but would help ensure the smooth operation of utilities and the physical commodities markets.109 Commenters indicated that 108 For example, some commenters urged the exclusion of all contracts requiring physical delivery between commercial entities in the course of regulatory business such as (i) contracts subject to a Federal Energy Regulatory Commission-filed tariff; (ii) contracts that are traded in markets overseen by independent system operators or regional transmission operators; (iii) retail electric contracts; (iv) contracts for storage or transportation of commodities; (v) contracts for financial services with regulated financial entities (e.g., brokerage agreements and futures account agreements); and (vi) public utility contracts. 109 One commenter also argued that utility and gas supply contracts are covered sufficiently in VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 failure to make commodity deliveries on time can result in the accrual of damages and penalties beyond the accrual of interest (e.g., demurrage and other fines in shipping) and that counterparties may not be able to obtain appropriate compensation for amendment of default rights due to the difficulty of pricing the risk associated with an operational failure due to the failure to deliver a commodity on time. Commenters also contended that agreements with power operators governed by regulatory tariffs would be difficult, if not impossible, to remediate.110 The final rule applies to any ‘‘covered QFC,’’ which generally is defined as any ‘‘in-scope QFC’’ that a covered entity enters into, executes, or to which the covered entity otherwise becomes a party.111 As under the proposal, ‘‘qualified financial contract’’ or ‘‘QFC’’ is defined in the final rule as in section 210(c)(8)(D) of Title II of the Dodd-Frank Act and includes swaps, repo and reverse repo transactions, securities lending and borrowing transactions, commodity contracts, and forward section 366 of the U.S. Bankruptcy Code. This section of the U.S. Bankruptcy Code places restrictions on the ability of a utility to ‘‘alter, refuse, or discontinue service to, or discriminate against, the trustee or the debtor solely on the basis of the commencement of a case under [the U.S. Bankruptcy Code] or that a debt owed by the debtor to such utility for service rendered before the order for relief was not paid when due.’’ 11 U.S.C. 366. The purpose and effect of section 252.84 of the final rule and section 366 of the U.S. Bankruptcy Code are different and therefore do not serve as substitutes. Section 366 of the U.S. Bankruptcy Code does not address cross-defaults or provide additional clarity regarding the application of the U.S. Special Resolution Regimes. Similarly, section 252.84 of the final rule does not prevent a covered entity from entering into a covered QFC that allows the counterparty to exercise default rights once a covered entity that is a direct party either enters bankruptcy or fails to pay or perform under the QFC. 110 One commenter also requested exclusion of overnight transactions, particularly overnight repurchase agreements, arguing that such transactions present little risk of creating negative liquidity effects and that an express exclusion for such transactions may increase the likelihood that such contracts would remain viable funding sources in times of liquidity stress. Although the final rule does not exempt overnight repo transactions, the final rule may have limited if any effect on such transactions. As described below, the final rule provides a number of exemptions that may apply to overnight repo and similar transactions. Moreover, the restrictions on default rights in section 252.84 of the final rule do not apply to any right under a contract that allows a party to terminate the contract on demand or at its option at a specified time, or from time to time, without the need to show cause. See final rule § 252.81 (defining ‘‘default right’’). Therefore, section 252.84 does not restrict the ability of QFCs, including overnight repos, to terminate at the end of the term of the contract. 111 See final rule § 252.82(c). PO 00000 Frm 00015 Fmt 4701 Sfmt 4700 42895 agreements.112 Parties that enter into contracts with covered entities have been potentially subject to the stay-andtransfer provisions of Title II of the Dodd-Frank Act since its enactment. Consistent with Title II, the final rule does not exempt QFCs involving physical commodities. However, as explained below, the final rule responds to concerns regarding the smooth operation of physical commodities end users and markets by allowing counterparties to terminate QFCs based on the failure to pay or perform. In response to concerns raised by commenters, the final rule exempts QFCs that have no transfer restrictions or default rights, as these QFCs have no provisions that the rule is intended to address. The final rule effects this exemption by limiting the scope of QFCs potentially subject to the rule to those QFCs that explicitly restrict the transfer of a QFC from a covered entity or explicitly provide default rights that may be exercised against a covered entity (in-scope QFCs).113 This change addresses a major concern raised by commenters regarding the overbreadth of the definition of ‘‘covered QFC’’ in the proposal. The change also mitigates the burden of complying with the proposed rule without undermining its purpose by not requiring covered entities to conform contracts that do not contain the types of default rights and transfer restrictions that the final rule is intended to address. The Board has declined, however, to exclude QFCs that have transfer restrictions (but no default rights or cross-default rights), as requested by certain commenters, as such QFCs would have provisions (i.e., transfer restrictions) that are subject to the requirements of the final rule and could otherwise impede the orderly resolution of a covered entity or its affiliate. The final rule provides that a covered entity is not required to conform certain investment advisory contracts described by commenters (i.e., investment advisory contracts with retail advisory customers 114 of the covered entity that only contain the transfer restrictions required by section 205(a) of the Investment Advisers Act). The final rule also exempts existing warrants evidencing a right to subscribe or to 112 See final rule § 252.81. See also 12 U.S.C. 5390(c)(8)(D). 113 See final rule § 252.82(d). 114 See final rule § 252.88(c)(1). The final rule defines retail customer or counterparty by reference to the Board’s Regulation WW. See 12 CFR 249.3; see also FR 2052a, https://www.federalreserve.gov/ reportforms/forms/FR_2052a20161231_f.pdf. Covered entities should be familiar with this definition and its application. E:\FR\FM\12SER2.SGM 12SER2 42896 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 otherwise acquire a security of a covered entity or its affiliate.115 The Board has determined to exclude these types of agreements since there is persuasive evidence that these types of contracts would be burdensome to conform and that it is unlikely that excluding such contracts from the requirements of the final rule would impair the orderly resolution of a GSIB.116 The final rule also provides the Board with authority to exempt one or more covered entities from conforming certain contracts or types of contracts to the final rule after considering, in addition to any other factor the Board deems relevant, the burden the exemption would relieve and the potential impact of the exemption on the resolvability of the covered entity or its affiliates.117 Covered entities that request that the Board exempt additional contracts from the final rule should be prepared to provide information in support of their requests. The Board expects to consult as appropriate with the FDIC and OCC during its consideration of any such request. Definition of counterparty. As noted above, the proposal applied to any ‘‘covered QFC,’’ generally defined as a QFC that a covered entity enters after the effective date and a QFC entered earlier, but only if the covered entity or its affiliate enters a new QFC with the same person or an affiliate of the same person.118 ‘‘Affiliate’’ in the proposal was defined in the same manner as under the BHC Act to mean any company that controls, is controlled by, or is under common control with another company.119 As noted above, ‘‘control’’ under the BHC Act means the power to vote 25 percent or more of any class of voting securities; control in any manner the election of a majority of the directors or trustees; or exercise of a controlling influence over the management or policies.120 Commenters argued that requiring remediation of existing QFCs of a person if the GSIB entered into a new QFC with an affiliate of the person would make compliance with the proposed rule overly burdensome.121 115 See final rule § 252.88(c)(2). Warrants issued after the effective date of the final rule are not excluded from the requirements of the final rule. 116 These exemptions are not interpretations of the definition of QFC. 117 See final rule § 252.88(d). 118 See proposed rule §§ 252.83(a), 225.84(a). 119 See 12 CFR 252.2 (defining ‘‘affiliate’’). 120 See 12 U.S.C. 1841(k). 121 One commenter believed that the burden of conforming contracts with all affiliates of a counterparty would be too great, whether defined VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 These arguments were similar to commenters’ arguments regarding the definition of ‘‘subsidiary’’ of a covered entity, which were discussed above. Commenters pointed out that this requirement would demand that the GSIB track each counterparty’s organizational structure by relying on information provided by counterparties, which would subject counterparties to enhanced tracking and reporting burdens. Commenters requested that the phrase ‘‘or affiliate of the same person’’ be deleted from the definition of covered QFC and argued that such a modification would not undermine the ultimate goals of the rule since existing QFCs with the counterparty’s affiliate would still have be remediated if the covered entity or its affiliate enters into a new QFC with that counterparty affiliate. In the alternative, commenters argued that an affiliate of a counterparty be established by reference to financial consolidation principles rather than BHC Act control, since counterparties may not be familiar with BHC Act control. Commenters argued that many counterparties are not regulated bank holding companies and would be unfamiliar with BHC Act control. Certain commenters also argued that a new QFC with one fund in a fund family should not result in other funds in the fund family being required to conform their pre-existing QFCs with the covered entity or an affiliate. The final rule’s definition of ‘‘covered QFC’’ has been modified to address the concerns raised by commenters. In particular, the final rule provides that a covered QFC includes a QFC that the covered entity entered, executed, or otherwise became a party to before January 1, 2019, if the covered entity or any affiliate that is a covered entity or excluded bank also enters, executes, or otherwise becomes a party to a QFC with the same person or a consolidated affiliate of the same person on or after January 1, 2019.122 The final rule defines ‘‘consolidated affiliate’’ by reference to financial consolidation principles.123 As commenters pointed out, counterparties will already track and monitor financially consolidated affiliates. Moreover, exposures to a nonconsolidated affiliate may be captured as a separate counterparty (e.g., when the non-consolidated affiliate enters a new QFC with the covered entity). As a consequence, modifying the coverage of in terms of BHC Act control or financial consolidation principles, even though the burden would be reduced by definition in terms of financial consolidation principles. 122 See final rule § 252.82(c). 123 See final rule § 252.81. PO 00000 Frm 00016 Fmt 4701 Sfmt 4700 affiliates in this manner addresses concerns raised by commenters regarding burden while still providing sufficient incentives to remediate existing covered QFCs. The definition of ‘‘covered QFC’’ is intended to limit the restrictions of the final rule to those financial transactions whose disorderly unwind has substantial potential to frustrate the orderly resolution of a GSIB, as discussed above. By adopting the DoddFrank Act’s definition of QFC, with the modifications described above, the final rule generally extends stay-and-transfer protections to the same types of transactions as Title II of the DoddFrank Act. In this way, the final rule enhances the prospects for an orderly resolution in bankruptcy and under the U.S. Special Resolution Regimes. Exclusion of cleared QFCs. The proposal excluded from the definition of ‘‘covered QFC’’ all QFCs that are cleared through a central counterparty (CCP).124 Commenters generally expressed support for this exclusion, but some commenters requested that the Board broaden this exclusion in the final rule. In particular, a number of commenters urged the Board to exclude the ‘‘clientfacing leg’’ of a cleared swap where a clearing member faces a CCP on one leg of the transaction and faces the client on an otherwise identical offsetting transaction.125 One commenter 124 See proposed rule § 252.88(a). argued that, in the Europeanstyle principal-to-principal clearing model, the clearing member faces the CCP on one swap (the ‘‘CCP-facing leg’’), and the clearing member, frequently a covered entity, faces the client on an otherwise identical, offsetting swap (the ‘‘clientfacing leg’’). Under the proposed rule, only the CCPfacing leg of the transaction was excluded, even though the client-facing leg is necessary to the mechanics of clearing and is only entered into by the clearing member to effectuate the cleared transaction. Commenters argued that the proposed rule thus treated two pieces of the same transaction differently, which could result in an imbalance in insolvency or resolution and that the possibility of such an imbalance for the clearing member could expose the clearing member to unnecessary and undesired market risk. Commenters urged the Board to adopt the same approach taken under Section 2 of the Universal Protocol, which allows the clientfacing leg of the cleared swap with the clearing member that is a covered entity to be closed out substantially contemporaneously with the CCPfacing leg in the event the CCP were to take action to close out the CCP-facing leg. Some commenters requested clarification that transactions between a covered entity client and its clearing member (as opposed to transactions where the covered entity is the clearing member) would be subject to the rule’s requirements, since this would be consistent with the Universal Protocol. As explained in this section, the exemption in the final rule regarding CCPs does not depend on whether the covered entity is a clearing member or a client. A covered QFC—generally a QFC to which a covered entity is a party—is exempted from the requirements of the final rule if a CCP is also a party. 125 Commenters E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 requested the Board confirm its understanding that ‘‘FCM agreements,’’ which the commenter defined as futures and cleared swaps agreements with a futures commission merchant, are excluded because FCM agreements ‘‘are only QFCs to the extent that they relate to futures and swaps and, since futures and cleared swaps are excluded, the FCM Agreements are also excluded.’’ 126 The commenter requested, in the alternative, that the final rule expressly exclude such agreements. A few commenters requested that the Board modify the definition of ‘‘central counterparty,’’ which was defined to mean ‘‘a counterparty (for example, a clearing house) that facilitates trades between counterparties in one or more financial markets by either guaranteeing trades or novating trades’’ in the proposal.127 These commenters argued that a CCP does far more than ‘‘facilitate’’ or ‘‘guarantee’’ trades and that a CCP ‘‘interposes itself between counterparties to contacts traded in one or more financial markets, becoming the buyer to every seller and the seller to every buyer and thereby ensuring the performance of open contracts.’’ 128 As an alternative definition of CCP, these commenters suggested the final rule should define central counterparty to mean: ‘‘an entity (for example, a clearinghouse or similar facility, system, or organization) that, with respect to an agreement, contract, or transaction: (i) Enables each party to the agreement contract, or transaction to substitute, through novation or otherwise, the credit of the CCP for the credit of the parties; and (ii) arranges or provides, on a multilateral basis, for the settlement or netting of obligations resulting from such agreements, contracts, or transactions executed by participants in the CCP.’’ 129 Commenters also urged the Board to exclude from the requirements of the final rule all QFCs that are cleared, processed, or settled through the facilities of an FMU, as defined in section 803(6) of the Dodd-Frank Act,130 126 Letter to Robert deV. Frierson, Secretary, Board of Governors of the Federal Reserve System, from James M. Cain, Sutherland Asbill & Brennan LLP, writing on behalf of the eleven Federal Home Loan Banks, at 2 (Aug. 5, 2016). 127 12 CFR 217.2. 128 Letter to Robert deV. Frierson, Secretary, Board of Governors of the Federal Reserve System, from Walt L. Lukken, President and CEO, Futures Industry Association, at 8–9 (Aug. 5, 2016) (citing Principles of Financial Market Infrastructures (Apr. 2012), published by the Committee on Payment and Settlement Systems and the International Organization of Securities Commissions, at 9). 129 Id. at 9. 130 12 U.S.C. 5462(6). In general, Title VIII of the Dodd-Frank Act defines ‘‘financial market utility’’ to mean any person that manages or operates a VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 or that are entered into subject to the rules of an FMU.131 For example, commenters argued that QFCs with FMUs, such as the provision of an extension of credit by a central securities depository (CSD) to a covered entity that is a member of the CSD in connection with the settlement of securities transactions, should be excluded from the requirements of the final rule. Commenters contended that, similar to CCPs, the relationship between a covered entity and FMU is governed by the rules of the FMU and that there are no market alternatives to continuing to transact with FMUs. Commenters argued that FMUs generally should be excluded for the same reasons as CCPs and that a broader exemption to cover FMUs would serve to mitigate the systemic risk of a GSIB in distress, an underlying objective of the rule’s requirements. Commenters contended that such an exclusion would be consistent with the treatment of FMUs under U.K. regulations and German law. Some commenters also requested that related or underlying agreements to CCP-cleared QFCs and QFCs entered into with other FMUs also be excluded, since such agreements ‘‘form an integrated whole with [those] QFCs’’ and such an exemption would facilitate the continued expansion of the clearing and settlement framework and the benefits of such a framework.132 One commenter urged that the final rule should not in any manner restrict an FMU’s ability to close out a defaulting clearing member’s portfolio, including potential liquidation of cleared contracts. The issues that the final rule is intended to address with respect to noncleared QFCs may also exist in the context of centrally cleared QFCs. However, clearing through a CCP provides unique benefits to the financial system while presenting unique issues related to the cancellation of cleared contracts. Accordingly, the Board continues to believe it is appropriate to exclude centrally cleared QFCs, in light of differences between cleared and noncleared QFCs with respect to contractual arrangements, counterparty credit risk, default management, and supervision. The Board has not extended the exclusion for CCPs to the client-facing leg of a cleared transaction because bilateral trades between a GSIB and a non-CCP counterparty are the types of transactions that the final rule intends to address and because nothing in the final rule would prohibit a covered entity clearing member and a client from agreeing to terminate or novate a trade to balance the clearing member’s exposure. The final rule continues to define central counterparty as a counterparty that facilitates trades between counterparties in one or more financial markets by either guaranteeing trades or novating trades, which is a broad definition that should be familiar to market participants as it is used in the regulatory capital rules.133 The final rule also makes clear that, if one or more FMUs are the only counterparties to a covered QFC, the covered entity is not required to conform the covered QFC to the final rule.134 Therefore, an FMU’s default rights and transfer restrictions under the covered QFC are not affected by the final rule. However, this exclusion would not include a covered QFC with a non-FMU counterparty, even if the QFC is settled by an FMU or if the FMU is a party to such QFC, because the final rule is intended to address default rights of non-FMU parties. For example, if two covered entities engage in a bilateral QFC that is facilitated by an FMU and, in the course of this facilitation each covered entity maintains a QFC solely with the FMU, then the final rule would not apply to each QFC between the FMU and each covered entity but the requirements of the final rule would apply to the bilateral QFC between the two covered entities. This approach ensures that QFCs that are directly with FMUs are treated in a manner similar to transactions between covered entities and CCPs, but also ensures that QFCs conducted by covered entities that are related to the direct QFC with the FMU 133 See multilateral system for the purpose of transferring, clearing, or settling payments, securities, or other financial transactions among financial institutions or between financial institutions and the person. Id. 131 As discussed above, one commenter who recommended an exclusion of securities market transactions that generally settle in the short term, do not impose ongoing or continuing obligations on either party after settlement, and do not typically include the default rights targeted by this rule, requested this treatment in the alternative. 132 Letter to Robert deV. Frierson, Secretary, Board of Governors of the Federal Reserve System, from Larry E. Thompson, Vice Chairman and General Counsel, The Depository Trust & Clearing Corporation, at 6 (Aug. 5, 2016). PO 00000 Frm 00017 Fmt 4701 Sfmt 4700 42897 final rule § 252.81. See also 12 CFR 217.2. final rule § 252.88(a)(2). In response to commenters, the final rule uses the definition of FMU in Title VIII of the Dodd-Frank Act and may apply, for purposes of the final rule, to entities regardless of jurisdiction. The definition of FMU in the final rule includes a broader set of entities, in addition to CCPs. However, the definition in the final rule does not include depository institutions that are engaged in carrying out banking-related activities, including providing custodial services for tri-party repurchase agreements. The definition also explicitly excludes certain types of entities (e.g., registered futures associations, swap data repositories) and other types of entities that perform certain functions for or related to FMUs (e.g., futures commission merchants). 134 See E:\FR\FM\12SER2.SGM 12SER2 42898 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations remain subject to the final rule’s requirements. The final rule does not explicitly exclude futures and cleared swaps agreements with a futures commission merchant, as requested by a commenter. The nature and scope of the requested exclusion is unclear, and, therefore, it is unclear whether the exclusion would be necessary, on the one hand, or overbroad, on the other hand. However, the final rule makes a number of other clarifications and exemptions that may help address the commenter’s concern regarding FCM agreements. Exclusion of certain QFCs under multi-branch master agreements of foreign banking organizations. To avoid imposing unnecessary restrictions on QFCs that are not closely connected to the United States, the proposal excluded from the definition of ‘‘covered QFC’’ certain QFCs of foreign GSIBs that lack a close connection to the foreign GSIB’s U.S. operations.135 The proposed definition of ‘‘QFC’’ included master agreements that apply to QFCs.136 Master agreements are contracts that contain general terms that the parties wish to apply to multiple transactions between them; having executed the master agreement, the parties can then include those terms in future contracts through reference to the master agreement. Moreover, the Dodd-Frank Act’s definition of ‘‘qualified financial contract,’’ which the proposal would adopt, treats master agreements for QFCs together with all supplements to the master agreement (including underlying transactions) as a single QFC.137 Foreign GSIBs have master agreements that permit transactions to be entered into both at a U.S. branch or U.S. agency of the foreign GSIB and at a non-U.S. location of the foreign GSIB (such as a foreign branch). Notwithstanding the proposal’s general treatment of a master agreement and all QFCs thereunder as a single QFC, the proposal would have excluded QFCs under such a ‘‘multi-branch master agreement’’ that are not booked at a covered entity and for which no payment or delivery may be made at a covered entity.138 Under the proposal, a 135 See proposed rule § 252.86. proposed rule § 252.81. 137 12 U.S.C. 5390(c)(8)(D)(viii); see also 12 U.S.C. 1821(e)(8)(D)(vii); 109 H. Rpt. 31, Prt. 1 (April 8, 2005) (explaining that a ‘‘master agreement for one or more securities contracts, commodity contracts, forward contracts, repurchase agreements or swap agreements will be treated as a single QFC under the FDIA or the [Federal Credit Union Act] (but only with respect to the underlying agreements are themselves QFCs)’’). 138 See proposed rule § 252.86(a). With respect to a U.S. branch or U.S. agency of a foreign GSIB, a mstockstill on DSK30JT082PROD with RULES2 136 See VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 multi-branch master agreement was a covered QFC with respect to QFC transactions that are booked at a covered entity or for which payment or delivery may be made at a covered entity. Commenters expressed support for this exclusion, but requested that the requirement exclude from the definition of covered QFC those transactions under master agreements where payment and deliveries may be made by or to the U.S. branch or agency so long as the transactions or assets are not booked in the U.S. branch or agency. These commenters argued that the ability to make payments or delivery alone does not make a QFC sufficiently closely connected to the United States to raise the concerns about resolution that the rule is intended to address. Commenters also argued that the requirement to include new contractual terms in a QFC where payment or delivery may occur in the United States would require foreign GSIBs to amend many additional QFCs booked abroad, many of which must also be amended to comply with contractual stay requirements of the foreign GSIBs’ home country regulatory regimes. Commenters argued that amending such QFCs under multibranch master agreements that are not booked in the United States would require some foreign GSIBs to amend thousands of contracts at significant cost and would impose a disproportionate burden on foreign GSIBs as compared to U.S. GSIBs. These commenters argued this would impose a significant burden on non-U.S. covered entities with no benefit to U.S. financial stability, as these QFCs would not be expected to be subject to a U.S. resolution regime. One commenter also recommended that multi-branch master agreements be treated as a single QFC, rather than requiring the application of different requirements to different transactions thereunder, so as to align the rule’s requirements with current industrystandard documentation and to avoid additional implementation hurdles and costs. The commenter recommended that the entirety of a multi-branch master agreement and underlying transactions be a covered QFC if a new QFC with the counterparty or its consolidated affiliates is booked to the U.S. branch or agency after the compliance date or if a new QFC is multi-branch master agreement that is a covered QFC solely because the master agreement permits agreements or transactions that are QFCs to be entered into at one or more U.S. branches or U.S. agencies of the foreign GSIB was considered a covered QFC for purposes of the proposal only with respect to such agreements or transactions booked at such U.S. branches and U.S. agencies or for which a payment or delivery may be made at such U.S. branches or U.S. agencies. PO 00000 Frm 00018 Fmt 4701 Sfmt 4700 entered into with an affiliate of the U.S. branch or agency that is also subject to the requirements. The final rule has been modified from the proposal to address the concerns raised by commenters. In particular, the final rule provides that, with respect to a U.S. branch or U.S. agency of a foreign GSIB, a foreign GSIB multi-branch master agreement that is a covered QFC solely because the master agreement permits agreements or transactions that are QFCs to be entered into at one or more U.S. branches or U.S. agencies of the foreign GSIB will be considered a covered QFC for purposes of this subpart only with respect to such agreements or transactions booked at such U.S. branches and U.S. agencies.139 The final rule does not provide that such an agreement will be a covered QFC solely because payment or delivery may be made at such U.S. branch or agency. These modifications will avoid imposing unnecessary restrictions on QFCs that are not closely connected to the United States and will mitigate burden and reduce costs on foreign GSIBs without undermining the purpose of the final rule. The purpose of this exclusion is to help ensure that, where a foreign GSIB has a multi-branch master agreement, the foreign GSIB will only have to conform those QFCs entered into under the multi-branch master agreement that could have the most direct effect on the covered U.S. branch or U.S. agency of the foreign GSIB and that could therefore have the most direct effect on the resolution of the foreign GSIB and the financial stability of the United States. The final rule does not, as requested by one commenter, deem the entirety of a multi-branch master agreement to be a covered QFC if a new QFC with the counterparty (or its consolidated affiliate) is booked to the covered entity or its affiliate. Many commenters supported excluding transactions from multi-branch master netting agreements that are not closely connected to the United States. In contrast to the proposal and these comments, the modification requested by this commenter would require transactions that are not booked in the United States or otherwise connected to the United States to be conformed to the requirements of the final rule. The commenter’s concerns regarding costs associated with potentially breaking netting sets may nonetheless be addressed through adherence to the Universal Protocol or the U.S. Protocol, which are discussed below. 139 See E:\FR\FM\12SER2.SGM final rule § 252.86. 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 QFCs with Central Banks and Sovereign Entities. The proposal included covered QFCs with sovereign entities and central banks, consistent with Title II of the Dodd-Frank Act and the FDI Act. Commenters urged the Board to exclude QFCs with central bank and sovereign counterparties from the final rule. Commenters argued that sovereign entities might not be willing to agree to limitations on their QFC default rights and noted that other countries’ measures, such as those of the United Kingdom and Germany, consistent with their governing laws, exclude central banks and sovereign entities. Commenters contended that central banks and sovereign entities are sensitive to financial stability concerns and resolvability goals, thus reducing the concern that they would exercise default rights in a way that would undermine resolvability of a GSIB or financial stability. Commenters indicated it was unclear whether central banks or sovereign entities would be permitted under applicable statutes to enter into QFCs with limited default rights, but did not provide specific examples of such statutes.140 Commenters further noted that these entities did not participate in the development of the Universal Protocol and that the Universal Protocol does not provide a viable mechanism for compliance with the final rule by these entities. The Board continues to believe that covering QFCs with sovereigns and central banks under the final rule is an important requirement and has not modified the final rule to address the requests made by commenters. Excluding QFCs with sovereigns and central banks would be inconsistent with Title II of the Dodd-Frank Act and the FDI Act. Moreover, the mass termination of such QFCs has the potential to undermine the resolution of a GSIB and the financial stability of the United States. The final rule provides covered entities two years to conform covered QFCs with central banks and sovereigns (as well as certain other counterparties, as discussed below). This additional time should provide covered entities sufficient time to develop separate conformance 140 These commenters argued that, to the extent central banks and sovereign entities are unable or unwilling to agree to limitations on their QFC default rights, application of the rule’s requirements to QFCs with these entities creates a significant disincentive for these entities to enter into QFCs with covered entities, resulting in the loss of valuable counterparties in a way that will hinder market liquidity and covered entity risk management. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 mechanisms for sovereigns and central banks, if necessary. C. Definition of ‘‘Default Right’’ (Section 252.81 of the Final Rule) As discussed above, a party to a QFC generally has a number of rights that it can exercise if its counterparty defaults on the QFC by failing to meet certain contractual obligations. These rights are generally, but not always, contractual in nature. One common default right is a setoff right: The right to reduce the total amount that the non-defaulting party must pay by the amount that its defaulting counterparty owes. A second common default right is the right to liquidate pledged collateral and use the proceeds to pay the defaulting party’s net obligation to the non-defaulting party. Other common rights include the ability to suspend or delay the nondefaulting party’s performance under the contract or to accelerate the obligations of the defaulting party. Finally, the non-defaulting party typically has the right to terminate the QFC, meaning that the parties would not make payments that would have been required under the QFC in the future. The phrase ‘‘default right’’ in the proposed rule was broadly defined to include these common rights as well as ‘‘any similar rights.’’ 141 Additionally, the definition included all such rights regardless of source, including rights existing under contract, statute, or common law. However, the proposed definition of default right excluded two rights that are typically associated with the business-as-usual functioning of a QFC. First, same-day netting that occurs during the life of the QFC in order to reduce the number and amount of payments each party owes the other was excluded from the definition of ‘‘default right.’’ 142 Second, contractual margin requirements that arise solely from the change in the value of the collateral or the amount of an economic exposure were also excluded from the definition.143 The reason for these exclusions was to leave such rights unaffected by the proposed rule. The proposal’s preamble explained that such exclusions were appropriate because the proposal was intended to improve resolvability by addressing default rights that could disrupt an orderly resolution, not to interrupt the parties’ business-as-usual interactions under a QFC. However, certain QFCs are also commonly subject to rights that would proposed rule § 252.81. id. 143 See id. increase the amount of collateral or margin that the defaulting party (or a guarantor) must provide upon an event of default. The financial impact of such default rights on a covered entity could be similar to the impact of the liquidation and acceleration rights discussed above. Therefore, the proposed definition of ‘‘default right’’ included such rights (with the exception discussed in the previous paragraph for margin requirements based solely on the value of collateral or the amount of an economic exposure).144 Finally, contractual rights to terminate without the need to show cause, including rights to terminate on demand and rights to terminate at contractually specified intervals, were excluded from the definition of ‘‘default right’’ under the proposal for purposes of the proposed rule’s restrictions on cross-default rights.145 This exclusion was consistent with the proposal’s objective of restricting only default rights that are related, directly or indirectly, to the entry into resolution of an affiliate of the covered entity, while leaving other default rights unrestricted. Commenters expressed support for a number of aspects of the definition of default rights. For example, a number of commenters supported the proposed exclusion from the definition of ‘‘default right’’ of contractual rights to terminate without the need to show cause, noting that such rights exist for a variety of reasons and that reliance on these rights is unlikely to result in a fire sale of assets during a GSIB resolution. At least one commenter requested that this exclusion be expanded to include force majeure events. Commenters also expressed support for the exclusion for what commenters referred to as ‘‘business-as-usual’’ payments associated with a QFC. However, these commenters requested clarification that certain ‘‘business-as-usual’’ actions would not be included in the definition of default right, such as payment netting, posting and return of collateral, procedures for the substitution of collateral and modification to the terms of the QFC, and also requested clarification that the definition of ‘‘default right’’ would not include offsetting transactions to third parties by the non-defaulting counterparty. One commenter urged that, if the Board’s goal is to provide that a party cannot enforce a provision that requires more margin because of a credit downgrade but may demand more margin for market price changes, the rule should state so explicitly. Another commenter 141 See 142 See PO 00000 Frm 00019 Fmt 4701 Sfmt 4700 42899 144 See 145 See E:\FR\FM\12SER2.SGM id. proposed rule §§ 252.81, 252.84. 12SER2 mstockstill on DSK30JT082PROD with RULES2 42900 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations expressed concern that the definition of default right in the proposal would permit a defaulting covered entity to demand collateral from its QFC counterparty as margin due to a market price change, but would not allow the non-covered entity to demand collateral from the covered entity. The final rule retains the same definition of ‘‘default right’’ as that of the proposal.146 The Board believes that the definition of default right is sufficiently clear and that additional modifications are not needed to address the concerns raised by commenters. The final rule does not adopt a particular exclusion for force majeure events, as requested by certain commenters, as it is not clear—without reference to particular contractual provisions—what this term would encompass. Moreover, it should be clear that events typically considered to be captured by force majeure clauses (e.g., natural disasters) would not be related, directly or indirectly, to the resolution of an affiliate.147 ‘‘Business-as-usual’’ rights regarding changes in collateral or margin would not be included within the definition of default right to the extent that the right or operation of a contractual provision arises solely from either a change in the value of collateral or margin or a change in the amount of an economic exposure. In response to commenters’ requests for clarification, this exception includes changes in margin due to changes in market price, but does not include changes due to counterparty credit risk (e.g., credit rating downgrades). Therefore, the right of either party to a covered QFC to require margin due to changes in market price would be unaffected by the definition of default right. Moreover, default rights that arise before a covered entity or its affiliate enter resolution and that would not be affected by the stay-and-transfer provisions of the U.S. Special Resolution Regimes also would not be affected. Regarding transactions with third parties, the final rule, like the proposal, does not require covered entities to address default rights in QFCs solely between parties that are not covered entities (e.g., off-setting transactions to third parties by the non-defaulting counterparty, to the extent none are covered entities). D. Required Contractual Provisions Related to the U.S. Special Resolution Regimes (Section 252.83 of the Final Rule) The proposed rule generally would have required a covered QFC to explicitly provide both (a) that the transfer of the QFC (and any interest or obligation in or under it and any property securing it) from the covered entity to a transferee would be effective to the same extent as it would be under the U.S. Special Resolution Regimes if the covered QFC were governed by the laws of the United States or of a state of the United States and (b) that default rights with respect to the covered QFC that could be exercised against a covered entity could be exercised to no greater extent than they could be exercised under the U.S. Special Resolution Regimes if the covered QFC were governed by the laws of the United States or of a state of the United States.148 The final rule contains these same provisions.149 A number of commenters noted that the wording of these requirements in proposed section 252.83(b) was confusing and could be read to be inconsistent with the intent of the section. In response to comments, the final rule makes clearer that the substantive restrictions apply only in the event the covered entity (or, in the case of the requirement regarding default rights, its affiliate) becomes subject to a proceeding under a U.S. Special Resolution Regime.150 A number of commenters argued that QFCs should be exempt from the requirements of proposed section 252.83 if the QFC is governed by U.S. law. An example of such a QFC provided by commenters includes the standard form repurchase and securities lending agreement published by the Securities Industry and Financial Markets Association. These commenters argued that counterparties to such agreements are already required to observe the stayand-transfer provisions of the FDI Act and Title II of the Dodd-Frank Act, as mandatory provisions of U.S. federal law, and that requiring an amendment of these types of QFCs to include the express provisions required under section 252.83 would be redundant and would not provide any material resolution benefit, but would significantly increase the remediation burden on covered entities. Other commenters proposed a threeprong test of ‘‘nexus with the United States’’ for purposes of recognizing an 148 See proposed rule § 252.83(b). final rule § 252.83(c). 150 See id. 146 See final rule § 252.81. 147 See final rule § 252.84(b). VerDate Sep<11>2014 17:13 Sep 11, 2017 149 See Jkt 241001 PO 00000 Frm 00020 Fmt 4701 Sfmt 4700 exclusion from the express acknowledgment of the requirements of proposed section 252.83. In particular, these commenters argued that the presence of two factors, in addition to the contract being governed by U.S law, would provide greater certainty that courts would apply the stay-and-transfer provisions of the FDI Act and Title II of the Dodd-Frank Act: (1) If a contract is entered into between entities organized in the United States; and (2) to the extent the GSIB’s obligations under the QFC are collateralized, if the collateral is held with a U.S. custodian or depository pursuant to an account agreement governed by U.S. law.151 Other commenters contended that only whether the contract is under U.S. law, and not the location of the counterparty or the collateral, is relevant to the analysis of whether the FDI Act and the Dodd-Frank Act would govern the contract. Commenters also requested that if the first additional factor (i.e., that the QFC be entered into between entities organized in the United States) were to be included within the exception, it should be broadened to include counterparties that have principal places of business or that are otherwise domiciled in the United States. The requirements of the final rule seek to provide certainty that all covered QFCs would be treated the same way in the context of a resolution of a covered entity under the DoddFrank Act or the FDI Act. The stay-andtransfer provisions of the U.S. Special Resolution Regimes should be enforced with respect to all contracts of any U.S. GSIB entity that enters resolution under a U.S. Special Resolution Regime, as well as all transactions of the subsidiaries of such an entity. Nonetheless, it is possible that a court in a foreign jurisdiction would decline to enforce those provisions. In general, the requirement that the effect of the statutory stay-and-transfer provisions be incorporated directly into the QFC contractually helps to ensure that a court in a foreign jurisdiction would enforce the effect of those provisions, regardless of whether the court would otherwise have decided to enforce the U.S. statutory provisions.152 Further, the knowledge that a court in a foreign 151 These commenters noted that it would be unlikely that any court interpreting a QFC governed by U.S. law could have a reasonable basis for disregarding the stay-and-transfer provisions of the FDI Act or Title II of the Dodd-Frank Act. 152 See generally Financial Stability Board, ‘‘Principles for Cross-border Effectiveness of Resolution Actions’’ (Nov. 3, 2015), http:// www.fsb.org/wp-content/uploads/Principles-forCross-border-Effectiveness-of-ResolutionActions.pdf. E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations jurisdiction would reject the purported exercise of default rights in violation of the required contractual provisions would deter covered entities’ counterparties from attempting to exercise such rights. In response to comments, the final rule exempts from the requirements of section 252.83 a covered QFC that meets two requirements.153 First, the covered QFC must state that it is governed by the laws of the United States or a state of the United States.154 It has long been clear that the laws of the United States and the laws of a state of the United States both include U.S. federal law, such as the U.S. Special Resolution Regimes.155 Therefore, this requirement ensures that contracts that meet this exemption also contain language that helps ensure that foreign courts will enforce the stay-and-transfer provisions of the U.S. Special Resolution Regimes. Second, the QFC counterparty to the covered entity must be organized under the laws of the United States or a State,156 have its principal place of business 157 located in the United States, or be a U.S. branch or agency.158 Similarly, a counterparty that is an individual must be domiciled in the United States.159 This requirement helps ensure that the FDIC will be able 153 See final rule § 252.83(a). a contract that explicitly provides that one or both of the U.S. Special Resolution Regimes, including a broader set of laws that includes a U.S. special resolution regime, is excluded from the laws governing the QFC would not meet this exemption under the final rule. For example, a covered QFC would not meet this exemption if the contract stated that it was governed by the laws of the state of New York but also stated that it was not governed by U.S. federal law. In contrast, a contract that stated that it was governed by the laws of the state of New York but opted out of a specific, non-mandatory federal law (e.g., the Federal Arbitration Act) would meet this exemption. Cf. Volt Info. Scis. v. Bd. Of Trs., 489 U.S. 468 (1989). 155 Although many QFCs only explicitly state that the contract is governed by the laws of a specific state of the United States, it has been made clear on numerous occasions that the laws of each state include federal law. See, e.g., Hauenstain v. Lynham, 100 U.S. 483, 490 (1979) (stating that federal law is ‘‘as much a part of the law of every State as its own local laws and the Constitution’’); Fid. Fed. Sav. & Loan Ass’n v. de la Cuesta, 458 U.S. 141, 157 (1982) (same); Testa v. Katt, 330 U.S. 386, 393 (1947) (‘‘For the policy of the federal Act is the prevailing policy in every state.’’). 156 For purposes of this requirement of the exemption, ‘‘State’’ means any state, commonwealth, territory, or possession of the United States, the District of Columbia, the Commonwealth of Puerto Rico, the Commonwealth of the Northern Mariana Islands, American Samoa, Guam, or the United States Virgin Islands. 12 CFR 252.2(y). 157 See Hertz Corp. v. Friend, 559 U.S. 77 (2010) (describing the appropriate test for principal place of business). 158 See final rule § 252.83(a)(1)(ii). 159 See id. mstockstill on DSK30JT082PROD with RULES2 154 However, VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 to quickly and easily enforce the stayand-transfer provisions of the U.S. Special Resolution Regimes.160 This exemption is expected to significantly reduce the burden associated with complying with the final rule while continuing to provide assurance that the stay-and-transfer provisions of the U.S. Special Resolution Regimes may be enforced. This section of the final rule is consistent with efforts by regulators in other jurisdictions to address similar risks by requiring that financial firms within their jurisdictions ensure that the effect of the similar provisions under these foreign jurisdictions’ respective special resolution regimes would be enforced by courts in other jurisdictions, including the United States. For example, the U.K.’s Prudential Regulation Authority (PRA) recently required certain financial firms to ensure that their counterparties to newly created obligations agree to be subject to stays on early termination that are similar to those that would apply upon a U.K. firm’s entry into resolution if the financial arrangements were governed by U.K. law.161 Similarly, the German parliament passed a law in November 2015 requiring German financial institutions to have provisions in financial contracts that are subject to the law of a country outside of the European Union that acknowledge the provisions regarding the temporary suspension of termination rights and accept the exercise of the powers regarding such temporary suspension under the German special resolution regime.162 Additionally, the Swiss Federal Council requires that banks 160 See, e.g., Daimler AG v. Bauman, 134 S. Ct. 746 (2014); Goodyear Dunlop Tires Operations, S.A. v. Brown, 564 U.S. 915 (2011); Hertz Corp. v. Friend, 559 U.S. 77 (2010). 161 See PRA Rulebook: CRR Firms and NonAuthorised Persons: Stay in Resolution Instrument 2015, (Nov. 12, 2015), http:// www.bankofengland.co.uk/pra/Documents/ publications/ps/2015/ps2515app1.pdf; see also Bank of England, Prudential Regulation Authority, ‘‘Contractual stays in financial contracts governed by third-country law’’ (PS25/15), (Nov. 2015), http://www.bankofengland.co.uk/pra/Documents/ publications/ps/2015/ps2515.pdf. These PRA rules apply to PRA-authorized banks, building societies, PRA-designated investment firms, and their qualifying parent undertakings, including UK financial holding companies and UK mixed financial holding companies. 162 See Gesetz zur Sanierung und Abwicklung von Instituten und Finanzgruppen, Sanierungs-und Abwicklungsgesetz [SAG] [German Act on the Reorganisation and Liquidation of Credit Institutions], Dec. 10, 2014, § 60a, https:// www.gesetze-im-internet.de/bundesrecht/sag/ gesamt.pdf, as amended by Gesetz zur Anpassung des nationalen Bankenabwicklungsrechts an den Einheitlichen Abwicklungsmechanismus und die ¨ europaischen Vorgaben zur Bankenabgabe, Nov. 2, 2015, Artikel 1(17). PO 00000 Frm 00021 Fmt 4701 Sfmt 4700 42901 ‘‘ensure at both the individual institution and group level that new agreements or amendments to existing agreements which are subject to foreign law or envisage a foreign jurisdiction are agreed only if the counterparty recognises a postponement of the termination of agreements in accordance with’’ the Swiss special resolution regime.163 Japan’s Financial Services Agency also revised its supervisory guidelines for major banks to require those banks to ensure that the effect of the statutory stay decision and statutory special creditor protections under Japanese resolution regimes extends to contracts governed by foreign laws.164 Commenters also argued that it would be more appropriate for Congress to act to obtain cross-border recognition of U.S. Special Resolution Regimes, rather than for the Board to do so through this final rule. The Board believes it is appropriate to adopt this final rule in order to promote U.S. financial stability by improving the resolvability and resilience of U.S. GSIBs and foreign GSIBs pursuant to section 165 of the Dodd-Frank Act. Because of the current risk that the stay-and-transfer provisions of U.S. Special Resolution Regimes may not be recognized under the laws of other jurisdictions, section 252.83 of the final rule requires similar contractual recognition to help ensure that courts in foreign jurisdictions will recognize these provisions. This requirement would advance the goal of the final rule of removing QFCrelated obstacles to the orderly resolution of a GSIB. As discussed above, restrictions on the exercise of QFC default rights are an important prerequisite for an orderly GSIB resolution. Congress recognized the importance of such restrictions when it enacted the stay-and-transfer provisions of the U.S. Special Resolution Regimes. As demonstrated by the 2007–2009 financial crisis, the modern financial system is global in scope, and covered entities are party to large volumes of QFCs with connections to foreign 163 See Verordnung uber die ¨ Finanzmarktinfrastrukturen und das Marktverhalten im Effekten- und Derivatehandel [FinfraV] [Ordinance on Financial Market Infrastructures and Market Conduct in Securities and Derivatives Trading] Nov. 25, 2015, amending Bankenverordnung vom 30. April 2014 [BankV] [Banking Ordinance of 30 April 2014] Apr. 30, 2014, SR 952.02, art. 12 paragraph 2bis, translation at http://www.news.admin.ch/NSBSubscriber/ message/attachments/42659.pdf; see also ¨ ¨ Erlauterungsbericht zur Verordnung uber die Finanzmarktinfrastrukturen und das Marktverhalten im Effekten- und Derivatehandel (Nov. 25, 2015) (providing commentary). 164 See section III–11 of Comprehensive Guidelines for Supervision of Major Banks, etc., http://www.fsa.go.jp/common/law/guide/city.pdf. E:\FR\FM\12SER2.SGM 12SER2 42902 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations jurisdictions. The stay-and-transfer provisions of the U.S. Special Resolution Regimes would not achieve their purpose of facilitating orderly resolution in the context of the failure of a GSIB with large volumes of QFCs if such QFCs could escape the effect of those provisions. To remove doubt about the scope of coverage of these provisions, the requirements of section 252.83 of the final rule would ensure that the stay-and-transfer provisions apply as a matter of contract to all covered QFCs, wherever the transaction. This will advance the resolvability goals of the Dodd-Frank Act and the FDI Act and improve the resiliency of firms subject to the requirements. mstockstill on DSK30JT082PROD with RULES2 E. Prohibited Cross-Default Rights (Section 252.84 of the Final Rule) Definitions. Section 252.84 of the final rule, like the proposal, pertains to crossdefault rights in QFCs between covered entities and their counterparties, many of which are subject to credit enhancements (such as a guarantee) provided by an affiliate of the covered entity. Because credit enhancements on QFCs are themselves ‘‘qualified financial contracts’’ under the DoddFrank Act’s definition of that term (which this final rule adopts), the final rule includes the following additional definitions in order to facilitate a precise description of the relationships to which it would apply. These definitions are the same as under the proposal since no comments were received on these definitions. First, the final rule distinguishes between a credit enhancement and a ‘‘direct QFC,’’ defined as any QFC that is not a credit enhancement.165 The final rule also defines ‘‘direct party’’ to mean a covered entity that is itself a party to the direct QFC, as distinct from an entity that provides a credit enhancement.166 In addition, the final rule defines ‘‘affiliate credit enhancement’’ to mean ‘‘a credit enhancement that is provided by an affiliate of a party to the direct QFC that the credit enhancement supports,’’ as distinct from a credit enhancement provided by either the direct party itself or by an unaffiliated party.167 Moreover, the final rule defines ‘‘covered affiliate credit enhancement’’ to mean an affiliate credit enhancement provided by a covered entity or excluded bank and defines ‘‘covered affiliate support provider’’ to mean the affiliate of the covered entity that provides the covered 165 See final rule § 252.84(c)(2). final rule § 252.84(c)(1). 167 See final rule § 252.84(c)(3). 166 See VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 affiliate credit enhancement.168 Finally, the final rule defines the term ‘‘supported party’’ to mean any party that is the beneficiary of the covered affiliate support provider’s obligations under a covered affiliate credit enhancement (that is, the QFC counterparty of a direct party, assuming that the direct QFC is subject to a covered affiliate credit enhancement).169 General prohibitions. The final rule, like the proposal, prohibits a covered entity from being party to a covered QFC that allows for the exercise of any default right that is related, directly or indirectly, to the entry into resolution of an affiliate of the covered entity, subject to the exceptions discussed below.170 The final rule also generally prohibits a covered entity from being party to a covered QFC that would prohibit the transfer of any credit enhancement applicable to the QFC (such as another entity’s guarantee of the covered entity’s obligations under the QFC), along with associated obligations or collateral, upon the entry into resolution of an affiliate of the covered entity.171 168 See final rule § 252.84(e)(2)–(3). final rule § 252.84(e)(4). 170 See final rule § 252.84(b)(1). A few commenters requested that the Board clarify that covered QFCs that do not contain the cross-default rights or transfer restrictions on credit enhancement that are prohibited by section 252.84 would not be required to be remediated. This reading of section 252.84 of the proposed and final rule is correct. In addition, section 252.84(a) of the final rule provides the requested clarity. 171 See final rule § 252.84(b)(2). This prohibition is subject to an exception that would allow supported parties to exercise default rights with respect to a QFC if the supported party is prohibited from being the beneficiary of a credit enhancement provided by the transferee under any applicable law, including the Employee Retirement Income Security Act of 1974 and the Investment Company Act of 1940. This exception is substantially similar to an exception to the transfer restrictions in section 2(f) of the ISDA 2014 Resolution Stay Protocol (2014 Protocol) and the Universal Protocol, which was added to address concerns expressed by asset managers during the drafting of the 2014 Protocol. One commenter requested that the exception be broadened to include transfers that would result in the supported party being unable, without further action, to satisfy the requirements of any law applicable to the supported party. As an example of a type of transfer that the commenter intended to be included within the broadened exception, the commenter stated that the supported party would be able to prevent the transfer if it would result in less favorable tax treatment. The exception would seem to also include filing requirements that may arise as a result of transfer or other requirements that could be satisfied with minimal ‘‘action’’ by, or cost to, the supported party. More generally, the scope of the laws that supported parties deem themselves to satisfy and the method of such satisfaction is unclear and potentially very broad. The final rule retains the exception as proposed. The requested exception would add uncertainty as to whether transfers may be made during the stay period and potentially subsume the transfer prohibition. 169 See PO 00000 Frm 00022 Fmt 4701 Sfmt 4700 One commenter expressed strong support for these provisions.172 Another commenter expressed support for this provision as currently limited in scope under the proposal to prohibited crossdefault rights and requested that the scope not be expanded. The Board’s final rule retains the same scope as the proposal. A number of commenters representing counterparties to covered entities objected to section 252.84 of the proposal and requested the elimination of this provision. These commenters expressed concern about limitations on counterparties’ exercise of default rights during insolvency proceedings and argued that rights should not be taken away from contracting parties other than where limitation of such rights is necessary for public policy reasons and the resolution process is controlled by a regulatory authority with particular expertise in the resolution of the type of entity subject to the proceedings. Certain commenters argued that eliminating cross-default termination rights undermines the ability of QFC counterparties to effectively manage and mitigate their exposure to market and credit risk to a GSIB and interferes with market forces. One commenter similarly argued that, unless the Board takes appropriate measures to strengthen the financial condition and creditworthiness of a failing GSIB during and after the temporary stay, the stay will only expose QFC counterparties to an additional 48 hours of credit risk exposure without achieving the orderly resolution goals of the rule. Another commenter argued that non-defaulting counterparties should not be prevented from filing proofs of claim or other pleadings in a bankruptcy case during the stay period, since bankruptcy deadlines might pass and leave the counterparty unable to collect the unsecured creditor dividend. Commenters contended that restrictions on cross-default rights may lead to procyclical behavior with asset managers moving funds away from covered entities as soon as those entities show signs of distress, and perhaps even in normal situations, and would disadvantage non-GSIB parties (e.g., end users who rarely receive initial margin from GSIB counterparties and are less well protected against a GSIB default).173 172 This commenter also expressed support for Congressional amendment of the U.S. Bankruptcy Code. 173 One commenter stated that, to the extent the final rule prevents an insurer from terminating QFC transactions upon the credit rating downgrade of a GSIB counterparty, the insurer may be in violation of state insurance laws that typically impose strict E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 Some commenters argued that, if these rights must be restricted by law, Congress should impose such restrictions and that the requirements of the proposed rule circumvented the legislative process by creating a de facto amendment to the U.S. Bankruptcy Code that forecloses countless QFC counterparties from exercising their rights of cross-default protection under section 362 of the U.S. Bankruptcy Code. Some of these commenters argued that parties cannot by contract alter the U.S. Bankruptcy Code’s provisions, such as the administrative priority of a claim in bankruptcy, and one commenter suggested that non-covered entity counterparties may challenge the legality of contractual stays on the exercise of default rights if a GSIB becomes distressed. Certain commenters also questioned the Board’s ability to rely on section 165 of the Dodd-Frank Act in imposing these requirements and argued that making SPOE resolution possible under the U.S. Bankruptcy Code was not an appropriate justification for this rule. Other commenters, however, argued that the provisions of the proposed rule were necessary to address systemic risks posed by the exemption for QFCs in the U.S. Bankruptcy Code. As an alternative to eliminating these requirements, these commenters expressed the view that, if the Board moves forward with these provisions, the final rule should include at least those minimum creditor protections established by the Universal Protocol. Certain commenters also argued that this provision was overly broad in that it covered not only U.S. federal resolution and insolvency proceedings but also state and foreign resolution and insolvency proceedings.174 Certain counterparty credit rating guidelines and limits. This commenter did not give any specific examples of such laws. Counterparties, including insurance companies, should evaluate and comply with all relevant applicable requirements. 174 Certain commenters also indicated that these provisions should only apply to U.S. Special Resolution Regimes, which provide certain protections for counterparties, or, at most, to U.S. Special Resolution Regimes, resolution under the Securities Investor Protection Act, and insolvency under Chapter 11 of the U.S. Bankruptcy Code. That commenter noted that liquidation and insolvency under Chapter 7 of the Bankruptcy Code do not seek to preserve the GSIB as a viable entity, which is an objective of this proposal. As discussed later, the rule seeks to facilitate the resolution of a GSIB outside of U.S. Special Resolution Regimes, including under the U.S. Bankruptcy Code, and is intended to facilitate other approaches to GSIB resolution. Therefore, the final rule applies these provisions in the same way as the proposal. In addition, the additional creditor protections for supported parties under the final rule permit contractual requirements that any transferee not be in bankruptcy proceedings and that the credit support provider not be in bankruptcy proceedings VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 commenters also urged the Board to provide a limited exception to these restrictions, if retained in the final rule, to help ensure the continued functioning of physical commodities markets.175 Some commenters argued that the Board should eliminate the stay on default rights that are related ‘‘indirectly’’ to an affiliate of the direct party becoming subject to insolvency proceedings, claiming it is unclear what constitutes a right related ‘‘indirectly’’ to insolvency and noting that any default right exercised by a counterparty after an affiliate of that counterparty enters resolution could arguably be motivated by the affiliate’s entry into resolution. A primary purpose of these restrictions is to facilitate the resolution of a GSIB outside of Title II of the DoddFrank Act, including under the U.S. Bankruptcy Code. As discussed above, the potential for mass exercises of QFC default rights is one reason why a GSIB’s failure could cause severe damage to financial stability. In the context of an SPOE resolution, if the GSIB parent’s entry into resolution led to the mass exercise of cross-default rights by the subsidiaries’ QFC counterparties, then the subsidiaries could themselves fail or experience financial distress. Moreover, the mass exercise of QFC default rights could entail asset fire sales, which likely would affect other financial companies and undermine financial stability. Similar disruptive results can occur with an MPOE resolution of a GSIB affiliate if an otherwise performing GSIB entity is subject to having its QFCs other than a Chapter 11 proceeding. See final rule § 252.84(f). 175 In particular, these commenters requested that, when a covered entity defaults on any physical delivery obligation to any counterparty following the insolvency of an affiliate of a covered entity, its counterparties with obligations to deliver or take delivery of physical commodities within a short time frame after the default should be able to immediately terminate all trades (both physical and financial) with the covered entity. The final rule, like the proposal, allows covered QFCs to permit a counterparty to exercise its default rights under a covered QFC if the covered entity has failed to pay or perform its obligations under the covered QFC. See final rule § 252.84(d). The final rule, like the proposal, also allows covered QFCs to permit a counterparty to exercise its default rights under a covered QFC if the covered entity has failed to pay or perform on other contracts between the same parties and the failure gives rise to a default right in the covered QFC. See id. These exceptions should help reduce credit risk and ensure the smooth operation of the physical commodities markets without permitting one failure to pay or perform by a covered entity to allow a potentially large number of its counterparties that are not directly affected by the failure to exercise their default rights and thereby endanger the viability of the covered entity. PO 00000 Frm 00023 Fmt 4701 Sfmt 4700 42903 terminated or accelerated as a result of the default of its affiliate. In an SPOE resolution, this damage can be avoided if actions of the following two types are prevented: The exercise of direct default rights against the top-tier holding company that has entered resolution, and the exercise of cross-default rights against the operating subsidiaries based on their parent’s entry into resolution. (Direct default rights against the subsidiaries would not be exercisable, because the subsidiaries would not enter resolution.) In an MPOE resolution, this damage occurs from exercise of default rights against a performing entity based on the failure of an affiliate. Title II of the Dodd-Frank Act’s stayand-transfer provisions would address both direct default rights and crossdefault rights. But, as explained above, no similar statutory provisions would apply to a resolution under the U.S. Bankruptcy Code. The final rule attempts to address these obstacles to orderly resolution by extending the stayand-transfer provisions to any type of resolution of a covered entity. Similarly, the final rule would facilitate a transfer of the GSIB parent’s interests in its subsidiaries, along with any credit enhancements it provides for those subsidiaries, to a solvent financial company by prohibiting covered entities from having QFCs that would allow the QFC counterparty to prevent such a transfer or to use it as a ground for exercising default rights.176 The final rule also is intended to facilitate other approaches to GSIB resolution. For example, it would facilitate a similar resolution strategy in which a U.S. depository institution subsidiary of a GSIB enters resolution under the FDI Act while its subsidiaries continue to meet their financial obligations outside of resolution.177 Similarly, the final rule would facilitate the orderly resolution of a foreign GSIB under its home jurisdiction resolution regime by preventing the exercise of cross-default rights against the foreign GSIB’s U.S. operations. The final rule would also facilitate the resolution of an IHC of a foreign GSIB, and the recapitalization of its U.S. operating subsidiaries, as part of a broader MPOE resolution strategy under which the foreign GSIB’s operations in other 176 See final rule § 252.84(b). discussed above, the FDI Act would limit the exercise of direct default rights against the depository institution, but does not address the threat posed to orderly resolution by cross-default rights in the QFCs of the depository institution’s subsidiaries. This final rule would facilitate orderly resolution under the FDI Act by filling that gap. See final rule § 252.84(h). 177 As E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42904 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations regions would enter separate resolution proceedings. Finally, the final rule would broadly prevent the unanticipated failure of any one GSIB entity from bringing about the disorderly failures of its affiliates by preventing the affiliates’ QFC counterparties from using the first entity’s failure as a ground for exercising default rights against those affiliates that continue to meet their obligations. The final rule is intended to enhance the potential for orderly resolution of a GSIB under the U.S. Bankruptcy Code, the FDI Act, or a similar resolution regime. The risks to an orderly resolution under the U.S. Bankruptcy Code include separate resolution or insolvency proceedings, including proceedings in non-U.S. jurisdictions. Therefore, by staying default rights arising from affiliates entering such proceedings, the final rule would advance the Dodd-Frank Act’s goal of making orderly GSIB resolution workable under the U.S. Bankruptcy Code.178 Likewise, the final rule retains the prohibition against contractual provisions that permit the exercise of default rights that are indirectly related to the resolution of an affiliate. QFCs may include a number of default rights triggered by an event that is not the resolution of an affiliate but is caused by the resolution, such as a credit rating downgrade in response to the resolution. A primary purpose of the final rule is to prevent early terminations caused by the resolution of an affiliate. A regulation that specifies each type of early termination provision that should be stayed would be overinclusive, under-inclusive, and easy to evade. Similarly, a stay of default rights that are only directly related to the resolution of an affiliate could increase the likelihood of litigation to determine if the relationship between the default right and the affiliate resolution was sufficient to be considered ‘‘directly’’ related. The final rule attempts to decrease such uncertainty and litigation risk by including default rights that are related (i.e., directly or indirectly) to the resolution of an affiliate. Moreover, the final rule does not affect parties’ rights under the U.S. Bankruptcy Code. As explained above, the regulation does not prohibit a covered QFC from permitting the exercise of default rights against a covered entity that has entered bankruptcy proceedings.179 Therefore, counterparties to a covered entity in 178 See 179 See 12 U.S.C. 5365(d). final rule § 252.84(d)(1). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 bankruptcy would be able to exercise their existing contractual default rights to the full extent permitted under any applicable safe harbor to the automatic stay of the U.S. Bankruptcy Code. The final rule should also benefit the counterparties of a subsidiary of a failed GSIB by preventing the severe distress or disorderly failure of the subsidiary and allowing it to continue to meet its obligations. While it may be in the individual interest of any given counterparty to exercise any available rights to run on a subsidiary of a failed GSIB, the mass exercise of such rights could harm the counterparties’ collective interest by causing an otherwise-solvent subsidiary to fail. Therefore, like the automatic stay in bankruptcy, which serves to maximize creditors’ ultimate recoveries by preventing a disorderly liquidation of the debtor, the final rule seeks to mitigate this collective action problem to the benefit of the failed firm’s creditors and counterparties by preventing a disorderly resolution. And because many creditors and counterparties of GSIBs are themselves systemically important financial firms, improving outcomes for those creditors and counterparties should further protect the financial stability of the United States. General creditor protections. While the restrictions of the final rule are intended to facilitate orderly resolution, they may also diminish the ability of covered entities’ QFC counterparties to include certain protections for themselves in covered QFCs, as noted by certain commenters. In order to reduce this effect, the final rule, like the proposal, includes several substantial exceptions to the restrictions.180 These permitted creditor protections are intended to allow creditors to exercise cross-default rights outside of an orderly resolution of a GSIB (as described above) and therefore would not be expected to undermine such a resolution. First, in order to ensure that the proposed prohibitions would apply only to cross-default rights (and not direct default rights), the final rule provides that a covered QFC may permit the exercise of default rights based on the direct party’s entry into a resolution proceeding.181 This provision helps to 180 See final rule § 252.84(d). final rule § 252.84(d)(1). The proposal exempted from this creditor protection provision proceedings under a U.S. or foreign special resolution regime. As explained in the proposal, special resolution regimes typically stay direct default rights, but may not stay cross-default rights. For example, as discussed above, the FDI Act stays direct default rights, see 12 U.S.C. 1821(e)(10)(B), 181 See PO 00000 Frm 00024 Fmt 4701 Sfmt 4700 ensure that, if the direct party to a QFC were to enter bankruptcy, its QFC counterparties could exercise any relevant direct default rights. Thus, a covered entity’s direct QFC counterparties would not risk the delay and expense associated with becoming involved in a bankruptcy proceeding and would be able to take advantage of default rights that would fall within the U.S. Bankruptcy Code’s safe harbor provisions. The final rule also allows covered QFCs to permit the exercise of default rights based on the failure of the direct party, a covered affiliate support provider, or a transferee that assumes a credit enhancement to satisfy its payment or delivery obligations under the direct QFC or credit enhancement.182 Moreover, the final rule allows covered QFCs to permit the exercise of a default right in one QFC that is triggered by the direct party’s failure to satisfy its payment or delivery obligations under another contract between the same parties.183 This exception takes appropriate account of the interdependence that exists among the contracts in effect between the same counterparties. As explained in the proposal, the exceptions in the final rule for the creditor protections described above are intended to help ensure that the final rule permits a covered entity’s QFC but does not stay cross-default rights, whereas the Dodd-Frank Act’s OLA stays direct default rights and cross-defaults arising from a parent’s receivership, see 12 U.S.C. 5390(c)(10)(B) and 5390(c)(16). The proposed exemption of special resolution regimes from the creditor protection provisions was intended to help ensure that special resolution regimes that do not stay cross-defaults, such as the FDI Act, would not disrupt the orderly resolution of a GSIB under the U.S. Bankruptcy Code or other ordinary insolvency proceedings. One commenter requested the Board revise this provision to clarify that default rights based on a covered entity or an affiliate entering resolution under the FDI Act or Title II of the Dodd-Frank Act are not prohibited but instead are merely subject to the terms of such regimes. The commenter requested the Board clarify that such default rights are permitted so long as they are subject to the provisions of the FDI Act or Title II of the DoddFrank Act as required under section 225.83. The final rule eliminates this proposed exemption for special resolution regimes because the rule separately addresses cross-defaults arising from the FDI Act and because foreign special resolution regimes, along with efforts in other jurisdictions to contractually recognize stays of default rights under those regimes, should reduce the risk that such a regime should pose to the orderly resolution of a GSIB under the U.S. Bankruptcy Code or other ordinary insolvency proceedings. 182 See final rule § 252.84(d)(2)–(3). These provisions should respond to comments requesting that the final rule confirm the ability of a covered entity’s counterparty to exercise default rights arising from the failure of a direct party to satisfy a payment or delivery obligation during the stay period. But see final rule § 252.83(c). 183 See final rule § 252.84(d)(2). E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations counterparties to protect themselves from imminent financial loss and does not create a risk of delivery gridlocks or daisy-chain effects, in which a covered entity’s failure to make a payment or delivery when due leaves its counterparty unable to meet its own payment and delivery obligations (the daisy-chain effect would be prevented because the covered entity’s counterparty would be permitted to exercise its default rights, such as by liquidating collateral). These exceptions are generally consistent with the treatment of payment and delivery obligations under the U.S. Special Resolution Regimes.184 These exceptions also help to ensure that a covered entity’s QFC counterparty would not risk the delay and expense associated with becoming involved in a bankruptcy proceeding, since, unlike a typical creditor of an entity that enters bankruptcy, the QFC counterparty would retain its ability under the U.S. Bankruptcy Code’s safe harbors to exercise direct default rights. This should further reduce the counterparty’s incentive to run. Reducing incentives to run in the period leading up to resolution promotes orderly resolution, since a QFC creditor run (such as a mass withdrawal of repo funding) could lead to a disorderly resolution and pose a threat to financial stability. Additional creditor protections for supported QFCs. The final rule, like the proposal, allows the inclusion of additional creditor protections for a non-defaulting counterparty that is the beneficiary of a credit enhancement from an affiliate of the covered entity that is also a covered entity or excluded bank.185 The final rule allows these creditor protections in recognition of the supported party’s interest in receiving the benefit of its credit enhancement. These creditor protections would not undermine an SPOE resolution of a GSIB. Where a covered QFC is supported by a covered affiliate credit enhancement,186 the covered QFC and the credit enhancement would be permitted to allow the exercise of default rights under the circumstances discussed below after the expiration of a stay period. Under the final rule, the applicable stay period would begin when the credit support provider enters resolution and would end at the later of 5:00 p.m. (eastern time) on the next business day and 48 hours after the entry into resolution.187 This portion of the final rule is similar to the stay treatment provided in a resolution under the OLA or the FDI Act.188 Under the final rule, contractual provisions may permit the exercise of default rights at the end of the stay period if the covered affiliate credit enhancement has not been transferred away from the covered affiliate support provider and that support provider becomes subject to a resolution proceeding other than a proceeding under Chapter 11 of the U.S. Bankruptcy Code.189 QFCs may also permit the exercise of default rights at the end of the stay period if the transferee (if any) of the credit enhancement enters a resolution proceeding, protecting the supported party from a transfer of the credit enhancement to a transferee that is unable to meet its financial obligations.190 QFCs may also permit the exercise of default rights at the end of the stay period if the original credit support provider does not remain, and no transferee becomes, obligated to the same (or substantially similar) extent as the original credit support provider was obligated immediately prior to entering a resolution proceeding (including a Chapter 11 proceeding) with respect to (a) the covered affiliate credit enhancement, (b) all other covered affiliate credit enhancements provided by the credit support provider on any other covered QFCs between the same parties, and (c) all credit enhancements provided by the credit support provider between the direct party and affiliates of the direct party’s QFC counterparty.191 Such creditor protections are permitted in order to prevent the support provider or the transferee from ‘‘cherry picking’’ by assuming only those QFCs of a given counterparty that are favorable to the support provider or transferee. Title II of 187 See final rule § 252.84(g)(1). 12 U.S.C. 1821(e)(10)(B)(I), 5390(c)(10)(B)(i), 5390(c)(16)(A). While the final rule’s stay period is similar to the stay periods that would be imposed by the U.S. Special Resolution Regimes, it could run longer than those stay periods under some circumstances. 189 See final rule § 252.84(f)(1). Chapter 11 (11 U.S.C. 1101–1174) is the portion of the U.S. Bankruptcy Code that provides for the reorganization of the failed company, as opposed to its liquidation, and is generally well-understood by market participants. 190 See final rule § 252.84(f)(2). 191 See final rule § 252.84(f)(3). mstockstill on DSK30JT082PROD with RULES2 188 See 184 See 12 U.S.C. 1821(e)(8)(G)(ii), 5390(c)(8)(F)(ii) (suspending payment and delivery obligations for one business day or less). 185 See final rule § 252.84(f). 186 Note that the exception in section 252.84(f) of the final rule would not apply with respect to credit enhancements that are not covered affiliate credit enhancements. In particular, it would not apply with respect to a credit enhancement provided by a non-U.S. entity of a foreign GSIB, which would not be a covered entity or excluded bank under the final rule. See final rule § 252.84(e)(2) (defining ‘‘covered affiliate credit enhancement’’). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 PO 00000 Frm 00025 Fmt 4701 Sfmt 4700 42905 the Dodd-Frank Act and the FDI Act contain similar provisions to prevent cherry picking. Finally, if the covered affiliate credit enhancement is transferred to a transferee, the QFC may permit the nondefaulting counterparty to exercise default rights at the end of the stay period unless either (a) all of the covered affiliate support provider’s ownership interests in the direct party are also transferred to the transferee or (b) reasonable assurance is provided that substantially all of the covered affiliate support provider’s assets (or the net proceeds from the sale of those assets) will be transferred or sold to the transferee in a timely manner.192 These conditions help to assure the supported party that the transferee would be at least roughly as financially capable of providing the credit enhancement as the covered affiliate support provider. Title II of the Dodd-Frank Act similarly requires that certain conditions be met with respect to affiliate credit enhancements.193 Commenters generally expressed strong support for these exclusions but also requested that these exclusions be broadened in a number of ways. Certain commenters urged the Board to broaden the exclusions to permit, after trigger of the stay-and-transfer provisions, the exercise of default rights by a counterparty against a direct counterparty or covered support provider with respect to any default right under the QFC (other than a default right explicitly based on the failure of an affiliate) and not just with respect to defaults resulting from payment or delivery failure or the direct party becoming subject to certain resolution or insolvency proceedings (e.g., failure to maintain a license or certain capital level, materially breaching its representations under the QFC). Certain commenters contended that, at a minimum, the final rule should provide for creditor protections that meet the minimum standards set forth by the Universal Protocol. One commenter specifically identified three creditor protections found in the Universal Protocol that it argued the Board should include in section 252.84: (1) Priority rights in a bankruptcy proceeding against the transferee or original credit support provider (if the QFC providing credit support was not transferred); (2) a right to submit claims in the insolvency proceeding of the insolvent credit support provider if the transferee becomes insolvent; and (3) the ability to declare a default and close 192 See 193 See E:\FR\FM\12SER2.SGM final rule § 252.84(f)(4). 12 U.S.C. 5390(c)(16)(A). 12SER2 42906 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations out of both the original QFC with the direct counterparty as well as QFCs with the transferee if the transferee defaults under the transferred QFC or under any other QFC with the nondefaulting counterparty, subject to the contractual terms and consistent with applicable law. Another commenter argued for creditor protections not found in the Universal Protocol, including that the transferee be required to be a U.S. person and be registered with and licensed by the primary regulator of either the direct counterparty or transferor entity. The final rule does not include the additional creditor protections of the Universal Protocol or other creditor protections requested by commenters. As explained in the proposal and below, the additional creditor protections of the Universal Protocol do not appear to materially diminish the prospects for an orderly resolution of a GSIB because the Universal Protocol includes a number of desirable features that the final rule otherwise lacks.194 Providing additional circumstances under which default rights may be exercised during and immediately after the stay period, in the absence of any counterbalancing benefits to resolution, would increase the risk of a disorderly resolution of a GSIB in contravention of the purposes of the rule. One commenter also argued that transfer should be limited to a bridge bank under the FDI Act or a bridge financial company under Title II of the Dodd-Frank Act to ensure that the transferee is more likely to be able to satisfy the obligations of a credit support provider and is subject to regulatory oversight. Section 252.84 of the final rule permits QFCs to include provisions allowing a counterparty to exercise its default rights against a direct party that enters resolution under the FDI Act or Title II of the Dodd-Frank Act, other than the limited case contemplated by section 252.84(h) of the final rule. The Board is not adopting the proposed additional creditor protection because it would defeat in large part the purpose of section 252.84 and potentially create confusion regarding the requirements and purposes of sections 252.83 and 252.84 of the final rule.195 mstockstill on DSK30JT082PROD with RULES2 194 See 81 FR 29169, 29182 (May 11, 2016). the extent the commenter’s reference to ‘‘bridge financial company’’ was not only to a bridge financial company under Title II of the Dodd-Frank Act, the requested amendment would not appear to provide a meaningful reduction in credit risk to counterparties compared to the creditor protections permitted under section 252.84 of the final rule and those available under the Universal Protocol and U.S. Protocol, discussed below. 195 To VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 A few commenters expressed concern that the additional creditor protections applied only to QFCs supported by a credit enhancement provided by a ‘‘covered affiliate support provider’’ (i.e., an affiliate that is a covered entity) and noted that foreign GSIBs often will have their QFCs supported by a nonU.S. affiliate that is not a covered entity. Such non-U.S. affiliate credit supporter providers would not be able to rely on the additional creditor protections for supported QFCs. As the proposal explained, ‘‘Such credit enhancements [are] excluded in order to help ensure that the resolution of a non-U.S. entity would not negatively affect the financial stability of the United States by allowing for the exercise of default rights against a covered entity.’’ 196 One commenter requested clarification that the creditors of a nonU.S. credit support provider are permitted to exercise any and all rights against that non-U.S. credit support provider that they could exercise under the non-U.S. resolution regime applicable to that non-U.S. credit support provider. In general, covered entities may be entities organized or operating in the United States or, with respect to U.S. GSIBs, abroad. The final rule, like the proposal, is limited to QFCs to which a covered entity is a party. Section 252.84 of the final rule generally prohibits QFCs to which a covered entity is a party from allowing the exercise of cross-default rights of the covered QFC, regardless of whether the affiliate entering resolution and/or the credit support provider is organized or operates in the United States. Another commenter expressed concern that the proposed section 252.84(g)(3) (section 252.84(f)(3) of the final rule) would provide a right without a remedy because, if the covered affiliate credit support provider is no longer obligated and no transferee has taken on the obligation, the noncovered entity counterparty may have only a breach of contract claim against an entity that has transferred all of its assets to a third party. The creditor protections of section 252.84, if triggered, permit contractual provisions 196 81 FR 29169, 29180 n.92 (May 11, 2016) (‘‘Note that the exception in § 252.84(g) of the proposed rule would not apply with respect to credit enhancements that are not covered affiliate credit enhancements. In particular, it would not apply with respect to a credit enhancement provided by a non-U.S. entity of a foreign GSIB, which would not be a covered entity under the proposal. Such credit enhancements would be excluded in order to help ensure that the resolution of a non-U.S. entity would not negatively affect the financial stability of the United States by allowing for the exercise of default rights against a covered entity.’’). See also final rule § 252.84(f). PO 00000 Frm 00026 Fmt 4701 Sfmt 4700 allowing the exercise of existing default rights against the direct party to the covered QFC, as well as any existing rights against the credit enhancement provider. Another commenter suggested revising section 252.84(g) (section 252.84(f) of the final rule) to clarify that, for a covered direct QFC supported by a covered affiliate credit enhancement, the covered direct QFC and the covered affiliate credit enhancement may permit the exercise of a default right after the stay period that is related, directly or indirectly, to the covered affiliate support provider entering into resolution proceedings. This reading is incorrect and revising the rule as requested would largely defeat the purpose of section 252.84 of the final rule by merely delaying QFC termination en masse. Some commenters also requested specific provisions related to physical commodity contracts, including a provision that would allow regulators to override a stay if necessary to avoid disruption of the supply or prevent exacerbation of price movements in a commodity or a provision that would allow the exercise of default rights of counterparties delivering or taking delivery of physical commodities if a covered entity defaults on any physical delivery obligation to any counterparty. As noted above, QFCs may permit a counterparty to exercise its default rights immediately, even during the stay period, if the covered entity fails to pay or perform on the covered QFC with the counterparty (or another contract between the same parties that gives rise to a default under the covered QFC). Creditor protections related to FDI Act proceedings. In the case of a covered QFC that is supported by a covered affiliate credit enhancement, both the covered QFC and the credit enhancement would be permitted to allow the exercise of default rights related to the credit support provider’s entry into resolution proceedings under the FDI Act 197 only under the following circumstances: (a) After the FDI Act stay period,198 if the credit enhancement is not transferred under the relevant provisions of the FDI Act 199 and associated regulations, and (b) during the FDI Act stay period, to the extent 197 As discussed above, the FDI Act stays direct default rights against the failed depository institution but does not stay the exercise of crossdefault rights against its affiliates. 198 Under the FDI Act, the relevant stay period runs until 5:00 p.m. (eastern time) on the business day following the appointment of the FDIC as receiver. 12 U.S.C. 1821(e)(10)(B)(I). See also final rule § 252.81. 199 12 U.S.C. 1821(e)(9)–(10). E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 that the default right permits the supported party to suspend performance under the covered QFC to the same extent as that party would be entitled to do if the covered QFC were with the credit support provider itself and were treated in the same manner as the credit enhancement.200 This provision is intended to ensure that a QFC counterparty of a subsidiary of a bank that goes into FDI Act receivership can receive the same level of protection that the FDI Act provides to QFC counterparties of the bank itself. No comments were received on this aspect of the proposal and the final rule contains no changes from the proposal. Prohibited terminations. In case of a legal dispute as to a party’s right to exercise a default right under a covered QFC, the final rule, like the proposal, requires that a covered QFC must provide that, after an affiliate of the direct party has entered a resolution proceeding, (a) the party seeking to exercise the default right bears the burden of proof that the exercise of that right is indeed permitted by the covered QFC, and (b) the party seeking to exercise the default right must meet a ‘‘clear and convincing evidence’’ standard, a similar standard,201 or a more demanding standard.202 The purpose of this requirement is to deter the QFC counterparty of a covered entity from thwarting the purpose of the final rule by exercising a default right because of an affiliate’s entry into resolution under the guise of other default rights that are unrelated to the affiliate’s entry into resolution. A few commenters requested guidance on how to satisfy the burden of proof of clear and convincing evidence so that they may avoid seeking such clarity through litigation. Other commenters urged that this standard was not appropriate and should be eliminated. In particular, a number of commenters expressed concern that the burden of proof requirements, which are more stringent than the burden of proof requirements for typical contractual disputes adjudicated in a court, unduly hamper the creditor protections of counterparties and impose a burden directly on non-covered entities, who should be able to exercise default rights if it is commercially reasonable in the context. One commenter contended that 200 See final rule § 252.84(h). reference to a ‘‘similar’’ burden of proof is intended to allow covered QFCs to provide for the application of a standard that is analogous to clear and convincing evidence in jurisdictions that do not recognize that particular standard. A covered QFC is not permitted to provide for a lower standard. 202 See final rule § 252.84(i). 201 The VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 this burden, combined with the stay on default rights related ‘‘indirectly’’ to an affiliate entering insolvency proceedings, effectively prohibits counterparties from exercising any default rights during the stay period. These commenters argued that it is inappropriate for the Board in a rulemaking to alter the burden of proof for contractual disputes. One commenter suggested that, in a scenario involving a master agreement with some transactions out of the money and others in the money, the defaulting GSIB will have a lower burden of proof for demonstrating that it is owed money than for demonstrating that it owes money, should the non-GSIB counterparty exercise its termination rights. Certain commenters suggested instead that the final rule shift the burden and instead adopt a rebuttable presumption that the non-defaulting counterparty’s exercise of default rights is permitted under the QFC unless the defaulting covered entity demonstrates otherwise. One commenter requested that the burden of proof not apply to the exercise of direct default rights. The final rule retains the proposed burden of proof requirements. The requirement is based on a primary goal of the final rule—to avoid the disorderly termination of QFCs in response to the failure of an affiliate of a GSIB. The requirement accomplishes this goal by making clear that a party that exercises a default right when an affiliate of its direct party enters receivership of insolvency proceedings is unlikely to prevail in court unless there is clear and convincing evidence that the exercise of the default right against a covered entity is not related to the insolvency or resolution proceeding. The requirement therefore should discourage the impermissible exercise of default rights without prohibiting the exercise of all default rights. Moreover, the burden of proof requirement should not discourage the exercise of default rights after or in response to a failure to satisfy a creditor protection provision (e.g., direct default rights); such a failure should be easily evidenced, even under a heightened burden of proof, such that clarification through court proceedings should not be necessary. Agency transactions. In addition to entering into QFCs as principals, GSIBs may engage in QFCs as agent for other principals. For example, a GSIB subsidiary may enter into a master securities lending arrangement with a foreign bank as agent for a U.S.-based pension fund. The GSIB would document its role as agent for the pension fund, often through an annex to the master agreement, and would PO 00000 Frm 00027 Fmt 4701 Sfmt 4700 42907 generally provide to its customer (the principal party) a securities replacement guarantee or indemnification for any shortfall in collateral in the event of the default of the foreign bank.203 A covered entity may also enter into a QFC as principal where there is an agent acting on its behalf or on behalf of its counterparty. This proposal would have applied to a covered QFC regardless of whether the covered entity or the covered entity’s direct counterparty is acting as a principal or as an agent. Sections 252.83 and 252.84 of the proposal did not distinguish between agents and principals with respect to default rights or transfer restrictions applicable to covered QFCs. Under the proposal, section 252.83 would have limited default rights and transfer restrictions that the principal and its agent may have against a covered entity consistent with the U.S. Special Resolution Regimes.204 Section 252.84 of the proposed rule would have ensured that, subject to the enumerated creditor protections, neither the agent nor the principal could exercise cross-default rights under the covered QFC against the covered entity based on the resolution of an affiliate of the covered entity.205 Commenters argued that the provisions of sections 252.83 and 252.84 that relate to transactions entered into by the covered entity as agent should exclude QFCs where the covered entity or its affiliate does not have any liability (including contingent liability) under or in connection with the contract, or any payment or delivery obligations with respect thereto. Commenters also argued that the proposed agent provisions should not apply to circumstances where the covered entity acts as agent for a counterparty whose transactions are excluded from the requirements of the rule.206 Commenters provided as an example where an agent simply executes an agreement on behalf of the principal but bears no liability thereunder, such as where an investment manager signs an agreement on behalf of a client. Commenters noted that such agreements could contain events of default relating to the 203 The definition of QFC under Title II of the Dodd-Frank Act, which is adopted in the final rule, includes security agreements and other credit enhancements as well as master agreements (including supplements). 12 U.S.C. 5390(c)(8)(D); see also final rule § 252.81. 204 See proposed rule § 252.83(a)(3). 205 See proposed rule §§ 252.84(a)(3), 252.84(d). 206 Commenters argued this should be the case even where an agent has entered an umbrella master agreement on behalf of more than one principal, but only with respect to the contract of any principals that are excluded counterparties. E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42908 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations insolvency of the agent or an affiliate of the agent but that such default rights would be difficult to track and that close-out of such QFCs would not result in any loss or liquidity impact to the agent. Rather, early termination under the agreements would subject the cash and securities of the principals—not the agent—to realization and liquidation. Therefore, the agent would not be exposed to the liquidity and asset fire sale risks the proposal was intended to address. Commenters contended that the requirement to conform QFCs with all affiliates of a counterparty when an agent is acting on behalf of the counterparty would be particularly burdensome, as the agent may not have information about the counterparty’s affiliates or their contracts with covered entities. Commenters also requested clarification that conformance is not required of contracts between a covered entity as agent on behalf of a non-U.S. affiliate of a foreign GSIB that would not be a covered entity under the proposal, since default rights related to the nonU.S. operations of foreign GSIBs are not the focus of the rule and do not bear a sufficient connection to U.S. financial stability to warrant the burden and cost of compliance. One commenter also urged that securities lending authorization agreements (SLAAs) should also be exempt from the rule. The commenter explained that SLAAs are banking services agreements that establish an agency relationship with the lender of securities and an agent and may be considered credit enhancements for securities lending transactions (and therefore QFCs) because the SLAAs typically require the agent to indemnify the lender for any shortfall between the value of the collateral and the value of the securities in the event of a borrower default. The commenter explained that SLAAs typically do not contain provisions that may impede the resolution of a GSIB, but may contain termination rights or contractual restrictions on assignability. However, the commenter argued that the beneficiaries under SLAAs lack the incentive to contest the transfer of the SLAA to a bridge institution in the event of GSIB insolvency. To respond to concerns raised by commenters, the agency provisions of the proposed rule have been modified in the final rule. The final rule provides that a covered entity does not become a party to a QFC solely by acting as agent to a QFC.207 Therefore, an in-scope QFC would not be a covered QFC solely 207 See final rule § 252.82(e)(1). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 because a covered entity was acting as the agent of a principal with respect to the QFC.208 For example, the final rule would not require a covered entity to conform a master securities lending arrangement (or the transactions under the agreement) to the requirements of the final rule if the only obligations of the covered entity under the agreement are to act as an agent on behalf of one or more principals. This modification should address many of the concerns raised by commenters. The final rule does not specifically exempt SLAAs because the agreements provide the beneficiaries with contractual rights that may hinder the orderly resolution of a GSIB and because it is unclear how such beneficiaries would act in response to the failure of their agent. More generally, the final rule does not exempt a QFC with respect to which an agent also acts in another capacity, such as guarantor. Continuing the example regarding the covered entity acting as agent with respect to a master securities lending agreement, if the covered entity also provided a SLAA that included the typical indemnification provision discussed above, the agency exemption of the final rule would not exclude the SLAA but would still exclude the master securities lending agreement. This is because the covered entity is acting solely as agent with respect to the master securities lending agreement but is acting as agent and guarantor with respect to the SLAA. However, SLAAs would be exempted under the final rule to the extent that they are not ‘‘in-scope QFCs’’ or otherwise meet the exemptions for covered QFCs of the final rule. Enforceability. Commenters also requested that the final rule should clarify that obligations under a QFC would still be enforceable even if its terms do not comply with the requirements of the final rule, similar to assurances provided in respect of the UK rule and German legislation. The enforceability of a contract is beyond the scope of this rule. Interaction with Other Regulatory Requirements. Certain commenters requested clarification that amending covered QFCs as required by this final rule should not trigger other regulatory requirements for covered entities, such as the swap margin requirements issued by the Board, other prudential regulators (the OCC, FDIC, Farm Credit Administration, and Federal Housing 208 Such a QFC would nonetheless be a covered QFC with respect to a principal that also was a covered entity. In response to comments, the Board notes that covered entities do not include non-U.S. subsidiaries of a foreign GSIB. PO 00000 Frm 00028 Fmt 4701 Sfmt 4700 Financing Agency), and the U.S. Commodity Futures Trading Commission (CFTC). In particular, commenters urged that amending a swap to conform to this final rule should not jeopardize the status of the swap as a legacy swap for purposes of the swap margin requirements for noncleared swaps. These issues are outside the scope of this rule as they relate to the requirements of another rule issued by the Board jointly with the other prudential regulators, as well as a rule issued by the CFTC. As commenters pointed out, addressing such issues may require consultation with the other prudential regulators as well as the CFTC and the U.S. Securities and Exchange Commission to determine the impact of the amendments required by this final rule for purposes of the regulatory requirements under Title VII. However, as the proposal noted, the Board is considering an amendment to the definition of ‘‘eligible master netting agreement’’ to account for the restrictions on covered QFCs and is consulting with the other prudential regulators and the CFTC on this aspect of the final rule.209 The Board does not expect that compliance with this final rule would trigger the swap margin requirements for non-cleared swaps. Compliance with the Universal and U.S. Protocols. The final rule, like the proposal, allows covered entities to conform covered QFCs to the requirements of the proposed rule through adherence to the Universal Protocol.210 The two primary operative provisions of the Universal Protocol are Section 1 and Section 2. Under Section 1, adhering parties essentially ‘‘opt in’’ to the U.S. Special Resolution Regimes and certain other special resolution regimes. Therefore, Section 1 is generally responsive to the concerns addressed in section 252.83 of the final rule. Under Section 2, adhering parties essentially forego, subject to the creditor protections of Section 2, cross-default rights and transfer restrictions on affiliate credit enhancements. Therefore, Section 2 is generally responsive to the concerns addressed in section 252.84 of the final rule. The proposal noted that, while the scope of the stay-and-transfer provisions of the Universal Protocol are narrower than the stay-and-transfer provisions that would have been required under the proposal and the Universal Protocol provides a number of creditor protection provisions that would not otherwise have been available under the proposal, the Universal Protocol includes a 209 See 210 See E:\FR\FM\12SER2.SGM 81 FR 29169, 29186 (May 11, 2016). final rule § 252.85(a). 12SER2 mstockstill on DSK30JT082PROD with RULES2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations number of desirable features that the proposal lacked. The proposal explained that ‘‘when an entity (whether or not it is a covered entity) adheres to the [Universal] Protocol, it necessarily adheres to the [Universal] Protocol with respect to all covered entities that have also adhered to the Protocol rather than one or a subset of covered entities (as the proposal may otherwise permit). . . . This feature appears to allow the [Universal] Protocol to address impediments to resolution on an industry-wide basis and increase market certainty, transparency, and equitable treatment with respect to default rights of nondefaulting parties.’’ 211 This feature is referred to as ‘‘universal adherence.’’ The proposal explained that other favorable features of the Universal Protocol included that it amends all existing transactions of adhering parties, does not provide the counterparty with default rights in addition to those provided under the underlying QFC, applies to all QFCs, and includes resolution under bankruptcy as well as U.S. and certain non-U.S. Special Resolution Regimes. Because the features of the Universal Protocol, considered together, appeared to increase the likelihood that the resolution of a GSIB under a range of scenarios could be carried out in an orderly manner, the proposal stated that QFCs amended by the Universal Protocol would have been consistent with the proposal, notwithstanding differences from section 252.84 of the proposal. Commenters generally supported the proposal’s provisions to allow covered entities to comply with the requirements of the proposed rule through adherence to the Universal Protocol. For the reasons discussed above and in the proposal, the final rule continues to allow covered entities to comply with the rule through adherence to the Universal Protocol and makes other modifications to the proposal to address comments. A few commenters requested that the final rule clarify two technical aspects of adherence to the Universal Protocol. These commenters requested confirmation that adherence to the Universal Protocol would also satisfy the requirements of section 252.83. The commenters also requested confirmation that QFCs that incorporate the terms of the Universal Protocol by reference also would be deemed to comply with the terms of the proposed alternative 211 81 FR 29169, 29182–83 (May 11, 2016). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 method of compliance.212 By clarifying section 252.85(a), the final rule confirms that adherence to the Universal Protocol is deemed to satisfy the requirements of section 252.83 of the final rule (as well as section 252.84) and that conformance of a covered QFC through the Universal Protocol includes incorporation of the terms of the Universal Protocol by reference by protocol adherents. This clarification also applies to the U.S. Protocol, discussed below. One commenter indicated that many non-covered entity counterparties do not have ISDA master agreements for physically-settled forward and commodity contracts and, therefore, compliance with the rule’s requirements through adherence to the Universal Protocol would entail substantial time and educational effort. As in the proposal, the final rule simply permits adherence to the Universal Protocol as one method of compliance with the rule’s requirements, and parties may meet the rule’s requirements through bilateral negotiation, if they choose. Moreover, the Securities Financing Transaction Annex and Other Agreements Annex of the Universal Protocol, which are specifically identified in the proposed and final rule, are designed to amend QFCs that are not ISDA master agreements. Many commenters argued that the final rule should also allow compliance with the rule through a yet-to-be-created ‘‘U.S. Jurisdictional Module to the ISDA Resolution Stay Jurisdictional Modular Protocol’’ (an ‘‘approved U.S. JMP’’) that is generally the same but narrower in scope than the Universal Protocol.213 Many non-GSIB commenters argued that they were not involved with the drafting of the Universal Protocol and that an approved U.S. JMP would create a level playing field between those that were 212 ‘‘As between two Adhering Parties, the [Universal Protocol] only amends agreements between the Adhering Parties that have been entered into as of the date that the Adhering Parties adhere (as well as any subsequent transactions thereunder), but it does not amend agreements that Adhering Parties enter into after that date. . . . If Adhering Parties wish for their future agreements to be subject to the terms of the [Universal Protocol] or a Jurisdictional Module Protocol under the ISDA JMP, it is expected that they would incorporate the terms of the [relevant protocol] by reference into such agreements.’’ Letter to Robert deV. Frierson, Secretary, Board of Governors of the Federal Reserve System, from Katherine T. Darras, ISDA General Counsel, The International Swaps and Derivatives Association, Inc., at 8–9 (Aug. 5, 2016). This commenter noted that incorporation by reference was consistent with the proposal and asked that the text of the rule be clarified. Id. at 9. 213 Commenters argued that approval of the approved U.S. JMP should not require satisfaction of the administrative requirements of section 252.85(b)(3), since the Board has already conducted that analysis in deciding to provide a safe harbor for the Universal Protocol. PO 00000 Frm 00029 Fmt 4701 Sfmt 4700 42909 involved in the drafting and those that were not. In general, commenters identified two aspects of the Universal Protocol that they argued should be narrowed in the approved U.S. JMP: The scope of the special resolution regimes and the universal adherence feature of the Universal Protocol. With respect to the scope of the special resolution regimes of the Universal Protocol, commenters’ concern focused on the special resolution regimes of ‘‘Protocol-eligible Regimes.’’ Some commenters also expressed concern with the scope of ‘‘Identified Regimes’’ of the Universal Protocol. The Universal Protocol defines ‘‘Identified Regimes’’ as the special resolution regimes of France, Germany, Japan, Switzerland, and the United Kingdom, as well as the U.S. Special Resolution Regimes. The Universal Protocol defines ‘‘Protocol-eligible Regimes’’ as resolution regimes of other jurisdictions specified in the protocol that satisfies the requirements of the Universal Protocol. The Universal Protocol provides a ‘‘Country Annex,’’ which is a mechanism by which individual adherents to the Universal Protocol may agree that a specific jurisdiction satisfies the requirements of a ‘‘Protocol-eligible Regime.’’ The Universal Protocol referred to in the proposal did not include any Country Annex for any Protocol-eligible Regime.214 Commenters requested the final rule include a safe harbor for an approved U.S. JMP that does not include Protocoleligible Regimes. Commenters argued that many counterparties may not be able to adhere to the Universal Protocol because they would not be able to adhere to a Protocol-eligible Regime in the absence of law or regulation mandating such adherence, as it would 214 The proposal defined the Universal Protocol as the ‘‘ISDA 2015 Universal Resolution Stay Protocol, including the Securities Financing Transaction Annex and Other Agreements Annex, published by the International Swaps and Derivatives Association, Inc., as of May 3, 2016, and minor or technical amendments thereto.’’ See proposed rule § 252.85(a). As of May 3, 2016, ISDA had not published any Country Annex for a Protocol-eligible Regime and such publication would not be a minor or technical amendment to the Universal Protocol. Consistent with the proposal, the final rule does not define the Universal Protocol to include any Country Annex. However, the final rule does not penalize adherence to any Country Annex. A covered QFC that is amended by the Universal Protocol—but not a Country Annex—will be deemed to conform to the requirements of the final rule. In addition, a covered QFC that is amended by the Universal Protocol—including one or more Country Annexes—is also deemed to conform to the requirements of the final rule. See final rule § 252.85(a)(2). E:\FR\FM\12SER2.SGM 12SER2 42910 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 force counterparties to give up default rights in jurisdictions where that is not yet legally required.215 In support of their argument, commenters cited their fiduciary duties to act in the best interests of their clients or shareholders. Commenters also argued that an approved U.S. JMP should not include Identified Regimes and noted that the other Identified Regimes have already adopted measures to require contractual recognition of their special resolution regimes.216 With respect to the universal adherence feature of the Universal Protocol, commenters argued that universal adherence imposed significant monitoring burden since new adherents may join the Universal Protocol at any time. To address this concern, some commenters requested that an approved U.S. JMP allow a counterparty to adhere on a firm-by-firm or entity-by-entity basis. Other commenters suggested, or supported approval of, an approved U.S. JMP in which a counterparty would adhere to all current covered entities under the final rule (to be identified on a ‘‘static list’’) and would adhere to new covered entities on an entity-by-entity basis. This static list, commenters argued, would retain the ‘‘universal adherence mechanics’’ of the Universal Protocol and allow market participants to fulfill due diligence obligations related to compliance. Commenters also argued that universal adherence would be overbroad because the Universal Protocol could amend QFCs to which a covered entity or excluded bank was not a party. Certain commenters argued that adhering with respect to any counterparty would also be inconsistent with their fiduciary duties. In response to comments and to further facilitate compliance with the rule, the final rule provides that covered QFCs amended through adherence to the Universal Protocol or a new (and separate) protocol (the ‘‘U.S. Protocol’’) would be deemed to conform the covered QFCs to the requirements of the final rule.217 The U.S. Protocol may differ from the Universal Protocol in certain respects, as discussed below, but 215 The Protocol-eligible Regime requirements of the Universal Protocol do not include a requirement that a law or regulation, such as the final rule, require parties to contractually opt in to the regime. 216 One commenter requested clarification that a QFC of a covered entity with a non-U.S. credit support provider for the covered entity complies with the requirements of the final rule to the extent the covered entity has adhered to the relevant jurisdictional modular protocol for the jurisdiction of the non-U.S. credit support provider. The jurisdictional modular protocols for other counties do not satisfy the requirements of the final rule. 217 The final rule also provides that the Board may determine otherwise based on specific facts and circumstances. See final rule § 252.85(a). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 otherwise must be substantively identical to the Universal Protocol.218 Therefore, the reasons for deeming covered QFCs amended by the Universal Protocol to conform to the final rule, discussed above and in the proposal, apply to the U.S. Protocol. Consistent with the proposal 219 and requests by commenters, the U.S. Protocol may limit the application of the provisions the Universal Protocol identifies as Section 1 and Section 2 to only covered entities and excluded banks.220 As requested by commenters, this limitation on the scope of the U.S. Protocol may ensure that the U.S. Protocol would only amend covered QFCs under this final rule or the substantively identical final rules expected to be issued by the OCC and FDIC and not also QFCs outside the scope of the agencies’ final rules (i.e., QFCs between parties that are not covered entities or excluded banks). The final rule also provides that the U.S. Protocol is required to include the U.S. Special Resolution Regimes and the other Identified Regimes but is not required to include Protocol-eligible Regimes.221 As noted above, the Universal Protocol, as defined in the proposal, did not include any Country Annex for a Protocol-eligible Regime; the only special resolution regimes specifically identified in the Universal Protocol, as defined in the proposal, were the U.S. Special Resolution Regimes and the other Identified Regimes. As explained in the proposal, 218 Commenters expressed support for having the U.S. Protocol apply to both existing and future QFCs. One commenter requested that an approved U.S. JMP should apply only to QFCs governed by non-U.S. law because the U.S. Special Resolution Regimes already apply to QFCs governed by U.S. law. As discussed above, the final rule does not exempt a QFC solely because the QFC explicitly states that is governed by U.S. law. Moreover, such a limited application would reduce the desirable additional benefits of the Universal Protocol, discussed above. 219 The proposal explained that a ‘‘jurisdictional module for the United States that is substantively identical to the [Universal] Protocol in all respects aside from exempting QFCs between adherents that are not covered entities or covered banks would be consistent with the current proposal.’’ 81 FR 29169, 29181 n.106 (May 11, 2016). 220 The final rule does not require the U.S. Protocol to retain the same section numbering as the Universal Protocol. The final rule allows the U.S. protocol to have minor and technical differences from the Universal Protocol. See final rule § 252.85(a)(3)(ii)(F). 221 See final rule § 252.85(a)(3)(ii)(A). The U.S. Protocol is likewise not required to include definitions and adherence mechanisms related to Protocol-eligible Regimes. The final rule allows the U.S. Protocol to include minor and technical differences from the Universal Protocol and, similarly, differences necessary to conform the U.S. Protocol to the substantive differences allowed or required from the Universal Protocol. See final rule § 252.85(a)(3)(ii)(E). PO 00000 Frm 00030 Fmt 4701 Sfmt 4700 inclusion of the Identified Regimes should help facilitate the resolution of a GSIB across a broader range of circumstances.222 Inclusion of the Identified Regimes in the U.S. Protocol also should support laws and regulations similar to the final rule and help encourage GSIB entities in the United States to adhere to a protocol that includes all Identified Regimes. However, the final rule does not require the U.S. Protocol to include Protocoleligible Regimes, including definitions and adherence mechanisms related to Protocol-eligible Regimes.223 Inclusion of only the Identified Regimes in the U.S. Protocol, considered in light of the other benefits to the resolution of GSIBs provided by the Universal Protocol and U.S. Protocol as well as commenters’ concerns with potential adherence to Protocol-eligible Regimes, should sufficiently advance the objective of the final rule to increase the likelihood that a resolution of a GSIB could be carried out in an orderly manner under a range of scenarios. The U.S. Protocol does not permit parties to adhere on a firm-by-firm or entity-by-entity basis because such adherence mechanisms requested by commenters would obviate one of the primary benefits of the Universal Protocol: Universal adherence. Similarly, the final rule does not permit adherence to a ‘‘static list’’ of all current covered entities, which other commenters requested.224 Although the static list would initially provide for universal adherence, the static list would not provide for universal adherence with respect to entities that became covered entities after the static list was finalized. To help ensure that the additional creditor protections of the Universal Protocol and U.S. Protocol continue to be justified, both protocols must ensure that the desirable features of the protocols, including universal adherence, continue to be present as GSIBs acquire subsidiaries with existing QFCs and existing organizations become designated as GSIBs. The final rule also addresses provisions that allow an adherent to elect that Section 1 and/or Section 2 of the Universal Protocol do not apply to the adherent’s contracts.225 The Universal Protocol refers to these 222 81 FR 29169, 29183 (May 11, 2016). final rule § 252.85(a)(3)(ii)(A). 224 The final rule, however, does not prohibit the creation of a dynamic list identifying of all current ‘‘Covered Parties,’’ as would be defined in the U.S. Protocol, to facilitate due diligence and provide additional clarity to the market. See final rule § 252.85(a)(2)(ii)(E) (allowing minor and technical differences from the Universal Protocol). 225 Section 4(b) of the Universal Protocol. 223 See E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 provisions as ‘‘opt-outs.’’ The proposal explained that adherence to the Universal Protocol was an alternative method of compliance with the proposed rule and that covered QFCs that were not amended by the Universal Protocol must otherwise conform to the proposed rule. In other words, the proposal would have required that a covered QFC be conformed regardless of the method the covered entity and counterparty chooses to conform the QFC.226 Consistent with the basic purposes of the proposed and final rules, the U.S. Protocol requires that opt-outs exercised by its adherents will only be effective to the extent that the affected covered QFCs otherwise conform to the requirements of the final rule. Therefore, the U.S. Protocol allows counterparties to exercise available optout rights in a manner that also allows covered entities to ensure that their covered QFCs continue to conform to the requirements of the rule. The final rule also provides that, under the U.S. Protocol, the opt-out in Section 4(b)(i)(A) of the attachment to the Universal Protocol (Sunset Optout) 227 must not apply with respect to the U.S. Special Resolution Regimes because the opt-out is no longer relevant with respect to the U.S. Special Resolution Regimes. This final rule, along with the substantively identical rules expected to be issued by the FDIC and OCC, should prevent exercise of the Sunset Opt-out with respect to the U.S. Special Resolution Regimes under the Universal Protocol. Inapplicability of this opt-out with respect to U.S. Special Resolution Regimes in the U.S. Protocol should provide additional clarity to adherents that the U.S. Protocol will continue to provide for universal adherence after January 1, 2018. The final rule also expressly addresses a provision in the Universal Protocol that concerns the client-facing leg of a cleared transaction. As discussed above, the final rule, like the proposal, does not exempt the clientfacing leg of a cleared transaction. Therefore, the U.S. Protocol must not include the exemption in Section 2 of the Universal Protocol regarding the client-facing leg of the transaction.228 226 Under the final rule, if an adherent to the Universal Protocol or U.S. Protocol exercises an available opt-out, covered entities with covered QFCs affected by the exercise would be required to otherwise conform the covered QFCs to the requirements of the rule. 227 See Section 4(b)(i)(A) of the Universal Protocol. 228 Section 2 of the Universal Protocol provides an exemption for any client-facing leg of a cleared transaction. See Section 2(k) of the Universal Protocol and the definition of ‘‘Cleared Client VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 F. Process for Approval of Enhanced Creditor Protections (Section 252.85 of the Final Rule) As discussed above, the restrictions of the final rule leaves many creditor protections that are commonly included in QFCs unaffected. The final rule also allows any covered entity to submit to the Board a request to approve as compliant with the rule one or more QFCs that contain additional creditor protections—that is, creditor protections that would be impermissible under the restrictions set forth above.229 A covered entity making such a request would be required to provide an analysis of the contractual terms for which approval is requested in light of a range of factors that are set forth in the final rule and intended to facilitate the Board’s consideration of whether permitting the contractual terms would be consistent with the proposed restrictions.230 The Board also expects to consult with the FDIC and OCC during its consideration of such a request. The first two factors concern the potential impact of the requested creditor protections on GSIB resilience and resolvability. The next four concern the scope of the final rule: Adoption on an industry-wide basis, coverage of existing and future transactions, coverage of one or multiple QFCs, and coverage of some or all covered entities. Creditor protections that may be applied on an industry-wide basis may help to ensure that impediments to resolution are addressed on a uniform basis, which could increase market certainty, transparency, and equitable treatment. Creditor protections that apply broadly to a range of QFCs and covered entities would increase the chances that all of a GSIB’s QFC counterparties would be treated the same way during a resolution of that GSIB and may improve the prospects for an orderly resolution of that GSIB. By contrast, proposals that would expand counterparties’ rights beyond those afforded under existing QFCs would conflict with the proposal’s goal of reducing the risk of mass unwinds of GSIB QFCs. The final rule also includes three factors that focus on the creditor protections specific to supported parties. The Board may weigh the appropriateness of additional protections for supported QFCs against Transaction.’’ The final rule does not amend the proposal’s treatment of QFCs that are ‘‘Cleared Client Transactions’’ under the Universal Protocol, but requires that the provisions of that section must not apply with respect to the U.S. Protocol. See final rule § 252.85(a)(3)(ii)(D). 229 See final rule § 252.85(b). 230 Final rule § 252.85(d)(1)–(10). PO 00000 Frm 00031 Fmt 4701 Sfmt 4700 42911 the potential impact of such provisions on the orderly resolution of a GSIB. In addition to analyzing the request under the enumerated factors, a covered entity requesting that the Board approve enhanced creditor protections would be required to submit a legal opinion stating that the requested terms would be valid and enforceable under the applicable law of the relevant jurisdictions, along with any additional relevant information requested by the Board.231 Under the final rule, the Board could approve a request for an alternative set of creditor protections if the terms of the QFC, as compared to a covered QFC containing only the limited creditor protections permitted by the final rule, would prevent or mitigate risks to the financial stability of the United States that could arise from the failure of a GSIB and would protect the safety and soundness of bank holding companies and state member banks to at least the same extent.232 Once approved by the Board, enhanced creditor protections could be used by other covered entities (in addition to the covered entity that submitted the request for Board approval), as appropriate. The requestand-approval process would improve flexibility by allowing for an industryproposed alternative to the set of creditor protections permitted by the final rule while ensuring that any approved alternative would serve the final rule’s policy goals to at least the same extent as a covered QFC that complies fully with the final rule. Commenters requested that this approval process be made less burdensome and more flexible and urged for additional clarifications on the process for submitting and approving such requests (e.g., whether approvals would be published in the Federal Register). For example, commenters requested the final rule include a reasonable timeline (e.g., 180 days) by which the Board would approve or deny a request. Certain commenters urged that counterparties and trade groups, in addition to covered entities, should be permitted to make such requests. One commenter noted that the proposal’s approval process would have created a free-rider problem, where parties that submit enhanced creditor protection conditions for Board approval bear the full cost of learning which remedies are available for creditors while other parties will gain that information for free. Commenters contended that the provision requiring a ‘‘written legal opinion verifying the proposed 231 See 232 See E:\FR\FM\12SER2.SGM final rule § 252.85(b)(3)(ii)–(iii). final rule § 252.85(c). 12SER2 42912 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations provisions and amendments would be valid and enforceable under applicable law of the relevant jurisdictions’’ should be eliminated as unnecessary.233 Additionally, commenters also urged that the provision should be broadened to allow approvals of provisions not directly related to enhanced creditor protections. The Board has clarified that the Board could approve an alternative proposal of additional creditor protections as compliant with sections 252.83 and 252.84 of the final rule, but has not otherwise modified these provisions of the proposal in response to changes requested by commenters. The provisions contain flexibility and guidance on the process for submitting and approving enhanced creditor protections. The final rule directly places requirements only on covered entities, and thus only covered entities are eligible to submit requests pursuant to these provisions. In response to commenters’ concerns, the Board notes that the final rule does not prevent multiple covered entities from presenting one request and does not prevent covered entities from seeking the input of counterparties when developing a request. The final rule does not provide a maximum time to review proposals because proposals could vary greatly in complexity and novelty. The final rule also maintains the provision requiring a written legal opinion, which helps ensure that proposed provisions are valid and enforceable under applicable law. The final rule does not expand the approval process beyond additional creditor protections; however, revisions to aspects of the final rule may be made through the rulemaking process. mstockstill on DSK30JT082PROD with RULES2 III. Transition Periods Under the proposal, the rule would have required compliance on the first day of the first calendar quarter beginning at least one year after the issuance of the final rule, which the proposal referred to as the effective date.234 A number of commenters urged the Board to adopt a phased-in approach to compliance that would extend the 233 One commenter also suggested permitting amendments to QFCs to be accomplished through a confirmation document for a new agreement or by email instead of a formal amendment of the QFC signed by the parties. The final rule does not prescribe a specific method for amending covered QFCs. 234 See proposed rule § 252.82(b). Under section 302(b) of the Riegle Community Development and Regulatory Improvement Act of 1994, new Board regulations that impose requirements on insured depository institutions generally must ‘‘take effect on the first day of a calendar quarter which begins on or after the date on which the regulations are published in final form.’’ 12 U.S.C. 4802(b). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 compliance deadline for covered QFCs with certain types of counterparties in order to allow time for necessary client outreach and education, especially for non-GSIB counterparties that may be unfamiliar with the Universal Protocol or the final rule’s requirements. These commenters contended that the original compliance period of one year should be limited to counterparties that are banks, broker-dealers, swap dealers, security-based swap dealers, major swap participants, and major security-based swap participants. These commenters urged that the compliance period for QFCs with asset managers, commodity pools, private funds, and other entities that are predominantly engaged in activities that are financial in nature within the meaning of section 4(k) of the BHC Act should be extended for six months after the date of the original compliance period identified in the proposed rule. Finally, these commenters argued that the compliance period for QFCs with all other counterparties should be extended for 12 months after the date of the original compliance period identified in the proposed rule as these counterparties are likely to be least familiar with the requirements of the final rule. One commenter suggested that the rule should take effect no sooner than one year from the date that an approved U.S. JMP is published and available for adherence, including any additional time it might take to seek the Board’s approval of it. Certain commenters requested that the compliance deadline for covered QFCs entered into by an agent on behalf of a principal be extended by six months as well. Other commenters, however, cautioned against an approach that would impose different deadlines with respect to different classes of QFCs, as opposed to counterparty types, since the main challenge in connection with the remediation is the need for outreach to and education of counterparties. These commenters contended that once a counterparty has become familiar with the requirements of the rule and the terms of the required amendments, it would be more efficient to remediate all covered QFCs with the counterparty at the same time. A number of commenters also requested that the Board confirm that entities acquired by a GSIB, and thereby become new covered entities, have until the first day of the first calendar quarter immediately following one year after becoming covered entities to conform their existing QFCs. Commenters argued that this would allow the GSIB to conform existing QFCs in an orderly fashion without impairing the ability of PO 00000 Frm 00032 Fmt 4701 Sfmt 4700 covered entities to engage in corporate activities. These commenters also requested clarification that, during that conformance period, affiliates of covered entities would not be prohibited from entering into new transactions or QFCs with counterparties of the newly acquired entity if the existing covered entities otherwise comply with the rule’s requirements. Some commenters urged the Board to exclude existing contracts from the final rule’s requirements and only apply the rule on a prospective basis. The effective date for the final rule is 60 days following publication in the Federal Register. However, in order to reduce the compliance burden of the final rule, the Board has adopted a phased-in compliance schedule, as requested by commenters. The final rule provides that a covered entity must conform a covered QFC to the requirements of this final rule by the first day of the calendar quarter immediately following one year from the effective date of this subpart with respect to covered QFCs with other covered entities and excluded banks (referred to in this discussion as the ‘‘first compliance date’’).235 This provision allows the counterparties that should be most familiar with the requirements of the final rule over one year to conform with the rule’s requirements. Moreover, this is a relatively small number of counterparties that would need to modify their QFCs in the first year following the effective date of the final rule, and many covered entities and excluded banks with covered QFCs have already adhered to the Universal Protocol. The final rule provides additional time for compliance with the requirements for other types of counterparties. In particular, for other types of financial counterparties 236 (other than small financial institutions) 237, the final rule provides 235 See final rule § 252.82(f)(1)(i). The definition of covered QFC of the final rule has been revised to make clear that, consistent with the proposal, a covered QFC is a QFC that the covered entity becomes a party to on or after the first day of the calendar quarter immediately following one year from the effective date of this subpart. See final rule § 252.82(c). As discussed above, a covered entity’s in-scope QFC that is entered into before this date may also be a covered QFC if the covered entity or any affiliate that is a covered entity or excluded bank also becomes a party to a QFC with the same counterparty or a consolidated affiliate of the same counterparty on or after the first compliance date. See id. 236 See final rule § 252.81 (defining ‘‘financial counterparty’’). 237 The final rule defines small financial institution as an insured bank, insured savings E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations approximately 18 months from the effective date of the final rule for compliance with its requirements, as requested by commenters.238 For community banks and other nonfinancial counterparties, the final rule provides approximately two years from the effective date of the final rule for compliance with its requirements, as requested by commenters.239 Adopting a phased-in compliance approach based on the type (and, in some cases, size) of the counterparty will allow market participants time to adjust to the new requirements and make required changes to QFCs in an orderly manner. It will also give time for development of the U.S. Protocol or any other protocol that would meet the requirements of the final rule. The Board is giving this additional time for compliance to respond to concerns raised by commenters. The Board encourages covered entities to start planning and outreach efforts early in order to come into compliance with the rule on the time frames provided. The Board believes that this additional time for compliance should also address concerns raised by commenters regarding the burden of conforming existing contracts by allowing firms additional time to conform all covered QFCs to the requirements of the final rule. Although the phased-in compliance period does not contain special rules related to acting as an agent as requested by certain commenters, the rule has been modified as described above to clarify that a covered entity does not become a party to a QFC solely by acting as agent with respect to the QFC.240 Entities that are covered entities when the final rule is effective would be required to comply with the requirements of the final rule beginning on the first compliance date. Thus, a covered entity would be required to ensure that covered QFCs entered into on or after the first compliance date comply with the rule’s requirements but would be given more time to conform such covered QFCs with entities that are not covered entities or excluded banks.241 Moreover, a covered entity would be required to bring an in-scope QFC entered into prior to the first compliance date into compliance with the rule no later than the applicable date of the tiered compliance dates (discussed above) if the covered entity association, farm credit system institution, or credit union with assets of $10,000,000,000 or less. See final rule § 252.81. 238 See final rule § 252.82(f)(1)(ii). 239 See final rule § 252.82(f)(1)(iii). 240 See final rule § 252.82(e)(1). 241 See final rule §§ 252.82(c)(1), 252.82(f)(1). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 or an affiliate (that is also a covered entity or excluded bank) enters into a new covered QFC with the counterparty to the pre-existing covered QFC or a consolidated affiliate of the counterparty on or after the first compliance date.242 (Thus, a covered entity would not be required to conform a pre-existing QFC if that covered entity and its covered entity and excluded bank affiliates do not enter into any new QFCs with the same counterparty or its consolidated affiliates on or after the first compliance date.) In addition, an entity that becomes a covered entity after the effective date of the final rule (a ‘‘new covered entity’’ for purposes of this preamble) generally has the same period of time to comply as an entity that is a covered entity on the effective date (i.e., compliance will phase in over a two-year period based on the type of counterparty).243 The final rule also clarifies that a covered QFC, with respect to a new covered entity, means an in-scope QFC that the new covered entity becomes a party to (1) on the date the covered entity first becomes a covered entity, and (2) before that date, if the covered entity or one of its affiliates that is a covered entity or exempt bank also enters, executes, or otherwise becomes a party to a QFC with the same counterparty or a consolidated affiliate of the counterparty after that date.244 Under the final rule, a company that is a covered entity on the effective date of the final rule (an ‘‘existing covered entity’’ for purposes of this preamble) and becomes an affiliate of a new covered entity generally must conform any existing but non-conformed inscope QFC that the existing covered entity continues to have with a counterparty after the applicable initial compliance date by the date the new covered entity enters a QFC with the same counterparty (or any of its consolidated affiliates) or within a reasonable period thereafter. Acquisitions of new entities are planned in advance and should include preparing to comply with applicable laws and regulations. Certain commenters opposed application of the requirements of the rule to existing QFCs, requesting instead that the final rule only apply to QFCs entered into after the effective date of any final rule and that all pre-existing QFCs not be subject to the rule’s requirements. Commenters suggested that end users of QFCs with GSIB affiliates might not have entered into 242 See id. final rule § 252.82(f)(2). 244 See final rule § 252.82(c)(2). 243 See PO 00000 Frm 00033 Fmt 4701 Sfmt 4700 42913 existing contracts without the default rights prohibited in the proposed rule and that revising existing QFCs would be time-consuming and expensive. Commenters pointed out that this treatment would be consistent with the final rules in the United Kingdom and the statutory requirements adopted by Germany. The Board does not believe it is appropriate to exclude all pre-existing QFCs because of the current and future risk that existing covered QFCs pose to the orderly resolution of a covered entity. Moreover, application of different default rights to existing and future transactions within a netting set could cause the netting set to be broken, which commenters noted could increase burden to both parties to the netting set.245 Therefore, the final rule requires an existing QFC between a covered entity and a counterparty to be conformed to the requirements of the final rule if the covered entity (or an affiliate that is a covered entity or excluded bank) enters into another QFC with the counterparty or its consolidated affiliate on or after the first day of the calendar quarter immediately following one year from the effective date of the final rule.246 By permitting a covered entity to remain a party to noncompliant QFCs entered before the effective date unless the covered entity or any affiliate (that is also a covered entity or excluded bank) enters into new QFCs with the same counterparty or its affiliates, the final rule strikes a balance between ensuring QFC continuity if the GSIB were to fail and ensuring that covered entities and their existing counterparties can manage any compliance costs and disruptions associated with conforming existing QFCs by refraining from entering into new QFCs. The requirement that a covered entity ensure that all existing QFCs with a particular counterparty and its affiliates are compliant before it or any affiliate of the covered entity (that is also a covered entity or excluded bank) enters into a new QFC with the same counterparty or its affiliates after the effective date will provide covered entities with an incentive to seek the modifications necessary to ensure that their QFCs with their most important counterparties are compliant. Moreover, the volume of noncompliant covered 245 The requirements of the final rule, particularly those of section 252.84, may have a different impact on netting, including close-out netting, than the U.K. and German requirements cited by commenters. 246 Subject to any compliance date applicable to the covered entity, the Board expects a covered entity to conform existing QFCs that become covered QFCs within a reasonable period. E:\FR\FM\12SER2.SGM 12SER2 42914 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations QFCs outstanding can be expected to decrease over time and eventually to reach zero. In light of these considerations, and to avoid creating potentially inappropriate compliance costs with respect to existing QFCs with counterparties that, together with their consolidated affiliates, do not enter into new covered QFCs with the GSIB on or after the first day of the calendar quarter that is one year from the effective date of the final rule, it would be appropriate to permit a limited number of noncompliant QFCs to remain outstanding, in keeping with the terms described above. Moreover, the final rule also excludes existing warrants and retail investment advisory agreements to address concerns raised by commenters and mitigate burden.247 That said, the Board will monitor covered entities’ levels of noncompliant QFCs and evaluate the risk, if any, that they pose to the safety and soundness of the GSIBs or to U.S. financial stability. IV. Costs and Benefits The Board invited comment on its evaluation of the costs and benefits of the proposal. In response to comments received, the Board has made a number of changes to the proposal that are expected to reduce costs and burdens of compliance with the final rule while at the same time ensuring that the final rule serves its intended purposes. A number of commenters argued that particular aspects of the proposal were burdensome and costly as described throughout this SUPPLEMENTARY INFORMATION. One commenter stated that the proposal was overly complex and difficult for market participants to evaluate and for courts to interpret, which could lead to potentially different or conflicting interpretations.248 Another commenter contended that the Board has not adequately considered the litigation costs that will result from the final rule’s heightened burden of proof. Certain commenters expressed the view that the proposal made unquantified assumptions about the costs, provided no evidence that benefits would outweigh the costs, and did not discuss the impact of the requirements for particular market segments (e.g., physical commodity markets). Certain 247 See final rule § 252.88(c). commenters requested that the rule be rewritten to be more understandable to non-covered entity counterparties and that the Board release FAQs regarding this final rule that are understandable to non-financial counterparties. The Board has endeavored to clarify the final rule as much as possible and has discussed those clarifications throughout this SUPPLEMENTARY INFORMATION. The Board does not believe FAQs for this final rule are required at this time, but will consider the need for such FAQs in the future. mstockstill on DSK30JT082PROD with RULES2 248 Some VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 commenters urged the Board to consider the costs of the contractual default rights lost under the rule and to consider the compliance costs and additional collateral costs the rule will impose on non-GSIB parties to QFCs (including parties not regulated by the Board), particularly in stress scenarios where the non-GSIB party cannot require the GSIB counterparty to post collateral. Some commenters contended that GSIB entities will have to compensate sophisticated non-covered entities for the additional risks they are forced to incur if forced to give up default rights and will bear the cost of the economic barriers to engaging in international finance that follow from this rule. A few commenters argued that, before the Board proceeds to finalize this rule, the Board should conduct a study and assessment of the costs and benefit as well as the market impact of the proposed rules, the TLAC rules, and the broader FSB initiatives, with a specific focus on application to existing default rights and the impact on all affected market participants. Other commenters pointed out that since large banks already adhere to the Universal Protocol, more than 90 percent of outstanding notional swaps are already subject to stays. These commenters argued that further study and analysis was needed to determine whether it is necessary to restrict enduser default rights by subjecting them indirectly to the proposed rule to capture the remaining 10 percent of the swaps market, including why the benefits outweigh the costs. Commenters also urged further analysis of why other categories of QFCs present the same concerns as swaps such that it is necessary for the Board to alter default rights contained therein (e.g., commodity and forward contracts) and the likely effect of the proposed rule on the markets for such QFCs. One commenter argued that the benefits of the proposal likely substantially outweigh the costs. This commenter contended that the losses in the Lehman bankruptcy alone due to the ability of counterparties to close out QFCs and seize collateral destroyed millions if not billions of dollars and argued that the exemption of QFCs from the automatic stay of the U.S. Bankruptcy Code has effectively subsidized the cost of credit extended among QFC participants. In this commenter’s view, any increase in the cost of QFCs relative to other financial instruments does not reflect true additional cost but rather reflects the loss of this implicit subsidy. The commenter estimated that the 2008 financial crisis following the Lehman PO 00000 Frm 00034 Fmt 4701 Sfmt 4700 bankruptcy had an estimated cost in lost or avoided gross domestic product of more than $20 trillion. The final rule is intended to yield substantial net benefits for the financial stability of the United States by reducing the potential that resolution of a GSIB, particularly a resolution in bankruptcy, will be disorderly and disruptive to financial stability. These benefits are expected to substantially outweigh the costs associated with the final rule. The costs of the final rule to covered entities and their QFC counterparties would generally be of three types. The first cost would be the cost to QFC counterparties arising from the relinquishment of certain rights, such as cross-default rights, that would have been permitted prior to the rule. However, the costs of restricting such rights are expected to be low as the nature of the rights that are restricted is narrow, the likelihood of exercising such rights is low, and other forms of protection are available that are not prohibited by the rule. The second cost associated with the rule is the cost of lost revenue for covered entities that might result if noncovered entity counterparties refuse to engage in QFCs with covered entities as a result of the reduction in rights required by the rule. This cost, however, only accrues in the aggregate to the financial system to the extent that noncovered entity counterparties refuse to engage in QFCs with any counterparty. Third and finally, this rule imposes costs on covered entities and noncovered entities to the extent that they are required to bear legal and administrative costs associated with drafting and negotiating compliant contracts. These costs are expected to be small relative to the costs of doing business in the financial sector generally. Moreover, the final rule explicitly allows for the use of standardized industry protocols in lieu of complying with the terms of the rule, which should reduce the legal and administrative costs associated with complying with the rule. The Board has taken into account the information regarding costs and benefits provided by commenters and modified the proposed rule to reduce costs. To reduce the overall burden, the final rule contains a number of changes to respond to commenter concerns. As described above, the final rule reduces compliance and negotiating costs by excluding contracts from the scope of ‘‘covered QFCs’’ subject to the requirements of the final rule to the extent the contract contains no default, cross-default, or transfer restrictions. E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations Commenters argued that remediating such contracts would be costly without an attendant benefit to resolution of a GSIB. The final rule also only requires remediation of existing contracts with a counterparty if the counterparty or a consolidated affiliate of the counterparty enters into a new QFC with the covered entity (or certain affiliates). This change to consolidated affiliate is in response to many commenters’ argument that burden would be mitigated by defining counterparties by reference to financial consolidation. Additionally, in certain cases, where remediation of existing contracts would be difficult, the Board excludes such existing contracts from the scope of coverage of the requirements of the final rule. Finally, the final rule allows for the application of two standardized industry protocols as a means of complying with the requirements of the final rule. Adhering to an industry protocol will provide for a low cost and efficient means of compliance that does not result in excessive amounts of legal or administrative costs. The final rule similarly excludes from section 252.83 contracts that are with U.S. counterparties and governed by U.S. law. Commenters argued that renegotiating these contracts would be burdensome with no benefit to resolution. The final rule has also been modified to address concerns raised by foreign GSIBs regarding QFCs under multi-branch master agreements by excluding from the rule QFCs where only payment or delivery may be made at a U.S. branch or agency. Foreign GSIB commenters urged that this change would eliminate the need under the proposal to modify thousands of contracts at great cost. The final rule also provides a longer transition period requested by commenters for certain counterparties in order to help mitigate the compliance burden on covered entities and their counterparties. The Board believes that the changes above address many of the significant concerns raised by commenters regarding the burdens of the proposed rule and should serve to mitigate the compliance costs of the final rule. The Board also notes that application of the final rule is limited to GSIBs and believes that this approach to limiting the application of this final rule sensibly balances the costs and benefits of the rule by effectively managing systemic risk while at the same time limiting the burden of compliance by not requiring non-GSIB firms to comply with any part of this final rule. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 Additionally, the stay-and-transfer provisions of the Dodd-Frank Act and the FDI Act are already in force, and the Universal Protocol is already partially effective. This observation provides further support for the view that any marginal costs created by the final rule—which is intended to extend the effects of the stay-and-transfer provisions under those acts and the Universal Protocol—are unlikely to be material. Thus, the costs of the final rule are likely to be small relative to its benefits. These relatively small costs appear to be significantly outweighed by the substantial benefits that the rule would produce for the U.S. economy. Financial crises impose enormous costs on the real economy, so even small reductions in the probability or severity of future financial crises create substantial economic benefits. The final rule would materially reduce the risk to the financial stability of the United States that could arise from the severe distress or failure of a GSIB by enhancing the prospects for the orderly resolution of such a firm and would thereby materially reduce the probability and severity of financial crises in the future. The final rule would therefore advance a key objective of the Dodd-Frank Act and help protect the American economy from the substantial costs associated with more frequent and severe financial crises. In addition, the final rule would likely benefit subsidiaries of a failed GSIB, as well as their counterparties and creditors, by helping to prevent the disorderly failure of the subsidiaries and allowing them to continue to meet their obligations. Moreover, non-covered entity counterparties may choose to engage in QFCs with non-GSIB counterparties, in which case revenue that is lost by a GSIB may be recouped by a non-GSIB and aggregate QFC activity by the financial system would not decline. V. Revisions to Certain Definitions in the Board’s Capital and Liquidity Rules The final rule also amends several definitions in the Board’s capital and liquidity rules to help ensure that the final rule would not have unintended effects for the treatment of covered entities’ netting sets under those rules. The amendments are similar to the proposed rule as well as revisions that the Board and the OCC made in a 2014 interim final rule to prevent similar effects from foreign jurisdictions’ special resolution regimes and firms’ PO 00000 Frm 00035 Fmt 4701 Sfmt 4700 42915 adherence to the 2014 Universal Protocol.249 The Board’s regulatory capital rules permit a banking organization to measure exposure from certain types of financial contracts on a net basis and recognize the risk-mitigating effect of financial collateral for other types of exposures, provided that the contracts are subject to a ‘‘qualifying master netting agreement’’ or agreement that provides for certain rights upon the default of a counterparty.250 The Board has defined ‘‘qualifying master netting agreement’’ to mean a netting agreement that permits a banking organization to terminate, apply close-out netting, and promptly liquidate or set off collateral upon an event of default of the counterparty, thereby reducing its counterparty exposure and market risks.251 On the whole, measuring the amount of exposure of these contracts on a net basis, rather than on a gross basis, results in a lower measure of exposure and thus a lower capital requirement. The current definition of ‘‘qualifying master netting agreement’’ recognizes that default rights may be stayed if the financial company is in resolution under the Dodd-Frank Act, the FDI Act, a substantially similar law applicable to government-sponsored enterprises, or a substantially similar foreign law, or where the agreement is subject by its terms to any of those laws. Accordingly, transactions conducted under netting agreements where default rights may be stayed in those circumstances may qualify for the favorable capital treatment described above. However, the current definition of ‘‘qualifying master netting agreement’’ does not recognize the restrictions that the final rule would impose on the QFCs of covered entities. Thus, a master netting agreement that is compliant with the final rule would not qualify as a qualifying master netting agreement. This would result in considerably higher capital and liquidity requirements for QFC counterparties of covered entities, which is not an intended effect of the final rule. Accordingly, the final rule amends the definition of ‘‘qualifying master netting agreement’’ so that a master netting agreement could qualify for such treatment where the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set off collateral promptly upon an event of default of the counterparty is consistent with the 249 See 12 CFR part 217. id. 251 See 12 CFR 217.2. 250 See E:\FR\FM\12SER2.SGM 12SER2 42916 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 requirements of the final rule. This revision maintains the existing treatment for these contracts under the Board’s capital and liquidity rules by accounting for the restrictions that the final rule, or the substantively identical rules expected to be issued by the FDIC and OCC, would place on default rights related to covered entities’ and excluded banks’ QFCs. The Board does not believe that the disqualification of master netting agreements that would result in the absence of the amendment would accurately reflect the risk posed by the affected QFCs. As discussed above, the implementation of consistent restrictions on default rights in GSIB QFCs would increase the prospects for the orderly resolution of a failed GSIB and thereby protect the financial stability of the United States. The final rule similarly revises certain other definitions in the regulatory capital rules to make analogous conforming changes designed to account for the final rule’s restrictions and ensure that a banking organization may continue to recognize the risk-mitigating effects of financial collateral received in a secured lending transaction, repo-style transaction, or eligible margin loan for purposes of the Board’s rules. Specifically, the final rule revises the definitions of ‘‘collateral agreement,’’ ‘‘eligible margin loan,’’ and ‘‘repo-style transaction’’ to provide that a counterparty’s default rights may be limited as required by the final rule without unintended effects.252 The rule establishing margin and capital requirements for covered swap entities (swap margin rule) defines the term ‘‘eligible master netting agreement’’ in a manner similar to the definition of ‘‘qualifying master netting agreement.’’ 253 Thus, it may also be appropriate to amend the definition of ‘‘eligible master netting agreement’’ to account for the restrictions on covered entities’ QFCs. Because the Board issued the swap margin rule jointly with other U.S. regulatory agencies, however, the Board is consulting with the other prudential regulators regarding amending that rule’s definition of ‘‘eligible master netting agreement.’’ 252 As noted above, the FDIC and OCC are expected to issue substantively identical final rules in the near future. A Board-regulated instiution that amends a qualifying master netting agreement, collateral agreement, eligible margin loan, or repostyle transaction to the extent necessary for its counterparty to conform the agreement to any final rules issued by the FDIC or OCC would continue to meet such definition under the Board’s capital and/or liquidity rules, regardless of whether the agreement is amended before the effective date of any final rule issued by the FDIC or OCC. 253 80 FR 74840, 74861–62 (Nov. 30, 2015). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 Certain commenters requested technical modifications to the proposed modifications to the definitions to better distinguish the requirements of section 252.84 and the provisions of Section 2 of the Universal Protocol from provisions regarding ‘‘opt in’’ to special resolution regimes. In response to this comment, the final rule establishes an independent exception addressing the requirements of section 252.84 and the provisions of Section 2 of the Universal Protocol and makes other minor clarifying edits. One commenter requested that the definitions of the terms ‘‘collateral agreement,’’ ‘‘eligible margin loan,’’ ‘‘qualifying master netting agreement,’’ and ‘‘repo-style transaction’’ include references to stays in state resolution regimes (such as insurance receiverships). The commenters did not identify, and the Board is not aware of, any state resolution regime that currently includes QFC stays similar to those of the U.S. Special Resolution Regimes. Neither the nature of the potential laws nor the extent of their effect on the regulatory capital requirements of Board-regulated institutions is known. Therefore, the final rule does not reference state resolution regimes. One commenter argued that neither the current nor the proposed definition of qualifying master netting agreement comports with section 302(a) of the Business Risk Mitigation and Price Stabilization Act of 2015, which exempts certain types of counterparties from initial and variation margin requirements, and that the proposed amendments to the definition add unnecessary complexity to the Board’s existing rules and therefore make compliance more difficult. Section 302(a) of that act is not relevant to the definition of qualifying master netting agreement because the definition does not require initial or variation margin. Rather, the definition of qualifying master netting agreement requires that margin provided under the agreement, if any, be able to be promptly liquidated or set off under the circumstances specified in the definition. The Board continues to believe that the amendments are necessary and do not substantially add to the complexity of the Board’s rules. VI. Regulatory Analysis A. Paperwork Reduction Act Certain provisions of the final rule contain ‘‘collection of information’’ requirements within the meaning of the Paperwork Reduction Act (PRA) of 1995 (44 U.S.C. 3501 through 3521). The PO 00000 Frm 00036 Fmt 4701 Sfmt 4700 Board reviewed the final rule under the authority delegated to the Board by the Office of Management and Budget (OMB). The reporting requirements are found in sections 252.85(b) and 252.87(b) of the final rule. These information collection requirements would be implemented pursuant to section 165 of the Dodd-Frank Act, as well as its safety and soundness and other relevant authorities, as described in the Abstract below. In accordance with the requirements of the PRA, the Board may not conduct or sponsor, and the respondent is not required to respond to, an information collection unless it displays a currently valid OMB control number. The final rule would revise the Reporting, Recordkeeping, and Disclosure Requirements Associated with Enhanced Prudential Standards (Regulation YY) (Reg YY; OMB No. 7100–0350). In addition, as permitted by the PRA, the Board proposes to extend for three years, with revision, the Reporting, Recordkeeping, and Disclosure Requirements Associated with Enhanced Prudential Standards (Regulation YY) (Reg YY; OMB No. 7100–0350). The Board received no comments on the PRA. The Board has a continuing interest in the public’s opinions of collections of information. At any time, commenters may submit comments regarding the burden estimate, or any other aspect of this collection of information, including suggestions for reducing the burden, to the ADDRESSES section. All comments will become a matter of public record. Additionally, commenters may send a copy of their comments to the OMB desk officer for the agency by mail to the Office of Information and Regulatory Affairs, U.S. Office of Management and Budget, New Executive Office Building, Room 10235, 725 17th Street NW., Washington, DC 20503; by fax to (202) 395–6974; or by email to oira_ submission@omb.eop.gov. Proposed Revision, With Extension, of the Following Information Collection Title of Information Collection: Reporting, Recordkeeping, and Disclosure Requirements Associated with Enhanced Prudential Standards (Regulation YY). Agency Form Number: Reg YY. OMB Control Number: 7100–0350. Frequency of Response: Annual, semiannual, quarterly, one-time, and on occasion. Affected Public: Businesses or other for-profit. Respondents: State member banks, U.S. bank holding companies, savings and loan holding companies, nonbank E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations financial companies, foreign banking organizations, U.S. intermediate holding companies, foreign savings and loan holding companies, and foreign nonbank financial companies supervised by the Board. Abstract: Section 165 of the DoddFrank Act requires the Board to implement enhanced prudential standards for bank holding companies with total consolidated assets of $50 billion or more, including global systemically important foreign banking organizations with $50 billion or more in total consolidated assets. Section 165 of the Dodd-Frank Act also permits the Board to establish such other prudential standards for such banking organizations as the Board determines are appropriate. This regulation is being implemented by the Board under section 165 of the Dodd-Frank Act, as well as its safety and soundness and other relevant authorities.254 mstockstill on DSK30JT082PROD with RULES2 Reporting Requirements Section 252.85(b) of the final rule would require a covered entity to request the Board to approve as compliant with the requirements of sections 252.83 and 252.84 of this subpart provisions of one or more forms of covered QFCs, or proposed amendments to one or more forms of covered QFCs, with enhanced creditor protection conditions. Enhanced creditor protection conditions means a set of limited exemptions to the requirements of section 252.84(b) of this subpart that are different than those of paragraphs (d), (f), and (h) of section 252.84 of this subpart. A covered entity making a request must provide (1) an analysis of the proposal under each consideration of paragraph 252.85(d) of this subpart; (2) a written legal opinion verifying that proposed provisions or amendments would be valid and enforceable under applicable law of the relevant jurisdictions, including, in the case of proposed amendments, the validity and enforceability of the proposal to amend the covered QFCs; and (3) any additional relevant information that the Board requests. Section 252.87(b) of the final rule would require each top-tier foreign banking organization that determines that it has the characteristics of a global systemically important banking organization under the global methodology to notify the Board of the 254 12 U.S.C. 321–338a, 481–486, 1467a, 1818, 1828, 1831n, 1831o, 1831p–l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 3101 note, 3904, 3906–3909, 4808, 5361, 5362, 5365, 5366, 5367, 5368, 5371. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 determination by January 1 of each calendar year.255 Estimated Paperwork Burden for Proposed Revisions Estimated Number of Respondents: Section 252.85(b)—10 respondents. Section 252.87(b)—22 respondents. Estimated Burden per Response: Section 252.85(b)—40 hours. Section 252.87(b)—1 hour. Current estimated annual burden for Reporting, Recordkeeping, and Disclosure Requirements Associated with Enhanced Prudential Standards (Regulation YY): 118,842 hours. Proposed revisions estimated annual burden: 422 hours. Total estimated annual burden: 119,264 hours. B. Regulatory Flexibility Act: Final Regulatory Flexibility Analysis The Regulatory Flexibility Act, 5 U.S.C. 601 et seq. (RFA), generally requires that an agency prepare and make available an initial regulatory flexibility analysis in connection with a notice of proposed rulemaking. The Board solicited public comment on this rule in a notice of proposed rulemaking 256 and has considered the potential impact of this rule on small entities in accordance with section 604 of the RFA. Based on the Board’s analysis, and for the reasons stated below, the Board believes the final rule will not have a significant economic impact on a substantial number of small entities. Under regulations issued by the Small Business Administration, a small entity includes a depository institution, bank holding company, or savings and loan holding company with assets of $550 million or less (small banking entities).257 Based on data as of June 2017, there are approximately 3,758 bank holding companies, savings and loan holding companies, and state member banks that have total domestic assets of $550 million or less and thus are considered small entities for purposes of the RFA. Based on the Board’s analysis, and for the reasons stated below, the Board believes the final rule will not have a significant 255 Global methodology means the assessment methodology and the higher loss absorbency requirement for global systemically important banks issued by the Basel Committee on Banking Supervision, as updated from time to time. 12 CFR 252.2(o). 256 See 81 FR 29169 (May 11, 2016). 257 See 13 CFR 121.201. Effective July 14, 2014, the Small Business Administration revised the size standards for banking organizations to $550 million in assets from $500 million in assets. 79 FR 33647 (June 12, 2014). PO 00000 Frm 00037 Fmt 4701 Sfmt 4700 42917 economic impact on a substantial number of small entities. 1. Statement of the need for, and objectives of, the final rule. As discussed, the Board is issuing this final rule as part of its program to make GSIBs more resolvable in order to reduce the risk that their failure would pose to the financial stability of the United States, consistent with section 165 of the Dodd-Frank Act. In particular, the primary purpose of the final rule is to reduce the risk that the exercise of default rights by a failing GSIB’s QFC counterparties would lead to a disorderly failure of the GSIB and would produce negative contagion and disruption that could destabilize the U.S. financial system. 2. Significant issues raised by the public comments in response to the IRFA and comments filed by the Chief Counsel for Advocacy of the Small Business Administration in response to the proposed rule and summary of any changes made in the proposed rule as a result of such comments. Commenters did not raise any issues in response to the IRFA. The Chief Counsel for Advocacy of the Small Business Administration did not file any comments in response to the proposed rule. 3. Description and estimate of the number of small entities to which the final rule will apply. The final rule’s requirements to conform covered QFCs would only apply to GSIBs, which are the largest, most systemically important banking organizations, and certain of their subsidiaries. More specifically, the final rule would apply to (a) any U.S. GSIB top-tier bank holding company, (b) any subsidiary of such a bank holding company other than the exceptions described in the SUPPLEMENTARY INFORMATION above for institutions regulated by the FDIC and OCC and certain investments, and (c) the U.S. operations of any foreign GSIB other than the exceptions described in the SUPPLEMENTARY INFORMATION above for institutions regulated by the FDIC and OCC and certain investments. The Board estimates that these requirements would apply to approximately 30 banking organizations: Eight U.S. bank holding companies (i.e., U.S. GSIBs) and approximately 22 foreign banking organizations (i.e., foreign GSIBs with U.S. operations). None of these banking organizations would qualify as a small banking entity for the purposes of the RFA. However, as discussed above, the final rule also applies to each covered GSIB’s subsidiary that meets the definition of a covered entity (regardless of the subsidiary’s size) because an E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42918 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations exemption for small entities would significantly impair the effectiveness of the proposed stay-and-transfer provisions and thereby undermine a key objective of the final rule: To reduce the execution risk of an orderly GSIB resolution. The Board anticipates that any small subsidiary of a GSIB that is covered by this final rule would rely on its parent GSIB or a large subsidiary of that GSIB for reporting, recordkeeping, or similar compliance requirements and would not bear additional costs. Section 252.87(b) of the final rule would require each top-tier foreign banking organization that determines that it has the characteristics of a global systemically important banking organization under the global methodology to notify the Board of the determination by January 1 of each calendar year.258 All of these organizations by definition have $50 billion or more in total consolidated assets. None of these banking organizations would qualify as a small banking entity for the purposes of the RFA. 4. Significant alternatives to the final rule. In light of the foregoing, the Board does not believe that this final rule will have a significant negative economic impact on any small entities and therefore believes that there are no significant alternatives to the final rule that would reduce the impact on small entities. 5. Steps taken to minimize the significant economic impact on small entities. As noted, the Board believes that an exemption for small entities would significantly impair the effectiveness of the proposed stay-and-transfer provisions and thereby undermine a key objective of the final rule: To reduce the execution risk of an orderly GSIB resolution. The Board did not receive any comments from small entities suggesting alternatives specific to those entities or quantifying their projected costs. The Board received, however, general comments that suggested alternatives that would reduce the burden on entities without regard to size. The Board has considered those comments and changes in the final rule in response to such comments in other sections of this SUPPLEMENTARY INFORMATION section. In addition, the Board anticipates that any small subsidiary of a GSIB that is covered by 258 Global methodology means the assessment methodology and the higher loss absorbency requirement for global systemically important banks issued by the Basel Committee on Banking Supervision, as updated from time to time. 12 CFR 252.2(o). VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 this final rule would rely on its parent GSIB or a large subsidiary of that GSIB for reporting, recordkeeping, or similar compliance requirements and would not bear additional costs. C. Riegle Community Development and Regulatory Improvement Act of 1994 The Riegle Community Development and Regulatory Improvement Act of 1994 (RCDRIA) requires that each Federal banking agency, in determining the effective date and administrative compliance requirements for new regulations that impose additional reporting, disclosure, or other requirements on insured depository institutions, consider, consistent with principles of safety and soundness and the public interest, any administrative burdens that such regulations would place on depository institutions, including small depository institutions, and customers of depository institutions, as well as the benefits of such regulations. The Board has considered comment on these matters in other sections of this SUPPLEMENTARY INFORMATION section. In addition, new regulations that impose additional reporting, disclosures, or other new requirements on insured depository institutions generally must take effect on the first day of a calendar quarter that begins on or after the date on which the regulations are published in final form. Therefore, covered entities, which include certain insured depository institutions, are required to comply with the requirements of the final rule on the first day of calendar quarters after the effective date of the regulation. D. Use of Plain Language Section 722 of the Gramm-LeachBliley Act requires the U.S. banking agencies to use plain language in all proposed and final rulemakings published after January 1, 2000.259 The Board received no comment on these matters and believes that the final rule is written plainly and clearly. List of Subjects in 12 CFR Parts 217, 249, and 252 Administrative practice and procedure, Banks, Banking, Federal Reserve System, Holding companies, Reporting and recordkeeping requirements, Securities. Authority and Issuance For the reasons stated in the Supplementary Information, the Board of Governors of the Federal Reserve 259 12 PO 00000 Fmt 4701 PART 217—CAPITAL ADEQUACY OF BANK HOLDING COMPANIES, SAVINGS AND LOAN HOLDING COMPANIES, AND STATE MEMBER BANKS (REGULATION Q) 1. The authority citation for part 217 continues to read as follows: ■ Authority: 12 U.S.C. 248(a), 321–338a, 481–486, 1462a, 1467a, 1818, 1828, 1831n, 1831o, 1831p–l, 1831w, 1835, 1844(b), 1851, 3904, 3906–3909, 4808, 5365, 5368, 5371. 2. Section 217.2 is amended by: a. Revising the definition of ‘‘collateral agreement’’; ■ b. Revising paragraph (1)(iii) of the definition of ‘‘eligible margin loan’’; ■ c. Revising the definition of ‘‘qualifying master netting agreement’’; ■ d. Republishing the introductory text of the definition of ‘‘repo-style transaction’’; and ■ e. Revising paragraph (3)(ii)(A) of the definition of ‘‘repo-style transaction’’. The revisions and republication are set forth below: ■ ■ § 217.2 Definitions. * * * * * Collateral agreement means a legal contract that specifies the time when, and circumstances under which, a counterparty is required to pledge collateral to a Board-regulated institution for a single financial contract or for all financial contracts in a netting set and confers upon the Boardregulated institution a perfected, firstpriority security interest (notwithstanding the prior security interest of any custodial agent), or the legal equivalent thereof, in the collateral posted by the counterparty under the agreement. This security interest must provide the Board-regulated institution with a right to close-out the financial positions and liquidate the collateral upon an event of default of, or failure to perform by, the counterparty under the collateral agreement. A contract would not satisfy this requirement if the Board-regulated institution’s exercise of rights under the agreement may be stayed or avoided: (1) Under applicable law in the relevant jurisdictions, other than: (i) In receivership, conservatorship, or resolution under the Federal Deposit Insurance Act, Title II of the DoddFrank Act, or under any similar insolvency law applicable to GSEs, or laws of foreign jurisdictions that are substantially similar 4 to the U.S. laws 4 The Board expects to evaluate jointly with the OCC and Federal Deposit Insurance Corporation U.S.C. 4809(a). Frm 00038 System amends 12 CFR parts 217, 249, and 252 as follows: Sfmt 4700 E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 referenced in this paragraph (1)(i) in order to facilitate the orderly resolution of the defaulting counterparty; (ii) Where the agreement is subject by its terms to, or incorporates, any of the laws referenced in paragraph (1)(i) of this definition; or (2) Other than to the extent necessary for the counterparty to comply with the requirements of subpart I of the Board’s Regulation YY (part 252 of this chapter), part 47 of this title, or part 382 of this title, as applicable. * * * * * Eligible margin loan means: (1) * * * (iii) The extension of credit is conducted under an agreement that provides the Board-regulated institution the right to accelerate and terminate the extension of credit and to liquidate or set-off collateral promptly upon an event of default, including upon an event of receivership, insolvency, liquidation, conservatorship, or similar proceeding, of the counterparty, provided that, in any such case: (A) Any exercise of rights under the agreement will not be stayed or avoided under applicable law in the relevant jurisdictions, other than: (1) In receivership, conservatorship, or resolution under the Federal Deposit Insurance Act, Title II of the DoddFrank Act, or under any similar insolvency law applicable to GSEs,5 or laws of foreign jurisdictions that are substantially similar 6 to the U.S. laws referenced in this paragraph (1)(iii)(A)(1) in order to facilitate the orderly resolution of the defaulting counterparty; or (2) Where the agreement is subject by its terms to, or incorporates, any of the laws referenced in paragraph (1)(iii)(A)(1) of this definition; and (B) The agreement may limit the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default of the counterparty to the extent necessary for the counterparty to comply with the requirements of whether foreign special resolution regimes meet the requirements of this paragraph. 5 This requirement is met where all transactions under the agreement are (i) executed under U.S. law and (ii) constitute ‘‘securities contracts’’ under section 555 of the Bankruptcy Code (11 U.S.C. 555), qualified financial contracts under section 11(e)(8) of the Federal Deposit Insurance Act, or netting contracts between or among financial institutions under sections 401–407 of the Federal Deposit Insurance Corporation Improvement Act or the Federal Reserve Board’s Regulation EE (12 CFR part 231). 6 The Board expects to evaluate jointly with the OCC and Federal Deposit Insurance Corporation whether foreign special resolution regimes meet the requirements of this paragraph. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 subpart I of the Board’s Regulation YY (part 252 of this chapter), part 47 of this title, or part 382 of this title, as applicable. * * * * * Qualifying master netting agreement means a written, legally enforceable agreement provided that: (1) The agreement creates a single legal obligation for all individual transactions covered by the agreement upon an event of default following any stay permitted by paragraph (2) of this definition, including upon an event of receivership, conservatorship, insolvency, liquidation, or similar proceeding, of the counterparty; (2) The agreement provides the Boardregulated institution the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default, including upon an event of receivership, conservatorship, insolvency, liquidation, or similar proceeding, of the counterparty, provided that, in any such case: (i) Any exercise of rights under the agreement will not be stayed or avoided under applicable law in the relevant jurisdictions, other than: (A) In receivership, conservatorship, or resolution under the Federal Deposit Insurance Act, Title II of the DoddFrank Act, or under any similar insolvency law applicable to GSEs, or laws of foreign jurisdictions that are substantially similar 7 to the U.S. laws referenced in this paragraph (2)(i)(A) in order to facilitate the orderly resolution of the defaulting counterparty; or (B) Where the agreement is subject by its terms to, or incorporates, any of the laws referenced in paragraph (2)(i)(A) of this definition; and (ii) The agreement may limit the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default of the counterparty to the extent necessary for the counterparty to comply with the requirements of subpart I of the Board’s Regulation YY (part 252 of this chapter), part 47 of this title, or part 382 of this title, as applicable; * * * * * Repo-style transaction means a repurchase or reverse repurchase transaction, or a securities borrowing or securities lending transaction, including a transaction in which the Board7 The Board expects to evaluate jointly with the OCC and Federal Deposit Insurance Corporation whether foreign special resolution regimes meet the requirements of this paragraph. PO 00000 Frm 00039 Fmt 4701 Sfmt 4700 42919 regulated institution acts as agent for a customer and indemnifies the customer against loss, provided that: (3) * * * (ii) * * * (A) The transaction is executed under an agreement that provides the Boardregulated institution the right to accelerate, terminate, and close-out the transaction on a net basis and to liquidate or set-off collateral promptly upon an event of default, including upon an event of receivership, insolvency, liquidation, or similar proceeding, of the counterparty, provided that, in any such case: (1) Any exercise of rights under the agreement will not be stayed or avoided under applicable law in the relevant jurisdictions, other than: (i) In receivership, conservatorship, or resolution under the Federal Deposit Insurance Act, Title II of the DoddFrank Act, or under any similar insolvency law applicable to GSEs, or laws of foreign jurisdictions that are substantially similar 8 to the U.S. laws referenced in this paragraph (3)(ii)(A)(1)(i) in order to facilitate the orderly resolution of the defaulting counterparty; (ii) Where the agreement is subject by its terms to, or incorporates, any of the laws referenced in paragraph (3)(ii)(A)(1)(i) of this definition; and (2) The agreement may limit the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default of the counterparty to the extent necessary for the counterparty to comply with the requirements of subpart I of the Board’s Regulation YY (part 252 of this chapter), part 47 of this title, or part 382 of this title, as applicable; or * * * * * PART 249—LIQUIDITY RISK MEASUREMENT STANDARDS (REGULATION WW) 3. The authority citation for part 249 continues to read as follows: ■ Authority: 12 U.S.C. 248(a), 321–338a, 481–486, 1467a(g)(1), 1818, 1828, 1831p–1, 1831o–1, 1844(b), 5365, 5366, 5368. 4. Section 249.3 is amended by revising the definition of ‘‘qualifying master netting agreement’’ to read as follows: ■ § 249.3 * Definitions. * * * * 8 The Board expects to evaluate jointly with the OCC and Federal Deposit Insurance Corporation whether foreign special resolution regimes meet the requirements of this paragraph. E:\FR\FM\12SER2.SGM 12SER2 42920 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations Qualifying master netting agreement means a written, legally enforceable agreement provided that: (1) The agreement creates a single legal obligation for all individual transactions covered by the agreement upon an event of default following any stay permitted by paragraph (2) of this definition, including upon an event of receivership, conservatorship, insolvency, liquidation, or similar proceeding, of the counterparty; (2) The agreement provides the Boardregulated institution the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default, including upon an event of receivership, conservatorship, insolvency, liquidation, or similar proceeding, of the counterparty, provided that, in any such case: (i) Any exercise of rights under the agreement will not be stayed or avoided under applicable law in the relevant jurisdictions, other than: (A) In receivership, conservatorship, or resolution under the Federal Deposit Insurance Act, Title II of the DoddFrank Act, or under any similar insolvency law applicable to GSEs, or laws of foreign jurisdictions that are substantially similar 1 to the U.S. laws referenced in this paragraph (2)(i)(A) in order to facilitate the orderly resolution of the defaulting counterparty; (B) Where the agreement is subject by its terms to, or incorporates, any of the laws referenced in paragraph (2)(i)(A) of this definition; and (ii) The agreement may limit the right to accelerate, terminate, and close-out on a net basis all transactions under the agreement and to liquidate or set-off collateral promptly upon an event of default of the counterparty to the extent necessary for the counterparty to comply with the requirements of subpart I of the Board’s Regulation YY (part 252 of this chapter), part 47 of this title, or part 382 of this title, as applicable; * * * * * PART 252—ENHANCED PRUDENTIAL STANDARDS (REGULATION YY) 5. The authority citation for part 252 continues to read as follows: mstockstill on DSK30JT082PROD with RULES2 ■ Authority: 12 U.S.C. 321–338a, 481–486, 1467a, 1818, 1828, 1831n, 1831o, 1831p–l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 3101 note, 3904, 3906–3909, 4808, 5361, 5362, 5365, 5366, 5367, 5368, 5371. 1 The Board expects to evaluate jointly with the OCC and Federal Deposit Insurance Corporation whether foreign special resolution regimes meet the requirements of this paragraph. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 ■ 6. Add subpart I to read as follows: Subpart I—Requirements for Qualified Financial Contracts of Global Systemically Important Banking Organizations Sec. 252.81 Definitions. 252.82 Applicability. 252.83 U.S. Special Resolution Regimes. 252.84 Insolvency proceedings. 252.85 Approval of enhanced creditor protection conditions. 252.86 Foreign bank multi-branch master agreements. 252.87 Identification of global systemically important foreign banking organizations. 252.88 Exclusion of certain QFCs. Subpart I—Requirements for Qualified Financial Contracts of Global Systemically Important Banking Organizations § 252.81 Definitions. For purposes of this subpart: Central counterparty (CCP) has the same meaning as in § 217.2 of the Board’s Regulation Q (12 CFR 217.2). Chapter 11 proceeding means a proceeding under Chapter 11 of Title 11, United States Code (11 U.S.C. 1101– 74.). Consolidated affiliate means an affiliate of another company that (1) Either consolidates the other company, or is consolidated by the other company, on financial statements prepared in accordance with U.S. Generally Accepted Accounting Principles, the International Financial Reporting Standards, or other similar standards; (2) Is, along with the other company, consolidated with a third company on a financial statement prepared in accordance with principles or standards referenced in paragraph (1) of this definition; or (3) For a company that is not subject to principles or standards referenced in paragraph (1), if consolidation as described in paragraph (1) or (2) of this definition would have occurred if such principles or standards had applied. Default right (1) Means, with respect to a QFC, any: (i) Right of a party, whether contractual or otherwise (including, without limitation, rights incorporated by reference to any other contract, agreement, or document, and rights afforded by statute, civil code, regulation, and common law), to liquidate, terminate, cancel, rescind, or accelerate such agreement or transactions thereunder, set off or net amounts owing in respect thereto (except rights related to same-day payment netting), exercise remedies in PO 00000 Frm 00040 Fmt 4701 Sfmt 4700 respect of collateral or other credit support or property related thereto (including the purchase and sale of property), demand payment or delivery thereunder or in respect thereof (other than a right or operation of a contractual provision arising solely from a change in the value of collateral or margin or a change in the amount of an economic exposure), suspend, delay, or defer payment or performance thereunder, or modify the obligations of a party thereunder, or any similar rights; and (ii) Right or contractual provision that alters the amount of collateral or margin that must be provided with respect to an exposure thereunder, including by altering any initial amount, threshold amount, variation margin, minimum transfer amount, the margin value of collateral, or any similar amount, that entitles a party to demand the return of any collateral or margin transferred by it to the other party or a custodian or that modifies a transferee’s right to reuse collateral or margin (if such right previously existed), or any similar rights, in each case, other than a right or operation of a contractual provision arising solely from a change in the value of collateral or margin or a change in the amount of an economic exposure; (2) With respect to § 252.84, does not include any right under a contract that allows a party to terminate the contract on demand or at its option at a specified time, or from time to time, without the need to show cause. Excluded bank: (1) Means a national bank, a Federal savings association, a Federal branch, a Federal agency, or an FSI that is exempted from the scope of this subpart pursuant to paragraph (b)(2) or (b)(3) of § 252.82; (2) Does not include any entity described in paragraph (1) of this definition that is owned pursuant to section 3(a)(A)(ii) of the Bank Holding Company Act (12 U.S.C. 1842(a)(A)(ii)); is owned by a depository institution in satisfaction of debt previously contracted in good faith; is a portfolio concern, as defined under 13 CFR 107.50, that is controlled by a small business investment company, as defined in section 103(3) of the Small Business Investment Act of 1958 (15 U.S.C. 662); is owned pursuant to paragraph (11) of section 5136 of the Revised Statutes of the United States (12 U.S.C. 24); or is a DPC branch subsidiary. FDI Act proceeding means a proceeding in which the Federal Deposit Insurance Corporation is appointed as conservator or receiver under section 11 of the Federal Deposit Insurance Act (12 U.S.C. 1821). E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations FDI Act stay period means, in connection with an FDI Act proceeding, the period of time during which a party to a QFC with a party that is subject to an FDI Act proceeding may not exercise any right that the party that is not subject to an FDI Act proceeding has to terminate, liquidate, or net such QFC, in accordance with section 11(e) of the Federal Deposit Insurance Act (12 U.S.C. 1821(e)) and any implementing regulations. Financial counterparty means a person that is: (1)(i) A bank holding company or an affiliate thereof; a savings and loan holding company as defined in section 10(n) of the Home Owners’ Loan Act (12 U.S.C. 1467a(n)); a U.S. intermediate holding company that is established or designated for purposes of compliance with this part; or a nonbank financial company supervised by the Board; (ii) A depository institution as defined in section 3(c) of the Federal Deposit Insurance Act (12 U.S.C. 1813(c)); an organization that is organized under the laws of a foreign country and that engages directly in the business of banking outside the United States; a Federal credit union or State credit union as defined in section 2 of the Federal Credit Union Act (12 U.S.C. 1752(1) & (6)); an institution that functions solely in a trust or fiduciary capacity as described in section 2(c)(2)(D) of the Bank Holding Company Act (12 U.S.C. 1841(c)(2)(D)); an industrial loan company, an industrial bank, or other similar institution described in section 2(c)(2)(H) of the Bank Holding Company Act (12 U.S.C. 1841(c)(2)(H)); (iii) An entity that is state-licensed or registered as: (A) A credit or lending entity, including a finance company; money lender; installment lender; consumer lender or lending company; mortgage lender, broker, or bank; motor vehicle title pledge lender; payday or deferred deposit lender; premium finance company; commercial finance or lending company; or commercial mortgage company; except entities registered or licensed solely on account of financing the entity’s direct sales of goods or services to customers; (B) A money services business, including a check casher; money transmitter; currency dealer or exchange; or money order or traveler’s check issuer; (iv) A regulated entity as defined in section 1303(20) of the Federal Housing Enterprises Financial Safety and Soundness Act of 1992, as amended (12 U.S.C. 4502(20)) or any entity for which the Federal Housing Finance Agency or VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 its successor is the primary federal regulator; (v) Any institution chartered in accordance with the Farm Credit Act of 1971, as amended, 12 U.S.C. 2002 et seq., that is regulated by the Farm Credit Administration; (vi) Any entity registered with the Commodity Futures Trading Commission as a swap dealer or major swap participant pursuant to the Commodity Exchange Act of 1936 (7 U.S.C. 1 et seq.), or an entity that is registered with the U.S. Securities and Exchange Commission as a securitybased swap dealer or a major securitybased swap participant pursuant to the Securities Exchange Act of 1934 (15 U.S.C. 78a et seq.); (vii) A securities holding company, with the meaning specified in section 618 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (12 U.S.C. 1850a); a broker or dealer as defined in sections 3(a)(4) and 3(a)(5) of the Securities Exchange Act of 1934 (15 U.S.C. 78c(a)(4)–(5)); an investment adviser as defined in section 202(a) of the Investment Advisers Act of 1940 (15 U.S.C. 80b–2(a)); an investment company registered with the U.S. Securities and Exchange Commission under the Investment Company Act of 1940 (15 U.S.C. 80a–1 et seq.); or a company that has elected to be regulated as a business development company pursuant to section 54(a) of the Investment Company Act of 1940 (15 U.S.C. 80a–53(a)); (viii) A private fund as defined in section 202(a) of the Investment Advisers Act of 1940 (15 U.S.C. 80b– 2(a)); an entity that would be an investment company under section 3 of the Investment Company Act of 1940 (15 U.S.C. 80a–3) but for section 3(c)(5)(C); or an entity that is deemed not to be an investment company under section 3 of the Investment Company Act of 1940 pursuant to Investment Company Act Rule 3a–7 (17 CFR 270.3a–7) of the U.S. Securities and Exchange Commission; (ix) A commodity pool, a commodity pool operator, or a commodity trading advisor as defined, respectively, in sections 1a(10), 1a(11), and 1a(12) of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(10), 1a(11), and 1a(12)); a floor broker, a floor trader, or introducing broker as defined, respectively, in sections 1a(22), 1a(23) and 1a(31) of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(22), 1a(23), and 1a(31)); or a futures commission merchant as defined in section 1a(28) of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(28)); (x) An employee benefit plan as defined in paragraphs (3) and (32) of PO 00000 Frm 00041 Fmt 4701 Sfmt 4700 42921 section 3 of the Employee Retirement Income and Security Act of 1974 (29 U.S.C. 1002); (xi) An entity that is organized as an insurance company, primarily engaged in writing insurance or reinsuring risks underwritten by insurance companies, or is subject to supervision as such by a State insurance regulator or foreign insurance regulator; or (xii) An entity that would be a financial counterparty described in paragraphs (1)(i)–(xi) of this definition, if the entity were organized under the laws of the United States or any state thereof. (2) The term ‘‘financial counterparty’’ does not include any counterparty that is: (i) A sovereign entity; (ii) A multilateral development bank; or (iii) The Bank for International Settlements. Financial market utility (FMU) means any person, regardless of the jurisdiction in which the person is located or organized, that manages or operates a multilateral system for the purpose of transferring, clearing, or settling payments, securities, or other financial transactions among financial institutions or between financial institutions and the person, but does not include: (1) Designated contract markets, registered futures associations, swap data repositories, and swap execution facilities registered under the Commodity Exchange Act (7 U.S.C. 1 et seq.), or national securities exchanges, national securities associations, alternative trading systems, securitybased swap data repositories, and swap execution facilities registered under the Securities Exchange Act of 1934 (15 U.S.C. 78a et seq.), solely by reason of their providing facilities for comparison of data respecting the terms of settlement of securities or futures transactions effected on such exchange or by means of any electronic system operated or controlled by such entities, provided that the exclusions in this clause apply only with respect to the activities that require the entity to be so registered; or (2) Any broker, dealer, transfer agent, or investment company, or any futures commission merchant, introducing broker, commodity trading advisor, or commodity pool operator, solely by reason of functions performed by such institution as part of brokerage, dealing, transfer agency, or investment company activities, or solely by reason of acting on behalf of a FMU or a participant therein in connection with the furnishing by the FMU of services to its E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42922 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations participants or the use of services of the FMU by its participants, provided that services performed by such institution do not constitute critical risk management or processing functions of the FMU. FSI means a state savings association or state nonmember bank (as the terms are defined in section 3 of the Federal Deposit Insurance Act, 12 U.S.C. 1813). Investment advisory contract means any contract or agreement whereby a person agrees to act as investment adviser to or to manage any investment or trading account of another person. Master agreement means a QFC of the type set forth in sections 210(c)(8)(D)(ii)(XI), (iii)(IX), (iv)(IV), (v)(V), or (vi)(V) of Title II of the DoddFrank Wall Street Reform and Consumer Protection Act (12 U.S.C. 5390(c)(8)(D)(ii)(XI), (iii)(IX), (iv)(IV), (v)(V), or (vi)(V)) or a master agreement that the Federal Deposit Insurance Corporation determines by regulation is a QFC pursuant to section 210(c)(8)(D)(i) of Title II of the act (12 U.S.C. 5390(c)(8)(D)(i)). Person has the same meaning as in 12 CFR 225.2. Qualified financial contract (QFC) has the same meaning as in section 210(c)(8)(D) of Title II of the Dodd-Frank Wall Street Reform and Consumer Protection Act (12 U.S.C. 5390(c)(8)(D)). Retail customer or counterparty has the same meaning as in § 249.3 of the Board’s Regulation WW (12 CFR 249.3). Small financial institution means a company that: (1) Is organized as a bank, as defined in section 3(a) of the Federal Deposit Insurance Act, the deposits of which are insured by the Federal Deposit Insurance Corporation; a savings association, as defined in section 3(b) of the Federal Deposit Insurance Act, the deposits of which are insured by the Federal Deposit Insurance Corporation; a farm credit system institution chartered under the Farm Credit Act of 1971; or an insured Federal credit union or State-chartered credit union under the Federal Credit Union Act; and (2) Has total assets of $10,000,000,000 or less on the last day of the company’s most recent fiscal year. U.S. special resolution regimes means the Federal Deposit Insurance Act (12 U.S.C. 1811–1835a) and regulations promulgated thereunder and Title II of the Dodd-Frank Wall Street Reform and Consumer Protection Act (12 U.S.C. 5381–5394) and regulations promulgated thereunder. § 252.82 Applicability. (a) General requirement. A covered entity must ensure that each covered VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 QFC conforms to the requirements of §§ 252.83 and 252.84. (b) Covered entities. For purposes of this subpart, a covered entity is: (1) A bank holding company that is identified as a global systemically important BHC pursuant to 12 CFR 217.402; (2) A subsidiary of a company identified in paragraph (b)(1) of this section other than a subsidiary that is: (i) A national bank, a Federal savings association, a Federal branch, a Federal agency, an FSI; (ii) A company owned pursuant to section 3(a)(A)(ii), 4(c)(2), 4(k)(4)(H), or 4(k)(4)(I) of the Bank Holding Company Act (12 U.S.C. 1842(a)(A)(ii), 1843(c)(2), 1843(k)(4)(H), 1843(k)(4)(I)); (iii) A company owned by a depository institution in satisfaction of debt previously contracted in good faith; (iv) A portfolio concern, as defined under 13 CFR 107.50, that is controlled by a small business investment company, as defined in section 103(3) of the Small Business Investment Act of 1958 (15 U.S.C. 662); or (v) A company the business of which is to make investments that are designed primarily to promote the public welfare, of the type permitted under paragraph (11) of section 5136 of the Revised Statutes of the United States (12 U.S.C. 24), including the welfare of low- and moderate-income communities or families (such as providing housing, services, or jobs)); or (3) A U.S. subsidiary, U.S. branch, or U.S. agency of a global systemically important foreign banking organization other than a U.S. subsidiary, U.S. branch, or U.S. agency that is: (i) A national bank, a Federal savings association, a Federal branch, a Federal agency, an FSI; (ii) A company owned pursuant to section 3(a)(A)(ii), 4(c)(2), 4(k)(4)(H), or 4(k)(4)(I) of the Bank Holding Company Act (12 U.S.C. 1842(a)(A)(ii), 1843(c)(2), 1843(k)(4)(H), 1843(k)(4)(I)); (iii) A company owned by a depository institution in satisfaction of debt previously contracted in good faith; (iv) A portfolio concern, as defined under 13 CFR 107.50, that is controlled by a small business investment company, as defined in section 103(3) of the Small Business Investment Act of 1958 (15 U.S.C. 662); (v) A company the business of which is to make investments that are designed primarily to promote the public welfare, of the type permitted under paragraph (11) of section 5136 of the Revised Statutes of the United States (12 U.S.C. 24), including the welfare of low- and moderate-income communities or PO 00000 Frm 00042 Fmt 4701 Sfmt 4700 families (such as providing housing, services, or jobs); (vi) A section 2(h)(2) company; or (vii) A DPC branch subsidiary. (c) Covered QFCs. For purposes of this subpart, a covered QFC is: (1) With respect to a covered entity that is a covered entity on November 13, 2017, an in-scope QFC that the covered entity: (i) Enters, executes, or otherwise becomes a party to on or after January 1, 2019; or (ii) Entered, executed, or otherwise became a party to before January 1, 2019, if the covered entity or any affiliate that is a covered entity or excluded bank also enters, executes, or otherwise becomes a party to a QFC with the same person or a consolidated affiliate of the same person on or after January 1, 2019. (2) With respect to a covered entity that becomes a covered entity after November 13, 2017, an in-scope QFC that the covered entity: (i) Enters, executes or otherwise becomes a party to on or after the later of the date the covered entity first becomes a covered entity and January 1, 2019; or (ii) Entered, executed, or otherwise became a party to before the date identified in paragraph (c)(2)(i) of this section with respect to the covered entity, if the covered entity or any affiliate that is a covered entity or excluded bank also enters, executes, or otherwise becomes a party to a QFC with the same person or consolidated affiliate of the same person on or after the date identified in paragraph (c)(2)(i) with respect to the covered entity. (d) In-scope QFCs. An in-scope QFC is a QFC that explicitly: (1) Restricts the transfer of a QFC (or any interest or obligation in or under, or any property securing, the QFC) from a covered entity; or (2) Provides one or more default rights with respect to a QFC that may be exercised against a covered entity. (e) Rules of construction. For purposes of this subpart: (1) A covered entity does not become a party to a QFC solely by acting as agent with respect to the QFC; and (2) The exercise of a default right with respect to a covered QFC includes the automatic or deemed exercise of the default right pursuant to the terms of the QFC or other arrangement. (f) Initial applicability of requirements for covered QFCs. (1) With respect to each of its covered QFCs, a covered entity that is a covered entity on November 13, 2017 must conform the covered QFC to the requirements of this subpart by: E:\FR\FM\12SER2.SGM 12SER2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations (i) January 1, 2019, if each party to the covered QFC is a covered entity or an excluded bank; (ii) July 1, 2019, if each party to the covered QFC (other than the covered entity) is a financial counterparty that is not a covered entity or excluded bank; or (iii) January 1, 2020, if a party to the covered QFC (other than the covered entity) is not described in paragraph (f)(1)(i) or (f)(1)(ii) of this section or if, notwithstanding paragraph (f)(1)(ii), a party to the covered QFC (other than the covered entity) is a small financial institution. (2) With respect to each of its covered QFCs, a covered entity that is not a covered entity on November 13, 2017 must conform the covered QFC to the requirements of this subpart by: (i) The first day of the calendar quarter immediately following 1 year after the date the covered entity first becomes a covered entity, if each party to the covered QFC is a covered entity or an excluded bank; (ii) The first day of the calendar quarter immediately following 18 months from the date the covered entity first becomes a covered entity if each party to the covered QFC (other than the covered entity) is a financial counterparty that is not a covered entity or excluded bank; or (iii) The first day of the calendar quarter immediately following 2 years from the date the covered entity first becomes a covered entity if a party to the covered QFC (other than the covered entity) is not described in paragraph (f)(2)(i) or (f)(2)(ii) of this section or if, notwithstanding paragraph (f)(2)(ii), a party to the covered QFC (other than the covered entity) is a small financial institution. mstockstill on DSK30JT082PROD with RULES2 § 252.83 U.S. Special Resolution Regimes. (a) Covered QFCs not required to be conformed. (1) Notwithstanding § 252.82, a covered entity is not required to conform a covered QFC to the requirements of this section if: (i) The covered QFC designates, in the manner described in paragraph (a)(2) of this section, the U.S. special resolution regimes as part of the law governing the QFC; and (ii) Each party to the covered QFC, other than the covered entity, is: (A) An individual that is domiciled in the United States, including any State; (B) A company that is incorporated in or organized under the laws of the United States or any State; (C) A company the principal place of business of which is located in the United States, including any State; or (D) A U.S. branch or U.S. agency. VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 (2) A covered QFC designates the U.S. special resolution regimes as part of the law governing the QFC if the covered QFC: (i) Explicitly provides that the covered QFC is governed by the laws of the United States or a state of the United States; and (ii) Does not explicitly provide that one or both of the U.S. special resolution regimes, or a broader set of laws that includes a U.S. special resolution regime, is excluded from the laws governing the covered QFC. (b) Provisions required. A covered QFC must explicitly provide that: (1) In the event the covered entity becomes subject to a proceeding under a U.S. special resolution regime, the transfer of the covered QFC (and any interest and obligation in or under, and any property securing, the covered QFC) from the covered entity will be effective to the same extent as the transfer would be effective under the U.S. special resolution regime if the covered QFC (and any interest and obligation in or under, and any property securing, the covered QFC) were governed by the laws of the United States or a state of the United States; and (2) In the event the covered entity or an affiliate of the covered entity becomes subject to a proceeding under a U.S. special resolution regime, default rights with respect to the covered QFC that may be exercised against the covered entity are permitted to be exercised to no greater extent than the default rights could be exercised under the U.S. special resolution regime if the covered QFC were governed by the laws of the United States or a state of the United States. (c) Relevance of creditor protection provisions. The requirements of this section apply notwithstanding paragraphs (d), (f), and (h) of § 252.84. § 252.84 Insolvency proceedings. (a) Covered QFCs not required to be conformed. Notwithstanding § 252.82, a covered entity is not required to conform a covered QFC to the requirements of this section if the covered QFC: (1) Does not explicitly provide any default right with respect to the covered QFC that is related, directly or indirectly, to an affiliate of the direct party becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding; and (2) Does not explicitly prohibit the transfer of a covered affiliate credit enhancement, any interest or obligation in or under the covered affiliate credit enhancement, or any property securing the covered affiliate credit enhancement PO 00000 Frm 00043 Fmt 4701 Sfmt 4700 42923 to a transferee upon or following an affiliate of the direct party becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding or would prohibit such a transfer only if the transfer would result in the supported party being the beneficiary of the credit enhancement in violation of any law applicable to the supported party. (b) General prohibitions. (1) A covered QFC may not permit the exercise of any default right with respect to the covered QFC that is related, directly or indirectly, to an affiliate of the direct party becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding. (2) A covered QFC may not prohibit the transfer of a covered affiliate credit enhancement, any interest or obligation in or under the covered affiliate credit enhancement, or any property securing the covered affiliate credit enhancement to a transferee upon or following an affiliate of the direct party becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding unless the transfer would result in the supported party being the beneficiary of the credit enhancement in violation of any law applicable to the supported party. (c) Definitions relevant to the general prohibitions—(1) Direct party. Direct party means a covered entity or excluded bank that is a party to the direct QFC. (2) Direct QFC. Direct QFC means a QFC that is not a credit enhancement, provided that, for a QFC that is a master agreement that includes an affiliate credit enhancement as a supplement to the master agreement, the direct QFC does not include the affiliate credit enhancement. (3) Affiliate credit enhancement. Affiliate credit enhancement means a credit enhancement that is provided by an affiliate of a party to the direct QFC that the credit enhancement supports. (d) General creditor protections. Notwithstanding paragraph (b) of this section, a covered direct QFC and covered affiliate credit enhancement that supports the covered direct QFC may permit the exercise of a default right with respect to the covered QFC that arises as a result of: (1) The direct party becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding; (2) The direct party not satisfying a payment or delivery obligation pursuant to the covered QFC or another contract between the same parties that gives rise to a default right in the covered QFC; or E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 42924 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations (3) The covered affiliate support provider or transferee not satisfying a payment or delivery obligation pursuant to a covered affiliate credit enhancement that supports the covered direct QFC. (e) Definitions relevant to the general creditor protections—(1) Covered direct QFC. Covered direct QFC means a direct QFC to which a covered entity or excluded bank is a party. (2) Covered affiliate credit enhancement. Covered affiliate credit enhancement means an affiliate credit enhancement in which a covered entity or excluded bank is the obligor of the credit enhancement. (3) Covered affiliate support provider. Covered affiliate support provider means, with respect to a covered affiliate credit enhancement, the affiliate of the direct party that is obligated under the covered affiliate credit enhancement and is not a transferee. (4) Supported party. Supported party means, with respect to a covered affiliate credit enhancement and the direct QFC that the covered affiliate credit enhancement supports, a party that is a beneficiary of the covered affiliate support provider’s obligation(s) under the covered affiliate credit enhancement. (f) Additional creditor protections for supported QFCs. Notwithstanding paragraph (b) of this section, with respect to a covered direct QFC that is supported by a covered affiliate credit enhancement, the covered direct QFC and the covered affiliate credit enhancement may permit the exercise of a default right after the stay period that is related, directly or indirectly, to the covered affiliate support provider becoming subject to a receivership, insolvency, liquidation, resolution, or similar proceeding if: (1) The covered affiliate support provider that remains obligated under the covered affiliate credit enhancement becomes subject to a receivership, insolvency, liquidation, resolution, or similar proceeding, other than a Chapter 11 proceeding; (2) Subject to paragraph (h) of this section, the transferee, if any, becomes subject to a receivership, insolvency, liquidation, resolution, or similar proceeding; (3) The covered affiliate support provider does not remain, and a transferee does not become, obligated to the same, or substantially similar, extent as the covered affiliate support provider was obligated immediately prior to entering the receivership, insolvency, liquidation, resolution, or similar proceeding with respect to: VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 (i) The covered affiliate credit enhancement; (ii) All other covered affiliate credit enhancements provided by the covered affiliate support provider in support of other covered direct QFCs between the direct party and the supported party under the covered affiliate credit enhancement referenced in paragraph (f)(3)(i) of this section; and (iii) All covered affiliate credit enhancements provided by the covered affiliate support provider in support of covered direct QFCs between the direct party and affiliates of the supported party referenced in paragraph (f)(3)(ii) of this section; or (4) In the case of a transfer of the covered affiliate credit enhancement to a transferee, (i) All of the ownership interests of the direct party directly or indirectly held by the covered affiliate support provider are not transferred to the transferee; or (ii) Reasonable assurance has not been provided that all or substantially all of the assets of the covered affiliate support provider (or net proceeds therefrom), excluding any assets reserved for the payment of costs and expenses of administration in the receivership, insolvency, liquidation, resolution, or similar proceeding, will be transferred or sold to the transferee in a timely manner. (g) Definitions relevant to the additional creditor protections for supported QFCs—(1) Stay period. Stay period means, with respect to a receivership, insolvency, liquidation, resolution, or similar proceeding, the period of time beginning on the commencement of the proceeding and ending at the later of 5:00 p.m. (eastern time) on the business day following the date of the commencement of the proceeding and 48 hours after the commencement of the proceeding. (2) Business day. Business day means a day on which commercial banks in the jurisdiction the proceeding is commenced are open for general business (including dealings in foreign exchange and foreign currency deposits). (3) Transferee. Transferee means a person to whom a covered affiliate credit enhancement is transferred upon the covered affiliate support provider entering a receivership, insolvency, liquidation, resolution, or similar proceeding or thereafter as part of the resolution, restructuring, or reorganization involving the covered affiliate support provider. (h) Creditor protections related to FDI Act proceedings. Notwithstanding paragraphs (b), (d), and (f) of this PO 00000 Frm 00044 Fmt 4701 Sfmt 4700 section, with respect to a covered direct QFC that is supported by a covered affiliate credit enhancement, the covered direct QFC and the covered affiliate credit enhancement may permit the exercise of a default right that is related, directly or indirectly, to the covered affiliate support provider becoming subject to FDI Act proceedings: (1) After the FDI Act stay period, if the covered affiliate credit enhancement is not transferred pursuant to 12 U.S.C. 1821(e)(9)–(e)(10) and any regulations promulgated thereunder; or (2) During the FDI Act stay period, if the default right may only be exercised so as to permit the supported party under the covered affiliate credit enhancement to suspend performance with respect to the supported party’s obligations under the covered direct QFC to the same extent as the supported party would be entitled to do if the covered direct QFC were with the covered affiliate support provider and were treated in the same manner as the covered affiliate credit enhancement. (i) Prohibited terminations. A covered QFC must require, after an affiliate of the direct party has become subject to a receivership, insolvency, liquidation, resolution, or similar proceeding: (1) The party seeking to exercise a default right to bear the burden of proof that the exercise is permitted under the covered QFC; and (2) Clear and convincing evidence or a similar or higher burden of proof to exercise a default right. § 252.85 Approval of enhanced creditor protection conditions. (a) Protocol compliance. (1) Unless the Board determines otherwise based on the specific facts and circumstances, a covered QFC is deemed to comply with this subpart if it is amended by the universal protocol or the U.S. protocol. (2) A covered QFC will be deemed to be amended by the universal protocol for purposes of paragraph (a)(1) of this section notwithstanding the covered QFC being amended by one or more Country Annexes, as the term is defined in the universal protocol. (3) For purposes of paragraphs (a)(1) and (2) of this section: (i) The universal protocol means the ISDA 2015 Universal Resolution Stay Protocol, including the Securities Financing Transaction Annex and Other Agreements Annex, published by the International Swaps and Derivatives Association, Inc., as of May 3, 2016, and minor or technical amendments thereto; (ii) The U.S. protocol means a protocol that is the same as the universal protocol other than as E:\FR\FM\12SER2.SGM 12SER2 mstockstill on DSK30JT082PROD with RULES2 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations provided in paragraphs (a)(3)(ii)(A)–(F) of this section. (A) The provisions of Section 1 of the attachment to the universal protocol may be limited in their application to covered entities and excluded banks and may be limited with respect to resolutions under the Identified Regimes, as those regimes are identified by the universal protocol; (B) The provisions of Section 2 of the attachment to the universal protocol may be limited in their application to covered entities and excluded banks; (C) The provisions of Section 4(b)(i)(A) of the attachment to the universal protocol must not apply with respect to U.S. special resolution regimes; (D) The provisions of Section 4(b) of the attachment to the universal protocol may only be effective to the extent that the covered QFCs affected by an adherent’s election thereunder would continue to meet the requirements of this subpart; (E) The provisions of Section 2(k) of the attachment to the universal protocol must not apply; and (F) The U.S. protocol may include minor and technical differences from the universal protocol and differences necessary to conform the U.S. protocol to the differences described in paragraphs (a)(3)(ii)(A)–(E) of this section; (iii) Amended by the universal protocol or the U.S. protocol, with respect to covered QFCs between adherents to the protocol, includes amendments through incorporation of the terms of the protocol (by reference or otherwise) into the covered QFC; and (iv) The attachment to the universal protocol means the attachment that the universal protocol identifies as ‘‘ATTACHMENT to the ISDA 2015 UNIVERSAL RESOLUTION STAY PROTOCOL.’’ (b) Proposal of enhanced creditor protection conditions. (1) A covered entity may request that the Board approve as compliant with the requirements of §§ 252.83 and 252.84 proposed provisions of one or more forms of covered QFCs, or proposed amendments to one or more forms of covered QFCs, with enhanced creditor protection conditions. (2) Enhanced creditor protection conditions means a set of limited exemptions to the requirements of § 252.84(b) that is different than that of paragraphs (d), (f), and (h) of § 252.84. (3) A covered entity making a request under paragraph (b)(1) of this section must provide: VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 (i) An analysis of the proposal that addresses each consideration in paragraph (d) of this section; (ii) A written legal opinion verifying that proposed provisions or amendments would be valid and enforceable under applicable law of the relevant jurisdictions, including, in the case of proposed amendments, the validity and enforceability of the proposal to amend the covered QFCs; and (iii) Any other relevant information that the Board requests. (c) Board approval. The Board may approve, subject to any conditions or commitments the Board may set, a proposal by a covered entity under paragraph (b) of this section if the proposal, as compared to a covered QFC that contains only the limited exemptions in paragraphs of (d), (f), and (h) of § 252.84 or that is amended as provided under paragraph (a) of this section, would prevent or mitigate risks to the financial stability of the United States that could arise from the failure of a global systemically important BHC, a global systemically important foreign banking organization, or the subsidiaries of either and would protect the safety and soundness of bank holding companies and state member banks to at least the same extent. (d) Considerations. In reviewing a proposal under this section, the Board may consider all facts and circumstances related to the proposal, including: (1) Whether, and the extent to which, the proposal would reduce the resiliency of such covered entities during distress or increase the impact on U.S. financial stability were one or more of the covered entities to fail; (2) Whether, and the extent to which, the proposal would materially decrease the ability of a covered entity, or an affiliate of a covered entity, to be resolved in a rapid and orderly manner in the event of the financial distress or failure of the entity that is required to submit a resolution plan; (3) Whether, and the extent to which, the set of conditions or the mechanism in which they are applied facilitates, on an industry-wide basis, contractual modifications to remove impediments to resolution and increase market certainty, transparency, and equitable treatment with respect to the default rights of non-defaulting parties to a covered QFC; (4) Whether, and the extent to which, the proposal applies to existing and future transactions; (5) Whether, and the extent to which, the proposal would apply to multiple PO 00000 Frm 00045 Fmt 4701 Sfmt 4700 42925 forms of QFCs or multiple covered entities; (6) Whether the proposal would permit a party to a covered QFC that is within the scope of the proposal to adhere to the proposal with respect to only one or a subset of covered entities; (7) With respect to a supported party, the degree of assurance the proposal provides to the supported party that the material payment and delivery obligations of the covered affiliate credit enhancement and the covered direct QFC it supports will continue to be performed after the covered affiliate support provider enters a receivership, insolvency, liquidation, resolution, or similar proceeding; (8) The presence, nature, and extent of any provisions that require a covered affiliate support provider or transferee to meet conditions other than material payment or delivery obligations to its creditors; (9) The extent to which the supported party’s overall credit risk to the direct party may increase if the enhanced creditor protection conditions are not met and the likelihood that the supported party’s credit risk to the direct party would decrease or remain the same if the enhanced creditor protection conditions are met; and (10) Whether the proposal provides the counterparty with additional default rights or other rights. § 252.86 Foreign bank multi-branch master agreements. (a) Treatment of foreign bank multibranch master agreements. With respect to a U.S. branch or U.S. agency of a global systemically important foreign banking organization, a foreign bank multi-branch master agreement that is a covered QFC solely because the master agreement permits agreements or transactions that are QFCs to be entered into at one or more U.S. branches or U.S. agencies of the global systemically important foreign banking organization will be considered a covered QFC for purposes of this subpart only with respect to such agreements or transactions booked at such U.S. branches and U.S. agencies. (b) Definition of foreign bank multibranch master agreements. A foreign bank multi-branch master agreement means a master agreement that permits a U.S. branch or U.S. agency and another place of business of a foreign bank that is outside the United States to enter transactions under the agreement. § 252.87 Identification of global systemically important foreign banking organizations. (a) For purposes of this subpart, a toptier foreign banking organization that is E:\FR\FM\12SER2.SGM 12SER2 42926 Federal Register / Vol. 82, No. 175 / Tuesday, September 12, 2017 / Rules and Regulations mstockstill on DSK30JT082PROD with RULES2 or controls a covered company (as defined at 12 CFR 243.2(f)) is a global systemically important foreign banking organization if any of the following conditions is met: (1) The top-tier foreign banking organization determines, pursuant to paragraph (c) of this section, that the top-tier foreign banking organization has the characteristics of a global systemically important banking organization under the global methodology; or (2) The Board, using information available to the Board, determines: (i) That the top-tier foreign banking organization would be a global systemically important banking organization under the global methodology; (ii) That the top-tier foreign banking organization, if it were subject to the Board’s Regulation Q (part 217 of this chapter), would be identified as a global systemically important BHC under § 217.402 of the Board’s Regulation Q; or (iii) That any U.S. intermediate holding company controlled by the toptier foreign banking organization, if the U.S. intermediate holding company is or were subject to § 217.402 of the Board’s Regulation Q, is or would be identified as a global systemically important BHC. (b) Each top-tier foreign banking organization that determines pursuant to paragraph (c) of this section that it has the characteristics of a global systemically important banking organization under the global methodology must notify the Board of the determination by January 1 of each calendar year. (c) A top-tier foreign banking organization that is or controls a covered company (as defined at 12 CFR 243.2(f)) and prepares or reports for any purpose the indicator amounts necessary to determine whether the toptier foreign banking organization is a global systemically important banking VerDate Sep<11>2014 17:13 Sep 11, 2017 Jkt 241001 organization under the global methodology must use the data to determine whether the top-tier foreign banking organization has the characteristics of a global systemically important banking organization under the global methodology. (d) Each top-tier foreign banking organization that controls a U.S. intermediate holding company and that meets the requirements of § 252.153(b)(5) and (6) also meets the requirements of paragraphs (b) and (c) of this section. § 252.88 Exclusion of certain QFCs. (a) Exclusion of QFCs with FMUs. Notwithstanding § 252.82, a covered entity is not required to conform to the requirements of this subpart a covered QFC to which: (1) A CCP is party; or (2) Each party (other than the covered entity) is an FMU. (b) Exclusion of certain excluded bank QFCs. If a covered QFC is also a covered QFC under parts 47 or 382 of this title that an affiliate of the covered entity is also required to conform pursuant to parts 47 or 382 of this title and the covered entity is: (1) The affiliate credit enhancement provider with respect to the covered QFC, then the covered entity is required to conform the credit enhancement to the requirements of this subpart but is not required to conform the direct QFC to the requirements of this subpart; or (2) The direct party to which the excluded bank is the affiliate credit enhancement provider, then the covered entity is required to conform the direct QFC to the requirements of this subpart but is not required to conform the credit enhancement to the requirements of this subpart. (c) Exclusion of certain contracts. Notwithstanding § 252.82, a covered entity is not required to conform the following types of contracts or agreements to the requirements of this subpart: PO 00000 Frm 00046 Fmt 4701 Sfmt 9990 (1) An investment advisory contract that: (i) Is with a retail customer or counterparty; (ii) Does not explicitly restrict the transfer of the contract (or any QFC entered pursuant thereto or governed thereby, or any interest or obligation in or under, or any property securing, any such QFC or the contract) from the covered entity except as necessary to comply with section 205(a)(2) of the Investment Advisers Act of 1940 (15 U.S.C. 80b–5(a)(2)); and (iii) Does not explicitly provide a default right with respect to the contract or any QFC entered pursuant thereto or governed thereby. (2) A warrant that: (i) Evidences a right to subscribe to or otherwise acquire a security of the covered entity or an affiliate of the covered entity; and (ii) Was issued prior to November 13, 2017. (d) Exemption by order. The Board may exempt by order one or more covered entities from conforming one or more contracts or types of contracts to one or more of the requirements of this subpart after considering: (1) The potential impact of the exemption on the ability of the covered entity(ies), or affiliates of the covered entity(ies), to be resolved in a rapid and orderly manner in the event of the financial distress or failure of the entity that is required to submit a resolution plan; (2) The burden the exemption would relieve; and (3) Any other factor the Board deems relevant. By order of the Board of Governors of the Federal Reserve System, September 1, 2017. Ann E. Misback, Secretary of the Board. [FR Doc. 2017–19053 Filed 9–11–17; 8:45 am] BILLING CODE P E:\FR\FM\12SER2.SGM 12SER2

Agencies

[Federal Register Volume 82, Number 175 (Tuesday, September 12, 2017)]
[Rules and Regulations]
[Pages 42882-42926]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-19053]



[[Page 42881]]

Vol. 82

Tuesday,

No. 175

September 12, 2017

Part II





Federal Reserve System





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12 CFR Parts 217, 249, and 252





Restrictions on Qualified Financial Contracts of Systemically Important 
U.S. Banking Organizations and the U.S. Operations of Systemically 
Important Foreign Banking Organizations; Revisions to the Definition of 
Qualifying Master Netting Agreement and Related Definitions; Final Rule

Federal Register / Vol. 82 , No. 175 / Tuesday, September 12, 2017 / 
Rules and Regulations

[[Page 42882]]


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FEDERAL RESERVE SYSTEM

12 CFR Parts 217, 249, and 252

[Regulations Q, WW, and YY; Docket No. R-1538]
RIN 7100-AE52


Restrictions on Qualified Financial Contracts of Systemically 
Important U.S. Banking Organizations and the U.S. Operations of 
Systemically Important Foreign Banking Organizations; Revisions to the 
Definition of Qualifying Master Netting Agreement and Related 
Definitions

AGENCY: Board of Governors of the Federal Reserve System (Board), 
Federal Reserve System.

ACTION: Final rule.

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SUMMARY: The Board is adopting a final rule to promote U.S. financial 
stability by improving the resolvability and resilience of systemically 
important U.S. banking organizations and systemically important foreign 
banking organizations pursuant to section 165 of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (Dodd-Frank Act). Under the 
final rule, any U.S. top-tier bank holding company identified by the 
Board as a global systemically important banking organization (GSIB), 
the subsidiaries of any U.S. GSIB (other than national banks, federal 
savings associations, state nonmember banks, and state savings 
associations), and the U.S. operations of any foreign GSIB (other than 
national banks, federal savings associations, state nonmember banks, 
and state savings associations) would be subjected to restrictions 
regarding the terms of their non-cleared qualified financial contracts 
(QFCs). First, a covered entity generally is required to ensure that 
QFCs to which it is party provide that any default rights and 
restrictions on the transfer of the QFCs are limited to the same extent 
as they would be under the Dodd-Frank Act and the Federal Deposit 
Insurance Act. Second, a covered entity generally is prohibited from 
being party to QFCs that would allow a QFC counterparty to exercise 
default rights against the covered entity, directly or indirectly, 
based on the entry into a resolution proceeding under the Dodd-Frank 
Act or Federal Deposit Insurance Act, or any other resolution 
proceeding, of an affiliate of the covered entity. The final rule also 
amends certain definitions in the Board's capital and liquidity rules; 
these amendments are intended to ensure that the regulatory capital and 
liquidity treatment of QFCs to which a covered entity is party is not 
affected by the final rule's restrictions on such QFCs. The Office of 
the Comptroller of the Currency (OCC) and the Federal Deposit Insurance 
Corporation (FDIC) are expected to issue final rules that would subject 
GSIB subsidiaries for which the OCC and FDIC are the appropriate 
Federal banking agency to requirements substantively identical to those 
in this final rule.

DATES: The final rule is effective on November 13, 2017.

FOR FURTHER INFORMATION CONTACT: Anna Harrington, Senior Supervisory 
Financial Analyst (202) 452-6406, or Sean Campbell, Associate Director, 
(202) 452-3760, Division of Supervision and Regulation; or Will Giles, 
Senior Counsel, (202) 452-3351, or Lucy Chang, Senior Attorney, (202) 
475-6331, Legal Division, Board of Governors of the Federal Reserve 
System, 20th and C Streets NW., Washington, DC 20551. For the hearing 
impaired only, Telecommunications Device for the Deaf (TDD) users may 
contact (202) 263-4869.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Introduction
    A. Background
    B. Notice of Proposed Rulemaking and General Summary of Comments
    C. Overview of Final Rule
    D. Consultation With U.S. Financial Regulators, the Council, and 
Foreign Authorities
II. Restrictions on QFCs of GSIBs
    A. Covered Entities (Section 252.82(b) of the Final Rule)
    B. Covered QFCs (Section 252.82(c) of the Final Rule)
    C. Definition of ``Default Right'' (Section 252.81 of the Final 
Rule)
    D. Required Contractual Provisions Related to the U.S. Special 
Resolution Regimes (Section 252.83 of the Final Rule)
    E. Prohibited Cross-Default Rights (Section 252.84 of the Final 
Rule)
    F. Process for Approval of Enhanced Creditor Protections 
(Section 252.85 of the Final Rule)
III. Transition Periods
IV. Costs and Benefits
V. Revisions to Certain Definitions in the Board's Capital and 
Liquidity Rules
VI. Regulatory Analysis
    A. Paperwork Reduction Act
    B. Regulatory Flexibility Act: Final Regulatory Flexibility 
Analysis
    C. Riegle Community Development and Regulatory Improvement Act 
of 1994
    D. Use of Plain Language

I. Introduction

A. Background

    In May 2016, the Board invited comment on a notice of proposed 
rulemaking (``proposal'' or ``proposed rule'') to impose restrictions 
on the qualified financial contracts (QFCs)--such as derivatives 
contracts and repurchase agreements--of U.S. global systemically 
important banking organizations (GSIBs) and the U.S. operations of 
global systemically important foreign banking organizations or 
``foreign GSIBs'' (collectively, ``covered entities'').\1\ The proposal 
would have required the QFCs of covered entities to contain contractual 
provisions that opt into the temporary stay-and-transfer treatment of 
the Federal Deposit Insurance Act (FDI Act) and the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (Dodd-Frank Act), thereby 
reducing the risk that the stay-and-transfer treatment would be 
challenged by a QFC counterparty or a court in a foreign jurisdiction. 
The FDI Act and Title II of the Dodd-Frank Act create special 
resolution frameworks for failed financial firms that provide that the 
rights of a failed firm's counterparties to terminate their QFCs are 
temporarily stayed when the firm enters a resolution proceeding to 
allow for the transfer of the relevant obligations under the QFC to a 
solvent party. The proposal also would have prohibited the exercise of 
default rights in QFCs related, directly or indirectly, to the entry 
into resolution of an affiliate of a covered entity (cross-default 
rights), subject to certain creditor protection exceptions that would 
not be expected to interfere with an orderly resolution.
---------------------------------------------------------------------------

    \1\ 81 FR 29169 (May 11, 2016).
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    This final rule, which is part of a set of actions by the Board to 
address the ``too-big-to-fail'' problem, addresses one of the ways in 
which the severe distress or failure of a major financial firm can 
destabilize the U.S. financial system. Protecting the financial 
stability of the United States by helping to address this too-big-to-
fail problem is a core objective of the Dodd-Frank Act,\2\ which 
Congress passed in response to the 2007-2009 financial crisis and the 
ensuing recession. As illustrated by the failure of Lehman Brothers in 
September of 2008, the failure of a large, interconnected financial 
company could cause severe damage to the U.S. financial system and, 
ultimately, to the economy as a whole. The Dodd-Frank Act and the 
actions that U.S. financial regulators have taken to implement it and 
to otherwise protect U.S. financial stability help to address the too-
big-to-

[[Page 42883]]

fail problem in two ways: By reducing the probability that a 
systemically important financial company will fail, and by reducing the 
damage that such a company's failure would do if it were to occur. The 
second of these strategies, which is supported by this final rule, 
centers on measures designed to help ensure that a failed company's 
passage through a resolution proceeding--such as bankruptcy or the 
special resolution process created by the Dodd-Frank Act--would be more 
orderly, thereby helping to mitigate destabilizing effects on the rest 
of the financial system.\3\
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    \2\ The Dodd-Frank Act was enacted on July 21, 2010 (Pub. L. 
111-203). According to its preamble, the Dodd-Frank Act is intended 
``[t]o promote the financial stability of the United States by 
improving accountability and transparency in the financial system, 
to end `too big to fail', [and] to protect the American taxpayer by 
ending bailouts.''
    \3\ The Dodd-Frank Act itself pursues this goal through numerous 
provisions, including by requiring systemically important financial 
companies to develop resolution plans (also known as ``living 
wills'') that lay out how they could be resolved in an orderly 
manner if they were to fail and by creating a new resolution regime, 
the Orderly Liquidation Authority, applicable to systemically 
important financial companies. 12 U.S.C. 5365(d), 5381-5394. 
Moreover, section 165 of the Dodd-Frank Act directs the Board to 
promote financial stability through regulation by subjecting large 
bank holding companies and nonbank financial companies designated 
for Board supervision to enhanced prudential standards ``[i]n order 
to prevent or mitigate risks to the financial stability of the 
United States that could arise from the material financial distress 
or failure, or ongoing activities, of large, interconnected 
financial institutions.'' 12 U.S.C. 5365(a)(1).
---------------------------------------------------------------------------

    This final rule represents a further step to increase the 
resolvability and resilience of U.S. GSIBs and foreign GSIBs that 
operate in the United States. The final rule complements the Board's 
final rulemaking on total loss-absorbing capacity, long-term debt, and 
clean holding company requirements for GSIBs (TLAC final rule) \4\ and 
the ongoing work of the Board and the Federal Deposit Insurance 
Corporation (FDIC) on resolution planning requirements for GSIBs. The 
final rule focuses on improving the orderly resolution of a GSIB by 
limiting disruptions to a failed GSIB through its financial contracts 
with other companies. In particular, the requirements of the final rule 
seek to facilitate the orderly resolution of a failed GSIB by limiting 
the ability of the firm's QFC counterparties to terminate such 
contracts immediately upon entry of the GSIB or one of its affiliates 
into resolution. Given the large volume of QFCs to which covered 
entities are a party, the exercise of default rights en masse as a 
result of the failure or significant distress of a covered entity could 
lead to failure and a disorderly resolution if the failed firm were 
forced to sell off assets, which could spread contagion by increasing 
volatility and lowering the value of similar assets held by other 
firms, or to withdraw liquidity that it had provided to other firms.
---------------------------------------------------------------------------

    \4\ 82 FR 8266 (Jan. 24, 2017).
---------------------------------------------------------------------------

    The largest financial firms are interconnected with other financial 
firms through large volumes of financial contracts of various types, 
including derivatives transactions. The severe distress or failure of 
one entity within a large financial firm can trigger disruptive 
terminations of these contracts, as the counterparties of both the 
failed entity and other entities within the same firm exercise their 
contractual rights to terminate the contracts and liquidate collateral. 
These terminations, especially if counterparties lose confidence in the 
GSIB quickly and in large numbers, can destabilize the financial system 
and potentially spark a financial crisis through several channels. They 
can destabilize the failed entity's otherwise solvent affiliates, 
causing them to fail and thereby destabilizing the entire organization, 
as well as potentially causing their counterparties to fail in a chain 
reaction that can ripple through the system. They also may result in 
fire sales of large volumes of financial assets, such as the collateral 
that secures the contracts, which can in turn weaken and cause stress 
for other firms by lowering the value of similar assets that they hold.
    For example, the triggering of default rights by counterparties of 
Lehman Brothers (Lehman) in 2008 was a key driver of the 
destabilization that resulted from its failure.\5\ At the time of its 
failure, Lehman was party to very large volumes of financial contracts, 
including over-the-counter derivatives contracts.\6\ When its holding 
company declared bankruptcy, Lehman's counterparties exercised their 
default rights.\7\ Lehman's default ``caused disruptions in the swaps 
and derivatives markets and a rapid, market-wide unwinding of trading 
positions.'' \8\ Meanwhile, ``out-of-the-money counterparties, which 
owed Lehman money, typically chose not to terminate their contracts'' 
and instead suspended payment, reducing the liquidity available to the 
bankruptcy estate.\9\ The complexity and disruption associated with 
Lehman's portfolios of financial contracts led to a disorderly 
resolution of Lehman.\10\ This final rule is meant to help avoid a 
repeat of the systemic disruptions caused by the Lehman failure by 
preventing the exercise of default rights in financial contracts from 
leading to such disorderly and destabilizing severe distress or 
failures in the future.
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    \5\ See ``The Orderly Liquidation of Lehman Brothers Holdings 
Inc. under the Dodd-Frank Act'' 3, FDIC Quarterly (2011) (``The 
Lehman bankruptcy had an immediate and negative effect on U.S. 
financial stability and has proven to be a disorderly, time-
consuming, and expensive process.''), https://www.fdic.gov/bank/analytical/quarterly/2011_vol5_2/lehman.pdf.
    \6\ See Michael J. Fleming and Asani Sarkar, ``The Failure 
Resolution of Lehman Brothers,'' FRBNY Economic Policy Review 185 
(Dec. 2014), https://www.newyorkfed.org/medialibrary/media/research/epr/2014/1412flem.pdf.
    \7\ See id.
    \8\ ``The Orderly Liquidation of Lehman Brothers Holdings Inc. 
under the Dodd-Frank Act'' 3, FDIC Quarterly (2011), https://www.fdic.gov/bank/analytical/quarterly/2011_vol5_2/lehman.pdf.
    \9\ Michael J. Fleming and Asani Sarkar, ``The Failure 
Resolution of Lehman Brothers,'' FRBNY Economic Policy Review 185 
(Dec. 2014), https://www.newyorkfed.org/medialibrary/media/research/epr/2014/1412flem.pdf.
    \10\ See Mark J. Roe and Stephen D. Adams, ``Restructuring 
Failed Financial Firms in Bankruptcy: Selling Lehman's Derivatives 
Portfolio,'' Yale Journal on Regulation (2015) (``Lehman's failure 
exacerbated the financial crisis, especially after AIG's collapse in 
the days afterwards prompted counterparties to close out positions, 
sell collateral, and thereby depress and freeze markets. Many 
financial players stopped trading for fear that their counterparty 
would be the next Lehman or that their counterparty had large unseen 
exposures to Lehman that would make the counterparty itself fail. 
Such was the case with the Reserve Primary Fund, a money market fund 
that held too many defaulting obligations of Lehman. That reaction 
led to a further panic, a threat of a run on money market funds, and 
a government guarantee of all money market funds to stem the ongoing 
financial degradation throughout the economy.'').
---------------------------------------------------------------------------

    This final rule responds to the threat to financial stability posed 
by such default rights in two ways. First, the final rule reduces the 
risk that courts in foreign jurisdictions would disregard statutory 
provisions that would stay the rights of a failed firm's counterparties 
to terminate their contracts when the firm enters a resolution 
proceeding under one of the special resolution frameworks for failed 
financial firms created by Congress under the FDI Act and the Dodd-
Frank Act. Second, the final rule facilitates the resolution of a large 
financial entity under the U.S. Bankruptcy Code and other resolution 
frameworks by ensuring that the counterparties of solvent affiliates of 
the failed entity cannot unravel their contracts with the solvent 
affiliate based solely on the failed entity's resolution.
    The Board is issuing this final rule under section 165 of the Dodd-
Frank Act, as well as its safety and soundness and other relevant 
authorities.\11\ Section 165 instructs the Board to impose enhanced 
prudential standards on bank holding companies with total consolidated 
assets of $50 billion or more ``[i]n order to prevent or mitigate risks 
to the financial stability of the

[[Page 42884]]

United States that could arise from the material financial distress or 
failure, or ongoing activities, of large, interconnected financial 
institutions.'' \12\ These enhanced prudential standards must increase 
in stringency based on the systemic footprint and risk characteristics 
of covered firms.\13\ Section 165 requires the Board to impose enhanced 
prudential standards of several specified types and also authorizes the 
Board to establish ``such other prudential standards as the Board of 
Governors, on its own or pursuant to a recommendation made by the 
Council, determines are appropriate.'' \14\
---------------------------------------------------------------------------

    \11\ 12 U.S.C. 321-338a, 481-486, 1467a, 1818, 1828, 1831n, 
1831o, 1831p-l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 3101 
note, 3904, 3906-3909, 4808, 5361, 5362, 5365, 5366, 5367, 5368, 
5371.
    \12\ 12 U.S.C. 5365(a)(1).
    \13\ 12 U.S.C. 5365(a)(1)(B), (b)(3)(A)-(D).
    \14\ 12 U.S.C. 5365(b)(1)(B)(iv).
---------------------------------------------------------------------------

    The enhanced prudential standards in this final rule are intended 
to prevent or mitigate risks to the financial stability of the United 
States that could arise from the material financial distress or failure 
of a GSIB. In particular, the final rule's requirements are intended to 
improve the resolvability and resilience of U.S. GSIBs under the U.S. 
Bankruptcy Code, Title II of the Dodd-Frank Act, or, with reference to 
insured depository institutions that are GSIB subsidiaries, the FDI 
Act, and reduce the potential that resolution of the firm will be 
disorderly and lead to disruptive asset sales and liquidations.
    The final rule should also improve the resilience of the U.S. 
operations of foreign GSIBs, and thereby increase the likelihood that a 
failed foreign GSIB with U.S. operations would be successfully resolved 
by its home jurisdiction authorities without the severe distress or 
failure of the foreign GSIB's U.S. operating entities and with limited 
effect on the financial stability of the United States.\15\
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    \15\ As discussed in detail in this SUPPLEMENTARY INFORMATION 
section, this rule is intended to help prevent systemic disruptions 
that may arise as a result of the exercise of certain contractual 
rights contained in QFCs entered into by GSIBs or their 
subsidiaries. This rule includes certain limitations on the exercise 
of these rights with a view to preventing such systemic disruptions. 
Separate from these limitations, both Title II of the Dodd-Frank Act 
and the FDI Act include various restrictions on the exercise of 
rights by parties to QFCs and provide the FDIC, as receiver of a 
company subject to resolution under Title II or the FDI Act, with 
special authorities. None of the provisions of this rule should be 
construed as being intended to modify or limit, in any manner, the 
rights and powers of the FDIC as receiver under Title II or the FDI 
Act, including, without limitation, the rights of the FDIC as 
receiver to enforce provisions of Title II or the FDI Act that limit 
the enforceability of certain contractual provisions.
---------------------------------------------------------------------------

    The Board has tailored this final rule to apply only to those 
banking organizations whose disorderly failure or severe distress would 
be likely to pose the greatest risk to U.S. financial stability: The 
U.S. GSIBs and the U.S. operations of foreign GSIBs. The Board believes 
that limiting the application of this final rule in this way sensibly 
balances the costs and benefits of the rule by effectively managing 
systemic risk while at the same time limiting the burden of compliance 
by not requiring non-GSIB firms with total assets in excess of $50 
billion to comply with any part of this final rule.
    Qualified financial contracts, default rights, and financial 
stability. The final rule pertains to several important classes of 
financial transactions that are collectively known as ``qualified 
financial contracts.'' \16\ QFCs include derivatives, repurchase 
agreements (also known as ``repos''), reverse repos, and securities 
lending and borrowing agreements.\17\ GSIBs enter into QFCs for a 
variety of purposes, including to borrow money to finance their 
investments, to lend money, to manage risk, and to enable their clients 
and counterparties to hedge risks, make markets in securities and 
derivatives, and take positions in financial investments.
---------------------------------------------------------------------------

    \16\ The final rule adopts the definition of ``qualified 
financial contract'' set out in section 210(c)(8)(D) of the Dodd-
Frank Act, 12 U.S.C. 5390(c)(8)(D). See final rule Sec.  252.81.
    \17\ The definition of ``qualified financial contract'' is 
broader than this list of examples, and the default rights discussed 
are not common to all types of QFC. See final rule Sec.  252.81.
---------------------------------------------------------------------------

    QFCs play a role in economically valuable financial intermediation 
when markets are functioning normally. But they are also a major source 
of financial interconnectedness, which can pose a threat to financial 
stability in times of market stress. The final rule focuses on a 
context in which that threat is especially great: The severe distress 
or failure of a GSIB that is party to large volumes of QFCs, which are 
likely to include QFCs with counterparties that are themselves 
systemically important.
    By contract, a party to a QFC generally has the right to take 
certain actions if its counterparty defaults on the QFC (that is, if it 
fails to meet certain contractual obligations). Common default rights 
include the right to suspend performance of the non-defaulting party's 
obligations, the right to terminate or accelerate the contract, the 
right to set off amounts owed between the parties, and the right to 
seize and liquidate the defaulting party's collateral. In general, 
default rights allow a party to a QFC to reduce the credit risk 
associated with the QFC by granting it the right to exit the QFC and 
thereby reduce its exposure to its counterparty upon the occurrence of 
a specified condition, such as its counterparty's entry into a 
resolution proceeding.
    Where the defaulting party is a GSIB entity, the private benefit of 
allowing counterparties of GSIBs to take certain actions must be 
weighed against the harm that these actions may cause by contributing 
to the severe distress or disorderly failure of a GSIB and increasing 
the threat to the stability of the U.S. financial system as a whole. 
For example, if a significant number of QFC counterparties exercise 
their default rights precipitously and in a manner that would impede an 
orderly resolution of a GSIB, all QFC counterparties and the financial 
system may potentially be worse off and less stable.
    This may occur through several channels. First, the exits may drain 
liquidity from a troubled GSIB, forcing the GSIB to rapidly sell off 
assets at depressed prices, both because the sales must be done within 
a short timeframe and because the elevated supply may push prices down. 
These asset fire sales may cause or deepen balance-sheet insolvency at 
the GSIB, causing a GSIB to fail more suddenly and reducing the amount 
that its other creditors can recover, thereby imposing losses on those 
creditors and threatening their solvency. The GSIB may also respond to 
a QFC run by withdrawing liquidity that it had offered to other firms, 
forcing them to engage in fire sales. Alternatively, if the GSIB's QFC 
counterparty itself liquidates the QFC collateral at fire sale prices, 
the effect will again be to weaken the GSIB's balance sheet as the GSIB 
marks those assets down to the new fire sale induced price level.\18\ 
The counterparty's rights to set-off amounts owed, terminate the 
contract, or suspend payments may allow it to further drain the GSIB's 
capital and liquidity by withholding payments that it would otherwise 
owe to the GSIB. The GSIB may also have rehypothecated collateral that 
it received from QFC counterparties, for instance in repo or securities 
lending transactions that fund other client arrangements, in which case 
demands from those counterparties for the early

[[Page 42885]]

return of their rehypothecated collateral could be especially 
disruptive.\19\
---------------------------------------------------------------------------

    \18\ See ``The Orderly Liquidation of Lehman Brothers Holdings 
Inc. under the Dodd-Frank Act'' 8, FDIC Quarterly (2011), https://www.fdic.gov/bank/analytical/quarterly/2011_vol5_2/lehman.pdf (``A 
disorderly unwinding of [qualified financial contracts] triggered by 
an event of insolvency, as each counterparty races to unwind and 
cover unhedged positions, can cause a tremendous loss of value, 
especially if lightly traded collateral covering a trade is sold 
into an artificially depressed, unstable market. Such disorderly 
unwinding can have severe negative consequences for the financial 
company, its creditors, its counterparties, and the financial 
stability of the United States.'').
    \19\ See generally Adam Kirk, James McAndrews, Parinitha Sastry, 
and Phillip Weed, ``Matching Collateral Supply and Financing Demands 
in Dealer Banks,'' FRBNY Economic Policy Review 127 (Dec. 2014), 
http://www.newyorkfed.org/medialibrary/media/research/epr/2014/1412kirk.pdf.
---------------------------------------------------------------------------

    The asset fire sales discussed above can also spread contagion 
throughout the financial system by increasing volatility and by 
lowering the value of similar assets held by other firms, potentially 
causing these firms to suffer mark-to-market losses, diminished market 
confidence in their own solvency, margin calls, and creditor runs 
(which could lead to further fire sales, worsening the contagion). 
Finally, the early terminations of derivatives upon which the surviving 
entities of the failed GSIB relied to hedge their risks could leave 
those entities with major risks unhedged, increasing the entities' 
potential losses going forward.
    Where there are significant simultaneous terminations and these 
effects occur contemporaneously, such as upon the failure or severe 
distress of a GSIB that is party to a large volume of QFCs, they may 
pose a substantial risk to financial stability. In short, QFC 
continuity is important for the orderly resolution of a GSIB because it 
helps to ensure that the GSIB entities remain viable and to avoid 
instability caused by asset fire sales.
    Consequently, the Board and the FDIC have identified the exercise 
of certain default rights in financial contracts as a potential 
obstacle to orderly resolution in the context of resolution plans filed 
pursuant to section 165(d) of the Dodd-Frank Act \20\ and have 
instructed the most systemically important firms to demonstrate that 
they are ``amending, on an industry-wide and firm-specific basis, 
financial contracts to provide for a stay of certain early termination 
rights of external counterparties triggered by insolvency 
proceedings.'' \21\
---------------------------------------------------------------------------

    \20\ 12 U.S.C. 5365(d).
    \21\ Board and FDIC, ``Agencies Provide Feedback on Second Round 
Resolution Plans of `First-Wave' Filers'' (Aug. 5, 2014), http://www.federalreserve.gov/newsevents/press/bcreg/20140805a.htm. See 
also Board and FDIC, ``Guidance for 2018 Sec.  165(d) Annual 
Resolution Plan Submissions By Foreign-based Covered Companies that 
Submitted Resolution Plans in July 2015,'' (Mar. 24, 2017), https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20170324a21.pdf; Board and FDIC, ``Guidance for 2017 Sec.  
165(d) Annual Resolution Plan Submissions By Domestic Covered 
Companies that Submitted Resolution Plans in July 2015,'' (Apr. 13, 
2016), https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20160413a1.pdf; Board and FDIC, ``Agencies Provide 
Feedback on Resolution Plans of Three Foreign Banking 
Organizations,'' (Mar. 23, 2015), http://www.federalreserve.gov/newsevents/press/bcreg/20150323a.htm; Board and FDIC, ``Guidance for 
2013 165(d) Annual Resolution Plan Submissions by Domestic Covered 
Companies that Submitted Initial Resolution Plans in 2012'' (Apr. 
15, 2013), http://www.federalreserve.gov/newsevents/press/bcreg/bcreg20130415c2.pdf.
---------------------------------------------------------------------------

    Direct defaults and cross-defaults. This final rule focuses on two 
distinct scenarios in which a non-defaulting party to a QFC is commonly 
able to exercise the rights described above. These two scenarios 
involve a default that occurs when either the GSIB legal entity that is 
a direct party \22\ to the QFC or an affiliate of that legal entity 
enters a resolution proceeding.\23\ The first scenario occurs when a 
GSIB entity that is itself a direct party to the QFC enters a 
resolution proceeding; this preamble refers to such a scenario as a 
``direct default'' and refers to the default rights that arise from a 
direct default as ``direct default rights.'' The second scenario occurs 
when an affiliate of the GSIB entity that is a direct party to the QFC 
(such as the direct party's parent holding company) enters a resolution 
proceeding; this preamble refers to such a scenario as a ``cross-
default'' and refers to default rights that arise from a cross-default 
as ``cross-default rights.'' For example, a GSIB parent entity might 
guarantee the derivatives transactions of its subsidiaries, and those 
derivatives contracts could contain cross-default rights against a 
subsidiary of the GSIB that would be triggered by the bankruptcy filing 
of the GSIB parent entity even though the subsidiary continues to meet 
all of its financial obligations.\24\
---------------------------------------------------------------------------

    \22\ In general, a ``direct party'' refers to a party to a 
financial contract other than a credit enhancement (such as a 
guarantee). The definition of ``direct party'' and related 
definitions are discussed in more detail below.
    \23\ This preamble uses phrases such as ``entering a resolution 
proceeding'' and ``going into resolution'' to encompass the concept 
of ``becoming subject to a receivership, insolvency, liquidation, 
resolution, or similar proceeding.'' These phrases refer to 
proceedings established by law to deal with a failed legal entity. 
In the context of the failure of a systemically important banking 
organization, the most relevant types of resolution proceeding 
include the following: For most U.S.-based legal entities, the 
bankruptcy process established by the U.S. Bankruptcy Code (Title 
11, United States Code); for U.S. insured depository institutions, a 
receivership administered by the FDIC under the FDI Act (12 U.S.C. 
1821); for companies whose ``resolution under otherwise applicable 
Federal or State law would have serious adverse effects on the 
financial stability of the United States,'' the Dodd-Frank Act's 
Orderly Liquidation Authority (12 U.S.C. 5383(b)(2)); and, for 
entities based outside the United States, resolution proceedings 
created by foreign law.
    \24\ See Michael J. Fleming and Asani Sarkar, ``The Failure 
Resolution of Lehman Brothers,'' FRBNY Economic Policy Review 185 
(Dec. 2014), https://www.newyorkfed.org/medialibrary/media/research/epr/2014/1412flem.pdf.
---------------------------------------------------------------------------

    Importantly, this final rule does not affect all types of default 
rights. Moreover, the final rule is concerned only with default rights 
that run against a GSIB--that is, direct default rights and cross-
default rights that arise from the entry into resolution of a GSIB 
entity. The final rule does not affect default rights that a GSIB 
entity (or any other entity) may have against a counterparty that is 
not a GSIB entity. This limited scope is appropriate because, as 
described above, the risk posed to financial stability by the exercise 
of QFC default rights is greatest when the defaulting counterparty is a 
GSIB entity.
    Single-point-of-entry resolution. Cross-default rights are 
especially significant in the context of a GSIB failure because GSIBs 
typically enter into large volumes of QFCs through different entities 
controlled by the GSIB. For example, a U.S. GSIB is made up of a U.S. 
bank holding company and numerous operating subsidiaries that are 
owned, directly or indirectly, by the bank holding company. From the 
standpoint of financial stability, the most important of these 
operating subsidiaries are generally a U.S. insured depository 
institution, a U.S. broker-dealer, and similar entities organized in 
other countries.
    Many complex GSIBs have developed resolution strategies that rely 
on a single-point-of-entry (SPOE) resolution strategy. In an SPOE 
resolution of a GSIB, only a single legal entity--the GSIB's top-tier 
bank holding company--would enter a resolution proceeding. The losses 
that led to the GSIB's failure would be passed up from the operating 
subsidiaries that incurred the losses to the holding company and would 
then be imposed on the equity holders and unsecured creditors of the 
holding company through the resolution process.\25\ This strategy is 
designed to help ensure that the GSIB subsidiaries remain adequately 
capitalized and that operating subsidiaries of the GSIB are able to 
continue to meet their financial obligations without defaulting or 
entering resolution themselves. The expectation that the holding 
company's equity holders and unsecured creditors would absorb the 
GSIB's losses in the event of failure would help to maintain the 
confidence of the operating subsidiaries' creditors and counterparties 
(including their QFC

[[Page 42886]]

counterparties), reducing their incentive to engage in potentially 
destabilizing funding runs or margin calls and thus lowering the risk 
of asset fire sales. A successful SPOE resolution would also avoid the 
need for separate resolution proceedings for separate legal entities 
run by separate authorities across multiple jurisdictions, which would 
be more complex and could therefore destabilize the resolution of a 
GSIB.
---------------------------------------------------------------------------

    \25\ The Board's final rule regarding total loss-absorbing 
capacity, long term debt and clean holding company requirements 
(TLAC rule) addresses the need for adequate external loss-absorbing 
capacity at the holding company level by requiring the top-tier 
holding companies of the U.S. GSIBs and the U.S. intermediate 
holding companies of foreign GSIBs to maintain outstanding required 
levels of unsecured long-term debt and TLAC, which is defined to 
include both tier 1 capital and eligible long-term debt. See 82 FR 
8266, 8287 (Jan. 24, 2017).
---------------------------------------------------------------------------

    The Board's TLAC rule is intended to help, though not exclusively, 
to lay the foundation necessary for the SPOE resolution of a GSIB by 
requiring the top-tier holding companies of U.S. GSIBs and the U.S. 
intermediate holding companies of foreign GSIBs to maintain sufficient 
amounts of loss-absorbing capacity that could be used for resolution 
and to adopt a ``clean holding company'' structure, under which certain 
financial activities that could pose obstacles to orderly resolution 
would be impermissible for the holding company and could only be 
conducted by its operating subsidiaries.\26\
---------------------------------------------------------------------------

    \26\ See 82 FR 8266 (Jan. 24, 2017).
---------------------------------------------------------------------------

    Other orderly resolution strategies. This final rule is also 
intended to yield benefits for other approaches to resolution. For 
example, preventing early terminations of QFCs would increase the 
prospects for an orderly resolution under a multiple-point-of-entry 
(MPOE) strategy involving a foreign GSIB's U.S. intermediate holding 
company going into resolution or a resolution plan that calls for a 
GSIB's U.S. insured depository institution to enter resolution under 
the FDI Act. As discussed above, the final rule should help support the 
continued operation of one or more affiliates of an entity that has 
entered resolution to the extent the affiliate continues to perform on 
its QFCs.
    U.S. Bankruptcy Code. When an entity goes into resolution under the 
U.S. Bankruptcy Code, attempts by the debtor entity's creditors to 
enforce their debts through any means other than participation in the 
bankruptcy proceeding (for instance, by suing in another court, seeking 
enforcement of a preexisting judgment, or seizing and liquidating 
collateral) are generally blocked by the imposition of an automatic 
stay.\27\ A key purpose of the automatic stay, and of bankruptcy law in 
general, is to maximize the value of the bankruptcy estate and the 
creditors' ultimate recoveries by facilitating an orderly liquidation 
or restructuring of the debtor. The automatic stay thus solves a 
collective action problem in which the creditors' individual incentives 
to become the first to recover as much from the debtor as possible, 
before other creditors can do so, collectively cause a value-destroying 
disorderly liquidation of the debtor.\28\
---------------------------------------------------------------------------

    \27\ See 11 U.S.C. 362.
    \28\ See, e.g., Aiello v. Providian Financial Corp., 239 F.3d 
876, 879 (7th Cir. 2001).
---------------------------------------------------------------------------

    However, the U.S. Bankruptcy Code largely exempts QFC \29\ 
counterparties of the debtor from the automatic stay through special 
``safe harbor'' provisions.\30\ Under these provisions, any rights that 
a QFC counterparty has to terminate the contract, set-off obligations, 
or liquidate collateral in response to a direct default are not subject 
to the stay and may be exercised against the debtor immediately upon 
default. (The U.S. Bankruptcy Code does not itself confer default 
rights upon QFC counterparties; it merely permits QFC counterparties to 
exercise certain rights created by other sources, such as contractual 
rights created by the terms of the QFC.)
---------------------------------------------------------------------------

    \29\ The U.S. Bankruptcy Code does not use the term ``qualified 
financial contract,'' but the set of transactions covered by its 
safe harbor provisions closely tracks the set of transactions that 
fall within the definition of ``qualified financial contract'' used 
in Title II of the Dodd-Frank Act and in this final rule.
    \30\ 11 U.S.C. 362(b)(6), (7), (17), (27), 362(o), 555, 556, 
559, 560, 561. The U.S. Bankruptcy Code specifies the types of 
parties to which the safe harbor provisions apply, such as financial 
institutions and financial participants. Id.
---------------------------------------------------------------------------

    The U.S. Bankruptcy Code's automatic stay also does not prevent the 
exercise of cross-default rights against an affiliate of the party 
entering resolution. The stay generally applies only to actions taken 
against the party entering resolution or the bankruptcy estate,\31\ 
whereas a QFC counterparty exercising a cross-default right is instead 
acting against a distinct legal entity that is not itself in 
resolution--the debtor's affiliate.
---------------------------------------------------------------------------

    \31\ See 11 U.S.C. 362(a).
---------------------------------------------------------------------------

    Title II of the Dodd-Frank Act and the Orderly Liquidation 
Authority. Title II of the Dodd-Frank Act imposes stay requirements on 
QFCs of financial companies that enter resolution under that Title. In 
general, no financial firm (regardless of size) is too-big-to-fail and 
a U.S. bank holding company (such as the top-tier holding company of a 
U.S. GSIB) that fails would be resolved under the U.S. Bankruptcy Code. 
Congress recognized, however, that a financial company might fail under 
extraordinary circumstances in which an attempt to resolve it through 
the bankruptcy process would have serious adverse effects on financial 
stability in the United States. Title II of the Dodd-Frank Act 
establishes the Orderly Liquidation Authority (OLA), an alternative 
resolution framework intended to be used in rare circumstances to 
manage the failure of a firm that poses a significant risk to the 
financial stability of the United States in a manner that mitigates 
such risk and minimizes moral hazard.\32\ Title II authorizes the 
Secretary of the Treasury, upon the recommendation of other government 
agencies and a determination that several preconditions are met, to 
place a financial company into a receivership conducted by the FDIC as 
an alternative to bankruptcy.\33\
---------------------------------------------------------------------------

    \32\ Section 204(a) of the Dodd-Frank Act, codified at 12 U.S.C. 
5384(a).
    \33\ See section 203 of the Dodd-Frank Act, codified at 12 
U.S.C. 5383.
---------------------------------------------------------------------------

    Title II empowers the FDIC to transfer the QFCs to a bridge 
financial company or some other financial company that is not in a 
resolution proceeding and should therefore be capable of performing 
under the QFCs.\34\ To give the FDIC time to effect this transfer, 
Title II temporarily stays QFC counterparties of the failed entity from 
exercising termination, netting, and collateral liquidation rights 
``solely by reason of or incidental to'' the failed entity's entry into 
OLA resolution, its insolvency, or its financial condition.\35\ Once 
the QFCs are transferred in accordance with the statute, Title II 
permanently stays the exercise of default rights for those reasons.\36\
---------------------------------------------------------------------------

    \34\ See 12 U.S.C. 5390(c)(9).
    \35\ 12 U.S.C. 5390(c)(10)(B)(i)(I). This temporary stay 
generally lasts until 5:00 p.m. eastern time on the business day 
following the appointment of the FDIC as receiver.
    \36\ 12 U.S.C. 5390(c)(10)(B)(i)(II).
---------------------------------------------------------------------------

    Title II addresses cross-default rights through a similar 
procedure. It empowers the FDIC to enforce contracts of subsidiaries or 
affiliates of the failed covered financial company that are 
``guaranteed or otherwise supported by or linked to the covered 
financial company, notwithstanding any contractual right to cause the 
termination, liquidation, or acceleration of such contracts based 
solely on the insolvency, financial condition, or receivership of'' the 
failed company, so long as, if such contracts are guaranteed or 
otherwise supported by the covered financial company, the FDIC takes 
certain steps to protect the QFC counterparties' interests by the end 
of the business day following the company's entry into OLA 
resolution.\37\
---------------------------------------------------------------------------

    \37\ 12 U.S.C. 5390(c)(16).
---------------------------------------------------------------------------

    These stay-and-transfer provisions of the Dodd-Frank Act are 
intended to mitigate the threat posed by QFC default rights. At the 
same time, the provisions allow appropriate protections for QFC 
counterparties of the failed financial

[[Page 42887]]

company. The provisions stay only the exercise of default rights based 
on the failed company's entry into resolution, the fact of its 
insolvency, or its financial condition. Further, the stay period is 
brief, unless the FDIC transfers the QFCs to another financial company 
that is not in resolution (and should therefore be capable of 
performing under the QFCs) or, if applicable, provides adequate 
protection that the QFCs will be performed.
    The Federal Deposit Insurance Act. Under the FDI Act, a failing 
insured depository institution would generally enter a receivership 
administered by the FDIC.\38\ The FDI Act addresses direct default 
rights in the failed bank's QFCs with stay-and-transfer provisions that 
are substantially similar to the provisions of Title II of the Dodd-
Frank Act discussed above.\39\ However, the FDI Act does not address 
cross-default rights, leaving the QFC counterparties of the failed 
depository institution's affiliates free to exercise any contractual 
rights they may have to terminate, net, or liquidate collateral based 
on the depository institution's entry into resolution. Moreover, as 
with Title II of the Dodd-Frank Act, there is a possibility that a 
court of a foreign jurisdiction might decline to enforce the FDI Act's 
stay-and-transfer provisions under certain circumstances.
---------------------------------------------------------------------------

    \38\ 12 U.S.C. 1821(c).
    \39\ See 12 U.S.C. 1821(e)(8)-(10).
---------------------------------------------------------------------------

B. Notice of Proposed Rulemaking and General Summary of Comments

    The proposal was intended to increase GSIB resolvability and 
resiliency by addressing two QFC-related issues. First, the proposal 
sought to address the risk that a court in a foreign jurisdiction may 
decline to enforce the QFC stay-and-transfer provisions of Title II and 
the FDI Act discussed above. Second, the proposal sought to address the 
potential disruption that may occur if a counterparty to a QFC with an 
affiliate of a GSIB entity that goes into resolution under the U.S. 
Bankruptcy Code or the FDI Act exercises cross-default rights.
    Scope of application. The proposal's requirements would have 
applied to all ``covered entities.'' Under the proposal, ``covered 
entity'' included: Any U.S. top-tier bank holding company identified as 
a GSIB under the Board's rule establishing risk-based capital 
surcharges for GSIBs (GSIB surcharge rule); \40\ any subsidiary of such 
a bank holding company; and any U.S. subsidiary, U.S. branch, or U.S. 
agency of a foreign GSIB.\41\ ``Covered entity'' did not include 
national banks and Federal savings associations that are supervised by 
the Office of the Comptroller of the Currency (OCC), because the OCC 
was expected to issue, and ultimately did issue, a proposed rule that 
would subject those institutions to requirements substantively 
identical to those proposed by the Board's rule for covered entities.
---------------------------------------------------------------------------

    \40\ 12 CFR 217.402; 80 FR 49106 (Aug. 14, 2015).
    \41\ See proposed rule Sec.  252.81.
---------------------------------------------------------------------------

    In the proposal, ``qualified financial contract'' or ``QFC'' was 
defined to have the same meaning as in section 210(c)(8)(D) of the 
Dodd-Frank Act,\42\ and included, among other things, derivatives, 
repos, and securities borrowing and lending agreements. Subject to the 
exceptions discussed below, the proposal's requirements would have 
applied to any QFC to which a covered entity is party (covered QFC). 
Under the proposal, a covered entity would have been required to 
conform pre-existing QFCs if a covered entity enters into a new QFC 
with a counterparty or its affiliate.
---------------------------------------------------------------------------

    \42\ 12 U.S.C. 5390(c)(8)(D). See proposed rule Sec.  252.81.
---------------------------------------------------------------------------

    Required contractual provisions related to the U.S. Special 
Resolution Regimes. Under the proposal, covered entities would have 
been required to ensure that covered QFCs include contractual terms 
explicitly providing that any default rights or restrictions on the 
transfer of the QFC are limited to at least the same extent as they 
would be pursuant to the OLA and the FDI Act (U.S. Special Resolution 
Regimes).\43\ The proposed requirements were not intended to imply that 
the statutory stay-and-transfer provisions would not in fact apply to a 
given QFC, but rather to help ensure that all covered QFCs would be 
treated the same way in the context of an FDIC receivership under the 
Dodd-Frank Act or the FDI Act. This provision was intended to address 
the first issue listed above and to decrease the QFC-related threat to 
financial stability posed by the failure and resolution of an 
internationally active GSIB. This section of the proposal was also 
consistent with analogous legal requirements that have been imposed in 
other national jurisdictions \44\ and with the Financial Stability 
Board's ``Principles for Cross-border Effectiveness of Resolution 
Actions.'' \45\
---------------------------------------------------------------------------

    \43\ See proposed rule Sec.  252.83.
    \44\ See, e.g., Bank of England Prudential Regulation Authority, 
Policy Statement, ``Contractual stays in financial contracts 
governed by third-country law'' (Nov. 2015), http://www.bankofengland.co.uk/pra/Documents/publications/ps/2015/ps2515.pdf.
    \45\ Financial Stability Board, ``Principles for Cross-border 
Effectiveness of Resolution Actions'' (Nov. 3, 2015), http://www.fsb.org/wp-content/uploads/Principles-for-Cross-border-Effectiveness-of-Resolution-Actions.pdf.
    The Financial Stability Board (FSB) was established in 2009 to 
coordinate the work of national financial authorities and 
international standard-setting bodies and to develop and promote the 
implementation of effective regulatory, supervisory, and other 
financial sector policies to advance financial stability. The FSB 
brings together national authorities responsible for financial 
stability in 24 countries and jurisdictions, as well as 
international financial institutions, sector-specific international 
groupings of regulators and supervisors, and committees of central 
bank experts. See generally Financial Stability Board, http://www.fsb.org.
---------------------------------------------------------------------------

    Prohibited cross-default rights. Under the proposal, a covered 
entity would have been prohibited from entering into covered QFCs that 
would allow the exercise of cross-default rights--that is, default 
rights related, directly or indirectly, to the entry into resolution of 
an affiliate of the direct party--against it.\46\ Covered entities 
would have been similarly prohibited from entering into covered QFCs 
that included a restriction on the transfer of a credit enhancement 
supporting the QFC from the covered entity's affiliate to a transferee 
upon the entry into resolution of the affiliate.
---------------------------------------------------------------------------

    \46\ See proposed rule Sec.  252.83(b).
---------------------------------------------------------------------------

    The Board did not propose to prohibit a covered entity from 
entering into QFCs that allow its counterparties to exercise direct 
default rights against the covered entity. Under the proposal, a 
covered entity also could, to the extent not inconsistent with Title II 
or the FDI Act, enter into a QFC that grants its counterparty the right 
to terminate the QFC if the covered entity fails to perform its 
obligations under the QFC.
    Industry-developed protocol. As an alternative to bringing their 
covered QFCs into compliance with the requirements set out in the 
proposed rule, covered entities would have been permitted to comply 
with the requirements of the proposed rule by adhering to the 
International Swaps and Derivatives Association (ISDA) 2015 Universal 
Resolution Stay Protocol, including the Securities Financing 
Transaction Annex and the Other Agreements Annex (together, the 
``Universal Protocol'').\47\ The preamble to the proposal explained 
that the Board viewed the Universal Protocol as achieving an outcome 
consistent with the outcome intended by the requirements of the 
proposed rule by

[[Page 42888]]

similarly limiting direct default rights and cross-default rights.
---------------------------------------------------------------------------

    \47\ ISDA, ``Attachment to the ISDA 2015 Universal Resolution 
Stay Protocol,'' (Nov. 4, 2015), http://assets.isda.org/media/ac6b533f-3/5a7c32f8-pdf/. See proposed rule Sec.  252.85(a).
---------------------------------------------------------------------------

    Process for approval of enhanced creditor protection conditions. 
The proposal also would have allowed the Board, at the request of a 
covered entity, to approve as compliant with the proposal covered QFCs 
with creditor protections other than those that would otherwise be 
permitted under section 252.84 of the proposal.\48\ The Board would 
have been permitted to approve such a request if, in light of several 
enumerated considerations,\49\ the alternative creditor protections 
would mitigate risks to the financial stability of the United States 
presented by a GSIB's failure to at least the same extent as the 
proposed requirements.
---------------------------------------------------------------------------

    \48\ See proposed rule Sec.  252.85.
    \49\ See proposed rule Sec.  252.85(c).
---------------------------------------------------------------------------

    Amendments to certain definitions in the Board's capital and 
liquidity rules. The proposal also would have amended certain 
definitions in the Board's capital and liquidity rules to help ensure 
that the regulatory capital and liquidity treatment of QFCs to which a 
covered entity is party would not be affected by the proposed 
restrictions on such QFCs. Specifically, the proposal would have 
amended the definition of ``qualifying master netting agreement'' in 
the Board's regulatory capital and liquidity rules and would similarly 
amend the definitions of the terms ``collateral agreement,'' ``eligible 
margin loan,'' and ``repo-style transaction'' in the Board's regulatory 
capital rules.
    Comments on the Proposal. The Board received approximately 30 
comments on the proposed rule from banking organizations, trade 
associations, public interest advocacy groups, and private individuals. 
Board staff also met with some commenters at their request to discuss 
their comments on the proposal, and summaries of these meetings may be 
found on the Board's public Web site.
    A number of commenters, including GSIBs that would be subject to 
the requirements of the proposal, expressed strong support for the 
proposed rule as a well-considered effort to reduce systemic risk with 
minimal burden and as one of the last important steps to ensure a more 
efficient and orderly resolution process for all covered entities and 
thereby to protect the stability of the U.S. financial system. Other 
commenters, however, expressed concern with the proposed rule. These 
commenters generally argued that the proposal should not restrict 
contractual rights of GSIB counterparties and contended that the 
proposal shifts the costs of resolving the covered entities to non-
defaulting counterparties. Some commenters argued that the proposal 
would not assuredly mitigate systemic risk, as the requirements could 
result in increased market and credit risk for QFC counterparties of a 
GSIB. Commenters also argued that it would be more appropriate for 
Congress to impose the proposal's restrictions on contractual rights 
through the legislative process rather than for the Board to do so 
through a regulation.
    As described above, the proposal applied to ``covered entities,'' 
which was defined to mean all U.S. GSIBs and their subsidiaries, as 
well as the U.S. operations (subsidiaries, branches, and agencies) of 
GSIBs that are foreign banking organizations. The proposal generally 
defined ``subsidiary'' as an entity controlled by a GSIB under the Bank 
Holding Company Act (BHC Act). Commenters urged the Board to move to a 
financial consolidation standard to define the subsidiaries of covered 
entities, arguing that the concept of control under the BHC Act 
includes entities (1) that are not under the operational control of the 
GSIB and over whom the GSIB does not have the practical ability to 
require remediation and (2) which are unlikely to raise the types of 
concerns for the orderly resolution of GSIBs targeted by the proposal. 
For similar reasons, these commenters argued that, for purposes of the 
requirement that a covered entity conform existing QFCs if a covered 
entity enters into a new QFC with a counterparty or its affiliate, a 
counterparty's ``affiliate'' should also be defined by reference to 
financial consolidation rather than BHC Act control.
    Commenters also expressed concern that the definition of ``covered 
QFCs'' under the proposal was overly broad. The proposal required a 
covered QFC to explicitly provide that it is subject to the stay-and-
transfer provisions of Title II and the FDI Act and prohibited a 
covered entity from being a party to a QFC that would allow the 
exercise of cross-default rights. Commenters argued that the final rule 
should exclude QFCs that do not contain any contractual transfer 
restrictions, direct default rights, or cross-default rights, as these 
QFCs do not give rise to the risk that counterparties will exercise 
their contractual rights in a manner that is inconsistent with the 
provisions of the U.S. Special Resolution Regimes. Commenters also 
urged the Board to exclude QFCs governed by U.S. law from the 
requirement that QFCs explicitly ``opt in'' to the U.S. Special 
Resolution Regimes since it is already sufficiently clear that such 
QFCs are subject to the stay-and-transfer provisions of Title II and 
the FDI Act. With respect to the proposal's prohibition against 
provisions that would allow the exercise of cross-default rights in 
covered QFCs of a GSIB, commenters argued that the final rule should 
clarify that QFCs that do not contain such cross-default rights or 
transfer restrictions regarding related credit enhancements are not 
within the scope of the prohibition.
    Commenters also requested that certain types of contracts that may 
include transfer or default rights subject to the proposal's 
requirements (e.g., warrants; certain commodity contracts, including 
commodity swaps; certain utility and gas supply contracts; certain 
retail customer and investment advisory agreements; securities 
underwriting agreements; securities lending authorization agreements) 
be excluded from all requirements of the final rule because these types 
of contracts do not raise the risks to the resolution of a covered 
entity or financial stability that are the target of this final rule 
and because certain existing contracts of these types would be 
difficult, if not impossible, to amend. Commenters also requested that 
securities contracts that typically settle in the short term or that 
typically include only transfer restrictions and not default rights 
similarly be excluded from all requirements of the final rule because 
they do not impose ongoing or continuing obligations on either party 
after settlement. In all of the above cases, commenters argued that 
remediation of such outstanding contracts would be burdensome with no 
meaningful resolution benefits. Certain commenters also urged the Board 
to apply the final rule only to contracts entered into after the final 
rule's effective date and not to contracts existing as of the final 
rule's effective date.
    As noted above, the proposal would have deemed compliant covered 
QFCs amended by the existing Universal Protocol (which allows for 
creditor protections in addition to those otherwise permitted by the 
proposed rule). Commenters generally supported this aspect of the 
proposal, although they requested express clarification that adherence 
to the existing Universal Protocol would satisfy all of the 
requirements of the final rule. Commenters urged that the final rule 
should also provide a safe harbor for a future ISDA protocol that would 
be substantially similar to the existing Universal Protocol except that 
it would seek to address the specific needs of buy-side market 
participants, such as

[[Page 42889]]

asset managers, insurance companies, and pension funds who are 
counterparties to QFCs with GSIBs, to allow, for example, entity-by-
entity adherence and the exclusion of certain foreign special 
resolution regimes.
    Commenters expressed support for the exemption in the proposal for 
cleared QFCs but requested that this exemption be broadened to extend 
to the client leg of a cleared back-to-back transaction and also to 
exclude any contract cleared, processed, or settled on a financial 
market utility (FMU) as well as any QFC conducted according to the 
rules of an FMU. Commenters also requested an exemption for QFCs with 
sovereign entities and central banks. Commenters further requested a 
longer period of time for covered entities to conform covered QFCs with 
certain types of counterparties to comply with the requirements of the 
final rule. Commenters also requested that the Board coordinate with 
other regulatory agencies, consider comments submitted to the OCC 
regarding its proposal and from entities not regulated by the Board, 
and finalize a rule with conformance periods consistent with the OCC's 
final rule. In addition, commenters requested confirmation that 
modifications to contracts to comply with this rule would not trigger 
other regulatory requirements (e.g., margin requirements for non-
cleared swaps) or impact the enforceability of QFCs. The Board has 
considered the comments received on this proposal, including those of 
entities not regulated by the Board, as well as the comments submitted 
to the OCC and FDIC regarding their respective proposals, and these 
comments and changes in the final rule are described in more detail 
throughout the remainder of this SUPPLEMENTARY INFORMATION.

C. Overview of Final Rule

    The Board is adopting this final rule to improve the resolvability 
and resilience of GSIBs and thereby reduce threats to financial 
stability. The Board has made a number of changes to the proposal in 
response to concerns raised by commenters, as further described below.
    The final rule is intended to facilitate the orderly resolution of 
the most systemically important banking firms--the GSIBs--by limiting 
the ability of the firms' counterparties to terminate QFCs upon the 
entry of the GSIB or one or more of its affiliates into resolution. The 
rule requires the inclusion of contractual restrictions on the exercise 
of certain default rights in those QFCs. In particular, the final rule 
requires the QFCs of covered entities to contain contractual provisions 
that opt into the stay-and-transfer treatment of the FDI Act and the 
Dodd-Frank Act to reduce the risk that the stay-and-transfer treatment 
would be challenged by a QFC counterparty or a court in a foreign 
jurisdiction. The final rule also prohibits covered entities from 
entering into QFCs that contain cross-default rights, subject to 
certain creditor protection exceptions that would not be expected to 
interfere with an orderly resolution.
    The final rule also facilitates the implementation of the Universal 
Protocol, which can extend, through contractual agreement, the 
application of the resolution frameworks of the FDI Act and the Dodd-
Frank Act to all QFCs entered into by a GSIB and its subsidiaries, 
including QFCs entered into by covered entities outside of the United 
States, and establishes restrictions on cross-default rights that are 
similar to those in the final rule. The final rule is necessary to 
implement the Universal Protocol provisions regarding the resolution of 
a GSIB under the U.S. Bankruptcy Code, as these provisions do not 
become effective until implemented by U.S. regulations. To support 
further adherence to the Universal Protocol, the final rule creates a 
safe harbor allowing covered entities to sign up to the Universal 
Protocol and thereby amend their QFCs pursuant to the Universal 
Protocol as an alternative to implementing the restrictions of the 
final rule on a counterparty-by-counterparty basis. In addition, the 
final rule provides that covered QFCs amended pursuant to adherence of 
a covered entity to a new protocol (the ``U.S. Protocol'') would be 
deemed to conform to the requirements of the final rule. The U.S. 
Protocol may differ from the Universal Protocol in the certain respects 
discussed below, but otherwise must be substantively identical to the 
Universal Protocol.
    The final rule requires covered entities to conform certain covered 
QFCs to the requirements of the final rule on the first day of the 
first calendar quarter that begins a year after issuance of the final 
rule (first compliance date) and phases in conformance requirements 
with respect to all covered QFCs over a two-year period depending on 
the type of counterparty. As explained below, a covered entity 
generally is required to conform pre-existing QFCs only if the covered 
entity or an affiliate of the covered entity enters into a new QFC with 
the same counterparty or a consolidated affiliate of the counterparty 
on or after the first compliance date.
1. Covered Entities
    The final rule continues to apply to ``covered entities,'' which 
generally are U.S. GSIBs and their subsidiaries and the U.S. operations 
of foreign GSIBs. ``Subsidiary'' continues to be defined in the final 
rule by reference to BHC Act control. Because the FDIC and OCC are 
expected to finalize substantively identical final rules to that of the 
Board, the definition of ``covered entity'' in the final rule excludes 
state savings associations and state nonmember banks (FSIs), which are 
supervised by the FDIC, and GSIB subsidiaries (e.g., national banks), 
U.S. branches, and U.S. agencies that are supervised by the OCC. The 
final rule refers to FSIs and entities supervised by the OCC (e.g., 
national banks) that would be covered entities but for this exclusion 
as ``excluded banks.'' \50\ As discussed below, certain other types of 
GSIB subsidiaries, such as merchant banking portfolio companies, are 
also excluded from the final rule.
---------------------------------------------------------------------------

    \50\ See final rule Sec.  252.81 for definitions of ``excluded 
bank'' and ``FSI.'' See also 12 U.S.C. 1813.
---------------------------------------------------------------------------

2. Covered Qualified Financial Contracts
    The final rule, like the proposal, defines ``qualified financial 
contract'' or ``QFC'' to have the same meaning as in section 
210(c)(8)(D) of the Dodd-Frank Act \51\ and would include, among other 
things, derivatives, repos, and securities lending agreements.\52\ 
Subject to the exceptions discussed below, the final rule's 
requirements apply to any QFC to which a covered entity is party 
(covered QFC). The final rule makes clear that covered entities do not 
need to conform QFCs that have no transfer restrictions, direct default 
rights, or cross-default rights, as these QFCs have no provisions that 
the rule is intended to address.\53\ The final rule also excludes 
retail investment advisory agreements and certain existing 
warrants.\54\ It also provides the Board with authority to exempt one 
or more covered entities from conforming certain contracts or types of 
contracts to the requirements of the final rule after considering, in 
addition to any other factor the Board deems relevant, the burden the 
exemption would relieve and the potential impact of the exemption on 
the resolvability of the covered entity or its affiliates.\55\
---------------------------------------------------------------------------

    \51\ 12 U.S.C. 5390(c)(8)(D).
    \52\ See final rule Sec.  252.81; proposed rule Sec.  252.81.
    \53\ See final rule Sec.  252.84(a).
    \54\ See final rule Sec.  252.88(c).
    \55\ See final rule Sec.  252.88(d).
---------------------------------------------------------------------------

    The final rule also makes clear that a covered entity must conform 
existing

[[Page 42890]]

QFCs with a counterparty if the GSIB group (i.e., the covered entity or 
its affiliates that are covered entities or excluded banks) enters into 
a new QFC with that counterparty or its affiliate, defined by reference 
to financial consolidation principles. In particular, the final rule 
provides that a covered QFC includes a QFC that the covered entity 
entered, executed, or otherwise became a party to before the first 
compliance date of this final rule if the covered entity or any 
affiliate that is a covered entity or excluded bank also enters, 
executes, or otherwise becomes a party to a QFC with the same person or 
a consolidated affiliate of that person on or after the first 
compliance date.\56\ ``Consolidated affiliate'' is a defined term in 
the final rule that is defined by reference to financial consolidation 
principles.\57\
---------------------------------------------------------------------------

    \56\ See final rule Sec.  252.82(c).
    \57\ See final rule Sec.  252.81.
---------------------------------------------------------------------------

3. Required Contractual Provisions Related to the U.S. Special 
Resolution Regimes
    Under the final rule, covered entities are required to ensure that 
covered QFCs include contractual terms explicitly providing that any 
default rights or restrictions on the transfer of the QFC are limited 
to the same extent as they would be pursuant to the U.S. Special 
Resolution Regimes.\58\ However, any covered QFC that is governed under 
U.S. law and involves only parties (other than the covered entity) that 
are domiciled in, incorporated in, organized under, or whose principal 
place of business is located in the United States, including any state, 
or that is a U.S. branch or agency (U.S. counterparties) is also 
excluded from the requirements of the final rule relating to Title II 
of the Dodd-Frank Act and the FDI Act because it is sufficiently clear 
that the stay-and-transfer provisions of those acts would be 
enforceable.\59\
---------------------------------------------------------------------------

    \58\ See final rule Sec.  252.83.
    \59\ See final rule Sec.  252.83(a).
---------------------------------------------------------------------------

4. Prohibited Cross-Default Rights
    Under the final rule, a covered entity is prohibited from entering 
into covered QFCs that would allow the exercise of cross-default 
rights--that is, default rights related, directly or indirectly, to the 
entry into resolution of an affiliate of the direct party--against 
it.\60\ Covered entities are similarly prohibited from entering into 
covered QFCs that would restrict the transfer of a credit enhancement 
supporting the QFC from the covered entity's affiliate to a transferee 
upon the entry into resolution of the affiliate.\61\
---------------------------------------------------------------------------

    \60\ See final rule Sec.  252.84(b).
    \61\ See id.
---------------------------------------------------------------------------

    The final rule does not prohibit covered entities from entering 
into QFCs that provide their counterparties with direct default rights 
against the covered entity. Under the final rule, a covered entity may 
be party to a QFC that, to the extent not inconsistent with Title II or 
the FDI Act, provides the counterparty with the right to terminate the 
QFC if the covered entity fails to perform its obligations under the 
QFC.
5. Industry-Developed Protocol
    As an alternative to bringing their covered QFCs into compliance 
with the requirements of the final rule, the final rule allows covered 
entities to comply with the rule by adhering to the Universal 
Protocol.\62\ The final rule also permits compliance with the final 
rule through adherence to a new protocol (the U.S. Protocol) that is 
the same as the existing Universal Protocol but for minor changes 
intended to encourage a broader range of QFC counterparties to adhere 
only with respect to covered entities and excluded banks. The Universal 
Protocol and the U.S. Protocol differ from the requirements of this 
final rule in certain respects. Nevertheless, as described in greater 
detail below, the final rule allows compliance through adherence to 
these protocols in light of the fact that the protocols contain certain 
desirable features that the final rule lacks and produce outcomes 
substantially similar to this final rule.
---------------------------------------------------------------------------

    \62\ See final rule Sec.  252.85(a).
---------------------------------------------------------------------------

6. Process for Approval of Enhanced Creditor Protection Conditions
    The final rule also allows the Board, at the request of a covered 
entity, to approve as compliant with the final rule covered QFCs with 
creditor protections other than those that would otherwise be permitted 
under section 252.84 of the final rule.\63\ The Board could approve 
such a request if, in light of several enumerated considerations, the 
alternative approach would prevent or mitigate risks to the financial 
stability of the United States presented by a GSIB's failure and would 
protect the safety and soundness of bank holding companies and state 
member banks to at least the same extent as the final rule's 
requirements.\64\
---------------------------------------------------------------------------

    \63\ See final rule Sec.  252.85(c).
    \64\ See final rule Sec.  252.85(c)-(d).
---------------------------------------------------------------------------

7. Amendments to Certain Definitions in the Board's Capital and 
Liquidity Rules
    The final rule also amends certain definitions in the Board's 
capital and liquidity rules to help ensure that the regulatory capital 
and liquidity treatment of QFCs to which a covered entity is party is 
not affected by the proposed restrictions on such QFCs. Specifically, 
the final rule amends the definition of ``qualifying master netting 
agreement'' in the Board's regulatory capital and liquidity rules and 
similarly amends the definitions of the terms ``collateral agreement,'' 
``eligible margin loan,'' and ``repo-style transaction'' in the Board's 
regulatory capital rules.

D. Consultation With U.S. Financial Regulators, the Council, and 
Foreign Authorities

    In developing this final rule, the Board consulted with the FDIC, 
the OCC, and the Financial Stability Oversight Council (Council).\65\ 
The final rule reflects input received by the Board during this 
consultation process. Furthermore, the Board has consulted with, and 
expects to continue to consult with, foreign financial regulatory 
authorities regarding this final rule and the establishment of other 
standards that would maximize the prospects for the cooperative and 
orderly cross-border resolution of a failed GSIB on an international 
basis.\66\
---------------------------------------------------------------------------

    \65\ One commenter also requested that the Board consult with 
other agencies with entities under their jurisdiction affected by 
the final rule. Several commenters requested that the Board consult 
with the OCC in developing its final rule and coordinate its final 
rule with that of the OCC. Board staff has consulted with the 
Council as well as the FDIC and OCC in developing this final rule.
    \66\ Certain commenters also requested that the Board consult 
with foreign regulatory authorities in developing its final rule.
---------------------------------------------------------------------------

    The OCC is expected to finalize a rulemaking that would subject 
national banks, Federal savings associations, Federal branches, and 
Federal agencies of GSIBs to requirements substantively identical to 
those proposed here for covered entities. Similarly, the FDIC is 
expected to finalize a rulemaking that would subject state nonmember 
bank and state savings association subsidiaries of GSIBs to 
requirements substantively identical to those proposed here for covered 
entities. The Board has consulted with the OCC and FDIC in the 
development of their respective final rules. The banking agencies have 
endeavored to harmonize their respective rules to the extent possible 
and to provide specificity and clarity in the final rule to minimize 
the possibility of conflicting interpretations or uncertainty in their 
application. Moreover, the banking agencies intend to consult with each 
other and coordinate as needed regarding implementation of the final 
rule.

[[Page 42891]]

II. Restrictions on QFCs of GSIBs

A. Covered Entities (Section 252.82(b) of the Final Rule)

    The proposed rule applied to ``covered entities,'' which included 
(a) any U.S. GSIB top-tier bank holding company, (b) any subsidiary of 
such a bank holding company that is not a ``covered bank,'' and (c) the 
U.S. operations of any foreign GSIB, with the exception of any 
``covered bank.'' In the proposal, the term ``covered bank'' was 
defined to include certain entities, such as certain national banks, 
that are supervised by the OCC. Covered banks would have been exempt 
from the requirements of the proposal because the OCC was expected to 
issue a proposed rule that would impose substantively identical 
requirements on covered banks.\67\ Commenters supported this exemption 
for QFCs of covered banks on the basis that these banks should not have 
to comply with two sets of rules.\68\
---------------------------------------------------------------------------

    \67\ Section 252.88 of the Board's proposal also clarified that 
covered entities would not be required to conform covered QFCs with 
respect to a part of a covered QFC that a covered bank also would be 
required to conform under the proposed rule that the OCC 
subsequently issued.
    \68\ Commenters requested further clarification on the 
interaction between the final rules of the Board and the OCC to 
avoid legal uncertainty. As noted above, the OCC and FDIC are 
expected to finalize rules that are substantively identical to this 
final rule, and the banking agencies are expected to coordinate in 
the interpretation of the rules. Section 252.88(b) of the final 
rule, which addresses potential overlap between the agencies' final 
rules, has been clarified in response to commenters' requests. 
Section 252.88(b) is discussed in more detail below.
---------------------------------------------------------------------------

    Under the proposal, covered entities included the entities 
identified as U.S. GSIB top-tier holding companies under the Board's 
GSIB surcharge rule \69\ as well as all subsidiaries of U.S. GSIBs 
(other than covered banks, as defined in the proposal).\70\ The 
definition of ``subsidiary'' under the proposal included any company 
that is owned or controlled directly or indirectly by another company, 
where the term ``control'' was defined by reference to the BHC Act.\71\ 
The BHC Act definition of control includes ownership, control or the 
power to vote 25 percent of any class of voting securities; control in 
any manner of the election of a majority of the directors or trustees; 
or exercise of a controlling influence over the management or 
policies.\72\
---------------------------------------------------------------------------

    \69\ 12 CFR 217.402. See also 80 FR 49082 (Aug. 14, 2015).
    \70\ See proposed rule Sec.  252.82(a)(1).
    \71\ See 12 CFR 252.2.
    \72\ See 12 U.S.C. 1841(a).
---------------------------------------------------------------------------

    A few commenters urged the Board not to expand the scope of covered 
entity to include non-GSIBs, arguing that such an expansion would 
exceed the Board's statutory authority under the Dodd-Frank Act. The 
Board is not including non-GSIBs as covered entities in its final rule.
    A number of commenters urged the Board to move to a financial 
consolidation standard to define a ``subsidiary'' of a covered entity 
instead of BHC Act control.\73\ These commenters argued that, under 
Generally Accepted Accounting Principles, a company generally would 
consolidate an entity in which it holds a majority voting interest or 
over which it has the power to direct the most significant economic 
activities, to the extent it also holds a variable interest in the 
entity. In addition, commenters pointed out that financially 
consolidated subsidiaries are often subject to operational control and 
generally fully integrated into the parent's enterprise-wide 
governance, policies, procedures, control frameworks, business 
strategies, information technology systems, and management systems. 
These commenters pointed out that the concept of BHC Act control was 
designed to serve other policy purposes (e.g., separation between 
banking and commercial activities). A number of commenters argued that 
BHC Act control may include an entity that is not under the day-to-day 
operational control of the GSIB and over whom the GSIB does not have 
the practical ability to require remediation of that entity's QFCs to 
comply with the proposed rule. Moreover, commenters contended that 
entities that are not consolidated with a GSIB for financial reporting 
purposes are unlikely to raise the types of concerns for the orderly 
resolution of GSIBs targeted by the proposal. Commenters also noted 
that the ISDA master agreements and the Universal Protocol define 
``affiliate'' by reference to ownership of a majority of the voting 
power of an entity or person. For these reasons, commenters urged the 
Board to define the term ``subsidiary'' of a covered entity based on 
financial consolidation under the final rule.
---------------------------------------------------------------------------

    \73\ Commenters generally expressed a similar view with respect 
to the definition of ``affiliate'' of a covered entity as the term 
is used in sections 252.83 and 84 of the proposed rule. That term 
which was similarly defined by reference to BHC Act control under 
the proposal.
---------------------------------------------------------------------------

    Commenters urged that, regardless of whether a financial 
consolidation standard is adopted for the purpose of defining 
``subsidiary,'' the final rule should exclude from the definition of 
``covered entity'' entities over which the covered entity does not 
exercise operational control, such as merchant banking portfolio 
companies, section 2(h)(2) companies, joint ventures, sponsored funds 
as distinct from their sponsors or investment advisors, securitization 
vehicles, entities in which the covered entity holds only a minority 
interest and does not exert a controlling influence, and subsidiaries 
held pursuant to provisions for debt previously contracted in good 
faith (DPC subsidiaries).\74\ With respect to merchant banking 
authority, which allows a financial holding company to make a majority 
or minority investment in a portfolio company that is engaged in 
activity that is not financial in nature, certain commenters noted that 
section 4(k) of the BHC Act prohibits the financial holding company 
from routinely managing or operating the portfolio company except as 
may be necessary or required to obtain a reasonable return on 
investment upon resale or other disposition of the portfolio 
company.\75\ Regarding sponsored funds, commenters argued that each 
sponsored or advised fund is a separate legal entity that is distinct 
from its sponsor or investment advisor regardless of whether the fund 
is consolidated and that the sponsor or advisor has no claim on the 
fund's assets and may not use the fund's assets for its benefit.
---------------------------------------------------------------------------

    \74\ See, e.g., 12 U.S.C. 1842(a)(A)(ii), 1843(c)(2); 12 CFR 
225.12(b), 225.22(d)(1).
    \75\ 12 U.S.C. 1843(k)(4)(H)(iv); 12 CFR 225.171(a).
---------------------------------------------------------------------------

    In terms of foreign GSIBs, certain commenters argued that foreign 
banking organization (FBO) subsidiaries for which the FBO has been 
given special relief by Board order not to hold the subsidiary under an 
intermediate holding company should not be included in the definition 
of covered entity, even if such entities would be consolidated under 
financial consolidation principles.\76\ These commenters argued that, 
since neither the covered entity nor the foreign GSIB parent would 
provide credit support to these entities or name such entities in a 
cross-default provision in a QFC or related agreement, the failure of 
any of these types of entities would be unlikely to affect QFCs entered 
into by the covered entity or any other affiliate. These commenters 
further noted that the few such requests that have been granted by the 
Board often involved situations in which the FBO did not have 
sufficient operational control over the entity to ensure its 
compliance. Commenters also requested that U.S.

[[Page 42892]]

branches and agencies of FBOs be excluded from the definition of 
``covered entity'' and ``U.S. operations'' of foreign GSIBs where the 
foreign GSIB's home country legal framework meets the objectives of the 
final rule. These commenters argued that the requirements of the final 
rule would be duplicative of requirements on a foreign GSIB's U.S. 
branches and agencies if those entities' QFCs are already subject to 
existing and substantially equivalent resolution powers in the home 
country, without a proportionate incremental benefit to their 
resolvability or reduction in risk to U.S. financial stability.\77\
---------------------------------------------------------------------------

    \76\ Board orders granting requests from FBOs for such treatment 
can be found at Regulation YY Foreign Banking Organization Requests, 
https://www.federalreserve.gov/supervisionreg/regulation-yy-foreign-banking-organization-requests.htm.
    \77\ In the alternative, these commenters requested that the 
requirements only apply to U.S. branches of foreign GSIBs insofar as 
the home resolution regime and group resolution strategy would not 
adequately ensure that early termination rights, including cross-
default rights against the U.S. IHC or subsidiaries, will not be 
triggered in resolution.
---------------------------------------------------------------------------

    Under the final rule, a ``covered entity'' is generally (a) any 
U.S. GSIB top-tier bank holding company; (b) any subsidiary of such a 
company that is not a national bank, Federal savings association, 
Federal branch, Federal agency, or FSI; and (c) the U.S. operations of 
any foreign GSIB that is not a national bank, Federal savings 
association, Federal branch, Federal agency, or FSI, with certain 
specified exceptions.\78\ ``FSI'' is defined to include state nonmember 
banks and state savings associations, which are supervised by the 
FDIC.\79\ National banks, Federal savings associations, Federal 
branches, Federal agencies, and FSIs that are exempt from the final 
rule are ``excluded banks'' under the final rule.\80\ Excluded banks 
are exempt from the requirements of this final rule because the OCC and 
FDIC are expected to issue final rules that would impose substantively 
identical requirements on excluded banks in the near future.\81\
---------------------------------------------------------------------------

    \78\ See final rule Sec.  252.82(b).
    \79\ The terms ``state non-member bank'' and ``state savings 
association'' are defined in the final rule by reference to section 
3 of the Federal Deposit Insurance Act, 12 U.S.C. 1813. See final 
rule Sec.  252.81.
    \80\ See final rule Sec.  252.81. However, excluded banks do not 
include subsidiaries of a GSIB that are DPC subsidiaries or 
portfolio companies owned under the Small Business Investment Act of 
1956, or public welfare investments.
    \81\ Section 252.88(b) of the final rule, like the proposal, 
clarifies that covered entities are not required to conform covered 
QFCs with respect to a part of a covered QFC that an excluded bank 
also would be required to conform under the final rules that the OCC 
and FDIC are expected to issue. Such overlap could occur, for 
example, where a bank holding company that is a covered entity 
provides, as part of a master agreement governing swaps, a guaranty 
for a swap between a subsidiary that is an excluded bank and the 
excluded bank's counterparty. See also 12 U.S.C 
5390(c)(8)(D)(vi)(V), (viii). As requested by commenters, this 
provision in the final rule has been revised to further clarify its 
application.
---------------------------------------------------------------------------

    U.S. GSIB bank holding companies. As in the proposal, covered 
entities include the entities identified as U.S. GSIB top-tier holding 
companies under the Board's GSIB surcharge rule.\82\ Under the GSIB 
surcharge rule, a U.S. top-tier bank holding company subject to the 
advanced approaches rule \83\ must determine whether it is a GSIB by 
applying a multifactor methodology established by the Board.\84\ The 
methodology evaluates a banking organization's systemic importance on 
the basis of its attributes in five broad categories: Size, 
interconnectedness, cross-jurisdictional activity, substitutability, 
and complexity.\85\
---------------------------------------------------------------------------

    \82\ See final rule Sec.  252.82(b)(1); 12 CFR 217.402.
    \83\ 12 CFR part 217, subpart E.
    \84\ 12 CFR 217.402, 217.404.
    \85\ 12 CFR 217.404.
---------------------------------------------------------------------------

    Accordingly, the methodology provides a tool for identifying those 
banking organizations whose failure or material distress would pose 
especially large risks to the financial stability of the United States. 
Improving the orderly resolution and resolvability of such firms, 
including by reducing risks associated with their QFCs, would be an 
important step toward achieving the goals of the Dodd-Frank Act. The 
final rule's focus on GSIBs is also in keeping with the Dodd-Frank 
Act's mandate that more stringent prudential standards be applied to 
the most systemically important bank holding companies.\86\ Moreover, 
several of the attributes that feed into the determination of whether a 
given firm is a GSIB incorporate aspects of the firm's QFC activity. 
These attributes include the firm's total exposures, its intra-
financial system assets and liabilities, its notional amount of over-
the-counter derivatives, and its cross-jurisdictional claims and 
liabilities.
---------------------------------------------------------------------------

    \86\ 12 U.S.C. 5365(a)(1)(B).
---------------------------------------------------------------------------

    Under the GSIB surcharge rule's methodology, there are currently 
eight U.S. GSIBs: Bank of America Corporation, The Bank of New York 
Mellon Corporation, Citigroup Inc., Goldman Sachs Group, Inc., JPMorgan 
Chase & Co., Morgan Stanley Inc., State Street Corporation, and Wells 
Fargo & Company. This list may change in the future in light of changes 
to the relevant attributes of the current U.S. GSIBs and of other large 
U.S. bank holding companies.
    U.S. GSIB subsidiaries. Covered entities also include all 
subsidiaries of the U.S. GSIBs (other than excluded banks and the 
exceptions described below).\87\ U.S. GSIBs generally enter into QFCs 
through subsidiary legal entities rather than through the top-tier 
holding company.\88\ Therefore, in order to increase GSIB resilience 
and resolvability by addressing the potential obstacles to orderly 
resolution posed by QFCs, it is necessary to apply the restrictions to 
the U.S. GSIBs' subsidiaries. In particular, to facilitate the 
resolution of a GSIB under an SPOE strategy, in which only the top-tier 
holding company would enter a resolution proceeding while its 
subsidiaries would continue to meet their financial obligations, or an 
MPOE strategy where an affiliate of an entity that is otherwise 
performing under a QFC enters resolution, it is necessary to ensure 
that those subsidiaries or affiliates do not enter into QFCs that 
contain cross-default rights that the counterparty could exercise based 
on the holding company's or an affiliate's entry into resolution (or 
that any such cross-default rights are stayed when the holding company 
enters resolution). Moreover, including U.S. and non-U.S. entities of a 
U.S. GSIB as covered entities should help ensure that such cross-
default rights do not affect the ability of performing and solvent 
entities of a GSIB--regardless of jurisdiction--to remain outside of 
resolution proceedings.
---------------------------------------------------------------------------

    \87\ See final rule Sec.  252.82(b)(2).
    \88\ Under the clean holding company component of the Board's 
recent TLAC final rule, the top-tier holding companies of U.S. GSIBs 
would be prohibited from entering into direct QFCs with third 
parties. See 82 FR 8266, 8298 (Jan. 24, 2017).
---------------------------------------------------------------------------

    ``Subsidiary'' in the final rule continues to be defined by 
reference to BHC Act control, as does the definition of ``affiliate.'' 
\89\ The final rule does not define covered entities to include only 
those subsidiaries of GSIBs that are financially consolidated, as 
requested by certain commenters. Defining ``subsidiary'' and 
``affiliate'' by reference to BHC Act control is consistent with the 
definitions of those terms in the FDI Act and Title II of the Dodd-
Frank Act. Specifically, Title II permits the FDIC, as receiver of a 
covered financial company or as receiver for its subsidiary, to enforce 
QFCs and other contracts of subsidiaries and affiliates, defined by 
reference to the BHC Act, notwithstanding cross-default rights based 
solely on the insolvency, financial condition, or receivership of the 
covered financial company.\90\ Therefore, maintaining consistent 
definitions of subsidiary and affiliate with Title II should better 
ensure that QFC stays may be effected in resolution under a U.S. 
Special Resolution Regime. As covered entities are subject to the 
activity

[[Page 42893]]

restrictions and other requirements of the BHC Act, they should already 
know all of their BHC Act-controlled subsidiaries and be familiar with 
BHC Act control principles.\91\ Moreover, GSIBs should be able to rely 
on governance rights and other negotiated mechanisms to ensure that 
such subsidiaries conform their QFCs to the final rule's requirements.
---------------------------------------------------------------------------

    \89\ See 12 CFR 252.2.
    \90\ 12 U.S.C. 5390(c)(16).
    \91\ For example, a covered entity may own more than 5 percent 
(and less than 25 percent) of the voting shares of a registered 
investment company for which the covered entity provides investment 
advisory, administrative, and other services, and has a number of 
director and officer interlocks, without controlling the fund for 
purposes of the BHC Act. See letter to H. Rodgin Cohen, Esq., 
Sullivan & Cromwell (First Union Corp.), from Jennifer J. Johnson, 
Secretary, Board of Governors of the Federal Reserve System (June 
24, 1999) (finding that a bank holding company does not control a 
mutual fund for which it provides investment advisory and other 
services and that complies with the limitations of section 4(c)(7) 
of the BHC Act (12 U.S.C. 1843(c)(7)), so long as (i) the bank 
holding company reduces its interest in the fund to less than 25 
percent of the fund's voting shares after a six-month period, and 
(ii) a majority of the fund's directors are independent of the bank 
holding company and the bank holding company cannot select a 
majority of the board); see also 12 CFR 225.86(b)(3) (authorizing a 
financial holding company to organize, sponsor, and manage a mutual 
fund so long as (i) the fund does not exercise managerial control 
over the entities in which the fund invests, and (ii) the financial 
holding company reduces its ownership in the fund, if any, to less 
than 25 percent of the equity of the fund within one year of 
sponsoring the fund or such additional period as the Board permits).
---------------------------------------------------------------------------

    The final rule excludes from the scope of covered entity DPC 
subsidiaries and merchant banking portfolio companies, as requested by 
certain commenters. The final rule also excludes portfolio companies 
held under section 4(k)(4)(I) of the BHC Act, which is an investment 
authority for insurance companies that is similar to merchant banking 
authority; portfolio companies held under the Small Business Investment 
Act of 1956; and certain companies engaged in the business of making 
public welfare investments.\92\ In general, subsidiaries held under 
these authorities are temporary, and there are legal restrictions and 
other limitations on the involvement of the GSIB in the operations of 
these kinds of subsidiaries. Moreover, it is unlikely that the 
resolution of a GSIB would cause the disorderly unwind of the QFCs of 
these subsidiaries in a manner that would impair the orderly resolution 
of the GSIB. Therefore, the impact of these exclusions should be 
relatively small while responding to commenter concerns and reducing 
burden.
---------------------------------------------------------------------------

    \92\ See final rule Sec.  252.82(b).
---------------------------------------------------------------------------

    U.S. operations of foreign GSIBs. Finally, covered entities include 
almost all U.S. operations of foreign GSIBs--their U.S. subsidiaries, 
U.S. branches, and U.S. agencies that are not national banks, Federal 
savings associations, Federal branches, Federal agencies, or FSIs. The 
term ``global systemically important foreign banking organization'' 
(which this preamble shortens to ``foreign GSIB'') is defined to 
include any FBO that it or the Board determines has the characteristics 
of a GSIB under the methodology for identifying GSIBs adopted by the 
Basel Committee on Banking Supervision (global methodology).\93\ 
Foreign GSIB also is defined to include a foreign banking organization 
or U.S. intermediate holding company required to be formed by the 
Board's Regulation YY (IHC) that the Board determines would be 
designated as a GSIB under the Board's GSIB surcharge rule if the 
entity were subject to the rule.\94\
---------------------------------------------------------------------------

    \93\ See final rule Sec.  252.87(a). The Basel Committee on 
Banking Supervision (BCBS) is a committee of bank supervisory 
authorities established by the central bank governors of the Group 
of Ten countries in 1975. The committee's membership consists of 
senior representatives of bank supervisory authorities and central 
banks from Argentina, Australia, Belgium, Brazil, Canada, China, 
France, Germany, Hong Kong SAR, India, Indonesia, Italy, Japan, 
Korea, Luxembourg, Mexico, the Netherlands, Russia, Saudi Arabia, 
Singapore, South Africa, Spain, Sweden, Switzerland, Turkey, the 
United Kingdom, and the United States. In 2011, the BCBS adopted the 
global methodology to identify global systemically important banking 
organizations and assess their systemic importance. See ``Global 
systemically important banks: Assessment methodology and the 
additional loss absorbency requirement,'' (Nov. 2011), http://www.bis.org/publ/bcbs207.htm. In 2013, the BCBS published a revised 
document, which provides certain revisions and clarifications to the 
global methodology. See ``Global systemically important banks: 
Updated assessment methodology and the higher loss absorbency 
requirement,'' (July 2013), http://www.bis.org/publ/bcbs255.htm.
    In November 2016, the FSB and the BCBS published an updated list 
of banking organizations that are GSIBs under the assessment 
methodology. The list includes the eight U.S. GSIBs and the 
following 22 foreign banking organizations: Agricultural Bank of 
China, Bank of China, Barclays, BNP Paribas, China Construction 
Bank, Credit Suisse, Deutsche Bank, Groupe BPCE, Groupe 
Cr[eacute]dit Agricole, Industrial and Commercial Bank of China 
Limited, HSBC, ING Bank, Mitsubishi UFJ FG, Mizuho FG, Nordea, Royal 
Bank of Scotland, Santander, Soci[eacute]t[eacute] 
G[eacute]n[eacute]rale, Standard Chartered, Sumitomo Mitsui FG, UBS, 
and Unicredit Group. See FSB, ``2016 update of list of global 
systemically important banks'' (November 21, 2016), http://www.fsb.org/wp-content/uploads/2016-list-of-global-systemically-important-banks-G-SIBs.pdf.
    \94\ See final rule Sec.  252.87(a).
---------------------------------------------------------------------------

    As discussed above, the Board's GSIB surcharge rule identifies the 
most systemically important banking organizations on the basis of their 
attributes in the categories of size, interconnectedness, cross-
jurisdictional activity, substitutability, and complexity. While the 
GSIB surcharge rule applies only to U.S. bank holding companies, its 
methodology is equally well-suited to evaluating the systemic 
importance of foreign banking organizations. The global methodology 
generally evaluates the same attributes and would identify the same set 
of GSIBs as the Board's methodology. Moreover, the use of the GSIB 
surcharge rule to identify both foreign GSIBs and U.S. GSIBs promotes a 
level playing field between U.S. and foreign banking organizations.
    The proposal would have required a top-tier foreign banking 
organization that is, or controls, a covered company under the Board's 
resolution plan rule (Regulation QQ) to submit by January 1 of each 
calendar year a notice of whether its home country supervisor (or other 
appropriate home country authority) has adopted standards consistent 
with the global methodology; whether the foreign banking organization 
prepares or reports the indicators used by the global methodology to 
identify GSIBs; and, if it does, whether the foreign banking 
organization has determined that it has the characteristics of a 
GSIB.\95\ In order to reduce burden, the notice requirement of the 
final rule only applies to foreign banking organizations that determine 
that they have the characteristics of a GSIB.\96\ The first notice 
required under this provision of the final rule is due January 1, 
2018.\97\
---------------------------------------------------------------------------

    \95\ See proposed rule Sec.  252.87(b).
    \96\ See final rule Sec.  252.87(b). Like the proposal, the 
final rule requires top-tier foreign banking organizations that are 
or control covered companies under Regulation QQ and that prepare or 
report the indicator amounts necessary to determine whether the 
organization is a GSIB to use the data to determine whether the 
organization has the characteristics of a GSIB. See id. at Sec.  
252.87(c).
    \97\ The final rule makes clear that foreign banking 
organizations that are subject to similar notice and determination 
requirements under the Board's TLAC rule (12 CFR 252.153(b)(5)-
(b)(6)) may comply with the final rule by complying with the similar 
requirements in the Board's TLAC rule. See id. at Sec.  252.87(d).
---------------------------------------------------------------------------

    As with U.S. GSIBs, the final rule's focus on those foreign banking 
organizations that qualify as GSIBs is in keeping with the Dodd-Frank 
Act's mandate that more stringent prudential standards be applied to 
the most systemically important banking organizations.\98\ The final 
rule, like the proposal, covers only the U.S. operations of foreign 
GSIBs. Like the proposal, the final rule excludes section 2(h)(2) 
companies \99\ and DPC branch

[[Page 42894]]

subsidiaries, which are also types of entities excluded by regulation 
from being held under an IHC.\100\ To provide the same treatment for 
foreign GSIBs and U.S. GSIBs, the final rule also excludes DPC 
subsidiaries, merchant banking portfolio companies, portfolio companies 
held under section 4(k)(4)(I) of the BHC Act, portfolio companies held 
under the Small Business Investment Act of 1956, and public welfare 
investments of foreign GSIBs.\101\
---------------------------------------------------------------------------

    \98\ 12 U.S.C. 5365(a)(1)(B).
    \99\ Section 2(h)(2) of the BHC Act provides that the activity 
and ownership restrictions of section 4 of the BHC Act do not apply 
to shares of any company organized under the laws of a foreign 
country (or to shares held by such company in any company engaged in 
the same general line of business as the investor company or in a 
business related to the business of the investor company) that is 
principally engaged in business outside the United States if such 
shares are held or acquired by a bank holding company organized 
under the laws of a foreign country that is principally engaged in 
the banking business outside the United States. 12 U.S.C. 
1841(h)(2). As with the similar exclusion to the Board's U.S. IHC 
requirement (12 CFR 252.153(b)(1)), the Board has taken into account 
the nonfinancial activities and affiliations of a foreign banking 
organization in permitting the exclusion for section 2(h)(2) 
companies from the final rule. Cf. 79 FR 17240 (Mar. 27, 2014).
    \100\ 12 CFR 252.2(j) and (x).
    \101\ See final rule Sec.  252.82(b)(3).
---------------------------------------------------------------------------

    The final rule does not exempt U.S. branches and agencies of 
foreign GSIBs or U.S. subsidiaries of foreign GSIBs that are not held 
under an IHC pursuant to a Board order, as requested by certain 
commenters. The exemptions by Board order were provided in the context 
of another rule, and the same considerations do not apply in the 
context of this final rule as these subsidiaries could impact the 
resolvability of the U.S. operations of a foreign GSIB.\102\ As with 
the coverage of subsidiaries of U.S. GSIBs, coverage of the U.S. 
operations of foreign GSIBs will enhance the prospects for an orderly 
resolution of the foreign GSIB and its U.S. operations. In particular, 
covering QFCs that involve any U.S. subsidiary, U.S. branch, or U.S. 
agency of a foreign GSIB will reduce the potentially disruptive 
cancellation of those QFCs if the foreign GSIB or any of its 
subsidiaries enters resolution, including resolution under the U.S. 
Bankruptcy Code or the U.S. Special Resolution Regimes.\103\
---------------------------------------------------------------------------

    \102\ See 12 CFR 252.153(c)(1)-(2).
    \103\ The laws and regulations imposed in non-U.S. jurisdictions 
that commenters noted were similar to the requirements of the 
proposed rule do not address resolution under U.S. insolvency or the 
U.S. Special Resolution Regimes.
---------------------------------------------------------------------------

B. Covered QFCs (Section 252.82(c) of the Final Rule)

    General definition. The proposal applied to any ``covered QFC,'' 
generally defined as any QFC that a covered entity enters into, 
executes, or otherwise becomes party to with the person or an affiliate 
of the same person.\104\ Under the proposal, ``qualified financial 
contract'' or ``QFC'' was defined as in section 210(c)(8)(D) of Title 
II of the Dodd-Frank Act and included swaps, repo and reverse repo 
transactions, securities lending and borrowing transactions, commodity 
contracts, and forward agreements.\105\
---------------------------------------------------------------------------

    \104\ See proposed rule Sec.  252.83(a). For convenience, this 
preamble generally refers to ``a covered entity's QFCs'' or ``QFCs 
to which a covered entity is party'' as shorthand to encompass the 
definition of ``covered QFC.''
    \105\ See proposed rule Sec.  252.81. See also 12 U.S.C. 
5390(c)(8)(D).
---------------------------------------------------------------------------

    The application of the rule's requirements to a ``covered QFC'' was 
one of the most commented upon aspects of the proposal. Certain 
commenters argued that the definition of QFC in Title II of the Dodd-
Frank Act was overly broad and imprecise and could include agreements 
that market participants may not expect to be subject to the stay-and-
transfer provisions of the U.S. Special Resolution Regimes. More 
generally, commenters argued that the proposed definition of QFC was 
too broad and would capture contracts that do not present any obstacles 
to an orderly resolution. Commenters urged the Board to exclude a 
variety of types of QFCs from the requirements of the final rule. In 
particular, a number of commenters urged the Board to exclude QFCs that 
do not contain any transfer restrictions or default rights, because 
these types of QFCs do not give rise to the risk that counterparties 
will exercise their contractual rights in a manner that is inconsistent 
with the provisions of the U.S. Special Resolution Regimes. Commenters 
named several examples of contracts that fall into this category, 
including cash market securities transactions, certain spot FX 
transactions (including securities conversion transactions), retail 
brokerage agreements, retirement/IRA account agreements, margin 
agreements, options agreements, FX forward master agreements, and 
delivery versus payment client agreements. Commenters contended that 
these types of QFCs number in the millions at some firms and that 
remediating these contracts to include the express provisions required 
by the final rule would require an enormous client outreach effort that 
would be extremely burdensome and costly while providing no meaningful 
resolution benefits. For example, commenters pointed out that for 
certain types of transaction, such as cash securities transactions, FX 
spot transactions, and retail QFCs, such a requirement could require an 
overhaul of existing market practice and documentation that affects 
hundreds of thousands, if not millions, of transactions occurring on a 
daily basis and significant education of the general market.
    Commenters also urged the Board to exclude QFCs that do not contain 
any default or cross-default rights but that may contain transfer 
restrictions. Commenters contended that examples of these types of 
agreements included investment advisory account agreements with retail 
customers, which contain transfer restrictions as required by section 
205(a)(2) of the Investment Advisers Act of 1940, but no direct default 
or cross-default rights; underwriting agreements; \106\ and client 
onboarding agreements. A few commenters provided prime brokerage or 
margin loan agreements as examples of transactions that generally do 
not have default or cross-default rights but may have transfer 
restrictions. Another commenter also requested the exclusion of 
securities market transactions that generally settle in the short term, 
do not impose ongoing or continuing obligations on either party after 
settlement, and do not typically include default rights.\107\ In these 
cases, commenters contended that remediation of these agreements would 
be burdensome with no meaningful resolution benefits.
---------------------------------------------------------------------------

    \106\ However, certain commenters noted that underwriting, 
purchase, subscription, or placement agency agreements may contain 
rights that could be construed as cross-default rights or default 
rights.
    \107\ In the alternative, the commenter requested that such 
securities market transactions be excluded to the extent they are 
cleared, processed, and settled through (or subject to the rules of) 
FMUs through expansion of the proposed exemption for transactions 
with central counterparties. This aspect of the comment is addressed 
in the subsequent section discussing requests for expansion of the 
proposed exemption for transactions with central counterparties.
---------------------------------------------------------------------------

    Commenters also argued for the exclusion of a number of other types 
of contracts from the definition of covered QFC in the final rule. In 
particular, a number of commenters urged the Board to exclude contracts 
issued in the capital markets or related to a capital market issuance, 
like warrants or a certificate representing a call option, typically on 
a security or a basket of securities. Although warrants issued in 
capital markets may contain direct default and cross-default rights as 
well as transfer restrictions, commenters argued that remediation of 
outstanding warrant agreements would be difficult, if not impossible, 
since remediation would require the affirmative vote of a substantial 
number of separate voting groups of holders to amend the terms of the 
instruments and that obtaining such consent could be expensive due to 
``hold-out'' premiums. Commenters also

[[Page 42895]]

argued that since these instruments are traded in the markets, it is 
not possible for an issuer to ascertain whether a particular investor 
in such instruments has also entered into other QFCs with the dealer or 
any of its affiliates (or vice versa) for purposes of complying with 
the proposed mechanism for remediation of existing QFCs. Commenters 
argued that issuers would be able to comply if the final rule's 
requirements applied only on a prospective basis with respect to new 
issuances, since new investors could be informed of the terms of the 
warrant at the time of purchase and no after-the-fact consent would be 
required, as is the case with existing outstanding warrants. Commenters 
expressed the view that prospective application of the final rule's 
requirements to warrants would allow time for firms to develop new 
warrant agreements and warrant certificates, to engage in client 
outreach efforts, and to make any appropriate public disclosures. 
Commenters suggested that the requirements of the final rule should 
only apply to such instruments issued after the effective date of the 
final rule and that the compliance period for such new issuances be 
extended to allow time to establish new issuance programs that comply 
with the final rule's requirements. Other examples of contracts in this 
category given by commenters include contracts with special purpose 
vehicles that are multi-issuance note platforms, which commenters urged 
would be difficult to remediate for similar reasons to warrants other 
than on a prospective basis.
    Commenters also urged the exclusion of contracts for the purchase 
of commodities in the ordinary course of business (e.g., utility and 
gas energy supply contracts) or physical delivery commodity contracts 
more broadly.\108\ In general, commenters argued that exempting these 
contracts would not increase systemic risk but would help ensure the 
smooth operation of utilities and the physical commodities 
markets.\109\ Commenters indicated that failure to make commodity 
deliveries on time can result in the accrual of damages and penalties 
beyond the accrual of interest (e.g., demurrage and other fines in 
shipping) and that counterparties may not be able to obtain appropriate 
compensation for amendment of default rights due to the difficulty of 
pricing the risk associated with an operational failure due to the 
failure to deliver a commodity on time. Commenters also contended that 
agreements with power operators governed by regulatory tariffs would be 
difficult, if not impossible, to remediate.\110\
---------------------------------------------------------------------------

    \108\ For example, some commenters urged the exclusion of all 
contracts requiring physical delivery between commercial entities in 
the course of regulatory business such as (i) contracts subject to a 
Federal Energy Regulatory Commission-filed tariff; (ii) contracts 
that are traded in markets overseen by independent system operators 
or regional transmission operators; (iii) retail electric contracts; 
(iv) contracts for storage or transportation of commodities; (v) 
contracts for financial services with regulated financial entities 
(e.g., brokerage agreements and futures account agreements); and 
(vi) public utility contracts.
    \109\ One commenter also argued that utility and gas supply 
contracts are covered sufficiently in section 366 of the U.S. 
Bankruptcy Code. This section of the U.S. Bankruptcy Code places 
restrictions on the ability of a utility to ``alter, refuse, or 
discontinue service to, or discriminate against, the trustee or the 
debtor solely on the basis of the commencement of a case under [the 
U.S. Bankruptcy Code] or that a debt owed by the debtor to such 
utility for service rendered before the order for relief was not 
paid when due.'' 11 U.S.C. 366. The purpose and effect of section 
252.84 of the final rule and section 366 of the U.S. Bankruptcy Code 
are different and therefore do not serve as substitutes. Section 366 
of the U.S. Bankruptcy Code does not address cross-defaults or 
provide additional clarity regarding the application of the U.S. 
Special Resolution Regimes. Similarly, section 252.84 of the final 
rule does not prevent a covered entity from entering into a covered 
QFC that allows the counterparty to exercise default rights once a 
covered entity that is a direct party either enters bankruptcy or 
fails to pay or perform under the QFC.
    \110\ One commenter also requested exclusion of overnight 
transactions, particularly overnight repurchase agreements, arguing 
that such transactions present little risk of creating negative 
liquidity effects and that an express exclusion for such 
transactions may increase the likelihood that such contracts would 
remain viable funding sources in times of liquidity stress. Although 
the final rule does not exempt overnight repo transactions, the 
final rule may have limited if any effect on such transactions. As 
described below, the final rule provides a number of exemptions that 
may apply to overnight repo and similar transactions. Moreover, the 
restrictions on default rights in section 252.84 of the final rule 
do not apply to any right under a contract that allows a party to 
terminate the contract on demand or at its option at a specified 
time, or from time to time, without the need to show cause. See 
final rule Sec.  252.81 (defining ``default right''). Therefore, 
section 252.84 does not restrict the ability of QFCs, including 
overnight repos, to terminate at the end of the term of the 
contract.
---------------------------------------------------------------------------

    The final rule applies to any ``covered QFC,'' which generally is 
defined as any ``in-scope QFC'' that a covered entity enters into, 
executes, or to which the covered entity otherwise becomes a 
party.\111\ As under the proposal, ``qualified financial contract'' or 
``QFC'' is defined in the final rule as in section 210(c)(8)(D) of 
Title II of the Dodd-Frank Act and includes swaps, repo and reverse 
repo transactions, securities lending and borrowing transactions, 
commodity contracts, and forward agreements.\112\ Parties that enter 
into contracts with covered entities have been potentially subject to 
the stay-and-transfer provisions of Title II of the Dodd-Frank Act 
since its enactment. Consistent with Title II, the final rule does not 
exempt QFCs involving physical commodities. However, as explained 
below, the final rule responds to concerns regarding the smooth 
operation of physical commodities end users and markets by allowing 
counterparties to terminate QFCs based on the failure to pay or 
perform.
---------------------------------------------------------------------------

    \111\ See final rule Sec.  252.82(c).
    \112\ See final rule Sec.  252.81. See also 12 U.S.C. 
5390(c)(8)(D).
---------------------------------------------------------------------------

    In response to concerns raised by commenters, the final rule 
exempts QFCs that have no transfer restrictions or default rights, as 
these QFCs have no provisions that the rule is intended to address. The 
final rule effects this exemption by limiting the scope of QFCs 
potentially subject to the rule to those QFCs that explicitly restrict 
the transfer of a QFC from a covered entity or explicitly provide 
default rights that may be exercised against a covered entity (in-scope 
QFCs).\113\ This change addresses a major concern raised by commenters 
regarding the overbreadth of the definition of ``covered QFC'' in the 
proposal. The change also mitigates the burden of complying with the 
proposed rule without undermining its purpose by not requiring covered 
entities to conform contracts that do not contain the types of default 
rights and transfer restrictions that the final rule is intended to 
address. The Board has declined, however, to exclude QFCs that have 
transfer restrictions (but no default rights or cross-default rights), 
as requested by certain commenters, as such QFCs would have provisions 
(i.e., transfer restrictions) that are subject to the requirements of 
the final rule and could otherwise impede the orderly resolution of a 
covered entity or its affiliate.
---------------------------------------------------------------------------

    \113\ See final rule Sec.  252.82(d).
---------------------------------------------------------------------------

    The final rule provides that a covered entity is not required to 
conform certain investment advisory contracts described by commenters 
(i.e., investment advisory contracts with retail advisory customers 
\114\ of the covered entity that only contain the transfer restrictions 
required by section 205(a) of the Investment Advisers Act). The final 
rule also exempts existing warrants evidencing a right to subscribe or 
to

[[Page 42896]]

otherwise acquire a security of a covered entity or its affiliate.\115\ 
The Board has determined to exclude these types of agreements since 
there is persuasive evidence that these types of contracts would be 
burdensome to conform and that it is unlikely that excluding such 
contracts from the requirements of the final rule would impair the 
orderly resolution of a GSIB.\116\
---------------------------------------------------------------------------

    \114\ See final rule Sec.  252.88(c)(1). The final rule defines 
retail customer or counterparty by reference to the Board's 
Regulation WW. See 12 CFR 249.3; see also FR 2052a, https://www.federalreserve.gov/reportforms/forms/FR_2052a20161231_f.pdf. 
Covered entities should be familiar with this definition and its 
application.
    \115\ See final rule Sec.  252.88(c)(2). Warrants issued after 
the effective date of the final rule are not excluded from the 
requirements of the final rule.
    \116\ These exemptions are not interpretations of the definition 
of QFC.
---------------------------------------------------------------------------

    The final rule also provides the Board with authority to exempt one 
or more covered entities from conforming certain contracts or types of 
contracts to the final rule after considering, in addition to any other 
factor the Board deems relevant, the burden the exemption would relieve 
and the potential impact of the exemption on the resolvability of the 
covered entity or its affiliates.\117\ Covered entities that request 
that the Board exempt additional contracts from the final rule should 
be prepared to provide information in support of their requests. The 
Board expects to consult as appropriate with the FDIC and OCC during 
its consideration of any such request.
---------------------------------------------------------------------------

    \117\ See final rule Sec.  252.88(d).
---------------------------------------------------------------------------

    Definition of counterparty. As noted above, the proposal applied to 
any ``covered QFC,'' generally defined as a QFC that a covered entity 
enters after the effective date and a QFC entered earlier, but only if 
the covered entity or its affiliate enters a new QFC with the same 
person or an affiliate of the same person.\118\ ``Affiliate'' in the 
proposal was defined in the same manner as under the BHC Act to mean 
any company that controls, is controlled by, or is under common control 
with another company.\119\ As noted above, ``control'' under the BHC 
Act means the power to vote 25 percent or more of any class of voting 
securities; control in any manner the election of a majority of the 
directors or trustees; or exercise of a controlling influence over the 
management or policies.\120\
---------------------------------------------------------------------------

    \118\ See proposed rule Sec. Sec.  252.83(a), 225.84(a).
    \119\ See 12 CFR 252.2 (defining ``affiliate'').
    \120\ See 12 U.S.C. 1841(k).
---------------------------------------------------------------------------

    Commenters argued that requiring remediation of existing QFCs of a 
person if the GSIB entered into a new QFC with an affiliate of the 
person would make compliance with the proposed rule overly 
burdensome.\121\ These arguments were similar to commenters' arguments 
regarding the definition of ``subsidiary'' of a covered entity, which 
were discussed above. Commenters pointed out that this requirement 
would demand that the GSIB track each counterparty's organizational 
structure by relying on information provided by counterparties, which 
would subject counterparties to enhanced tracking and reporting 
burdens. Commenters requested that the phrase ``or affiliate of the 
same person'' be deleted from the definition of covered QFC and argued 
that such a modification would not undermine the ultimate goals of the 
rule since existing QFCs with the counterparty's affiliate would still 
have be remediated if the covered entity or its affiliate enters into a 
new QFC with that counterparty affiliate. In the alternative, 
commenters argued that an affiliate of a counterparty be established by 
reference to financial consolidation principles rather than BHC Act 
control, since counterparties may not be familiar with BHC Act control. 
Commenters argued that many counterparties are not regulated bank 
holding companies and would be unfamiliar with BHC Act control. Certain 
commenters also argued that a new QFC with one fund in a fund family 
should not result in other funds in the fund family being required to 
conform their pre-existing QFCs with the covered entity or an 
affiliate.
---------------------------------------------------------------------------

    \121\ One commenter believed that the burden of conforming 
contracts with all affiliates of a counterparty would be too great, 
whether defined in terms of BHC Act control or financial 
consolidation principles, even though the burden would be reduced by 
definition in terms of financial consolidation principles.
---------------------------------------------------------------------------

    The final rule's definition of ``covered QFC'' has been modified to 
address the concerns raised by commenters. In particular, the final 
rule provides that a covered QFC includes a QFC that the covered entity 
entered, executed, or otherwise became a party to before January 1, 
2019, if the covered entity or any affiliate that is a covered entity 
or excluded bank also enters, executes, or otherwise becomes a party to 
a QFC with the same person or a consolidated affiliate of the same 
person on or after January 1, 2019.\122\ The final rule defines 
``consolidated affiliate'' by reference to financial consolidation 
principles.\123\ As commenters pointed out, counterparties will already 
track and monitor financially consolidated affiliates. Moreover, 
exposures to a non-consolidated affiliate may be captured as a separate 
counterparty (e.g., when the non-consolidated affiliate enters a new 
QFC with the covered entity). As a consequence, modifying the coverage 
of affiliates in this manner addresses concerns raised by commenters 
regarding burden while still providing sufficient incentives to 
remediate existing covered QFCs.
---------------------------------------------------------------------------

    \122\ See final rule Sec.  252.82(c).
    \123\ See final rule Sec.  252.81.
---------------------------------------------------------------------------

    The definition of ``covered QFC'' is intended to limit the 
restrictions of the final rule to those financial transactions whose 
disorderly unwind has substantial potential to frustrate the orderly 
resolution of a GSIB, as discussed above. By adopting the Dodd-Frank 
Act's definition of QFC, with the modifications described above, the 
final rule generally extends stay-and-transfer protections to the same 
types of transactions as Title II of the Dodd-Frank Act. In this way, 
the final rule enhances the prospects for an orderly resolution in 
bankruptcy and under the U.S. Special Resolution Regimes.
    Exclusion of cleared QFCs. The proposal excluded from the 
definition of ``covered QFC'' all QFCs that are cleared through a 
central counterparty (CCP).\124\ Commenters generally expressed support 
for this exclusion, but some commenters requested that the Board 
broaden this exclusion in the final rule. In particular, a number of 
commenters urged the Board to exclude the ``client-facing leg'' of a 
cleared swap where a clearing member faces a CCP on one leg of the 
transaction and faces the client on an otherwise identical offsetting 
transaction.\125\ One commenter

[[Page 42897]]

requested the Board confirm its understanding that ``FCM agreements,'' 
which the commenter defined as futures and cleared swaps agreements 
with a futures commission merchant, are excluded because FCM agreements 
``are only QFCs to the extent that they relate to futures and swaps 
and, since futures and cleared swaps are excluded, the FCM Agreements 
are also excluded.'' \126\ The commenter requested, in the alternative, 
that the final rule expressly exclude such agreements.
---------------------------------------------------------------------------

    \124\ See proposed rule Sec.  252.88(a).
    \125\ Commenters argued that, in the European-style principal-
to-principal clearing model, the clearing member faces the CCP on 
one swap (the ``CCP-facing leg''), and the clearing member, 
frequently a covered entity, faces the client on an otherwise 
identical, offsetting swap (the ``client-facing leg''). Under the 
proposed rule, only the CCP-facing leg of the transaction was 
excluded, even though the client-facing leg is necessary to the 
mechanics of clearing and is only entered into by the clearing 
member to effectuate the cleared transaction. Commenters argued that 
the proposed rule thus treated two pieces of the same transaction 
differently, which could result in an imbalance in insolvency or 
resolution and that the possibility of such an imbalance for the 
clearing member could expose the clearing member to unnecessary and 
undesired market risk. Commenters urged the Board to adopt the same 
approach taken under Section 2 of the Universal Protocol, which 
allows the client-facing leg of the cleared swap with the clearing 
member that is a covered entity to be closed out substantially 
contemporaneously with the CCP-facing leg in the event the CCP were 
to take action to close out the CCP-facing leg.
     Some commenters requested clarification that transactions 
between a covered entity client and its clearing member (as opposed 
to transactions where the covered entity is the clearing member) 
would be subject to the rule's requirements, since this would be 
consistent with the Universal Protocol. As explained in this 
section, the exemption in the final rule regarding CCPs does not 
depend on whether the covered entity is a clearing member or a 
client. A covered QFC--generally a QFC to which a covered entity is 
a party--is exempted from the requirements of the final rule if a 
CCP is also a party.
    \126\ Letter to Robert deV. Frierson, Secretary, Board of 
Governors of the Federal Reserve System, from James M. Cain, 
Sutherland Asbill & Brennan LLP, writing on behalf of the eleven 
Federal Home Loan Banks, at 2 (Aug. 5, 2016).
---------------------------------------------------------------------------

    A few commenters requested that the Board modify the definition of 
``central counterparty,'' which was defined to mean ``a counterparty 
(for example, a clearing house) that facilitates trades between 
counterparties in one or more financial markets by either guaranteeing 
trades or novating trades'' in the proposal.\127\ These commenters 
argued that a CCP does far more than ``facilitate'' or ``guarantee'' 
trades and that a CCP ``interposes itself between counterparties to 
contacts traded in one or more financial markets, becoming the buyer to 
every seller and the seller to every buyer and thereby ensuring the 
performance of open contracts.'' \128\ As an alternative definition of 
CCP, these commenters suggested the final rule should define central 
counterparty to mean: ``an entity (for example, a clearinghouse or 
similar facility, system, or organization) that, with respect to an 
agreement, contract, or transaction: (i) Enables each party to the 
agreement contract, or transaction to substitute, through novation or 
otherwise, the credit of the CCP for the credit of the parties; and 
(ii) arranges or provides, on a multilateral basis, for the settlement 
or netting of obligations resulting from such agreements, contracts, or 
transactions executed by participants in the CCP.'' \129\
---------------------------------------------------------------------------

    \127\ 12 CFR 217.2.
    \128\ Letter to Robert deV. Frierson, Secretary, Board of 
Governors of the Federal Reserve System, from Walt L. Lukken, 
President and CEO, Futures Industry Association, at 8-9 (Aug. 5, 
2016) (citing Principles of Financial Market Infrastructures (Apr. 
2012), published by the Committee on Payment and Settlement Systems 
and the International Organization of Securities Commissions, at 9).
    \129\ Id. at 9.
---------------------------------------------------------------------------

    Commenters also urged the Board to exclude from the requirements of 
the final rule all QFCs that are cleared, processed, or settled through 
the facilities of an FMU, as defined in section 803(6) of the Dodd-
Frank Act,\130\ or that are entered into subject to the rules of an 
FMU.\131\ For example, commenters argued that QFCs with FMUs, such as 
the provision of an extension of credit by a central securities 
depository (CSD) to a covered entity that is a member of the CSD in 
connection with the settlement of securities transactions, should be 
excluded from the requirements of the final rule. Commenters contended 
that, similar to CCPs, the relationship between a covered entity and 
FMU is governed by the rules of the FMU and that there are no market 
alternatives to continuing to transact with FMUs. Commenters argued 
that FMUs generally should be excluded for the same reasons as CCPs and 
that a broader exemption to cover FMUs would serve to mitigate the 
systemic risk of a GSIB in distress, an underlying objective of the 
rule's requirements. Commenters contended that such an exclusion would 
be consistent with the treatment of FMUs under U.K. regulations and 
German law. Some commenters also requested that related or underlying 
agreements to CCP-cleared QFCs and QFCs entered into with other FMUs 
also be excluded, since such agreements ``form an integrated whole with 
[those] QFCs'' and such an exemption would facilitate the continued 
expansion of the clearing and settlement framework and the benefits of 
such a framework.\132\ One commenter urged that the final rule should 
not in any manner restrict an FMU's ability to close out a defaulting 
clearing member's portfolio, including potential liquidation of cleared 
contracts.
---------------------------------------------------------------------------

    \130\ 12 U.S.C. 5462(6). In general, Title VIII of the Dodd-
Frank Act defines ``financial market utility'' to mean any person 
that manages or operates a multilateral system for the purpose of 
transferring, clearing, or settling payments, securities, or other 
financial transactions among financial institutions or between 
financial institutions and the person. Id.
    \131\ As discussed above, one commenter who recommended an 
exclusion of securities market transactions that generally settle in 
the short term, do not impose ongoing or continuing obligations on 
either party after settlement, and do not typically include the 
default rights targeted by this rule, requested this treatment in 
the alternative.
    \132\ Letter to Robert deV. Frierson, Secretary, Board of 
Governors of the Federal Reserve System, from Larry E. Thompson, 
Vice Chairman and General Counsel, The Depository Trust & Clearing 
Corporation, at 6 (Aug. 5, 2016).
---------------------------------------------------------------------------

    The issues that the final rule is intended to address with respect 
to non-cleared QFCs may also exist in the context of centrally cleared 
QFCs. However, clearing through a CCP provides unique benefits to the 
financial system while presenting unique issues related to the 
cancellation of cleared contracts. Accordingly, the Board continues to 
believe it is appropriate to exclude centrally cleared QFCs, in light 
of differences between cleared and non-cleared QFCs with respect to 
contractual arrangements, counterparty credit risk, default management, 
and supervision. The Board has not extended the exclusion for CCPs to 
the client-facing leg of a cleared transaction because bilateral trades 
between a GSIB and a non-CCP counterparty are the types of transactions 
that the final rule intends to address and because nothing in the final 
rule would prohibit a covered entity clearing member and a client from 
agreeing to terminate or novate a trade to balance the clearing 
member's exposure. The final rule continues to define central 
counterparty as a counterparty that facilitates trades between 
counterparties in one or more financial markets by either guaranteeing 
trades or novating trades, which is a broad definition that should be 
familiar to market participants as it is used in the regulatory capital 
rules.\133\
---------------------------------------------------------------------------

    \133\ See final rule Sec.  252.81. See also 12 CFR 217.2.
---------------------------------------------------------------------------

    The final rule also makes clear that, if one or more FMUs are the 
only counterparties to a covered QFC, the covered entity is not 
required to conform the covered QFC to the final rule.\134\ Therefore, 
an FMU's default rights and transfer restrictions under the covered QFC 
are not affected by the final rule. However, this exclusion would not 
include a covered QFC with a non-FMU counterparty, even if the QFC is 
settled by an FMU or if the FMU is a party to such QFC, because the 
final rule is intended to address default rights of non-FMU parties. 
For example, if two covered entities engage in a bilateral QFC that is 
facilitated by an FMU and, in the course of this facilitation each 
covered entity maintains a QFC solely with the FMU, then the final rule 
would not apply to each QFC between the FMU and each covered entity but 
the requirements of the final rule would apply to the bilateral QFC 
between the two covered entities. This approach ensures that QFCs that 
are directly with FMUs are treated in a manner similar to transactions 
between covered entities and CCPs, but also ensures that QFCs conducted 
by covered entities that are related to the direct QFC with the FMU

[[Page 42898]]

remain subject to the final rule's requirements.
---------------------------------------------------------------------------

    \134\ See final rule Sec.  252.88(a)(2). In response to 
commenters, the final rule uses the definition of FMU in Title VIII 
of the Dodd-Frank Act and may apply, for purposes of the final rule, 
to entities regardless of jurisdiction. The definition of FMU in the 
final rule includes a broader set of entities, in addition to CCPs. 
However, the definition in the final rule does not include 
depository institutions that are engaged in carrying out banking-
related activities, including providing custodial services for tri-
party repurchase agreements. The definition also explicitly excludes 
certain types of entities (e.g., registered futures associations, 
swap data repositories) and other types of entities that perform 
certain functions for or related to FMUs (e.g., futures commission 
merchants).
---------------------------------------------------------------------------

    The final rule does not explicitly exclude futures and cleared 
swaps agreements with a futures commission merchant, as requested by a 
commenter. The nature and scope of the requested exclusion is unclear, 
and, therefore, it is unclear whether the exclusion would be necessary, 
on the one hand, or overbroad, on the other hand. However, the final 
rule makes a number of other clarifications and exemptions that may 
help address the commenter's concern regarding FCM agreements.
    Exclusion of certain QFCs under multi-branch master agreements of 
foreign banking organizations. To avoid imposing unnecessary 
restrictions on QFCs that are not closely connected to the United 
States, the proposal excluded from the definition of ``covered QFC'' 
certain QFCs of foreign GSIBs that lack a close connection to the 
foreign GSIB's U.S. operations.\135\ The proposed definition of ``QFC'' 
included master agreements that apply to QFCs.\136\ Master agreements 
are contracts that contain general terms that the parties wish to apply 
to multiple transactions between them; having executed the master 
agreement, the parties can then include those terms in future contracts 
through reference to the master agreement. Moreover, the Dodd-Frank 
Act's definition of ``qualified financial contract,'' which the 
proposal would adopt, treats master agreements for QFCs together with 
all supplements to the master agreement (including underlying 
transactions) as a single QFC.\137\
---------------------------------------------------------------------------

    \135\ See proposed rule Sec.  252.86.
    \136\ See proposed rule Sec.  252.81.
    \137\ 12 U.S.C. 5390(c)(8)(D)(viii); see also 12 U.S.C. 
1821(e)(8)(D)(vii); 109 H. Rpt. 31, Prt. 1 (April 8, 2005) 
(explaining that a ``master agreement for one or more securities 
contracts, commodity contracts, forward contracts, repurchase 
agreements or swap agreements will be treated as a single QFC under 
the FDIA or the [Federal Credit Union Act] (but only with respect to 
the underlying agreements are themselves QFCs)'').
---------------------------------------------------------------------------

    Foreign GSIBs have master agreements that permit transactions to be 
entered into both at a U.S. branch or U.S. agency of the foreign GSIB 
and at a non-U.S. location of the foreign GSIB (such as a foreign 
branch). Notwithstanding the proposal's general treatment of a master 
agreement and all QFCs thereunder as a single QFC, the proposal would 
have excluded QFCs under such a ``multi-branch master agreement'' that 
are not booked at a covered entity and for which no payment or delivery 
may be made at a covered entity.\138\ Under the proposal, a multi-
branch master agreement was a covered QFC with respect to QFC 
transactions that are booked at a covered entity or for which payment 
or delivery may be made at a covered entity.
---------------------------------------------------------------------------

    \138\ See proposed rule Sec.  252.86(a). With respect to a U.S. 
branch or U.S. agency of a foreign GSIB, a multi-branch master 
agreement that is a covered QFC solely because the master agreement 
permits agreements or transactions that are QFCs to be entered into 
at one or more U.S. branches or U.S. agencies of the foreign GSIB 
was considered a covered QFC for purposes of the proposal only with 
respect to such agreements or transactions booked at such U.S. 
branches and U.S. agencies or for which a payment or delivery may be 
made at such U.S. branches or U.S. agencies.
---------------------------------------------------------------------------

    Commenters expressed support for this exclusion, but requested that 
the requirement exclude from the definition of covered QFC those 
transactions under master agreements where payment and deliveries may 
be made by or to the U.S. branch or agency so long as the transactions 
or assets are not booked in the U.S. branch or agency. These commenters 
argued that the ability to make payments or delivery alone does not 
make a QFC sufficiently closely connected to the United States to raise 
the concerns about resolution that the rule is intended to address. 
Commenters also argued that the requirement to include new contractual 
terms in a QFC where payment or delivery may occur in the United States 
would require foreign GSIBs to amend many additional QFCs booked 
abroad, many of which must also be amended to comply with contractual 
stay requirements of the foreign GSIBs' home country regulatory 
regimes. Commenters argued that amending such QFCs under multi-branch 
master agreements that are not booked in the United States would 
require some foreign GSIBs to amend thousands of contracts at 
significant cost and would impose a disproportionate burden on foreign 
GSIBs as compared to U.S. GSIBs. These commenters argued this would 
impose a significant burden on non-U.S. covered entities with no 
benefit to U.S. financial stability, as these QFCs would not be 
expected to be subject to a U.S. resolution regime.
    One commenter also recommended that multi-branch master agreements 
be treated as a single QFC, rather than requiring the application of 
different requirements to different transactions thereunder, so as to 
align the rule's requirements with current industry-standard 
documentation and to avoid additional implementation hurdles and costs. 
The commenter recommended that the entirety of a multi-branch master 
agreement and underlying transactions be a covered QFC if a new QFC 
with the counterparty or its consolidated affiliates is booked to the 
U.S. branch or agency after the compliance date or if a new QFC is 
entered into with an affiliate of the U.S. branch or agency that is 
also subject to the requirements.
    The final rule has been modified from the proposal to address the 
concerns raised by commenters. In particular, the final rule provides 
that, with respect to a U.S. branch or U.S. agency of a foreign GSIB, a 
foreign GSIB multi-branch master agreement that is a covered QFC solely 
because the master agreement permits agreements or transactions that 
are QFCs to be entered into at one or more U.S. branches or U.S. 
agencies of the foreign GSIB will be considered a covered QFC for 
purposes of this subpart only with respect to such agreements or 
transactions booked at such U.S. branches and U.S. agencies.\139\ The 
final rule does not provide that such an agreement will be a covered 
QFC solely because payment or delivery may be made at such U.S. branch 
or agency. These modifications will avoid imposing unnecessary 
restrictions on QFCs that are not closely connected to the United 
States and will mitigate burden and reduce costs on foreign GSIBs 
without undermining the purpose of the final rule. The purpose of this 
exclusion is to help ensure that, where a foreign GSIB has a multi-
branch master agreement, the foreign GSIB will only have to conform 
those QFCs entered into under the multi-branch master agreement that 
could have the most direct effect on the covered U.S. branch or U.S. 
agency of the foreign GSIB and that could therefore have the most 
direct effect on the resolution of the foreign GSIB and the financial 
stability of the United States.
---------------------------------------------------------------------------

    \139\ See final rule Sec.  252.86.
---------------------------------------------------------------------------

    The final rule does not, as requested by one commenter, deem the 
entirety of a multi-branch master agreement to be a covered QFC if a 
new QFC with the counterparty (or its consolidated affiliate) is booked 
to the covered entity or its affiliate. Many commenters supported 
excluding transactions from multi-branch master netting agreements that 
are not closely connected to the United States. In contrast to the 
proposal and these comments, the modification requested by this 
commenter would require transactions that are not booked in the United 
States or otherwise connected to the United States to be conformed to 
the requirements of the final rule. The commenter's concerns regarding 
costs associated with potentially breaking netting sets may nonetheless 
be addressed through adherence to the Universal Protocol or the U.S. 
Protocol, which are discussed below.

[[Page 42899]]

    QFCs with Central Banks and Sovereign Entities. The proposal 
included covered QFCs with sovereign entities and central banks, 
consistent with Title II of the Dodd-Frank Act and the FDI Act. 
Commenters urged the Board to exclude QFCs with central bank and 
sovereign counterparties from the final rule. Commenters argued that 
sovereign entities might not be willing to agree to limitations on 
their QFC default rights and noted that other countries' measures, such 
as those of the United Kingdom and Germany, consistent with their 
governing laws, exclude central banks and sovereign entities. 
Commenters contended that central banks and sovereign entities are 
sensitive to financial stability concerns and resolvability goals, thus 
reducing the concern that they would exercise default rights in a way 
that would undermine resolvability of a GSIB or financial stability. 
Commenters indicated it was unclear whether central banks or sovereign 
entities would be permitted under applicable statutes to enter into 
QFCs with limited default rights, but did not provide specific examples 
of such statutes.\140\ Commenters further noted that these entities did 
not participate in the development of the Universal Protocol and that 
the Universal Protocol does not provide a viable mechanism for 
compliance with the final rule by these entities.
---------------------------------------------------------------------------

    \140\ These commenters argued that, to the extent central banks 
and sovereign entities are unable or unwilling to agree to 
limitations on their QFC default rights, application of the rule's 
requirements to QFCs with these entities creates a significant 
disincentive for these entities to enter into QFCs with covered 
entities, resulting in the loss of valuable counterparties in a way 
that will hinder market liquidity and covered entity risk 
management.
---------------------------------------------------------------------------

    The Board continues to believe that covering QFCs with sovereigns 
and central banks under the final rule is an important requirement and 
has not modified the final rule to address the requests made by 
commenters. Excluding QFCs with sovereigns and central banks would be 
inconsistent with Title II of the Dodd-Frank Act and the FDI Act. 
Moreover, the mass termination of such QFCs has the potential to 
undermine the resolution of a GSIB and the financial stability of the 
United States. The final rule provides covered entities two years to 
conform covered QFCs with central banks and sovereigns (as well as 
certain other counterparties, as discussed below). This additional time 
should provide covered entities sufficient time to develop separate 
conformance mechanisms for sovereigns and central banks, if necessary.

C. Definition of ``Default Right'' (Section 252.81 of the Final Rule)

    As discussed above, a party to a QFC generally has a number of 
rights that it can exercise if its counterparty defaults on the QFC by 
failing to meet certain contractual obligations. These rights are 
generally, but not always, contractual in nature. One common default 
right is a setoff right: The right to reduce the total amount that the 
non-defaulting party must pay by the amount that its defaulting 
counterparty owes. A second common default right is the right to 
liquidate pledged collateral and use the proceeds to pay the defaulting 
party's net obligation to the non-defaulting party. Other common rights 
include the ability to suspend or delay the non-defaulting party's 
performance under the contract or to accelerate the obligations of the 
defaulting party. Finally, the non-defaulting party typically has the 
right to terminate the QFC, meaning that the parties would not make 
payments that would have been required under the QFC in the future. The 
phrase ``default right'' in the proposed rule was broadly defined to 
include these common rights as well as ``any similar rights.'' \141\ 
Additionally, the definition included all such rights regardless of 
source, including rights existing under contract, statute, or common 
law.
---------------------------------------------------------------------------

    \141\ See proposed rule Sec.  252.81.
---------------------------------------------------------------------------

    However, the proposed definition of default right excluded two 
rights that are typically associated with the business-as-usual 
functioning of a QFC. First, same-day netting that occurs during the 
life of the QFC in order to reduce the number and amount of payments 
each party owes the other was excluded from the definition of ``default 
right.'' \142\ Second, contractual margin requirements that arise 
solely from the change in the value of the collateral or the amount of 
an economic exposure were also excluded from the definition.\143\ The 
reason for these exclusions was to leave such rights unaffected by the 
proposed rule. The proposal's preamble explained that such exclusions 
were appropriate because the proposal was intended to improve 
resolvability by addressing default rights that could disrupt an 
orderly resolution, not to interrupt the parties' business-as-usual 
interactions under a QFC.
---------------------------------------------------------------------------

    \142\ See id.
    \143\ See id.
---------------------------------------------------------------------------

    However, certain QFCs are also commonly subject to rights that 
would increase the amount of collateral or margin that the defaulting 
party (or a guarantor) must provide upon an event of default. The 
financial impact of such default rights on a covered entity could be 
similar to the impact of the liquidation and acceleration rights 
discussed above. Therefore, the proposed definition of ``default 
right'' included such rights (with the exception discussed in the 
previous paragraph for margin requirements based solely on the value of 
collateral or the amount of an economic exposure).\144\
---------------------------------------------------------------------------

    \144\ See id.
---------------------------------------------------------------------------

    Finally, contractual rights to terminate without the need to show 
cause, including rights to terminate on demand and rights to terminate 
at contractually specified intervals, were excluded from the definition 
of ``default right'' under the proposal for purposes of the proposed 
rule's restrictions on cross-default rights.\145\ This exclusion was 
consistent with the proposal's objective of restricting only default 
rights that are related, directly or indirectly, to the entry into 
resolution of an affiliate of the covered entity, while leaving other 
default rights unrestricted.
---------------------------------------------------------------------------

    \145\ See proposed rule Sec. Sec.  252.81, 252.84.
---------------------------------------------------------------------------

    Commenters expressed support for a number of aspects of the 
definition of default rights. For example, a number of commenters 
supported the proposed exclusion from the definition of ``default 
right'' of contractual rights to terminate without the need to show 
cause, noting that such rights exist for a variety of reasons and that 
reliance on these rights is unlikely to result in a fire sale of assets 
during a GSIB resolution. At least one commenter requested that this 
exclusion be expanded to include force majeure events. Commenters also 
expressed support for the exclusion for what commenters referred to as 
``business-as-usual'' payments associated with a QFC. However, these 
commenters requested clarification that certain ``business-as-usual'' 
actions would not be included in the definition of default right, such 
as payment netting, posting and return of collateral, procedures for 
the substitution of collateral and modification to the terms of the 
QFC, and also requested clarification that the definition of ``default 
right'' would not include off-setting transactions to third parties by 
the non-defaulting counterparty. One commenter urged that, if the 
Board's goal is to provide that a party cannot enforce a provision that 
requires more margin because of a credit downgrade but may demand more 
margin for market price changes, the rule should state so explicitly. 
Another commenter

[[Page 42900]]

expressed concern that the definition of default right in the proposal 
would permit a defaulting covered entity to demand collateral from its 
QFC counterparty as margin due to a market price change, but would not 
allow the non-covered entity to demand collateral from the covered 
entity.
    The final rule retains the same definition of ``default right'' as 
that of the proposal.\146\ The Board believes that the definition of 
default right is sufficiently clear and that additional modifications 
are not needed to address the concerns raised by commenters. The final 
rule does not adopt a particular exclusion for force majeure events, as 
requested by certain commenters, as it is not clear--without reference 
to particular contractual provisions--what this term would encompass. 
Moreover, it should be clear that events typically considered to be 
captured by force majeure clauses (e.g., natural disasters) would not 
be related, directly or indirectly, to the resolution of an 
affiliate.\147\
---------------------------------------------------------------------------

    \146\ See final rule Sec.  252.81.
    \147\ See final rule Sec.  252.84(b).
---------------------------------------------------------------------------

    ``Business-as-usual'' rights regarding changes in collateral or 
margin would not be included within the definition of default right to 
the extent that the right or operation of a contractual provision 
arises solely from either a change in the value of collateral or margin 
or a change in the amount of an economic exposure. In response to 
commenters' requests for clarification, this exception includes changes 
in margin due to changes in market price, but does not include changes 
due to counterparty credit risk (e.g., credit rating downgrades). 
Therefore, the right of either party to a covered QFC to require margin 
due to changes in market price would be unaffected by the definition of 
default right. Moreover, default rights that arise before a covered 
entity or its affiliate enter resolution and that would not be affected 
by the stay-and-transfer provisions of the U.S. Special Resolution 
Regimes also would not be affected.
    Regarding transactions with third parties, the final rule, like the 
proposal, does not require covered entities to address default rights 
in QFCs solely between parties that are not covered entities (e.g., 
off-setting transactions to third parties by the non-defaulting 
counterparty, to the extent none are covered entities).

D. Required Contractual Provisions Related to the U.S. Special 
Resolution Regimes (Section 252.83 of the Final Rule)

    The proposed rule generally would have required a covered QFC to 
explicitly provide both (a) that the transfer of the QFC (and any 
interest or obligation in or under it and any property securing it) 
from the covered entity to a transferee would be effective to the same 
extent as it would be under the U.S. Special Resolution Regimes if the 
covered QFC were governed by the laws of the United States or of a 
state of the United States and (b) that default rights with respect to 
the covered QFC that could be exercised against a covered entity could 
be exercised to no greater extent than they could be exercised under 
the U.S. Special Resolution Regimes if the covered QFC were governed by 
the laws of the United States or of a state of the United States.\148\ 
The final rule contains these same provisions.\149\
---------------------------------------------------------------------------

    \148\ See proposed rule Sec.  252.83(b).
    \149\ See final rule Sec.  252.83(c).
---------------------------------------------------------------------------

    A number of commenters noted that the wording of these requirements 
in proposed section 252.83(b) was confusing and could be read to be 
inconsistent with the intent of the section. In response to comments, 
the final rule makes clearer that the substantive restrictions apply 
only in the event the covered entity (or, in the case of the 
requirement regarding default rights, its affiliate) becomes subject to 
a proceeding under a U.S. Special Resolution Regime.\150\
---------------------------------------------------------------------------

    \150\ See id.
---------------------------------------------------------------------------

    A number of commenters argued that QFCs should be exempt from the 
requirements of proposed section 252.83 if the QFC is governed by U.S. 
law. An example of such a QFC provided by commenters includes the 
standard form repurchase and securities lending agreement published by 
the Securities Industry and Financial Markets Association. These 
commenters argued that counterparties to such agreements are already 
required to observe the stay-and-transfer provisions of the FDI Act and 
Title II of the Dodd-Frank Act, as mandatory provisions of U.S. federal 
law, and that requiring an amendment of these types of QFCs to include 
the express provisions required under section 252.83 would be redundant 
and would not provide any material resolution benefit, but would 
significantly increase the remediation burden on covered entities.
    Other commenters proposed a three-prong test of ``nexus with the 
United States'' for purposes of recognizing an exclusion from the 
express acknowledgment of the requirements of proposed section 252.83. 
In particular, these commenters argued that the presence of two 
factors, in addition to the contract being governed by U.S law, would 
provide greater certainty that courts would apply the stay-and-transfer 
provisions of the FDI Act and Title II of the Dodd-Frank Act: (1) If a 
contract is entered into between entities organized in the United 
States; and (2) to the extent the GSIB's obligations under the QFC are 
collateralized, if the collateral is held with a U.S. custodian or 
depository pursuant to an account agreement governed by U.S. law.\151\ 
Other commenters contended that only whether the contract is under U.S. 
law, and not the location of the counterparty or the collateral, is 
relevant to the analysis of whether the FDI Act and the Dodd-Frank Act 
would govern the contract. Commenters also requested that if the first 
additional factor (i.e., that the QFC be entered into between entities 
organized in the United States) were to be included within the 
exception, it should be broadened to include counterparties that have 
principal places of business or that are otherwise domiciled in the 
United States.
---------------------------------------------------------------------------

    \151\ These commenters noted that it would be unlikely that any 
court interpreting a QFC governed by U.S. law could have a 
reasonable basis for disregarding the stay-and-transfer provisions 
of the FDI Act or Title II of the Dodd-Frank Act.
---------------------------------------------------------------------------

    The requirements of the final rule seek to provide certainty that 
all covered QFCs would be treated the same way in the context of a 
resolution of a covered entity under the Dodd-Frank Act or the FDI Act. 
The stay-and-transfer provisions of the U.S. Special Resolution Regimes 
should be enforced with respect to all contracts of any U.S. GSIB 
entity that enters resolution under a U.S. Special Resolution Regime, 
as well as all transactions of the subsidiaries of such an entity. 
Nonetheless, it is possible that a court in a foreign jurisdiction 
would decline to enforce those provisions. In general, the requirement 
that the effect of the statutory stay-and-transfer provisions be 
incorporated directly into the QFC contractually helps to ensure that a 
court in a foreign jurisdiction would enforce the effect of those 
provisions, regardless of whether the court would otherwise have 
decided to enforce the U.S. statutory provisions.\152\ Further, the 
knowledge that a court in a foreign

[[Page 42901]]

jurisdiction would reject the purported exercise of default rights in 
violation of the required contractual provisions would deter covered 
entities' counterparties from attempting to exercise such rights.
---------------------------------------------------------------------------

    \152\ See generally Financial Stability Board, ``Principles for 
Cross-border Effectiveness of Resolution Actions'' (Nov. 3, 2015), 
http://www.fsb.org/wp-content/uploads/Principles-for-Cross-border-Effectiveness-of-Resolution-Actions.pdf.
---------------------------------------------------------------------------

    In response to comments, the final rule exempts from the 
requirements of section 252.83 a covered QFC that meets two 
requirements.\153\ First, the covered QFC must state that it is 
governed by the laws of the United States or a state of the United 
States.\154\ It has long been clear that the laws of the United States 
and the laws of a state of the United States both include U.S. federal 
law, such as the U.S. Special Resolution Regimes.\155\ Therefore, this 
requirement ensures that contracts that meet this exemption also 
contain language that helps ensure that foreign courts will enforce the 
stay-and-transfer provisions of the U.S. Special Resolution Regimes. 
Second, the QFC counterparty to the covered entity must be organized 
under the laws of the United States or a State,\156\ have its principal 
place of business \157\ located in the United States, or be a U.S. 
branch or agency.\158\ Similarly, a counterparty that is an individual 
must be domiciled in the United States.\159\ This requirement helps 
ensure that the FDIC will be able to quickly and easily enforce the 
stay-and-transfer provisions of the U.S. Special Resolution 
Regimes.\160\ This exemption is expected to significantly reduce the 
burden associated with complying with the final rule while continuing 
to provide assurance that the stay-and-transfer provisions of the U.S. 
Special Resolution Regimes may be enforced.
---------------------------------------------------------------------------

    \153\ See final rule Sec.  252.83(a).
    \154\ However, a contract that explicitly provides that one or 
both of the U.S. Special Resolution Regimes, including a broader set 
of laws that includes a U.S. special resolution regime, is excluded 
from the laws governing the QFC would not meet this exemption under 
the final rule. For example, a covered QFC would not meet this 
exemption if the contract stated that it was governed by the laws of 
the state of New York but also stated that it was not governed by 
U.S. federal law. In contrast, a contract that stated that it was 
governed by the laws of the state of New York but opted out of a 
specific, non-mandatory federal law (e.g., the Federal Arbitration 
Act) would meet this exemption. Cf. Volt Info. Scis. v. Bd. Of Trs., 
489 U.S. 468 (1989).
    \155\ Although many QFCs only explicitly state that the contract 
is governed by the laws of a specific state of the United States, it 
has been made clear on numerous occasions that the laws of each 
state include federal law. See, e.g., Hauenstain v. Lynham, 100 U.S. 
483, 490 (1979) (stating that federal law is ``as much a part of the 
law of every State as its own local laws and the Constitution''); 
Fid. Fed. Sav. & Loan Ass'n v. de la Cuesta, 458 U.S. 141, 157 
(1982) (same); Testa v. Katt, 330 U.S. 386, 393 (1947) (``For the 
policy of the federal Act is the prevailing policy in every 
state.'').
    \156\ For purposes of this requirement of the exemption, 
``State'' means any state, commonwealth, territory, or possession of 
the United States, the District of Columbia, the Commonwealth of 
Puerto Rico, the Commonwealth of the Northern Mariana Islands, 
American Samoa, Guam, or the United States Virgin Islands. 12 CFR 
252.2(y).
    \157\ See Hertz Corp. v. Friend, 559 U.S. 77 (2010) (describing 
the appropriate test for principal place of business).
    \158\ See final rule Sec.  252.83(a)(1)(ii).
    \159\ See id.
    \160\ See, e.g., Daimler AG v. Bauman, 134 S. Ct. 746 (2014); 
Goodyear Dunlop Tires Operations, S.A. v. Brown, 564 U.S. 915 
(2011); Hertz Corp. v. Friend, 559 U.S. 77 (2010).
---------------------------------------------------------------------------

    This section of the final rule is consistent with efforts by 
regulators in other jurisdictions to address similar risks by requiring 
that financial firms within their jurisdictions ensure that the effect 
of the similar provisions under these foreign jurisdictions' respective 
special resolution regimes would be enforced by courts in other 
jurisdictions, including the United States. For example, the U.K.'s 
Prudential Regulation Authority (PRA) recently required certain 
financial firms to ensure that their counterparties to newly created 
obligations agree to be subject to stays on early termination that are 
similar to those that would apply upon a U.K. firm's entry into 
resolution if the financial arrangements were governed by U.K. 
law.\161\ Similarly, the German parliament passed a law in November 
2015 requiring German financial institutions to have provisions in 
financial contracts that are subject to the law of a country outside of 
the European Union that acknowledge the provisions regarding the 
temporary suspension of termination rights and accept the exercise of 
the powers regarding such temporary suspension under the German special 
resolution regime.\162\ Additionally, the Swiss Federal Council 
requires that banks ``ensure at both the individual institution and 
group level that new agreements or amendments to existing agreements 
which are subject to foreign law or envisage a foreign jurisdiction are 
agreed only if the counterparty recognises a postponement of the 
termination of agreements in accordance with'' the Swiss special 
resolution regime.\163\ Japan's Financial Services Agency also revised 
its supervisory guidelines for major banks to require those banks to 
ensure that the effect of the statutory stay decision and statutory 
special creditor protections under Japanese resolution regimes extends 
to contracts governed by foreign laws.\164\
---------------------------------------------------------------------------

    \161\ See PRA Rulebook: CRR Firms and Non-Authorised Persons: 
Stay in Resolution Instrument 2015, (Nov. 12, 2015), http://www.bankofengland.co.uk/pra/Documents/publications/ps/2015/ps2515app1.pdf; see also Bank of England, Prudential Regulation 
Authority, ``Contractual stays in financial contracts governed by 
third-country law'' (PS25/15), (Nov. 2015), http://www.bankofengland.co.uk/pra/Documents/publications/ps/2015/ps2515.pdf. These PRA rules apply to PRA-authorized banks, building 
societies, PRA-designated investment firms, and their qualifying 
parent undertakings, including UK financial holding companies and UK 
mixed financial holding companies.
    \162\ See Gesetz zur Sanierung und Abwicklung von Instituten und 
Finanzgruppen, Sanierungs-und Abwicklungsgesetz [SAG] [German Act on 
the Reorganisation and Liquidation of Credit Institutions], Dec. 10, 
2014, Sec.  60a, https://www.gesetze-im-internet.de/bundesrecht/sag/gesamt.pdf, as amended by Gesetz zur Anpassung des nationalen 
Bankenabwicklungsrechts an den Einheitlichen Abwicklungsmechanismus 
und die europ[auml]ischen Vorgaben zur Bankenabgabe, Nov. 2, 2015, 
Artikel 1(17).
    \163\ See Verordnung [uuml]ber die Finanzmarktinfrastrukturen 
und das Marktverhalten im Effekten- und Derivatehandel [FinfraV] 
[Ordinance on Financial Market Infrastructures and Market Conduct in 
Securities and Derivatives Trading] Nov. 25, 2015, amending 
Bankenverordnung vom 30. April 2014 [BankV] [Banking Ordinance of 30 
April 2014] Apr. 30, 2014, SR 952.02, art. 12 paragraph 2\bis\, 
translation at http://www.news.admin.ch/NSBSubscriber/message/attachments/42659.pdf; see also Erl[auml]uterungsbericht zur 
Verordnung [uuml]ber die Finanzmarktinfrastrukturen und das 
Marktverhalten im Effekten- und Derivatehandel (Nov. 25, 2015) 
(providing commentary).
    \164\ See section III-11 of Comprehensive Guidelines for 
Supervision of Major Banks, etc., http://www.fsa.go.jp/common/law/guide/city.pdf.
---------------------------------------------------------------------------

    Commenters also argued that it would be more appropriate for 
Congress to act to obtain cross-border recognition of U.S. Special 
Resolution Regimes, rather than for the Board to do so through this 
final rule. The Board believes it is appropriate to adopt this final 
rule in order to promote U.S. financial stability by improving the 
resolvability and resilience of U.S. GSIBs and foreign GSIBs pursuant 
to section 165 of the Dodd-Frank Act. Because of the current risk that 
the stay-and-transfer provisions of U.S. Special Resolution Regimes may 
not be recognized under the laws of other jurisdictions, section 252.83 
of the final rule requires similar contractual recognition to help 
ensure that courts in foreign jurisdictions will recognize these 
provisions.
    This requirement would advance the goal of the final rule of 
removing QFC-related obstacles to the orderly resolution of a GSIB. As 
discussed above, restrictions on the exercise of QFC default rights are 
an important prerequisite for an orderly GSIB resolution. Congress 
recognized the importance of such restrictions when it enacted the 
stay-and-transfer provisions of the U.S. Special Resolution Regimes. As 
demonstrated by the 2007-2009 financial crisis, the modern financial 
system is global in scope, and covered entities are party to large 
volumes of QFCs with connections to foreign

[[Page 42902]]

jurisdictions. The stay-and-transfer provisions of the U.S. Special 
Resolution Regimes would not achieve their purpose of facilitating 
orderly resolution in the context of the failure of a GSIB with large 
volumes of QFCs if such QFCs could escape the effect of those 
provisions. To remove doubt about the scope of coverage of these 
provisions, the requirements of section 252.83 of the final rule would 
ensure that the stay-and-transfer provisions apply as a matter of 
contract to all covered QFCs, wherever the transaction. This will 
advance the resolvability goals of the Dodd-Frank Act and the FDI Act 
and improve the resiliency of firms subject to the requirements.

E. Prohibited Cross-Default Rights (Section 252.84 of the Final Rule)

    Definitions. Section 252.84 of the final rule, like the proposal, 
pertains to cross-default rights in QFCs between covered entities and 
their counterparties, many of which are subject to credit enhancements 
(such as a guarantee) provided by an affiliate of the covered entity. 
Because credit enhancements on QFCs are themselves ``qualified 
financial contracts'' under the Dodd-Frank Act's definition of that 
term (which this final rule adopts), the final rule includes the 
following additional definitions in order to facilitate a precise 
description of the relationships to which it would apply. These 
definitions are the same as under the proposal since no comments were 
received on these definitions.
    First, the final rule distinguishes between a credit enhancement 
and a ``direct QFC,'' defined as any QFC that is not a credit 
enhancement.\165\ The final rule also defines ``direct party'' to mean 
a covered entity that is itself a party to the direct QFC, as distinct 
from an entity that provides a credit enhancement.\166\ In addition, 
the final rule defines ``affiliate credit enhancement'' to mean ``a 
credit enhancement that is provided by an affiliate of a party to the 
direct QFC that the credit enhancement supports,'' as distinct from a 
credit enhancement provided by either the direct party itself or by an 
unaffiliated party.\167\ Moreover, the final rule defines ``covered 
affiliate credit enhancement'' to mean an affiliate credit enhancement 
provided by a covered entity or excluded bank and defines ``covered 
affiliate support provider'' to mean the affiliate of the covered 
entity that provides the covered affiliate credit enhancement.\168\ 
Finally, the final rule defines the term ``supported party'' to mean 
any party that is the beneficiary of the covered affiliate support 
provider's obligations under a covered affiliate credit enhancement 
(that is, the QFC counterparty of a direct party, assuming that the 
direct QFC is subject to a covered affiliate credit enhancement).\169\
---------------------------------------------------------------------------

    \165\ See final rule Sec.  252.84(c)(2).
    \166\ See final rule Sec.  252.84(c)(1).
    \167\ See final rule Sec.  252.84(c)(3).
    \168\ See final rule Sec.  252.84(e)(2)-(3).
    \169\ See final rule Sec.  252.84(e)(4).
---------------------------------------------------------------------------

    General prohibitions. The final rule, like the proposal, prohibits 
a covered entity from being party to a covered QFC that allows for the 
exercise of any default right that is related, directly or indirectly, 
to the entry into resolution of an affiliate of the covered entity, 
subject to the exceptions discussed below.\170\ The final rule also 
generally prohibits a covered entity from being party to a covered QFC 
that would prohibit the transfer of any credit enhancement applicable 
to the QFC (such as another entity's guarantee of the covered entity's 
obligations under the QFC), along with associated obligations or 
collateral, upon the entry into resolution of an affiliate of the 
covered entity.\171\
---------------------------------------------------------------------------

    \170\ See final rule Sec.  252.84(b)(1). A few commenters 
requested that the Board clarify that covered QFCs that do not 
contain the cross-default rights or transfer restrictions on credit 
enhancement that are prohibited by section 252.84 would not be 
required to be remediated. This reading of section 252.84 of the 
proposed and final rule is correct. In addition, section 252.84(a) 
of the final rule provides the requested clarity.
    \171\ See final rule Sec.  252.84(b)(2). This prohibition is 
subject to an exception that would allow supported parties to 
exercise default rights with respect to a QFC if the supported party 
is prohibited from being the beneficiary of a credit enhancement 
provided by the transferee under any applicable law, including the 
Employee Retirement Income Security Act of 1974 and the Investment 
Company Act of 1940. This exception is substantially similar to an 
exception to the transfer restrictions in section 2(f) of the ISDA 
2014 Resolution Stay Protocol (2014 Protocol) and the Universal 
Protocol, which was added to address concerns expressed by asset 
managers during the drafting of the 2014 Protocol.
     One commenter requested that the exception be broadened to 
include transfers that would result in the supported party being 
unable, without further action, to satisfy the requirements of any 
law applicable to the supported party. As an example of a type of 
transfer that the commenter intended to be included within the 
broadened exception, the commenter stated that the supported party 
would be able to prevent the transfer if it would result in less 
favorable tax treatment. The exception would seem to also include 
filing requirements that may arise as a result of transfer or other 
requirements that could be satisfied with minimal ``action'' by, or 
cost to, the supported party. More generally, the scope of the laws 
that supported parties deem themselves to satisfy and the method of 
such satisfaction is unclear and potentially very broad.
    The final rule retains the exception as proposed. The requested 
exception would add uncertainty as to whether transfers may be made 
during the stay period and potentially subsume the transfer 
prohibition.
---------------------------------------------------------------------------

    One commenter expressed strong support for these provisions.\172\ 
Another commenter expressed support for this provision as currently 
limited in scope under the proposal to prohibited cross-default rights 
and requested that the scope not be expanded. The Board's final rule 
retains the same scope as the proposal.
---------------------------------------------------------------------------

    \172\ This commenter also expressed support for Congressional 
amendment of the U.S. Bankruptcy Code.
---------------------------------------------------------------------------

    A number of commenters representing counterparties to covered 
entities objected to section 252.84 of the proposal and requested the 
elimination of this provision. These commenters expressed concern about 
limitations on counterparties' exercise of default rights during 
insolvency proceedings and argued that rights should not be taken away 
from contracting parties other than where limitation of such rights is 
necessary for public policy reasons and the resolution process is 
controlled by a regulatory authority with particular expertise in the 
resolution of the type of entity subject to the proceedings. Certain 
commenters argued that eliminating cross-default termination rights 
undermines the ability of QFC counterparties to effectively manage and 
mitigate their exposure to market and credit risk to a GSIB and 
interferes with market forces. One commenter similarly argued that, 
unless the Board takes appropriate measures to strengthen the financial 
condition and creditworthiness of a failing GSIB during and after the 
temporary stay, the stay will only expose QFC counterparties to an 
additional 48 hours of credit risk exposure without achieving the 
orderly resolution goals of the rule. Another commenter argued that 
non-defaulting counterparties should not be prevented from filing 
proofs of claim or other pleadings in a bankruptcy case during the stay 
period, since bankruptcy deadlines might pass and leave the 
counterparty unable to collect the unsecured creditor dividend. 
Commenters contended that restrictions on cross-default rights may lead 
to pro-cyclical behavior with asset managers moving funds away from 
covered entities as soon as those entities show signs of distress, and 
perhaps even in normal situations, and would disadvantage non-GSIB 
parties (e.g., end users who rarely receive initial margin from GSIB 
counterparties and are less well protected against a GSIB 
default).\173\
---------------------------------------------------------------------------

    \173\ One commenter stated that, to the extent the final rule 
prevents an insurer from terminating QFC transactions upon the 
credit rating downgrade of a GSIB counterparty, the insurer may be 
in violation of state insurance laws that typically impose strict 
counterparty credit rating guidelines and limits. This commenter did 
not give any specific examples of such laws. Counterparties, 
including insurance companies, should evaluate and comply with all 
relevant applicable requirements.

---------------------------------------------------------------------------

[[Page 42903]]

    Some commenters argued that, if these rights must be restricted by 
law, Congress should impose such restrictions and that the requirements 
of the proposed rule circumvented the legislative process by creating a 
de facto amendment to the U.S. Bankruptcy Code that forecloses 
countless QFC counterparties from exercising their rights of cross-
default protection under section 362 of the U.S. Bankruptcy Code. Some 
of these commenters argued that parties cannot by contract alter the 
U.S. Bankruptcy Code's provisions, such as the administrative priority 
of a claim in bankruptcy, and one commenter suggested that non-covered 
entity counterparties may challenge the legality of contractual stays 
on the exercise of default rights if a GSIB becomes distressed. Certain 
commenters also questioned the Board's ability to rely on section 165 
of the Dodd-Frank Act in imposing these requirements and argued that 
making SPOE resolution possible under the U.S. Bankruptcy Code was not 
an appropriate justification for this rule. Other commenters, however, 
argued that the provisions of the proposed rule were necessary to 
address systemic risks posed by the exemption for QFCs in the U.S. 
Bankruptcy Code.
    As an alternative to eliminating these requirements, these 
commenters expressed the view that, if the Board moves forward with 
these provisions, the final rule should include at least those minimum 
creditor protections established by the Universal Protocol. Certain 
commenters also argued that this provision was overly broad in that it 
covered not only U.S. federal resolution and insolvency proceedings but 
also state and foreign resolution and insolvency proceedings.\174\ 
Certain commenters also urged the Board to provide a limited exception 
to these restrictions, if retained in the final rule, to help ensure 
the continued functioning of physical commodities markets.\175\
---------------------------------------------------------------------------

    \174\ Certain commenters also indicated that these provisions 
should only apply to U.S. Special Resolution Regimes, which provide 
certain protections for counterparties, or, at most, to U.S. Special 
Resolution Regimes, resolution under the Securities Investor 
Protection Act, and insolvency under Chapter 11 of the U.S. 
Bankruptcy Code. That commenter noted that liquidation and 
insolvency under Chapter 7 of the Bankruptcy Code do not seek to 
preserve the GSIB as a viable entity, which is an objective of this 
proposal. As discussed later, the rule seeks to facilitate the 
resolution of a GSIB outside of U.S. Special Resolution Regimes, 
including under the U.S. Bankruptcy Code, and is intended to 
facilitate other approaches to GSIB resolution. Therefore, the final 
rule applies these provisions in the same way as the proposal. In 
addition, the additional creditor protections for supported parties 
under the final rule permit contractual requirements that any 
transferee not be in bankruptcy proceedings and that the credit 
support provider not be in bankruptcy proceedings other than a 
Chapter 11 proceeding. See final rule Sec.  252.84(f).
    \175\ In particular, these commenters requested that, when a 
covered entity defaults on any physical delivery obligation to any 
counterparty following the insolvency of an affiliate of a covered 
entity, its counterparties with obligations to deliver or take 
delivery of physical commodities within a short time frame after the 
default should be able to immediately terminate all trades (both 
physical and financial) with the covered entity. The final rule, 
like the proposal, allows covered QFCs to permit a counterparty to 
exercise its default rights under a covered QFC if the covered 
entity has failed to pay or perform its obligations under the 
covered QFC. See final rule Sec.  252.84(d). The final rule, like 
the proposal, also allows covered QFCs to permit a counterparty to 
exercise its default rights under a covered QFC if the covered 
entity has failed to pay or perform on other contracts between the 
same parties and the failure gives rise to a default right in the 
covered QFC. See id. These exceptions should help reduce credit risk 
and ensure the smooth operation of the physical commodities markets 
without permitting one failure to pay or perform by a covered entity 
to allow a potentially large number of its counterparties that are 
not directly affected by the failure to exercise their default 
rights and thereby endanger the viability of the covered entity.
---------------------------------------------------------------------------

    Some commenters argued that the Board should eliminate the stay on 
default rights that are related ``indirectly'' to an affiliate of the 
direct party becoming subject to insolvency proceedings, claiming it is 
unclear what constitutes a right related ``indirectly'' to insolvency 
and noting that any default right exercised by a counterparty after an 
affiliate of that counterparty enters resolution could arguably be 
motivated by the affiliate's entry into resolution.
    A primary purpose of these restrictions is to facilitate the 
resolution of a GSIB outside of Title II of the Dodd-Frank Act, 
including under the U.S. Bankruptcy Code. As discussed above, the 
potential for mass exercises of QFC default rights is one reason why a 
GSIB's failure could cause severe damage to financial stability. In the 
context of an SPOE resolution, if the GSIB parent's entry into 
resolution led to the mass exercise of cross-default rights by the 
subsidiaries' QFC counterparties, then the subsidiaries could 
themselves fail or experience financial distress. Moreover, the mass 
exercise of QFC default rights could entail asset fire sales, which 
likely would affect other financial companies and undermine financial 
stability. Similar disruptive results can occur with an MPOE resolution 
of a GSIB affiliate if an otherwise performing GSIB entity is subject 
to having its QFCs terminated or accelerated as a result of the default 
of its affiliate.
    In an SPOE resolution, this damage can be avoided if actions of the 
following two types are prevented: The exercise of direct default 
rights against the top-tier holding company that has entered 
resolution, and the exercise of cross-default rights against the 
operating subsidiaries based on their parent's entry into resolution. 
(Direct default rights against the subsidiaries would not be 
exercisable, because the subsidiaries would not enter resolution.) In 
an MPOE resolution, this damage occurs from exercise of default rights 
against a performing entity based on the failure of an affiliate.
    Title II of the Dodd-Frank Act's stay-and-transfer provisions would 
address both direct default rights and cross-default rights. But, as 
explained above, no similar statutory provisions would apply to a 
resolution under the U.S. Bankruptcy Code. The final rule attempts to 
address these obstacles to orderly resolution by extending the stay-
and-transfer provisions to any type of resolution of a covered entity. 
Similarly, the final rule would facilitate a transfer of the GSIB 
parent's interests in its subsidiaries, along with any credit 
enhancements it provides for those subsidiaries, to a solvent financial 
company by prohibiting covered entities from having QFCs that would 
allow the QFC counterparty to prevent such a transfer or to use it as a 
ground for exercising default rights.\176\
---------------------------------------------------------------------------

    \176\ See final rule Sec.  252.84(b).
---------------------------------------------------------------------------

    The final rule also is intended to facilitate other approaches to 
GSIB resolution. For example, it would facilitate a similar resolution 
strategy in which a U.S. depository institution subsidiary of a GSIB 
enters resolution under the FDI Act while its subsidiaries continue to 
meet their financial obligations outside of resolution.\177\ Similarly, 
the final rule would facilitate the orderly resolution of a foreign 
GSIB under its home jurisdiction resolution regime by preventing the 
exercise of cross-default rights against the foreign GSIB's U.S. 
operations. The final rule would also facilitate the resolution of an 
IHC of a foreign GSIB, and the recapitalization of its U.S. operating 
subsidiaries, as part of a broader MPOE resolution strategy under which 
the foreign GSIB's operations in other

[[Page 42904]]

regions would enter separate resolution proceedings. Finally, the final 
rule would broadly prevent the unanticipated failure of any one GSIB 
entity from bringing about the disorderly failures of its affiliates by 
preventing the affiliates' QFC counterparties from using the first 
entity's failure as a ground for exercising default rights against 
those affiliates that continue to meet their obligations.
---------------------------------------------------------------------------

    \177\ As discussed above, the FDI Act would limit the exercise 
of direct default rights against the depository institution, but 
does not address the threat posed to orderly resolution by cross-
default rights in the QFCs of the depository institution's 
subsidiaries. This final rule would facilitate orderly resolution 
under the FDI Act by filling that gap. See final rule Sec.  
252.84(h).
---------------------------------------------------------------------------

    The final rule is intended to enhance the potential for orderly 
resolution of a GSIB under the U.S. Bankruptcy Code, the FDI Act, or a 
similar resolution regime. The risks to an orderly resolution under the 
U.S. Bankruptcy Code include separate resolution or insolvency 
proceedings, including proceedings in non-U.S. jurisdictions. 
Therefore, by staying default rights arising from affiliates entering 
such proceedings, the final rule would advance the Dodd-Frank Act's 
goal of making orderly GSIB resolution workable under the U.S. 
Bankruptcy Code.\178\
---------------------------------------------------------------------------

    \178\ See 12 U.S.C. 5365(d).
---------------------------------------------------------------------------

    Likewise, the final rule retains the prohibition against 
contractual provisions that permit the exercise of default rights that 
are indirectly related to the resolution of an affiliate. QFCs may 
include a number of default rights triggered by an event that is not 
the resolution of an affiliate but is caused by the resolution, such as 
a credit rating downgrade in response to the resolution. A primary 
purpose of the final rule is to prevent early terminations caused by 
the resolution of an affiliate. A regulation that specifies each type 
of early termination provision that should be stayed would be over-
inclusive, under-inclusive, and easy to evade. Similarly, a stay of 
default rights that are only directly related to the resolution of an 
affiliate could increase the likelihood of litigation to determine if 
the relationship between the default right and the affiliate resolution 
was sufficient to be considered ``directly'' related. The final rule 
attempts to decrease such uncertainty and litigation risk by including 
default rights that are related (i.e., directly or indirectly) to the 
resolution of an affiliate.
    Moreover, the final rule does not affect parties' rights under the 
U.S. Bankruptcy Code. As explained above, the regulation does not 
prohibit a covered QFC from permitting the exercise of default rights 
against a covered entity that has entered bankruptcy proceedings.\179\ 
Therefore, counterparties to a covered entity in bankruptcy would be 
able to exercise their existing contractual default rights to the full 
extent permitted under any applicable safe harbor to the automatic stay 
of the U.S. Bankruptcy Code.
---------------------------------------------------------------------------

    \179\ See final rule Sec.  252.84(d)(1).
---------------------------------------------------------------------------

    The final rule should also benefit the counterparties of a 
subsidiary of a failed GSIB by preventing the severe distress or 
disorderly failure of the subsidiary and allowing it to continue to 
meet its obligations. While it may be in the individual interest of any 
given counterparty to exercise any available rights to run on a 
subsidiary of a failed GSIB, the mass exercise of such rights could 
harm the counterparties' collective interest by causing an otherwise-
solvent subsidiary to fail. Therefore, like the automatic stay in 
bankruptcy, which serves to maximize creditors' ultimate recoveries by 
preventing a disorderly liquidation of the debtor, the final rule seeks 
to mitigate this collective action problem to the benefit of the failed 
firm's creditors and counterparties by preventing a disorderly 
resolution. And because many creditors and counterparties of GSIBs are 
themselves systemically important financial firms, improving outcomes 
for those creditors and counterparties should further protect the 
financial stability of the United States.
    General creditor protections. While the restrictions of the final 
rule are intended to facilitate orderly resolution, they may also 
diminish the ability of covered entities' QFC counterparties to include 
certain protections for themselves in covered QFCs, as noted by certain 
commenters. In order to reduce this effect, the final rule, like the 
proposal, includes several substantial exceptions to the 
restrictions.\180\ These permitted creditor protections are intended to 
allow creditors to exercise cross-default rights outside of an orderly 
resolution of a GSIB (as described above) and therefore would not be 
expected to undermine such a resolution.
---------------------------------------------------------------------------

    \180\ See final rule Sec.  252.84(d).
---------------------------------------------------------------------------

    First, in order to ensure that the proposed prohibitions would 
apply only to cross-default rights (and not direct default rights), the 
final rule provides that a covered QFC may permit the exercise of 
default rights based on the direct party's entry into a resolution 
proceeding.\181\ This provision helps to ensure that, if the direct 
party to a QFC were to enter bankruptcy, its QFC counterparties could 
exercise any relevant direct default rights. Thus, a covered entity's 
direct QFC counterparties would not risk the delay and expense 
associated with becoming involved in a bankruptcy proceeding and would 
be able to take advantage of default rights that would fall within the 
U.S. Bankruptcy Code's safe harbor provisions.
---------------------------------------------------------------------------

    \181\ See final rule Sec.  252.84(d)(1). The proposal exempted 
from this creditor protection provision proceedings under a U.S. or 
foreign special resolution regime. As explained in the proposal, 
special resolution regimes typically stay direct default rights, but 
may not stay cross-default rights. For example, as discussed above, 
the FDI Act stays direct default rights, see 12 U.S.C. 
1821(e)(10)(B), but does not stay cross-default rights, whereas the 
Dodd-Frank Act's OLA stays direct default rights and cross-defaults 
arising from a parent's receivership, see 12 U.S.C. 5390(c)(10)(B) 
and 5390(c)(16). The proposed exemption of special resolution 
regimes from the creditor protection provisions was intended to help 
ensure that special resolution regimes that do not stay cross-
defaults, such as the FDI Act, would not disrupt the orderly 
resolution of a GSIB under the U.S. Bankruptcy Code or other 
ordinary insolvency proceedings.
    One commenter requested the Board revise this provision to 
clarify that default rights based on a covered entity or an 
affiliate entering resolution under the FDI Act or Title II of the 
Dodd-Frank Act are not prohibited but instead are merely subject to 
the terms of such regimes. The commenter requested the Board clarify 
that such default rights are permitted so long as they are subject 
to the provisions of the FDI Act or Title II of the Dodd-Frank Act 
as required under section 225.83. The final rule eliminates this 
proposed exemption for special resolution regimes because the rule 
separately addresses cross-defaults arising from the FDI Act and 
because foreign special resolution regimes, along with efforts in 
other jurisdictions to contractually recognize stays of default 
rights under those regimes, should reduce the risk that such a 
regime should pose to the orderly resolution of a GSIB under the 
U.S. Bankruptcy Code or other ordinary insolvency proceedings.
---------------------------------------------------------------------------

    The final rule also allows covered QFCs to permit the exercise of 
default rights based on the failure of the direct party, a covered 
affiliate support provider, or a transferee that assumes a credit 
enhancement to satisfy its payment or delivery obligations under the 
direct QFC or credit enhancement.\182\ Moreover, the final rule allows 
covered QFCs to permit the exercise of a default right in one QFC that 
is triggered by the direct party's failure to satisfy its payment or 
delivery obligations under another contract between the same 
parties.\183\ This exception takes appropriate account of the 
interdependence that exists among the contracts in effect between the 
same counterparties.
---------------------------------------------------------------------------

    \182\ See final rule Sec.  252.84(d)(2)-(3). These provisions 
should respond to comments requesting that the final rule confirm 
the ability of a covered entity's counterparty to exercise default 
rights arising from the failure of a direct party to satisfy a 
payment or delivery obligation during the stay period. But see final 
rule Sec.  252.83(c).
    \183\ See final rule Sec.  252.84(d)(2).
---------------------------------------------------------------------------

    As explained in the proposal, the exceptions in the final rule for 
the creditor protections described above are intended to help ensure 
that the final rule permits a covered entity's QFC

[[Page 42905]]

counterparties to protect themselves from imminent financial loss and 
does not create a risk of delivery gridlocks or daisy-chain effects, in 
which a covered entity's failure to make a payment or delivery when due 
leaves its counterparty unable to meet its own payment and delivery 
obligations (the daisy-chain effect would be prevented because the 
covered entity's counterparty would be permitted to exercise its 
default rights, such as by liquidating collateral). These exceptions 
are generally consistent with the treatment of payment and delivery 
obligations under the U.S. Special Resolution Regimes.\184\
---------------------------------------------------------------------------

    \184\ See 12 U.S.C. 1821(e)(8)(G)(ii), 5390(c)(8)(F)(ii) 
(suspending payment and delivery obligations for one business day or 
less).
---------------------------------------------------------------------------

    These exceptions also help to ensure that a covered entity's QFC 
counterparty would not risk the delay and expense associated with 
becoming involved in a bankruptcy proceeding, since, unlike a typical 
creditor of an entity that enters bankruptcy, the QFC counterparty 
would retain its ability under the U.S. Bankruptcy Code's safe harbors 
to exercise direct default rights. This should further reduce the 
counterparty's incentive to run. Reducing incentives to run in the 
period leading up to resolution promotes orderly resolution, since a 
QFC creditor run (such as a mass withdrawal of repo funding) could lead 
to a disorderly resolution and pose a threat to financial stability.
    Additional creditor protections for supported QFCs. The final rule, 
like the proposal, allows the inclusion of additional creditor 
protections for a non-defaulting counterparty that is the beneficiary 
of a credit enhancement from an affiliate of the covered entity that is 
also a covered entity or excluded bank.\185\ The final rule allows 
these creditor protections in recognition of the supported party's 
interest in receiving the benefit of its credit enhancement. These 
creditor protections would not undermine an SPOE resolution of a GSIB.
---------------------------------------------------------------------------

    \185\ See final rule Sec.  252.84(f).
---------------------------------------------------------------------------

    Where a covered QFC is supported by a covered affiliate credit 
enhancement,\186\ the covered QFC and the credit enhancement would be 
permitted to allow the exercise of default rights under the 
circumstances discussed below after the expiration of a stay period. 
Under the final rule, the applicable stay period would begin when the 
credit support provider enters resolution and would end at the later of 
5:00 p.m. (eastern time) on the next business day and 48 hours after 
the entry into resolution.\187\ This portion of the final rule is 
similar to the stay treatment provided in a resolution under the OLA or 
the FDI Act.\188\
---------------------------------------------------------------------------

    \186\ Note that the exception in section 252.84(f) of the final 
rule would not apply with respect to credit enhancements that are 
not covered affiliate credit enhancements. In particular, it would 
not apply with respect to a credit enhancement provided by a non-
U.S. entity of a foreign GSIB, which would not be a covered entity 
or excluded bank under the final rule. See final rule Sec.  
252.84(e)(2) (defining ``covered affiliate credit enhancement'').
    \187\ See final rule Sec.  252.84(g)(1).
    \188\ See 12 U.S.C. 1821(e)(10)(B)(I), 5390(c)(10)(B)(i), 
5390(c)(16)(A). While the final rule's stay period is similar to the 
stay periods that would be imposed by the U.S. Special Resolution 
Regimes, it could run longer than those stay periods under some 
circumstances.
---------------------------------------------------------------------------

    Under the final rule, contractual provisions may permit the 
exercise of default rights at the end of the stay period if the covered 
affiliate credit enhancement has not been transferred away from the 
covered affiliate support provider and that support provider becomes 
subject to a resolution proceeding other than a proceeding under 
Chapter 11 of the U.S. Bankruptcy Code.\189\ QFCs may also permit the 
exercise of default rights at the end of the stay period if the 
transferee (if any) of the credit enhancement enters a resolution 
proceeding, protecting the supported party from a transfer of the 
credit enhancement to a transferee that is unable to meet its financial 
obligations.\190\
---------------------------------------------------------------------------

    \189\ See final rule Sec.  252.84(f)(1). Chapter 11 (11 U.S.C. 
1101-1174) is the portion of the U.S. Bankruptcy Code that provides 
for the reorganization of the failed company, as opposed to its 
liquidation, and is generally well-understood by market 
participants.
    \190\ See final rule Sec.  252.84(f)(2).
---------------------------------------------------------------------------

    QFCs may also permit the exercise of default rights at the end of 
the stay period if the original credit support provider does not 
remain, and no transferee becomes, obligated to the same (or 
substantially similar) extent as the original credit support provider 
was obligated immediately prior to entering a resolution proceeding 
(including a Chapter 11 proceeding) with respect to (a) the covered 
affiliate credit enhancement, (b) all other covered affiliate credit 
enhancements provided by the credit support provider on any other 
covered QFCs between the same parties, and (c) all credit enhancements 
provided by the credit support provider between the direct party and 
affiliates of the direct party's QFC counterparty.\191\ Such creditor 
protections are permitted in order to prevent the support provider or 
the transferee from ``cherry picking'' by assuming only those QFCs of a 
given counterparty that are favorable to the support provider or 
transferee. Title II of the Dodd-Frank Act and the FDI Act contain 
similar provisions to prevent cherry picking.
---------------------------------------------------------------------------

    \191\ See final rule Sec.  252.84(f)(3).
---------------------------------------------------------------------------

    Finally, if the covered affiliate credit enhancement is transferred 
to a transferee, the QFC may permit the non-defaulting counterparty to 
exercise default rights at the end of the stay period unless either (a) 
all of the covered affiliate support provider's ownership interests in 
the direct party are also transferred to the transferee or (b) 
reasonable assurance is provided that substantially all of the covered 
affiliate support provider's assets (or the net proceeds from the sale 
of those assets) will be transferred or sold to the transferee in a 
timely manner.\192\ These conditions help to assure the supported party 
that the transferee would be at least roughly as financially capable of 
providing the credit enhancement as the covered affiliate support 
provider. Title II of the Dodd-Frank Act similarly requires that 
certain conditions be met with respect to affiliate credit 
enhancements.\193\
---------------------------------------------------------------------------

    \192\ See final rule Sec.  252.84(f)(4).
    \193\ See 12 U.S.C. 5390(c)(16)(A).
---------------------------------------------------------------------------

    Commenters generally expressed strong support for these exclusions 
but also requested that these exclusions be broadened in a number of 
ways. Certain commenters urged the Board to broaden the exclusions to 
permit, after trigger of the stay-and-transfer provisions, the exercise 
of default rights by a counterparty against a direct counterparty or 
covered support provider with respect to any default right under the 
QFC (other than a default right explicitly based on the failure of an 
affiliate) and not just with respect to defaults resulting from payment 
or delivery failure or the direct party becoming subject to certain 
resolution or insolvency proceedings (e.g., failure to maintain a 
license or certain capital level, materially breaching its 
representations under the QFC). Certain commenters contended that, at a 
minimum, the final rule should provide for creditor protections that 
meet the minimum standards set forth by the Universal Protocol. One 
commenter specifically identified three creditor protections found in 
the Universal Protocol that it argued the Board should include in 
section 252.84: (1) Priority rights in a bankruptcy proceeding against 
the transferee or original credit support provider (if the QFC 
providing credit support was not transferred); (2) a right to submit 
claims in the insolvency proceeding of the insolvent credit support 
provider if the transferee becomes insolvent; and (3) the ability to 
declare a default and close

[[Page 42906]]

out of both the original QFC with the direct counterparty as well as 
QFCs with the transferee if the transferee defaults under the 
transferred QFC or under any other QFC with the non-defaulting 
counterparty, subject to the contractual terms and consistent with 
applicable law. Another commenter argued for creditor protections not 
found in the Universal Protocol, including that the transferee be 
required to be a U.S. person and be registered with and licensed by the 
primary regulator of either the direct counterparty or transferor 
entity.
    The final rule does not include the additional creditor protections 
of the Universal Protocol or other creditor protections requested by 
commenters. As explained in the proposal and below, the additional 
creditor protections of the Universal Protocol do not appear to 
materially diminish the prospects for an orderly resolution of a GSIB 
because the Universal Protocol includes a number of desirable features 
that the final rule otherwise lacks.\194\ Providing additional 
circumstances under which default rights may be exercised during and 
immediately after the stay period, in the absence of any 
counterbalancing benefits to resolution, would increase the risk of a 
disorderly resolution of a GSIB in contravention of the purposes of the 
rule.
---------------------------------------------------------------------------

    \194\ See 81 FR 29169, 29182 (May 11, 2016).
---------------------------------------------------------------------------

    One commenter also argued that transfer should be limited to a 
bridge bank under the FDI Act or a bridge financial company under Title 
II of the Dodd-Frank Act to ensure that the transferee is more likely 
to be able to satisfy the obligations of a credit support provider and 
is subject to regulatory oversight. Section 252.84 of the final rule 
permits QFCs to include provisions allowing a counterparty to exercise 
its default rights against a direct party that enters resolution under 
the FDI Act or Title II of the Dodd-Frank Act, other than the limited 
case contemplated by section 252.84(h) of the final rule. The Board is 
not adopting the proposed additional creditor protection because it 
would defeat in large part the purpose of section 252.84 and 
potentially create confusion regarding the requirements and purposes of 
sections 252.83 and 252.84 of the final rule.\195\
---------------------------------------------------------------------------

    \195\ To the extent the commenter's reference to ``bridge 
financial company'' was not only to a bridge financial company under 
Title II of the Dodd-Frank Act, the requested amendment would not 
appear to provide a meaningful reduction in credit risk to 
counterparties compared to the creditor protections permitted under 
section 252.84 of the final rule and those available under the 
Universal Protocol and U.S. Protocol, discussed below.
---------------------------------------------------------------------------

    A few commenters expressed concern that the additional creditor 
protections applied only to QFCs supported by a credit enhancement 
provided by a ``covered affiliate support provider'' (i.e., an 
affiliate that is a covered entity) and noted that foreign GSIBs often 
will have their QFCs supported by a non-U.S. affiliate that is not a 
covered entity. Such non-U.S. affiliate credit supporter providers 
would not be able to rely on the additional creditor protections for 
supported QFCs. As the proposal explained, ``Such credit enhancements 
[are] excluded in order to help ensure that the resolution of a non-
U.S. entity would not negatively affect the financial stability of the 
United States by allowing for the exercise of default rights against a 
covered entity.'' \196\
---------------------------------------------------------------------------

    \196\ 81 FR 29169, 29180 n.92 (May 11, 2016) (``Note that the 
exception in Sec.  252.84(g) of the proposed rule would not apply 
with respect to credit enhancements that are not covered affiliate 
credit enhancements. In particular, it would not apply with respect 
to a credit enhancement provided by a non-U.S. entity of a foreign 
GSIB, which would not be a covered entity under the proposal. Such 
credit enhancements would be excluded in order to help ensure that 
the resolution of a non-U.S. entity would not negatively affect the 
financial stability of the United States by allowing for the 
exercise of default rights against a covered entity.''). See also 
final rule Sec.  252.84(f).
---------------------------------------------------------------------------

    One commenter requested clarification that the creditors of a non-
U.S. credit support provider are permitted to exercise any and all 
rights against that non-U.S. credit support provider that they could 
exercise under the non-U.S. resolution regime applicable to that non-
U.S. credit support provider. In general, covered entities may be 
entities organized or operating in the United States or, with respect 
to U.S. GSIBs, abroad. The final rule, like the proposal, is limited to 
QFCs to which a covered entity is a party. Section 252.84 of the final 
rule generally prohibits QFCs to which a covered entity is a party from 
allowing the exercise of cross-default rights of the covered QFC, 
regardless of whether the affiliate entering resolution and/or the 
credit support provider is organized or operates in the United States.
    Another commenter expressed concern that the proposed section 
252.84(g)(3) (section 252.84(f)(3) of the final rule) would provide a 
right without a remedy because, if the covered affiliate credit support 
provider is no longer obligated and no transferee has taken on the 
obligation, the non-covered entity counterparty may have only a breach 
of contract claim against an entity that has transferred all of its 
assets to a third party. The creditor protections of section 252.84, if 
triggered, permit contractual provisions allowing the exercise of 
existing default rights against the direct party to the covered QFC, as 
well as any existing rights against the credit enhancement provider.
    Another commenter suggested revising section 252.84(g) (section 
252.84(f) of the final rule) to clarify that, for a covered direct QFC 
supported by a covered affiliate credit enhancement, the covered direct 
QFC and the covered affiliate credit enhancement may permit the 
exercise of a default right after the stay period that is related, 
directly or indirectly, to the covered affiliate support provider 
entering into resolution proceedings. This reading is incorrect and 
revising the rule as requested would largely defeat the purpose of 
section 252.84 of the final rule by merely delaying QFC termination en 
masse.
    Some commenters also requested specific provisions related to 
physical commodity contracts, including a provision that would allow 
regulators to override a stay if necessary to avoid disruption of the 
supply or prevent exacerbation of price movements in a commodity or a 
provision that would allow the exercise of default rights of 
counterparties delivering or taking delivery of physical commodities if 
a covered entity defaults on any physical delivery obligation to any 
counterparty. As noted above, QFCs may permit a counterparty to 
exercise its default rights immediately, even during the stay period, 
if the covered entity fails to pay or perform on the covered QFC with 
the counterparty (or another contract between the same parties that 
gives rise to a default under the covered QFC).
    Creditor protections related to FDI Act proceedings. In the case of 
a covered QFC that is supported by a covered affiliate credit 
enhancement, both the covered QFC and the credit enhancement would be 
permitted to allow the exercise of default rights related to the credit 
support provider's entry into resolution proceedings under the FDI Act 
\197\ only under the following circumstances: (a) After the FDI Act 
stay period,\198\ if the credit enhancement is not transferred under 
the relevant provisions of the FDI Act \199\ and associated 
regulations, and (b) during the FDI Act stay period, to the extent

[[Page 42907]]

that the default right permits the supported party to suspend 
performance under the covered QFC to the same extent as that party 
would be entitled to do if the covered QFC were with the credit support 
provider itself and were treated in the same manner as the credit 
enhancement.\200\ This provision is intended to ensure that a QFC 
counterparty of a subsidiary of a bank that goes into FDI Act 
receivership can receive the same level of protection that the FDI Act 
provides to QFC counterparties of the bank itself. No comments were 
received on this aspect of the proposal and the final rule contains no 
changes from the proposal.
---------------------------------------------------------------------------

    \197\ As discussed above, the FDI Act stays direct default 
rights against the failed depository institution but does not stay 
the exercise of cross-default rights against its affiliates.
    \198\ Under the FDI Act, the relevant stay period runs until 
5:00 p.m. (eastern time) on the business day following the 
appointment of the FDIC as receiver. 12 U.S.C. 1821(e)(10)(B)(I). 
See also final rule Sec.  252.81.
    \199\ 12 U.S.C. 1821(e)(9)-(10).
    \200\ See final rule Sec.  252.84(h).
---------------------------------------------------------------------------

    Prohibited terminations. In case of a legal dispute as to a party's 
right to exercise a default right under a covered QFC, the final rule, 
like the proposal, requires that a covered QFC must provide that, after 
an affiliate of the direct party has entered a resolution proceeding, 
(a) the party seeking to exercise the default right bears the burden of 
proof that the exercise of that right is indeed permitted by the 
covered QFC, and (b) the party seeking to exercise the default right 
must meet a ``clear and convincing evidence'' standard, a similar 
standard,\201\ or a more demanding standard.\202\ The purpose of this 
requirement is to deter the QFC counterparty of a covered entity from 
thwarting the purpose of the final rule by exercising a default right 
because of an affiliate's entry into resolution under the guise of 
other default rights that are unrelated to the affiliate's entry into 
resolution.
---------------------------------------------------------------------------

    \201\ The reference to a ``similar'' burden of proof is intended 
to allow covered QFCs to provide for the application of a standard 
that is analogous to clear and convincing evidence in jurisdictions 
that do not recognize that particular standard. A covered QFC is not 
permitted to provide for a lower standard.
    \202\ See final rule Sec.  252.84(i).
---------------------------------------------------------------------------

    A few commenters requested guidance on how to satisfy the burden of 
proof of clear and convincing evidence so that they may avoid seeking 
such clarity through litigation. Other commenters urged that this 
standard was not appropriate and should be eliminated. In particular, a 
number of commenters expressed concern that the burden of proof 
requirements, which are more stringent than the burden of proof 
requirements for typical contractual disputes adjudicated in a court, 
unduly hamper the creditor protections of counterparties and impose a 
burden directly on non-covered entities, who should be able to exercise 
default rights if it is commercially reasonable in the context. One 
commenter contended that this burden, combined with the stay on default 
rights related ``indirectly'' to an affiliate entering insolvency 
proceedings, effectively prohibits counterparties from exercising any 
default rights during the stay period. These commenters argued that it 
is inappropriate for the Board in a rulemaking to alter the burden of 
proof for contractual disputes. One commenter suggested that, in a 
scenario involving a master agreement with some transactions out of the 
money and others in the money, the defaulting GSIB will have a lower 
burden of proof for demonstrating that it is owed money than for 
demonstrating that it owes money, should the non-GSIB counterparty 
exercise its termination rights. Certain commenters suggested instead 
that the final rule shift the burden and instead adopt a rebuttable 
presumption that the non-defaulting counterparty's exercise of default 
rights is permitted under the QFC unless the defaulting covered entity 
demonstrates otherwise. One commenter requested that the burden of 
proof not apply to the exercise of direct default rights.
    The final rule retains the proposed burden of proof requirements. 
The requirement is based on a primary goal of the final rule--to avoid 
the disorderly termination of QFCs in response to the failure of an 
affiliate of a GSIB. The requirement accomplishes this goal by making 
clear that a party that exercises a default right when an affiliate of 
its direct party enters receivership of insolvency proceedings is 
unlikely to prevail in court unless there is clear and convincing 
evidence that the exercise of the default right against a covered 
entity is not related to the insolvency or resolution proceeding. The 
requirement therefore should discourage the impermissible exercise of 
default rights without prohibiting the exercise of all default rights. 
Moreover, the burden of proof requirement should not discourage the 
exercise of default rights after or in response to a failure to satisfy 
a creditor protection provision (e.g., direct default rights); such a 
failure should be easily evidenced, even under a heightened burden of 
proof, such that clarification through court proceedings should not be 
necessary.
    Agency transactions. In addition to entering into QFCs as 
principals, GSIBs may engage in QFCs as agent for other principals. For 
example, a GSIB subsidiary may enter into a master securities lending 
arrangement with a foreign bank as agent for a U.S.-based pension fund. 
The GSIB would document its role as agent for the pension fund, often 
through an annex to the master agreement, and would generally provide 
to its customer (the principal party) a securities replacement 
guarantee or indemnification for any shortfall in collateral in the 
event of the default of the foreign bank.\203\ A covered entity may 
also enter into a QFC as principal where there is an agent acting on 
its behalf or on behalf of its counterparty.
---------------------------------------------------------------------------

    \203\ The definition of QFC under Title II of the Dodd-Frank 
Act, which is adopted in the final rule, includes security 
agreements and other credit enhancements as well as master 
agreements (including supplements). 12 U.S.C. 5390(c)(8)(D); see 
also final rule Sec.  252.81.
---------------------------------------------------------------------------

    This proposal would have applied to a covered QFC regardless of 
whether the covered entity or the covered entity's direct counterparty 
is acting as a principal or as an agent. Sections 252.83 and 252.84 of 
the proposal did not distinguish between agents and principals with 
respect to default rights or transfer restrictions applicable to 
covered QFCs. Under the proposal, section 252.83 would have limited 
default rights and transfer restrictions that the principal and its 
agent may have against a covered entity consistent with the U.S. 
Special Resolution Regimes.\204\ Section 252.84 of the proposed rule 
would have ensured that, subject to the enumerated creditor 
protections, neither the agent nor the principal could exercise cross-
default rights under the covered QFC against the covered entity based 
on the resolution of an affiliate of the covered entity.\205\
---------------------------------------------------------------------------

    \204\ See proposed rule Sec.  252.83(a)(3).
    \205\ See proposed rule Sec. Sec.  252.84(a)(3), 252.84(d).
---------------------------------------------------------------------------

    Commenters argued that the provisions of sections 252.83 and 252.84 
that relate to transactions entered into by the covered entity as agent 
should exclude QFCs where the covered entity or its affiliate does not 
have any liability (including contingent liability) under or in 
connection with the contract, or any payment or delivery obligations 
with respect thereto. Commenters also argued that the proposed agent 
provisions should not apply to circumstances where the covered entity 
acts as agent for a counterparty whose transactions are excluded from 
the requirements of the rule.\206\ Commenters provided as an example 
where an agent simply executes an agreement on behalf of the principal 
but bears no liability thereunder, such as where an investment manager 
signs an agreement on behalf of a client. Commenters noted that such 
agreements could contain events of default relating to the

[[Page 42908]]

insolvency of the agent or an affiliate of the agent but that such 
default rights would be difficult to track and that close-out of such 
QFCs would not result in any loss or liquidity impact to the agent. 
Rather, early termination under the agreements would subject the cash 
and securities of the principals--not the agent--to realization and 
liquidation. Therefore, the agent would not be exposed to the liquidity 
and asset fire sale risks the proposal was intended to address.
---------------------------------------------------------------------------

    \206\ Commenters argued this should be the case even where an 
agent has entered an umbrella master agreement on behalf of more 
than one principal, but only with respect to the contract of any 
principals that are excluded counterparties.
---------------------------------------------------------------------------

    Commenters contended that the requirement to conform QFCs with all 
affiliates of a counterparty when an agent is acting on behalf of the 
counterparty would be particularly burdensome, as the agent may not 
have information about the counterparty's affiliates or their contracts 
with covered entities. Commenters also requested clarification that 
conformance is not required of contracts between a covered entity as 
agent on behalf of a non-U.S. affiliate of a foreign GSIB that would 
not be a covered entity under the proposal, since default rights 
related to the non-U.S. operations of foreign GSIBs are not the focus 
of the rule and do not bear a sufficient connection to U.S. financial 
stability to warrant the burden and cost of compliance.
    One commenter also urged that securities lending authorization 
agreements (SLAAs) should also be exempt from the rule. The commenter 
explained that SLAAs are banking services agreements that establish an 
agency relationship with the lender of securities and an agent and may 
be considered credit enhancements for securities lending transactions 
(and therefore QFCs) because the SLAAs typically require the agent to 
indemnify the lender for any shortfall between the value of the 
collateral and the value of the securities in the event of a borrower 
default. The commenter explained that SLAAs typically do not contain 
provisions that may impede the resolution of a GSIB, but may contain 
termination rights or contractual restrictions on assignability. 
However, the commenter argued that the beneficiaries under SLAAs lack 
the incentive to contest the transfer of the SLAA to a bridge 
institution in the event of GSIB insolvency.
    To respond to concerns raised by commenters, the agency provisions 
of the proposed rule have been modified in the final rule. The final 
rule provides that a covered entity does not become a party to a QFC 
solely by acting as agent to a QFC.\207\ Therefore, an in-scope QFC 
would not be a covered QFC solely because a covered entity was acting 
as the agent of a principal with respect to the QFC.\208\ For example, 
the final rule would not require a covered entity to conform a master 
securities lending arrangement (or the transactions under the 
agreement) to the requirements of the final rule if the only 
obligations of the covered entity under the agreement are to act as an 
agent on behalf of one or more principals. This modification should 
address many of the concerns raised by commenters.
---------------------------------------------------------------------------

    \207\ See final rule Sec.  252.82(e)(1).
    \208\ Such a QFC would nonetheless be a covered QFC with respect 
to a principal that also was a covered entity. In response to 
comments, the Board notes that covered entities do not include non-
U.S. subsidiaries of a foreign GSIB.
---------------------------------------------------------------------------

    The final rule does not specifically exempt SLAAs because the 
agreements provide the beneficiaries with contractual rights that may 
hinder the orderly resolution of a GSIB and because it is unclear how 
such beneficiaries would act in response to the failure of their agent. 
More generally, the final rule does not exempt a QFC with respect to 
which an agent also acts in another capacity, such as guarantor. 
Continuing the example regarding the covered entity acting as agent 
with respect to a master securities lending agreement, if the covered 
entity also provided a SLAA that included the typical indemnification 
provision discussed above, the agency exemption of the final rule would 
not exclude the SLAA but would still exclude the master securities 
lending agreement. This is because the covered entity is acting solely 
as agent with respect to the master securities lending agreement but is 
acting as agent and guarantor with respect to the SLAA. However, SLAAs 
would be exempted under the final rule to the extent that they are not 
``in-scope QFCs'' or otherwise meet the exemptions for covered QFCs of 
the final rule.
    Enforceability. Commenters also requested that the final rule 
should clarify that obligations under a QFC would still be enforceable 
even if its terms do not comply with the requirements of the final 
rule, similar to assurances provided in respect of the UK rule and 
German legislation. The enforceability of a contract is beyond the 
scope of this rule.
    Interaction with Other Regulatory Requirements. Certain commenters 
requested clarification that amending covered QFCs as required by this 
final rule should not trigger other regulatory requirements for covered 
entities, such as the swap margin requirements issued by the Board, 
other prudential regulators (the OCC, FDIC, Farm Credit Administration, 
and Federal Housing Financing Agency), and the U.S. Commodity Futures 
Trading Commission (CFTC). In particular, commenters urged that 
amending a swap to conform to this final rule should not jeopardize the 
status of the swap as a legacy swap for purposes of the swap margin 
requirements for non-cleared swaps. These issues are outside the scope 
of this rule as they relate to the requirements of another rule issued 
by the Board jointly with the other prudential regulators, as well as a 
rule issued by the CFTC. As commenters pointed out, addressing such 
issues may require consultation with the other prudential regulators as 
well as the CFTC and the U.S. Securities and Exchange Commission to 
determine the impact of the amendments required by this final rule for 
purposes of the regulatory requirements under Title VII. However, as 
the proposal noted, the Board is considering an amendment to the 
definition of ``eligible master netting agreement'' to account for the 
restrictions on covered QFCs and is consulting with the other 
prudential regulators and the CFTC on this aspect of the final 
rule.\209\ The Board does not expect that compliance with this final 
rule would trigger the swap margin requirements for non-cleared swaps.
---------------------------------------------------------------------------

    \209\ See 81 FR 29169, 29186 (May 11, 2016).
---------------------------------------------------------------------------

    Compliance with the Universal and U.S. Protocols. The final rule, 
like the proposal, allows covered entities to conform covered QFCs to 
the requirements of the proposed rule through adherence to the 
Universal Protocol.\210\ The two primary operative provisions of the 
Universal Protocol are Section 1 and Section 2. Under Section 1, 
adhering parties essentially ``opt in'' to the U.S. Special Resolution 
Regimes and certain other special resolution regimes. Therefore, 
Section 1 is generally responsive to the concerns addressed in section 
252.83 of the final rule. Under Section 2, adhering parties essentially 
forego, subject to the creditor protections of Section 2, cross-default 
rights and transfer restrictions on affiliate credit enhancements. 
Therefore, Section 2 is generally responsive to the concerns addressed 
in section 252.84 of the final rule.
---------------------------------------------------------------------------

    \210\ See final rule Sec.  252.85(a).
---------------------------------------------------------------------------

    The proposal noted that, while the scope of the stay-and-transfer 
provisions of the Universal Protocol are narrower than the stay-and-
transfer provisions that would have been required under the proposal 
and the Universal Protocol provides a number of creditor protection 
provisions that would not otherwise have been available under the 
proposal, the Universal Protocol includes a

[[Page 42909]]

number of desirable features that the proposal lacked. The proposal 
explained that ``when an entity (whether or not it is a covered entity) 
adheres to the [Universal] Protocol, it necessarily adheres to the 
[Universal] Protocol with respect to all covered entities that have 
also adhered to the Protocol rather than one or a subset of covered 
entities (as the proposal may otherwise permit). . . . This feature 
appears to allow the [Universal] Protocol to address impediments to 
resolution on an industry-wide basis and increase market certainty, 
transparency, and equitable treatment with respect to default rights of 
non-defaulting parties.'' \211\ This feature is referred to as 
``universal adherence.'' The proposal explained that other favorable 
features of the Universal Protocol included that it amends all existing 
transactions of adhering parties, does not provide the counterparty 
with default rights in addition to those provided under the underlying 
QFC, applies to all QFCs, and includes resolution under bankruptcy as 
well as U.S. and certain non-U.S. Special Resolution Regimes. Because 
the features of the Universal Protocol, considered together, appeared 
to increase the likelihood that the resolution of a GSIB under a range 
of scenarios could be carried out in an orderly manner, the proposal 
stated that QFCs amended by the Universal Protocol would have been 
consistent with the proposal, notwithstanding differences from section 
252.84 of the proposal.
---------------------------------------------------------------------------

    \211\ 81 FR 29169, 29182-83 (May 11, 2016).
---------------------------------------------------------------------------

    Commenters generally supported the proposal's provisions to allow 
covered entities to comply with the requirements of the proposed rule 
through adherence to the Universal Protocol. For the reasons discussed 
above and in the proposal, the final rule continues to allow covered 
entities to comply with the rule through adherence to the Universal 
Protocol and makes other modifications to the proposal to address 
comments.
    A few commenters requested that the final rule clarify two 
technical aspects of adherence to the Universal Protocol. These 
commenters requested confirmation that adherence to the Universal 
Protocol would also satisfy the requirements of section 252.83. The 
commenters also requested confirmation that QFCs that incorporate the 
terms of the Universal Protocol by reference also would be deemed to 
comply with the terms of the proposed alternative method of 
compliance.\212\ By clarifying section 252.85(a), the final rule 
confirms that adherence to the Universal Protocol is deemed to satisfy 
the requirements of section 252.83 of the final rule (as well as 
section 252.84) and that conformance of a covered QFC through the 
Universal Protocol includes incorporation of the terms of the Universal 
Protocol by reference by protocol adherents. This clarification also 
applies to the U.S. Protocol, discussed below.
---------------------------------------------------------------------------

    \212\ ``As between two Adhering Parties, the [Universal 
Protocol] only amends agreements between the Adhering Parties that 
have been entered into as of the date that the Adhering Parties 
adhere (as well as any subsequent transactions thereunder), but it 
does not amend agreements that Adhering Parties enter into after 
that date. . . . If Adhering Parties wish for their future 
agreements to be subject to the terms of the [Universal Protocol] or 
a Jurisdictional Module Protocol under the ISDA JMP, it is expected 
that they would incorporate the terms of the [relevant protocol] by 
reference into such agreements.'' Letter to Robert deV. Frierson, 
Secretary, Board of Governors of the Federal Reserve System, from 
Katherine T. Darras, ISDA General Counsel, The International Swaps 
and Derivatives Association, Inc., at 8-9 (Aug. 5, 2016). This 
commenter noted that incorporation by reference was consistent with 
the proposal and asked that the text of the rule be clarified. Id. 
at 9.
---------------------------------------------------------------------------

    One commenter indicated that many non-covered entity counterparties 
do not have ISDA master agreements for physically-settled forward and 
commodity contracts and, therefore, compliance with the rule's 
requirements through adherence to the Universal Protocol would entail 
substantial time and educational effort. As in the proposal, the final 
rule simply permits adherence to the Universal Protocol as one method 
of compliance with the rule's requirements, and parties may meet the 
rule's requirements through bilateral negotiation, if they choose. 
Moreover, the Securities Financing Transaction Annex and Other 
Agreements Annex of the Universal Protocol, which are specifically 
identified in the proposed and final rule, are designed to amend QFCs 
that are not ISDA master agreements.
    Many commenters argued that the final rule should also allow 
compliance with the rule through a yet-to-be-created ``U.S. 
Jurisdictional Module to the ISDA Resolution Stay Jurisdictional 
Modular Protocol'' (an ``approved U.S. JMP'') that is generally the 
same but narrower in scope than the Universal Protocol.\213\ Many non-
GSIB commenters argued that they were not involved with the drafting of 
the Universal Protocol and that an approved U.S. JMP would create a 
level playing field between those that were involved in the drafting 
and those that were not. In general, commenters identified two aspects 
of the Universal Protocol that they argued should be narrowed in the 
approved U.S. JMP: The scope of the special resolution regimes and the 
universal adherence feature of the Universal Protocol.
---------------------------------------------------------------------------

    \213\ Commenters argued that approval of the approved U.S. JMP 
should not require satisfaction of the administrative requirements 
of section 252.85(b)(3), since the Board has already conducted that 
analysis in deciding to provide a safe harbor for the Universal 
Protocol.
---------------------------------------------------------------------------

    With respect to the scope of the special resolution regimes of the 
Universal Protocol, commenters' concern focused on the special 
resolution regimes of ``Protocol-eligible Regimes.'' Some commenters 
also expressed concern with the scope of ``Identified Regimes'' of the 
Universal Protocol.
    The Universal Protocol defines ``Identified Regimes'' as the 
special resolution regimes of France, Germany, Japan, Switzerland, and 
the United Kingdom, as well as the U.S. Special Resolution Regimes. The 
Universal Protocol defines ``Protocol-eligible Regimes'' as resolution 
regimes of other jurisdictions specified in the protocol that satisfies 
the requirements of the Universal Protocol. The Universal Protocol 
provides a ``Country Annex,'' which is a mechanism by which individual 
adherents to the Universal Protocol may agree that a specific 
jurisdiction satisfies the requirements of a ``Protocol-eligible 
Regime.'' The Universal Protocol referred to in the proposal did not 
include any Country Annex for any Protocol-eligible Regime.\214\
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    \214\ The proposal defined the Universal Protocol as the ``ISDA 
2015 Universal Resolution Stay Protocol, including the Securities 
Financing Transaction Annex and Other Agreements Annex, published by 
the International Swaps and Derivatives Association, Inc., as of May 
3, 2016, and minor or technical amendments thereto.'' See proposed 
rule Sec.  252.85(a). As of May 3, 2016, ISDA had not published any 
Country Annex for a Protocol-eligible Regime and such publication 
would not be a minor or technical amendment to the Universal 
Protocol. Consistent with the proposal, the final rule does not 
define the Universal Protocol to include any Country Annex. However, 
the final rule does not penalize adherence to any Country Annex. A 
covered QFC that is amended by the Universal Protocol--but not a 
Country Annex--will be deemed to conform to the requirements of the 
final rule. In addition, a covered QFC that is amended by the 
Universal Protocol--including one or more Country Annexes--is also 
deemed to conform to the requirements of the final rule. See final 
rule Sec.  252.85(a)(2).
---------------------------------------------------------------------------

    Commenters requested the final rule include a safe harbor for an 
approved U.S. JMP that does not include Protocol-eligible Regimes. 
Commenters argued that many counterparties may not be able to adhere to 
the Universal Protocol because they would not be able to adhere to a 
Protocol-eligible Regime in the absence of law or regulation mandating 
such adherence, as it would

[[Page 42910]]

force counterparties to give up default rights in jurisdictions where 
that is not yet legally required.\215\ In support of their argument, 
commenters cited their fiduciary duties to act in the best interests of 
their clients or shareholders. Commenters also argued that an approved 
U.S. JMP should not include Identified Regimes and noted that the other 
Identified Regimes have already adopted measures to require contractual 
recognition of their special resolution regimes.\216\
---------------------------------------------------------------------------

    \215\ The Protocol-eligible Regime requirements of the Universal 
Protocol do not include a requirement that a law or regulation, such 
as the final rule, require parties to contractually opt in to the 
regime.
    \216\ One commenter requested clarification that a QFC of a 
covered entity with a non-U.S. credit support provider for the 
covered entity complies with the requirements of the final rule to 
the extent the covered entity has adhered to the relevant 
jurisdictional modular protocol for the jurisdiction of the non-U.S. 
credit support provider. The jurisdictional modular protocols for 
other counties do not satisfy the requirements of the final rule.
---------------------------------------------------------------------------

    With respect to the universal adherence feature of the Universal 
Protocol, commenters argued that universal adherence imposed 
significant monitoring burden since new adherents may join the 
Universal Protocol at any time. To address this concern, some 
commenters requested that an approved U.S. JMP allow a counterparty to 
adhere on a firm-by-firm or entity-by-entity basis. Other commenters 
suggested, or supported approval of, an approved U.S. JMP in which a 
counterparty would adhere to all current covered entities under the 
final rule (to be identified on a ``static list'') and would adhere to 
new covered entities on an entity-by-entity basis. This static list, 
commenters argued, would retain the ``universal adherence mechanics'' 
of the Universal Protocol and allow market participants to fulfill due 
diligence obligations related to compliance. Commenters also argued 
that universal adherence would be overbroad because the Universal 
Protocol could amend QFCs to which a covered entity or excluded bank 
was not a party. Certain commenters argued that adhering with respect 
to any counterparty would also be inconsistent with their fiduciary 
duties.
    In response to comments and to further facilitate compliance with 
the rule, the final rule provides that covered QFCs amended through 
adherence to the Universal Protocol or a new (and separate) protocol 
(the ``U.S. Protocol'') would be deemed to conform the covered QFCs to 
the requirements of the final rule.\217\ The U.S. Protocol may differ 
from the Universal Protocol in certain respects, as discussed below, 
but otherwise must be substantively identical to the Universal 
Protocol.\218\ Therefore, the reasons for deeming covered QFCs amended 
by the Universal Protocol to conform to the final rule, discussed above 
and in the proposal, apply to the U.S. Protocol.
---------------------------------------------------------------------------

    \217\ The final rule also provides that the Board may determine 
otherwise based on specific facts and circumstances. See final rule 
Sec.  252.85(a).
    \218\ Commenters expressed support for having the U.S. Protocol 
apply to both existing and future QFCs. One commenter requested that 
an approved U.S. JMP should apply only to QFCs governed by non-U.S. 
law because the U.S. Special Resolution Regimes already apply to 
QFCs governed by U.S. law. As discussed above, the final rule does 
not exempt a QFC solely because the QFC explicitly states that is 
governed by U.S. law. Moreover, such a limited application would 
reduce the desirable additional benefits of the Universal Protocol, 
discussed above.
---------------------------------------------------------------------------

    Consistent with the proposal \219\ and requests by commenters, the 
U.S. Protocol may limit the application of the provisions the Universal 
Protocol identifies as Section 1 and Section 2 to only covered entities 
and excluded banks.\220\ As requested by commenters, this limitation on 
the scope of the U.S. Protocol may ensure that the U.S. Protocol would 
only amend covered QFCs under this final rule or the substantively 
identical final rules expected to be issued by the OCC and FDIC and not 
also QFCs outside the scope of the agencies' final rules (i.e., QFCs 
between parties that are not covered entities or excluded banks).
---------------------------------------------------------------------------

    \219\ The proposal explained that a ``jurisdictional module for 
the United States that is substantively identical to the [Universal] 
Protocol in all respects aside from exempting QFCs between adherents 
that are not covered entities or covered banks would be consistent 
with the current proposal.'' 81 FR 29169, 29181 n.106 (May 11, 
2016).
    \220\ The final rule does not require the U.S. Protocol to 
retain the same section numbering as the Universal Protocol. The 
final rule allows the U.S. protocol to have minor and technical 
differences from the Universal Protocol. See final rule Sec.  
252.85(a)(3)(ii)(F).
---------------------------------------------------------------------------

    The final rule also provides that the U.S. Protocol is required to 
include the U.S. Special Resolution Regimes and the other Identified 
Regimes but is not required to include Protocol-eligible Regimes.\221\ 
As noted above, the Universal Protocol, as defined in the proposal, did 
not include any Country Annex for a Protocol-eligible Regime; the only 
special resolution regimes specifically identified in the Universal 
Protocol, as defined in the proposal, were the U.S. Special Resolution 
Regimes and the other Identified Regimes. As explained in the proposal, 
inclusion of the Identified Regimes should help facilitate the 
resolution of a GSIB across a broader range of circumstances.\222\ 
Inclusion of the Identified Regimes in the U.S. Protocol also should 
support laws and regulations similar to the final rule and help 
encourage GSIB entities in the United States to adhere to a protocol 
that includes all Identified Regimes. However, the final rule does not 
require the U.S. Protocol to include Protocol-eligible Regimes, 
including definitions and adherence mechanisms related to Protocol-
eligible Regimes.\223\ Inclusion of only the Identified Regimes in the 
U.S. Protocol, considered in light of the other benefits to the 
resolution of GSIBs provided by the Universal Protocol and U.S. 
Protocol as well as commenters' concerns with potential adherence to 
Protocol-eligible Regimes, should sufficiently advance the objective of 
the final rule to increase the likelihood that a resolution of a GSIB 
could be carried out in an orderly manner under a range of scenarios.
---------------------------------------------------------------------------

    \221\ See final rule Sec.  252.85(a)(3)(ii)(A). The U.S. 
Protocol is likewise not required to include definitions and 
adherence mechanisms related to Protocol-eligible Regimes. The final 
rule allows the U.S. Protocol to include minor and technical 
differences from the Universal Protocol and, similarly, differences 
necessary to conform the U.S. Protocol to the substantive 
differences allowed or required from the Universal Protocol. See 
final rule Sec.  252.85(a)(3)(ii)(E).
    \222\ 81 FR 29169, 29183 (May 11, 2016).
    \223\ See final rule Sec.  252.85(a)(3)(ii)(A).
---------------------------------------------------------------------------

    The U.S. Protocol does not permit parties to adhere on a firm-by-
firm or entity-by-entity basis because such adherence mechanisms 
requested by commenters would obviate one of the primary benefits of 
the Universal Protocol: Universal adherence. Similarly, the final rule 
does not permit adherence to a ``static list'' of all current covered 
entities, which other commenters requested.\224\ Although the static 
list would initially provide for universal adherence, the static list 
would not provide for universal adherence with respect to entities that 
became covered entities after the static list was finalized. To help 
ensure that the additional creditor protections of the Universal 
Protocol and U.S. Protocol continue to be justified, both protocols 
must ensure that the desirable features of the protocols, including 
universal adherence, continue to be present as GSIBs acquire 
subsidiaries with existing QFCs and existing organizations become 
designated as GSIBs.
---------------------------------------------------------------------------

    \224\ The final rule, however, does not prohibit the creation of 
a dynamic list identifying of all current ``Covered Parties,'' as 
would be defined in the U.S. Protocol, to facilitate due diligence 
and provide additional clarity to the market. See final rule Sec.  
252.85(a)(2)(ii)(E) (allowing minor and technical differences from 
the Universal Protocol).
---------------------------------------------------------------------------

    The final rule also addresses provisions that allow an adherent to 
elect that Section 1 and/or Section 2 of the Universal Protocol do not 
apply to the adherent's contracts.\225\ The Universal Protocol refers 
to these

[[Page 42911]]

provisions as ``opt-outs.'' The proposal explained that adherence to 
the Universal Protocol was an alternative method of compliance with the 
proposed rule and that covered QFCs that were not amended by the 
Universal Protocol must otherwise conform to the proposed rule. In 
other words, the proposal would have required that a covered QFC be 
conformed regardless of the method the covered entity and counterparty 
chooses to conform the QFC.\226\
---------------------------------------------------------------------------

    \225\ Section 4(b) of the Universal Protocol.
    \226\ Under the final rule, if an adherent to the Universal 
Protocol or U.S. Protocol exercises an available opt-out, covered 
entities with covered QFCs affected by the exercise would be 
required to otherwise conform the covered QFCs to the requirements 
of the rule.
---------------------------------------------------------------------------

    Consistent with the basic purposes of the proposed and final rules, 
the U.S. Protocol requires that opt-outs exercised by its adherents 
will only be effective to the extent that the affected covered QFCs 
otherwise conform to the requirements of the final rule. Therefore, the 
U.S. Protocol allows counterparties to exercise available opt-out 
rights in a manner that also allows covered entities to ensure that 
their covered QFCs continue to conform to the requirements of the rule.
    The final rule also provides that, under the U.S. Protocol, the 
opt-out in Section 4(b)(i)(A) of the attachment to the Universal 
Protocol (Sunset Opt-out) \227\ must not apply with respect to the U.S. 
Special Resolution Regimes because the opt-out is no longer relevant 
with respect to the U.S. Special Resolution Regimes. This final rule, 
along with the substantively identical rules expected to be issued by 
the FDIC and OCC, should prevent exercise of the Sunset Opt-out with 
respect to the U.S. Special Resolution Regimes under the Universal 
Protocol. Inapplicability of this opt-out with respect to U.S. Special 
Resolution Regimes in the U.S. Protocol should provide additional 
clarity to adherents that the U.S. Protocol will continue to provide 
for universal adherence after January 1, 2018.
---------------------------------------------------------------------------

    \227\ See Section 4(b)(i)(A) of the Universal Protocol.
---------------------------------------------------------------------------

    The final rule also expressly addresses a provision in the 
Universal Protocol that concerns the client-facing leg of a cleared 
transaction. As discussed above, the final rule, like the proposal, 
does not exempt the client-facing leg of a cleared transaction. 
Therefore, the U.S. Protocol must not include the exemption in Section 
2 of the Universal Protocol regarding the client-facing leg of the 
transaction.\228\
---------------------------------------------------------------------------

    \228\ Section 2 of the Universal Protocol provides an exemption 
for any client-facing leg of a cleared transaction. See Section 2(k) 
of the Universal Protocol and the definition of ``Cleared Client 
Transaction.'' The final rule does not amend the proposal's 
treatment of QFCs that are ``Cleared Client Transactions'' under the 
Universal Protocol, but requires that the provisions of that section 
must not apply with respect to the U.S. Protocol. See final rule 
Sec.  252.85(a)(3)(ii)(D).
---------------------------------------------------------------------------

F. Process for Approval of Enhanced Creditor Protections (Section 
252.85 of the Final Rule)

    As discussed above, the restrictions of the final rule leaves many 
creditor protections that are commonly included in QFCs unaffected. The 
final rule also allows any covered entity to submit to the Board a 
request to approve as compliant with the rule one or more QFCs that 
contain additional creditor protections--that is, creditor protections 
that would be impermissible under the restrictions set forth 
above.\229\ A covered entity making such a request would be required to 
provide an analysis of the contractual terms for which approval is 
requested in light of a range of factors that are set forth in the 
final rule and intended to facilitate the Board's consideration of 
whether permitting the contractual terms would be consistent with the 
proposed restrictions.\230\ The Board also expects to consult with the 
FDIC and OCC during its consideration of such a request.
---------------------------------------------------------------------------

    \229\ See final rule Sec.  252.85(b).
    \230\ Final rule Sec.  252.85(d)(1)-(10).
---------------------------------------------------------------------------

    The first two factors concern the potential impact of the requested 
creditor protections on GSIB resilience and resolvability. The next 
four concern the scope of the final rule: Adoption on an industry-wide 
basis, coverage of existing and future transactions, coverage of one or 
multiple QFCs, and coverage of some or all covered entities. Creditor 
protections that may be applied on an industry-wide basis may help to 
ensure that impediments to resolution are addressed on a uniform basis, 
which could increase market certainty, transparency, and equitable 
treatment. Creditor protections that apply broadly to a range of QFCs 
and covered entities would increase the chances that all of a GSIB's 
QFC counterparties would be treated the same way during a resolution of 
that GSIB and may improve the prospects for an orderly resolution of 
that GSIB. By contrast, proposals that would expand counterparties' 
rights beyond those afforded under existing QFCs would conflict with 
the proposal's goal of reducing the risk of mass unwinds of GSIB QFCs. 
The final rule also includes three factors that focus on the creditor 
protections specific to supported parties. The Board may weigh the 
appropriateness of additional protections for supported QFCs against 
the potential impact of such provisions on the orderly resolution of a 
GSIB.
    In addition to analyzing the request under the enumerated factors, 
a covered entity requesting that the Board approve enhanced creditor 
protections would be required to submit a legal opinion stating that 
the requested terms would be valid and enforceable under the applicable 
law of the relevant jurisdictions, along with any additional relevant 
information requested by the Board.\231\
---------------------------------------------------------------------------

    \231\ See final rule Sec.  252.85(b)(3)(ii)-(iii).
---------------------------------------------------------------------------

    Under the final rule, the Board could approve a request for an 
alternative set of creditor protections if the terms of the QFC, as 
compared to a covered QFC containing only the limited creditor 
protections permitted by the final rule, would prevent or mitigate 
risks to the financial stability of the United States that could arise 
from the failure of a GSIB and would protect the safety and soundness 
of bank holding companies and state member banks to at least the same 
extent.\232\ Once approved by the Board, enhanced creditor protections 
could be used by other covered entities (in addition to the covered 
entity that submitted the request for Board approval), as appropriate. 
The request-and-approval process would improve flexibility by allowing 
for an industry-proposed alternative to the set of creditor protections 
permitted by the final rule while ensuring that any approved 
alternative would serve the final rule's policy goals to at least the 
same extent as a covered QFC that complies fully with the final rule.
---------------------------------------------------------------------------

    \232\ See final rule Sec.  252.85(c).
---------------------------------------------------------------------------

    Commenters requested that this approval process be made less 
burdensome and more flexible and urged for additional clarifications on 
the process for submitting and approving such requests (e.g., whether 
approvals would be published in the Federal Register). For example, 
commenters requested the final rule include a reasonable timeline 
(e.g., 180 days) by which the Board would approve or deny a request. 
Certain commenters urged that counterparties and trade groups, in 
addition to covered entities, should be permitted to make such 
requests. One commenter noted that the proposal's approval process 
would have created a free-rider problem, where parties that submit 
enhanced creditor protection conditions for Board approval bear the 
full cost of learning which remedies are available for creditors while 
other parties will gain that information for free. Commenters contended 
that the provision requiring a ``written legal opinion verifying the 
proposed

[[Page 42912]]

provisions and amendments would be valid and enforceable under 
applicable law of the relevant jurisdictions'' should be eliminated as 
unnecessary.\233\ Additionally, commenters also urged that the 
provision should be broadened to allow approvals of provisions not 
directly related to enhanced creditor protections.
---------------------------------------------------------------------------

    \233\ One commenter also suggested permitting amendments to QFCs 
to be accomplished through a confirmation document for a new 
agreement or by email instead of a formal amendment of the QFC 
signed by the parties. The final rule does not prescribe a specific 
method for amending covered QFCs.
---------------------------------------------------------------------------

    The Board has clarified that the Board could approve an alternative 
proposal of additional creditor protections as compliant with sections 
252.83 and 252.84 of the final rule, but has not otherwise modified 
these provisions of the proposal in response to changes requested by 
commenters. The provisions contain flexibility and guidance on the 
process for submitting and approving enhanced creditor protections. The 
final rule directly places requirements only on covered entities, and 
thus only covered entities are eligible to submit requests pursuant to 
these provisions. In response to commenters' concerns, the Board notes 
that the final rule does not prevent multiple covered entities from 
presenting one request and does not prevent covered entities from 
seeking the input of counterparties when developing a request. The 
final rule does not provide a maximum time to review proposals because 
proposals could vary greatly in complexity and novelty. The final rule 
also maintains the provision requiring a written legal opinion, which 
helps ensure that proposed provisions are valid and enforceable under 
applicable law. The final rule does not expand the approval process 
beyond additional creditor protections; however, revisions to aspects 
of the final rule may be made through the rulemaking process.

III. Transition Periods

    Under the proposal, the rule would have required compliance on the 
first day of the first calendar quarter beginning at least one year 
after the issuance of the final rule, which the proposal referred to as 
the effective date.\234\ A number of commenters urged the Board to 
adopt a phased-in approach to compliance that would extend the 
compliance deadline for covered QFCs with certain types of 
counterparties in order to allow time for necessary client outreach and 
education, especially for non-GSIB counterparties that may be 
unfamiliar with the Universal Protocol or the final rule's 
requirements. These commenters contended that the original compliance 
period of one year should be limited to counterparties that are banks, 
broker-dealers, swap dealers, security-based swap dealers, major swap 
participants, and major security-based swap participants. These 
commenters urged that the compliance period for QFCs with asset 
managers, commodity pools, private funds, and other entities that are 
predominantly engaged in activities that are financial in nature within 
the meaning of section 4(k) of the BHC Act should be extended for six 
months after the date of the original compliance period identified in 
the proposed rule. Finally, these commenters argued that the compliance 
period for QFCs with all other counterparties should be extended for 12 
months after the date of the original compliance period identified in 
the proposed rule as these counterparties are likely to be least 
familiar with the requirements of the final rule.
---------------------------------------------------------------------------

    \234\ See proposed rule Sec.  252.82(b). Under section 302(b) of 
the Riegle Community Development and Regulatory Improvement Act of 
1994, new Board regulations that impose requirements on insured 
depository institutions generally must ``take effect on the first 
day of a calendar quarter which begins on or after the date on which 
the regulations are published in final form.'' 12 U.S.C. 4802(b).
---------------------------------------------------------------------------

    One commenter suggested that the rule should take effect no sooner 
than one year from the date that an approved U.S. JMP is published and 
available for adherence, including any additional time it might take to 
seek the Board's approval of it. Certain commenters requested that the 
compliance deadline for covered QFCs entered into by an agent on behalf 
of a principal be extended by six months as well. Other commenters, 
however, cautioned against an approach that would impose different 
deadlines with respect to different classes of QFCs, as opposed to 
counterparty types, since the main challenge in connection with the 
remediation is the need for outreach to and education of 
counterparties. These commenters contended that once a counterparty has 
become familiar with the requirements of the rule and the terms of the 
required amendments, it would be more efficient to remediate all 
covered QFCs with the counterparty at the same time.
    A number of commenters also requested that the Board confirm that 
entities acquired by a GSIB, and thereby become new covered entities, 
have until the first day of the first calendar quarter immediately 
following one year after becoming covered entities to conform their 
existing QFCs. Commenters argued that this would allow the GSIB to 
conform existing QFCs in an orderly fashion without impairing the 
ability of covered entities to engage in corporate activities. These 
commenters also requested clarification that, during that conformance 
period, affiliates of covered entities would not be prohibited from 
entering into new transactions or QFCs with counterparties of the newly 
acquired entity if the existing covered entities otherwise comply with 
the rule's requirements. Some commenters urged the Board to exclude 
existing contracts from the final rule's requirements and only apply 
the rule on a prospective basis.
    The effective date for the final rule is 60 days following 
publication in the Federal Register. However, in order to reduce the 
compliance burden of the final rule, the Board has adopted a phased-in 
compliance schedule, as requested by commenters. The final rule 
provides that a covered entity must conform a covered QFC to the 
requirements of this final rule by the first day of the calendar 
quarter immediately following one year from the effective date of this 
subpart with respect to covered QFCs with other covered entities and 
excluded banks (referred to in this discussion as the ``first 
compliance date'').\235\ This provision allows the counterparties that 
should be most familiar with the requirements of the final rule over 
one year to conform with the rule's requirements. Moreover, this is a 
relatively small number of counterparties that would need to modify 
their QFCs in the first year following the effective date of the final 
rule, and many covered entities and excluded banks with covered QFCs 
have already adhered to the Universal Protocol.
---------------------------------------------------------------------------

    \235\ See final rule Sec.  252.82(f)(1)(i). The definition of 
covered QFC of the final rule has been revised to make clear that, 
consistent with the proposal, a covered QFC is a QFC that the 
covered entity becomes a party to on or after the first day of the 
calendar quarter immediately following one year from the effective 
date of this subpart. See final rule Sec.  252.82(c). As discussed 
above, a covered entity's in-scope QFC that is entered into before 
this date may also be a covered QFC if the covered entity or any 
affiliate that is a covered entity or excluded bank also becomes a 
party to a QFC with the same counterparty or a consolidated 
affiliate of the same counterparty on or after the first compliance 
date. See id.
---------------------------------------------------------------------------

    The final rule provides additional time for compliance with the 
requirements for other types of counterparties. In particular, for 
other types of financial counterparties \236\ (other than small 
financial institutions) \237\, the final rule provides

[[Page 42913]]

approximately 18 months from the effective date of the final rule for 
compliance with its requirements, as requested by commenters.\238\ For 
community banks and other non-financial counterparties, the final rule 
provides approximately two years from the effective date of the final 
rule for compliance with its requirements, as requested by 
commenters.\239\ Adopting a phased-in compliance approach based on the 
type (and, in some cases, size) of the counterparty will allow market 
participants time to adjust to the new requirements and make required 
changes to QFCs in an orderly manner. It will also give time for 
development of the U.S. Protocol or any other protocol that would meet 
the requirements of the final rule.
---------------------------------------------------------------------------

    \236\ See final rule Sec.  252.81 (defining ``financial 
counterparty'').
    \237\ The final rule defines small financial institution as an 
insured bank, insured savings association, farm credit system 
institution, or credit union with assets of $10,000,000,000 or less. 
See final rule Sec.  252.81.
    \238\ See final rule Sec.  252.82(f)(1)(ii).
    \239\ See final rule Sec.  252.82(f)(1)(iii).
---------------------------------------------------------------------------

    The Board is giving this additional time for compliance to respond 
to concerns raised by commenters. The Board encourages covered entities 
to start planning and outreach efforts early in order to come into 
compliance with the rule on the time frames provided. The Board 
believes that this additional time for compliance should also address 
concerns raised by commenters regarding the burden of conforming 
existing contracts by allowing firms additional time to conform all 
covered QFCs to the requirements of the final rule.
    Although the phased-in compliance period does not contain special 
rules related to acting as an agent as requested by certain commenters, 
the rule has been modified as described above to clarify that a covered 
entity does not become a party to a QFC solely by acting as agent with 
respect to the QFC.\240\
---------------------------------------------------------------------------

    \240\ See final rule Sec.  252.82(e)(1).
---------------------------------------------------------------------------

    Entities that are covered entities when the final rule is effective 
would be required to comply with the requirements of the final rule 
beginning on the first compliance date. Thus, a covered entity would be 
required to ensure that covered QFCs entered into on or after the first 
compliance date comply with the rule's requirements but would be given 
more time to conform such covered QFCs with entities that are not 
covered entities or excluded banks.\241\ Moreover, a covered entity 
would be required to bring an in-scope QFC entered into prior to the 
first compliance date into compliance with the rule no later than the 
applicable date of the tiered compliance dates (discussed above) if the 
covered entity or an affiliate (that is also a covered entity or 
excluded bank) enters into a new covered QFC with the counterparty to 
the pre-existing covered QFC or a consolidated affiliate of the 
counterparty on or after the first compliance date.\242\ (Thus, a 
covered entity would not be required to conform a pre-existing QFC if 
that covered entity and its covered entity and excluded bank affiliates 
do not enter into any new QFCs with the same counterparty or its 
consolidated affiliates on or after the first compliance date.)
---------------------------------------------------------------------------

    \241\ See final rule Sec. Sec.  252.82(c)(1), 252.82(f)(1).
    \242\ See id.
---------------------------------------------------------------------------

    In addition, an entity that becomes a covered entity after the 
effective date of the final rule (a ``new covered entity'' for purposes 
of this preamble) generally has the same period of time to comply as an 
entity that is a covered entity on the effective date (i.e., compliance 
will phase in over a two-year period based on the type of 
counterparty).\243\ The final rule also clarifies that a covered QFC, 
with respect to a new covered entity, means an in-scope QFC that the 
new covered entity becomes a party to (1) on the date the covered 
entity first becomes a covered entity, and (2) before that date, if the 
covered entity or one of its affiliates that is a covered entity or 
exempt bank also enters, executes, or otherwise becomes a party to a 
QFC with the same counterparty or a consolidated affiliate of the 
counterparty after that date.\244\ Under the final rule, a company that 
is a covered entity on the effective date of the final rule (an 
``existing covered entity'' for purposes of this preamble) and becomes 
an affiliate of a new covered entity generally must conform any 
existing but non-conformed in-scope QFC that the existing covered 
entity continues to have with a counterparty after the applicable 
initial compliance date by the date the new covered entity enters a QFC 
with the same counterparty (or any of its consolidated affiliates) or 
within a reasonable period thereafter. Acquisitions of new entities are 
planned in advance and should include preparing to comply with 
applicable laws and regulations.
---------------------------------------------------------------------------

    \243\ See final rule Sec.  252.82(f)(2).
    \244\ See final rule Sec.  252.82(c)(2).
---------------------------------------------------------------------------

    Certain commenters opposed application of the requirements of the 
rule to existing QFCs, requesting instead that the final rule only 
apply to QFCs entered into after the effective date of any final rule 
and that all pre-existing QFCs not be subject to the rule's 
requirements. Commenters suggested that end users of QFCs with GSIB 
affiliates might not have entered into existing contracts without the 
default rights prohibited in the proposed rule and that revising 
existing QFCs would be time-consuming and expensive. Commenters pointed 
out that this treatment would be consistent with the final rules in the 
United Kingdom and the statutory requirements adopted by Germany.
    The Board does not believe it is appropriate to exclude all pre-
existing QFCs because of the current and future risk that existing 
covered QFCs pose to the orderly resolution of a covered entity. 
Moreover, application of different default rights to existing and 
future transactions within a netting set could cause the netting set to 
be broken, which commenters noted could increase burden to both parties 
to the netting set.\245\ Therefore, the final rule requires an existing 
QFC between a covered entity and a counterparty to be conformed to the 
requirements of the final rule if the covered entity (or an affiliate 
that is a covered entity or excluded bank) enters into another QFC with 
the counterparty or its consolidated affiliate on or after the first 
day of the calendar quarter immediately following one year from the 
effective date of the final rule.\246\ By permitting a covered entity 
to remain a party to noncompliant QFCs entered before the effective 
date unless the covered entity or any affiliate (that is also a covered 
entity or excluded bank) enters into new QFCs with the same 
counterparty or its affiliates, the final rule strikes a balance 
between ensuring QFC continuity if the GSIB were to fail and ensuring 
that covered entities and their existing counterparties can manage any 
compliance costs and disruptions associated with conforming existing 
QFCs by refraining from entering into new QFCs. The requirement that a 
covered entity ensure that all existing QFCs with a particular 
counterparty and its affiliates are compliant before it or any 
affiliate of the covered entity (that is also a covered entity or 
excluded bank) enters into a new QFC with the same counterparty or its 
affiliates after the effective date will provide covered entities with 
an incentive to seek the modifications necessary to ensure that their 
QFCs with their most important counterparties are compliant. Moreover, 
the volume of noncompliant covered

[[Page 42914]]

QFCs outstanding can be expected to decrease over time and eventually 
to reach zero. In light of these considerations, and to avoid creating 
potentially inappropriate compliance costs with respect to existing 
QFCs with counterparties that, together with their consolidated 
affiliates, do not enter into new covered QFCs with the GSIB on or 
after the first day of the calendar quarter that is one year from the 
effective date of the final rule, it would be appropriate to permit a 
limited number of noncompliant QFCs to remain outstanding, in keeping 
with the terms described above. Moreover, the final rule also excludes 
existing warrants and retail investment advisory agreements to address 
concerns raised by commenters and mitigate burden.\247\ That said, the 
Board will monitor covered entities' levels of noncompliant QFCs and 
evaluate the risk, if any, that they pose to the safety and soundness 
of the GSIBs or to U.S. financial stability.
---------------------------------------------------------------------------

    \245\ The requirements of the final rule, particularly those of 
section 252.84, may have a different impact on netting, including 
close-out netting, than the U.K. and German requirements cited by 
commenters.
    \246\ Subject to any compliance date applicable to the covered 
entity, the Board expects a covered entity to conform existing QFCs 
that become covered QFCs within a reasonable period.
    \247\ See final rule Sec.  252.88(c).
---------------------------------------------------------------------------

IV. Costs and Benefits

    The Board invited comment on its evaluation of the costs and 
benefits of the proposal. In response to comments received, the Board 
has made a number of changes to the proposal that are expected to 
reduce costs and burdens of compliance with the final rule while at the 
same time ensuring that the final rule serves its intended purposes.
    A number of commenters argued that particular aspects of the 
proposal were burdensome and costly as described throughout this 
SUPPLEMENTARY INFORMATION. One commenter stated that the proposal was 
overly complex and difficult for market participants to evaluate and 
for courts to interpret, which could lead to potentially different or 
conflicting interpretations.\248\ Another commenter contended that the 
Board has not adequately considered the litigation costs that will 
result from the final rule's heightened burden of proof. Certain 
commenters expressed the view that the proposal made unquantified 
assumptions about the costs, provided no evidence that benefits would 
outweigh the costs, and did not discuss the impact of the requirements 
for particular market segments (e.g., physical commodity markets). 
Certain commenters urged the Board to consider the costs of the 
contractual default rights lost under the rule and to consider the 
compliance costs and additional collateral costs the rule will impose 
on non-GSIB parties to QFCs (including parties not regulated by the 
Board), particularly in stress scenarios where the non-GSIB party 
cannot require the GSIB counterparty to post collateral. Some 
commenters contended that GSIB entities will have to compensate 
sophisticated non-covered entities for the additional risks they are 
forced to incur if forced to give up default rights and will bear the 
cost of the economic barriers to engaging in international finance that 
follow from this rule. A few commenters argued that, before the Board 
proceeds to finalize this rule, the Board should conduct a study and 
assessment of the costs and benefit as well as the market impact of the 
proposed rules, the TLAC rules, and the broader FSB initiatives, with a 
specific focus on application to existing default rights and the impact 
on all affected market participants.
---------------------------------------------------------------------------

    \248\ Some commenters requested that the rule be rewritten to be 
more understandable to non-covered entity counterparties and that 
the Board release FAQs regarding this final rule that are 
understandable to non-financial counterparties. The Board has 
endeavored to clarify the final rule as much as possible and has 
discussed those clarifications throughout this SUPPLEMENTARY 
INFORMATION. The Board does not believe FAQs for this final rule are 
required at this time, but will consider the need for such FAQs in 
the future.
---------------------------------------------------------------------------

    Other commenters pointed out that since large banks already adhere 
to the Universal Protocol, more than 90 percent of outstanding notional 
swaps are already subject to stays. These commenters argued that 
further study and analysis was needed to determine whether it is 
necessary to restrict end-user default rights by subjecting them 
indirectly to the proposed rule to capture the remaining 10 percent of 
the swaps market, including why the benefits outweigh the costs. 
Commenters also urged further analysis of why other categories of QFCs 
present the same concerns as swaps such that it is necessary for the 
Board to alter default rights contained therein (e.g., commodity and 
forward contracts) and the likely effect of the proposed rule on the 
markets for such QFCs.
    One commenter argued that the benefits of the proposal likely 
substantially outweigh the costs. This commenter contended that the 
losses in the Lehman bankruptcy alone due to the ability of 
counterparties to close out QFCs and seize collateral destroyed 
millions if not billions of dollars and argued that the exemption of 
QFCs from the automatic stay of the U.S. Bankruptcy Code has 
effectively subsidized the cost of credit extended among QFC 
participants. In this commenter's view, any increase in the cost of 
QFCs relative to other financial instruments does not reflect true 
additional cost but rather reflects the loss of this implicit subsidy. 
The commenter estimated that the 2008 financial crisis following the 
Lehman bankruptcy had an estimated cost in lost or avoided gross 
domestic product of more than $20 trillion.
    The final rule is intended to yield substantial net benefits for 
the financial stability of the United States by reducing the potential 
that resolution of a GSIB, particularly a resolution in bankruptcy, 
will be disorderly and disruptive to financial stability. These 
benefits are expected to substantially outweigh the costs associated 
with the final rule.
    The costs of the final rule to covered entities and their QFC 
counterparties would generally be of three types. The first cost would 
be the cost to QFC counterparties arising from the relinquishment of 
certain rights, such as cross-default rights, that would have been 
permitted prior to the rule. However, the costs of restricting such 
rights are expected to be low as the nature of the rights that are 
restricted is narrow, the likelihood of exercising such rights is low, 
and other forms of protection are available that are not prohibited by 
the rule.
    The second cost associated with the rule is the cost of lost 
revenue for covered entities that might result if non-covered entity 
counterparties refuse to engage in QFCs with covered entities as a 
result of the reduction in rights required by the rule. This cost, 
however, only accrues in the aggregate to the financial system to the 
extent that non-covered entity counterparties refuse to engage in QFCs 
with any counterparty. Third and finally, this rule imposes costs on 
covered entities and non-covered entities to the extent that they are 
required to bear legal and administrative costs associated with 
drafting and negotiating compliant contracts. These costs are expected 
to be small relative to the costs of doing business in the financial 
sector generally. Moreover, the final rule explicitly allows for the 
use of standardized industry protocols in lieu of complying with the 
terms of the rule, which should reduce the legal and administrative 
costs associated with complying with the rule.
    The Board has taken into account the information regarding costs 
and benefits provided by commenters and modified the proposed rule to 
reduce costs. To reduce the overall burden, the final rule contains a 
number of changes to respond to commenter concerns. As described above, 
the final rule reduces compliance and negotiating costs by excluding 
contracts from the scope of ``covered QFCs'' subject to the 
requirements of the final rule to the extent the contract contains no 
default, cross-default, or transfer restrictions.

[[Page 42915]]

Commenters argued that remediating such contracts would be costly 
without an attendant benefit to resolution of a GSIB. The final rule 
also only requires remediation of existing contracts with a 
counterparty if the counterparty or a consolidated affiliate of the 
counterparty enters into a new QFC with the covered entity (or certain 
affiliates). This change to consolidated affiliate is in response to 
many commenters' argument that burden would be mitigated by defining 
counterparties by reference to financial consolidation. Additionally, 
in certain cases, where remediation of existing contracts would be 
difficult, the Board excludes such existing contracts from the scope of 
coverage of the requirements of the final rule. Finally, the final rule 
allows for the application of two standardized industry protocols as a 
means of complying with the requirements of the final rule. Adhering to 
an industry protocol will provide for a low cost and efficient means of 
compliance that does not result in excessive amounts of legal or 
administrative costs.
    The final rule similarly excludes from section 252.83 contracts 
that are with U.S. counterparties and governed by U.S. law. Commenters 
argued that renegotiating these contracts would be burdensome with no 
benefit to resolution. The final rule has also been modified to address 
concerns raised by foreign GSIBs regarding QFCs under multi-branch 
master agreements by excluding from the rule QFCs where only payment or 
delivery may be made at a U.S. branch or agency. Foreign GSIB 
commenters urged that this change would eliminate the need under the 
proposal to modify thousands of contracts at great cost.
    The final rule also provides a longer transition period requested 
by commenters for certain counterparties in order to help mitigate the 
compliance burden on covered entities and their counterparties.
    The Board believes that the changes above address many of the 
significant concerns raised by commenters regarding the burdens of the 
proposed rule and should serve to mitigate the compliance costs of the 
final rule. The Board also notes that application of the final rule is 
limited to GSIBs and believes that this approach to limiting the 
application of this final rule sensibly balances the costs and benefits 
of the rule by effectively managing systemic risk while at the same 
time limiting the burden of compliance by not requiring non-GSIB firms 
to comply with any part of this final rule.
    Additionally, the stay-and-transfer provisions of the Dodd-Frank 
Act and the FDI Act are already in force, and the Universal Protocol is 
already partially effective. This observation provides further support 
for the view that any marginal costs created by the final rule--which 
is intended to extend the effects of the stay-and-transfer provisions 
under those acts and the Universal Protocol--are unlikely to be 
material.
    Thus, the costs of the final rule are likely to be small relative 
to its benefits. These relatively small costs appear to be 
significantly outweighed by the substantial benefits that the rule 
would produce for the U.S. economy. Financial crises impose enormous 
costs on the real economy, so even small reductions in the probability 
or severity of future financial crises create substantial economic 
benefits. The final rule would materially reduce the risk to the 
financial stability of the United States that could arise from the 
severe distress or failure of a GSIB by enhancing the prospects for the 
orderly resolution of such a firm and would thereby materially reduce 
the probability and severity of financial crises in the future. The 
final rule would therefore advance a key objective of the Dodd-Frank 
Act and help protect the American economy from the substantial costs 
associated with more frequent and severe financial crises.
    In addition, the final rule would likely benefit subsidiaries of a 
failed GSIB, as well as their counterparties and creditors, by helping 
to prevent the disorderly failure of the subsidiaries and allowing them 
to continue to meet their obligations. Moreover, non-covered entity 
counterparties may choose to engage in QFCs with non-GSIB 
counterparties, in which case revenue that is lost by a GSIB may be 
recouped by a non-GSIB and aggregate QFC activity by the financial 
system would not decline.

V. Revisions to Certain Definitions in the Board's Capital and 
Liquidity Rules

    The final rule also amends several definitions in the Board's 
capital and liquidity rules to help ensure that the final rule would 
not have unintended effects for the treatment of covered entities' 
netting sets under those rules. The amendments are similar to the 
proposed rule as well as revisions that the Board and the OCC made in a 
2014 interim final rule to prevent similar effects from foreign 
jurisdictions' special resolution regimes and firms' adherence to the 
2014 Universal Protocol.\249\
---------------------------------------------------------------------------

    \249\ See 12 CFR part 217.
---------------------------------------------------------------------------

    The Board's regulatory capital rules permit a banking organization 
to measure exposure from certain types of financial contracts on a net 
basis and recognize the risk-mitigating effect of financial collateral 
for other types of exposures, provided that the contracts are subject 
to a ``qualifying master netting agreement'' or agreement that provides 
for certain rights upon the default of a counterparty.\250\ The Board 
has defined ``qualifying master netting agreement'' to mean a netting 
agreement that permits a banking organization to terminate, apply 
close-out netting, and promptly liquidate or set off collateral upon an 
event of default of the counterparty, thereby reducing its counterparty 
exposure and market risks.\251\ On the whole, measuring the amount of 
exposure of these contracts on a net basis, rather than on a gross 
basis, results in a lower measure of exposure and thus a lower capital 
requirement.
---------------------------------------------------------------------------

    \250\ See id.
    \251\ See 12 CFR 217.2.
---------------------------------------------------------------------------

    The current definition of ``qualifying master netting agreement'' 
recognizes that default rights may be stayed if the financial company 
is in resolution under the Dodd-Frank Act, the FDI Act, a substantially 
similar law applicable to government-sponsored enterprises, or a 
substantially similar foreign law, or where the agreement is subject by 
its terms to any of those laws. Accordingly, transactions conducted 
under netting agreements where default rights may be stayed in those 
circumstances may qualify for the favorable capital treatment described 
above. However, the current definition of ``qualifying master netting 
agreement'' does not recognize the restrictions that the final rule 
would impose on the QFCs of covered entities. Thus, a master netting 
agreement that is compliant with the final rule would not qualify as a 
qualifying master netting agreement. This would result in considerably 
higher capital and liquidity requirements for QFC counterparties of 
covered entities, which is not an intended effect of the final rule.
    Accordingly, the final rule amends the definition of ``qualifying 
master netting agreement'' so that a master netting agreement could 
qualify for such treatment where the right to accelerate, terminate, 
and close-out on a net basis all transactions under the agreement and 
to liquidate or set off collateral promptly upon an event of default of 
the counterparty is consistent with the

[[Page 42916]]

requirements of the final rule. This revision maintains the existing 
treatment for these contracts under the Board's capital and liquidity 
rules by accounting for the restrictions that the final rule, or the 
substantively identical rules expected to be issued by the FDIC and 
OCC, would place on default rights related to covered entities' and 
excluded banks' QFCs. The Board does not believe that the 
disqualification of master netting agreements that would result in the 
absence of the amendment would accurately reflect the risk posed by the 
affected QFCs. As discussed above, the implementation of consistent 
restrictions on default rights in GSIB QFCs would increase the 
prospects for the orderly resolution of a failed GSIB and thereby 
protect the financial stability of the United States.
    The final rule similarly revises certain other definitions in the 
regulatory capital rules to make analogous conforming changes designed 
to account for the final rule's restrictions and ensure that a banking 
organization may continue to recognize the risk-mitigating effects of 
financial collateral received in a secured lending transaction, repo-
style transaction, or eligible margin loan for purposes of the Board's 
rules. Specifically, the final rule revises the definitions of 
``collateral agreement,'' ``eligible margin loan,'' and ``repo-style 
transaction'' to provide that a counterparty's default rights may be 
limited as required by the final rule without unintended effects.\252\
---------------------------------------------------------------------------

    \252\ As noted above, the FDIC and OCC are expected to issue 
substantively identical final rules in the near future. A Board-
regulated instiution that amends a qualifying master netting 
agreement, collateral agreement, eligible margin loan, or repo-style 
transaction to the extent necessary for its counterparty to conform 
the agreement to any final rules issued by the FDIC or OCC would 
continue to meet such definition under the Board's capital and/or 
liquidity rules, regardless of whether the agreement is amended 
before the effective date of any final rule issued by the FDIC or 
OCC.
---------------------------------------------------------------------------

    The rule establishing margin and capital requirements for covered 
swap entities (swap margin rule) defines the term ``eligible master 
netting agreement'' in a manner similar to the definition of 
``qualifying master netting agreement.'' \253\ Thus, it may also be 
appropriate to amend the definition of ``eligible master netting 
agreement'' to account for the restrictions on covered entities' QFCs. 
Because the Board issued the swap margin rule jointly with other U.S. 
regulatory agencies, however, the Board is consulting with the other 
prudential regulators regarding amending that rule's definition of 
``eligible master netting agreement.''
---------------------------------------------------------------------------

    \253\ 80 FR 74840, 74861-62 (Nov. 30, 2015).
---------------------------------------------------------------------------

    Certain commenters requested technical modifications to the 
proposed modifications to the definitions to better distinguish the 
requirements of section 252.84 and the provisions of Section 2 of the 
Universal Protocol from provisions regarding ``opt in'' to special 
resolution regimes. In response to this comment, the final rule 
establishes an independent exception addressing the requirements of 
section 252.84 and the provisions of Section 2 of the Universal 
Protocol and makes other minor clarifying edits.
    One commenter requested that the definitions of the terms 
``collateral agreement,'' ``eligible margin loan,'' ``qualifying master 
netting agreement,'' and ``repo-style transaction'' include references 
to stays in state resolution regimes (such as insurance receiverships). 
The commenters did not identify, and the Board is not aware of, any 
state resolution regime that currently includes QFC stays similar to 
those of the U.S. Special Resolution Regimes. Neither the nature of the 
potential laws nor the extent of their effect on the regulatory capital 
requirements of Board-regulated institutions is known. Therefore, the 
final rule does not reference state resolution regimes.
    One commenter argued that neither the current nor the proposed 
definition of qualifying master netting agreement comports with section 
302(a) of the Business Risk Mitigation and Price Stabilization Act of 
2015, which exempts certain types of counterparties from initial and 
variation margin requirements, and that the proposed amendments to the 
definition add unnecessary complexity to the Board's existing rules and 
therefore make compliance more difficult. Section 302(a) of that act is 
not relevant to the definition of qualifying master netting agreement 
because the definition does not require initial or variation margin. 
Rather, the definition of qualifying master netting agreement requires 
that margin provided under the agreement, if any, be able to be 
promptly liquidated or set off under the circumstances specified in the 
definition. The Board continues to believe that the amendments are 
necessary and do not substantially add to the complexity of the Board's 
rules.

VI. Regulatory Analysis

A. Paperwork Reduction Act

    Certain provisions of the final rule contain ``collection of 
information'' requirements within the meaning of the Paperwork 
Reduction Act (PRA) of 1995 (44 U.S.C. 3501 through 3521). The Board 
reviewed the final rule under the authority delegated to the Board by 
the Office of Management and Budget (OMB). The reporting requirements 
are found in sections 252.85(b) and 252.87(b) of the final rule. These 
information collection requirements would be implemented pursuant to 
section 165 of the Dodd-Frank Act, as well as its safety and soundness 
and other relevant authorities, as described in the Abstract below. In 
accordance with the requirements of the PRA, the Board may not conduct 
or sponsor, and the respondent is not required to respond to, an 
information collection unless it displays a currently valid OMB control 
number.
    The final rule would revise the Reporting, Recordkeeping, and 
Disclosure Requirements Associated with Enhanced Prudential Standards 
(Regulation YY) (Reg YY; OMB No. 7100-0350). In addition, as permitted 
by the PRA, the Board proposes to extend for three years, with 
revision, the Reporting, Recordkeeping, and Disclosure Requirements 
Associated with Enhanced Prudential Standards (Regulation YY) (Reg YY; 
OMB No. 7100-0350). The Board received no comments on the PRA.
    The Board has a continuing interest in the public's opinions of 
collections of information. At any time, commenters may submit comments 
regarding the burden estimate, or any other aspect of this collection 
of information, including suggestions for reducing the burden, to the 
ADDRESSES section. All comments will become a matter of public record. 
Additionally, commenters may send a copy of their comments to the OMB 
desk officer for the agency by mail to the Office of Information and 
Regulatory Affairs, U.S. Office of Management and Budget, New Executive 
Office Building, Room 10235, 725 17th Street NW., Washington, DC 20503; 
by fax to (202) 395-6974; or by email to oira_submission@omb.eop.gov.
Proposed Revision, With Extension, of the Following Information 
Collection
    Title of Information Collection: Reporting, Recordkeeping, and 
Disclosure Requirements Associated with Enhanced Prudential Standards 
(Regulation YY).
    Agency Form Number: Reg YY.
    OMB Control Number: 7100-0350.
    Frequency of Response: Annual, semiannual, quarterly, one-time, and 
on occasion.
    Affected Public: Businesses or other for-profit.
    Respondents: State member banks, U.S. bank holding companies, 
savings and loan holding companies, nonbank

[[Page 42917]]

financial companies, foreign banking organizations, U.S. intermediate 
holding companies, foreign savings and loan holding companies, and 
foreign nonbank financial companies supervised by the Board.
    Abstract: Section 165 of the Dodd-Frank Act requires the Board to 
implement enhanced prudential standards for bank holding companies with 
total consolidated assets of $50 billion or more, including global 
systemically important foreign banking organizations with $50 billion 
or more in total consolidated assets. Section 165 of the Dodd-Frank Act 
also permits the Board to establish such other prudential standards for 
such banking organizations as the Board determines are appropriate. 
This regulation is being implemented by the Board under section 165 of 
the Dodd-Frank Act, as well as its safety and soundness and other 
relevant authorities.\254\
---------------------------------------------------------------------------

    \254\ 12 U.S.C. 321-338a, 481-486, 1467a, 1818, 1828, 1831n, 
1831o, 1831p-l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 3101 
note, 3904, 3906-3909, 4808, 5361, 5362, 5365, 5366, 5367, 5368, 
5371.
---------------------------------------------------------------------------

Reporting Requirements
    Section 252.85(b) of the final rule would require a covered entity 
to request the Board to approve as compliant with the requirements of 
sections 252.83 and 252.84 of this subpart provisions of one or more 
forms of covered QFCs, or proposed amendments to one or more forms of 
covered QFCs, with enhanced creditor protection conditions. Enhanced 
creditor protection conditions means a set of limited exemptions to the 
requirements of section 252.84(b) of this subpart that are different 
than those of paragraphs (d), (f), and (h) of section 252.84 of this 
subpart. A covered entity making a request must provide (1) an analysis 
of the proposal under each consideration of paragraph 252.85(d) of this 
subpart; (2) a written legal opinion verifying that proposed provisions 
or amendments would be valid and enforceable under applicable law of 
the relevant jurisdictions, including, in the case of proposed 
amendments, the validity and enforceability of the proposal to amend 
the covered QFCs; and (3) any additional relevant information that the 
Board requests.
    Section 252.87(b) of the final rule would require each top-tier 
foreign banking organization that determines that it has the 
characteristics of a global systemically important banking organization 
under the global methodology to notify the Board of the determination 
by January 1 of each calendar year.\255\
---------------------------------------------------------------------------

    \255\ Global methodology means the assessment methodology and 
the higher loss absorbency requirement for global systemically 
important banks issued by the Basel Committee on Banking 
Supervision, as updated from time to time. 12 CFR 252.2(o).
---------------------------------------------------------------------------

Estimated Paperwork Burden for Proposed Revisions
    Estimated Number of Respondents:
    Section 252.85(b)--10 respondents.
    Section 252.87(b)--22 respondents.
    Estimated Burden per Response:
    Section 252.85(b)--40 hours.
    Section 252.87(b)--1 hour.
    Current estimated annual burden for Reporting, Recordkeeping, and 
Disclosure Requirements Associated with Enhanced Prudential Standards 
(Regulation YY): 118,842 hours.
    Proposed revisions estimated annual burden: 422 hours.
    Total estimated annual burden: 119,264 hours.

B. Regulatory Flexibility Act: Final Regulatory Flexibility Analysis

    The Regulatory Flexibility Act, 5 U.S.C. 601 et seq. (RFA), 
generally requires that an agency prepare and make available an initial 
regulatory flexibility analysis in connection with a notice of proposed 
rulemaking.
    The Board solicited public comment on this rule in a notice of 
proposed rulemaking \256\ and has considered the potential impact of 
this rule on small entities in accordance with section 604 of the RFA. 
Based on the Board's analysis, and for the reasons stated below, the 
Board believes the final rule will not have a significant economic 
impact on a substantial number of small entities.
---------------------------------------------------------------------------

    \256\ See 81 FR 29169 (May 11, 2016).
---------------------------------------------------------------------------

    Under regulations issued by the Small Business Administration, a 
small entity includes a depository institution, bank holding company, 
or savings and loan holding company with assets of $550 million or less 
(small banking entities).\257\ Based on data as of June 2017, there are 
approximately 3,758 bank holding companies, savings and loan holding 
companies, and state member banks that have total domestic assets of 
$550 million or less and thus are considered small entities for 
purposes of the RFA. Based on the Board's analysis, and for the reasons 
stated below, the Board believes the final rule will not have a 
significant economic impact on a substantial number of small entities.
---------------------------------------------------------------------------

    \257\ See 13 CFR 121.201. Effective July 14, 2014, the Small 
Business Administration revised the size standards for banking 
organizations to $550 million in assets from $500 million in assets. 
79 FR 33647 (June 12, 2014).
---------------------------------------------------------------------------

    1. Statement of the need for, and objectives of, the final rule.
    As discussed, the Board is issuing this final rule as part of its 
program to make GSIBs more resolvable in order to reduce the risk that 
their failure would pose to the financial stability of the United 
States, consistent with section 165 of the Dodd-Frank Act. In 
particular, the primary purpose of the final rule is to reduce the risk 
that the exercise of default rights by a failing GSIB's QFC 
counterparties would lead to a disorderly failure of the GSIB and would 
produce negative contagion and disruption that could destabilize the 
U.S. financial system.
    2. Significant issues raised by the public comments in response to 
the IRFA and comments filed by the Chief Counsel for Advocacy of the 
Small Business Administration in response to the proposed rule and 
summary of any changes made in the proposed rule as a result of such 
comments.
    Commenters did not raise any issues in response to the IRFA. The 
Chief Counsel for Advocacy of the Small Business Administration did not 
file any comments in response to the proposed rule.
    3. Description and estimate of the number of small entities to 
which the final rule will apply.
    The final rule's requirements to conform covered QFCs would only 
apply to GSIBs, which are the largest, most systemically important 
banking organizations, and certain of their subsidiaries. More 
specifically, the final rule would apply to (a) any U.S. GSIB top-tier 
bank holding company, (b) any subsidiary of such a bank holding company 
other than the exceptions described in the SUPPLEMENTARY INFORMATION 
above for institutions regulated by the FDIC and OCC and certain 
investments, and (c) the U.S. operations of any foreign GSIB other than 
the exceptions described in the SUPPLEMENTARY INFORMATION above for 
institutions regulated by the FDIC and OCC and certain investments. The 
Board estimates that these requirements would apply to approximately 30 
banking organizations: Eight U.S. bank holding companies (i.e., U.S. 
GSIBs) and approximately 22 foreign banking organizations (i.e., 
foreign GSIBs with U.S. operations). None of these banking 
organizations would qualify as a small banking entity for the purposes 
of the RFA. However, as discussed above, the final rule also applies to 
each covered GSIB's subsidiary that meets the definition of a covered 
entity (regardless of the subsidiary's size) because an

[[Page 42918]]

exemption for small entities would significantly impair the 
effectiveness of the proposed stay-and-transfer provisions and thereby 
undermine a key objective of the final rule: To reduce the execution 
risk of an orderly GSIB resolution. The Board anticipates that any 
small subsidiary of a GSIB that is covered by this final rule would 
rely on its parent GSIB or a large subsidiary of that GSIB for 
reporting, recordkeeping, or similar compliance requirements and would 
not bear additional costs.
    Section 252.87(b) of the final rule would require each top-tier 
foreign banking organization that determines that it has the 
characteristics of a global systemically important banking organization 
under the global methodology to notify the Board of the determination 
by January 1 of each calendar year.\258\ All of these organizations by 
definition have $50 billion or more in total consolidated assets. None 
of these banking organizations would qualify as a small banking entity 
for the purposes of the RFA.
---------------------------------------------------------------------------

    \258\ Global methodology means the assessment methodology and 
the higher loss absorbency requirement for global systemically 
important banks issued by the Basel Committee on Banking 
Supervision, as updated from time to time. 12 CFR 252.2(o).
---------------------------------------------------------------------------

    4. Significant alternatives to the final rule.
    In light of the foregoing, the Board does not believe that this 
final rule will have a significant negative economic impact on any 
small entities and therefore believes that there are no significant 
alternatives to the final rule that would reduce the impact on small 
entities.
    5. Steps taken to minimize the significant economic impact on small 
entities.
    As noted, the Board believes that an exemption for small entities 
would significantly impair the effectiveness of the proposed stay-and-
transfer provisions and thereby undermine a key objective of the final 
rule: To reduce the execution risk of an orderly GSIB resolution. The 
Board did not receive any comments from small entities suggesting 
alternatives specific to those entities or quantifying their projected 
costs. The Board received, however, general comments that suggested 
alternatives that would reduce the burden on entities without regard to 
size. The Board has considered those comments and changes in the final 
rule in response to such comments in other sections of this 
SUPPLEMENTARY INFORMATION section. In addition, the Board anticipates 
that any small subsidiary of a GSIB that is covered by this final rule 
would rely on its parent GSIB or a large subsidiary of that GSIB for 
reporting, recordkeeping, or similar compliance requirements and would 
not bear additional costs.

C. Riegle Community Development and Regulatory Improvement Act of 1994

    The Riegle Community Development and Regulatory Improvement Act of 
1994 (RCDRIA) requires that each Federal banking agency, in determining 
the effective date and administrative compliance requirements for new 
regulations that impose additional reporting, disclosure, or other 
requirements on insured depository institutions, consider, consistent 
with principles of safety and soundness and the public interest, any 
administrative burdens that such regulations would place on depository 
institutions, including small depository institutions, and customers of 
depository institutions, as well as the benefits of such regulations. 
The Board has considered comment on these matters in other sections of 
this SUPPLEMENTARY INFORMATION section.
    In addition, new regulations that impose additional reporting, 
disclosures, or other new requirements on insured depository 
institutions generally must take effect on the first day of a calendar 
quarter that begins on or after the date on which the regulations are 
published in final form. Therefore, covered entities, which include 
certain insured depository institutions, are required to comply with 
the requirements of the final rule on the first day of calendar 
quarters after the effective date of the regulation.

D. Use of Plain Language

    Section 722 of the Gramm-Leach-Bliley Act requires the U.S. banking 
agencies to use plain language in all proposed and final rulemakings 
published after January 1, 2000.\259\ The Board received no comment on 
these matters and believes that the final rule is written plainly and 
clearly.
---------------------------------------------------------------------------

    \259\ 12 U.S.C. 4809(a).
---------------------------------------------------------------------------

List of Subjects in 12 CFR Parts 217, 249, and 252

    Administrative practice and procedure, Banks, Banking, Federal 
Reserve System, Holding companies, Reporting and recordkeeping 
requirements, Securities.

Authority and Issuance

    For the reasons stated in the Supplementary Information, the Board 
of Governors of the Federal Reserve System amends 12 CFR parts 217, 
249, and 252 as follows:

PART 217--CAPITAL ADEQUACY OF BANK HOLDING COMPANIES, SAVINGS AND 
LOAN HOLDING COMPANIES, AND STATE MEMBER BANKS (REGULATION Q)

0
1. The authority citation for part 217 continues to read as follows:

    Authority: 12 U.S.C. 248(a), 321-338a, 481-486, 1462a, 1467a, 
1818, 1828, 1831n, 1831o, 1831p-l, 1831w, 1835, 1844(b), 1851, 3904, 
3906-3909, 4808, 5365, 5368, 5371.


0
2. Section 217.2 is amended by:
0
a. Revising the definition of ``collateral agreement'';
0
b. Revising paragraph (1)(iii) of the definition of ``eligible margin 
loan'';
0
c. Revising the definition of ``qualifying master netting agreement'';
0
d. Republishing the introductory text of the definition of ``repo-style 
transaction''; and
0
e. Revising paragraph (3)(ii)(A) of the definition of ``repo-style 
transaction''.
    The revisions and republication are set forth below:


Sec.  217.2  Definitions.

* * * * *
    Collateral agreement means a legal contract that specifies the time 
when, and circumstances under which, a counterparty is required to 
pledge collateral to a Board-regulated institution for a single 
financial contract or for all financial contracts in a netting set and 
confers upon the Board-regulated institution a perfected, first-
priority security interest (notwithstanding the prior security interest 
of any custodial agent), or the legal equivalent thereof, in the 
collateral posted by the counterparty under the agreement. This 
security interest must provide the Board-regulated institution with a 
right to close-out the financial positions and liquidate the collateral 
upon an event of default of, or failure to perform by, the counterparty 
under the collateral agreement. A contract would not satisfy this 
requirement if the Board-regulated institution's exercise of rights 
under the agreement may be stayed or avoided:
    (1) Under applicable law in the relevant jurisdictions, other than:
    (i) In receivership, conservatorship, or resolution under the 
Federal Deposit Insurance Act, Title II of the Dodd-Frank Act, or under 
any similar insolvency law applicable to GSEs, or laws of foreign 
jurisdictions that are substantially similar \4\ to the U.S. laws

[[Page 42919]]

referenced in this paragraph (1)(i) in order to facilitate the orderly 
resolution of the defaulting counterparty;
---------------------------------------------------------------------------

    \4\ The Board expects to evaluate jointly with the OCC and 
Federal Deposit Insurance Corporation whether foreign special 
resolution regimes meet the requirements of this paragraph.
---------------------------------------------------------------------------

    (ii) Where the agreement is subject by its terms to, or 
incorporates, any of the laws referenced in paragraph (1)(i) of this 
definition; or
    (2) Other than to the extent necessary for the counterparty to 
comply with the requirements of subpart I of the Board's Regulation YY 
(part 252 of this chapter), part 47 of this title, or part 382 of this 
title, as applicable.
* * * * *
    Eligible margin loan means:
    (1) * * *
    (iii) The extension of credit is conducted under an agreement that 
provides the Board-regulated institution the right to accelerate and 
terminate the extension of credit and to liquidate or set-off 
collateral promptly upon an event of default, including upon an event 
of receivership, insolvency, liquidation, conservatorship, or similar 
proceeding, of the counterparty, provided that, in any such case:
    (A) Any exercise of rights under the agreement will not be stayed 
or avoided under applicable law in the relevant jurisdictions, other 
than:
    (1) In receivership, conservatorship, or resolution under the 
Federal Deposit Insurance Act, Title II of the Dodd-Frank Act, or under 
any similar insolvency law applicable to GSEs,\5\ or laws of foreign 
jurisdictions that are substantially similar \6\ to the U.S. laws 
referenced in this paragraph (1)(iii)(A)(1) in order to facilitate the 
orderly resolution of the defaulting counterparty; or
---------------------------------------------------------------------------

    \5\ This requirement is met where all transactions under the 
agreement are (i) executed under U.S. law and (ii) constitute 
``securities contracts'' under section 555 of the Bankruptcy Code 
(11 U.S.C. 555), qualified financial contracts under section 
11(e)(8) of the Federal Deposit Insurance Act, or netting contracts 
between or among financial institutions under sections 401-407 of 
the Federal Deposit Insurance Corporation Improvement Act or the 
Federal Reserve Board's Regulation EE (12 CFR part 231).
    \6\ The Board expects to evaluate jointly with the OCC and 
Federal Deposit Insurance Corporation whether foreign special 
resolution regimes meet the requirements of this paragraph.
---------------------------------------------------------------------------

    (2) Where the agreement is subject by its terms to, or 
incorporates, any of the laws referenced in paragraph (1)(iii)(A)(1) of 
this definition; and
    (B) The agreement may limit the right to accelerate, terminate, and 
close-out on a net basis all transactions under the agreement and to 
liquidate or set-off collateral promptly upon an event of default of 
the counterparty to the extent necessary for the counterparty to comply 
with the requirements of subpart I of the Board's Regulation YY (part 
252 of this chapter), part 47 of this title, or part 382 of this title, 
as applicable.
* * * * *
    Qualifying master netting agreement means a written, legally 
enforceable agreement provided that:
    (1) The agreement creates a single legal obligation for all 
individual transactions covered by the agreement upon an event of 
default following any stay permitted by paragraph (2) of this 
definition, including upon an event of receivership, conservatorship, 
insolvency, liquidation, or similar proceeding, of the counterparty;
    (2) The agreement provides the Board-regulated institution the 
right to accelerate, terminate, and close-out on a net basis all 
transactions under the agreement and to liquidate or set-off collateral 
promptly upon an event of default, including upon an event of 
receivership, conservatorship, insolvency, liquidation, or similar 
proceeding, of the counterparty, provided that, in any such case:
    (i) Any exercise of rights under the agreement will not be stayed 
or avoided under applicable law in the relevant jurisdictions, other 
than:
    (A) In receivership, conservatorship, or resolution under the 
Federal Deposit Insurance Act, Title II of the Dodd-Frank Act, or under 
any similar insolvency law applicable to GSEs, or laws of foreign 
jurisdictions that are substantially similar \7\ to the U.S. laws 
referenced in this paragraph (2)(i)(A) in order to facilitate the 
orderly resolution of the defaulting counterparty; or
---------------------------------------------------------------------------

    \7\ The Board expects to evaluate jointly with the OCC and 
Federal Deposit Insurance Corporation whether foreign special 
resolution regimes meet the requirements of this paragraph.
---------------------------------------------------------------------------

    (B) Where the agreement is subject by its terms to, or 
incorporates, any of the laws referenced in paragraph (2)(i)(A) of this 
definition; and
    (ii) The agreement may limit the right to accelerate, terminate, 
and close-out on a net basis all transactions under the agreement and 
to liquidate or set-off collateral promptly upon an event of default of 
the counterparty to the extent necessary for the counterparty to comply 
with the requirements of subpart I of the Board's Regulation YY (part 
252 of this chapter), part 47 of this title, or part 382 of this title, 
as applicable;
* * * * *
    Repo-style transaction means a repurchase or reverse repurchase 
transaction, or a securities borrowing or securities lending 
transaction, including a transaction in which the Board-regulated 
institution acts as agent for a customer and indemnifies the customer 
against loss, provided that:
    (3) * * *
    (ii) * * *
    (A) The transaction is executed under an agreement that provides 
the Board-regulated institution the right to accelerate, terminate, and 
close-out the transaction on a net basis and to liquidate or set-off 
collateral promptly upon an event of default, including upon an event 
of receivership, insolvency, liquidation, or similar proceeding, of the 
counterparty, provided that, in any such case:
    (1) Any exercise of rights under the agreement will not be stayed 
or avoided under applicable law in the relevant jurisdictions, other 
than:
    (i) In receivership, conservatorship, or resolution under the 
Federal Deposit Insurance Act, Title II of the Dodd-Frank Act, or under 
any similar insolvency law applicable to GSEs, or laws of foreign 
jurisdictions that are substantially similar \8\ to the U.S. laws 
referenced in this paragraph (3)(ii)(A)(1)(i) in order to facilitate 
the orderly resolution of the defaulting counterparty;
---------------------------------------------------------------------------

    \8\ The Board expects to evaluate jointly with the OCC and 
Federal Deposit Insurance Corporation whether foreign special 
resolution regimes meet the requirements of this paragraph.
---------------------------------------------------------------------------

    (ii) Where the agreement is subject by its terms to, or 
incorporates, any of the laws referenced in paragraph (3)(ii)(A)(1)(i) 
of this definition; and
    (2) The agreement may limit the right to accelerate, terminate, and 
close-out on a net basis all transactions under the agreement and to 
liquidate or set-off collateral promptly upon an event of default of 
the counterparty to the extent necessary for the counterparty to comply 
with the requirements of subpart I of the Board's Regulation YY (part 
252 of this chapter), part 47 of this title, or part 382 of this title, 
as applicable; or
* * * * *

PART 249--LIQUIDITY RISK MEASUREMENT STANDARDS (REGULATION WW)

0
3. The authority citation for part 249 continues to read as follows:

    Authority: 12 U.S.C. 248(a), 321-338a, 481-486, 1467a(g)(1), 
1818, 1828, 1831p-1, 1831o-1, 1844(b), 5365, 5366, 5368.


0
4. Section 249.3 is amended by revising the definition of ``qualifying 
master netting agreement'' to read as follows:


Sec.  249.3  Definitions.

* * * * *

[[Page 42920]]

    Qualifying master netting agreement means a written, legally 
enforceable agreement provided that:
    (1) The agreement creates a single legal obligation for all 
individual transactions covered by the agreement upon an event of 
default following any stay permitted by paragraph (2) of this 
definition, including upon an event of receivership, conservatorship, 
insolvency, liquidation, or similar proceeding, of the counterparty;
    (2) The agreement provides the Board-regulated institution the 
right to accelerate, terminate, and close-out on a net basis all 
transactions under the agreement and to liquidate or set-off collateral 
promptly upon an event of default, including upon an event of 
receivership, conservatorship, insolvency, liquidation, or similar 
proceeding, of the counterparty, provided that, in any such case:
    (i) Any exercise of rights under the agreement will not be stayed 
or avoided under applicable law in the relevant jurisdictions, other 
than:
    (A) In receivership, conservatorship, or resolution under the 
Federal Deposit Insurance Act, Title II of the Dodd-Frank Act, or under 
any similar insolvency law applicable to GSEs, or laws of foreign 
jurisdictions that are substantially similar \1\ to the U.S. laws 
referenced in this paragraph (2)(i)(A) in order to facilitate the 
orderly resolution of the defaulting counterparty;
---------------------------------------------------------------------------

    \1\ The Board expects to evaluate jointly with the OCC and 
Federal Deposit Insurance Corporation whether foreign special 
resolution regimes meet the requirements of this paragraph.
---------------------------------------------------------------------------

    (B) Where the agreement is subject by its terms to, or 
incorporates, any of the laws referenced in paragraph (2)(i)(A) of this 
definition; and
    (ii) The agreement may limit the right to accelerate, terminate, 
and close-out on a net basis all transactions under the agreement and 
to liquidate or set-off collateral promptly upon an event of default of 
the counterparty to the extent necessary for the counterparty to comply 
with the requirements of subpart I of the Board's Regulation YY (part 
252 of this chapter), part 47 of this title, or part 382 of this title, 
as applicable;
* * * * *

PART 252--ENHANCED PRUDENTIAL STANDARDS (REGULATION YY)

0
5. The authority citation for part 252 continues to read as follows:

    Authority: 12 U.S.C. 321-338a, 481-486, 1467a, 1818, 1828, 
1831n, 1831o, 1831p-l, 1831w, 1835, 1844(b), 1844(c), 3101 et seq., 
3101 note, 3904, 3906-3909, 4808, 5361, 5362, 5365, 5366, 5367, 
5368, 5371.


0
6. Add subpart I to read as follows:

Subpart I--Requirements for Qualified Financial Contracts of Global 
Systemically Important Banking Organizations

Sec.
252.81 Definitions.
252.82 Applicability.
252.83 U.S. Special Resolution Regimes.
252.84 Insolvency proceedings.
252.85 Approval of enhanced creditor protection conditions.
252.86 Foreign bank multi-branch master agreements.
252.87 Identification of global systemically important foreign 
banking organizations.
252.88 Exclusion of certain QFCs.

Subpart I--Requirements for Qualified Financial Contracts of Global 
Systemically Important Banking Organizations


Sec.  252.81  Definitions.

    For purposes of this subpart:
    Central counterparty (CCP) has the same meaning as in Sec.  217.2 
of the Board's Regulation Q (12 CFR 217.2).
    Chapter 11 proceeding means a proceeding under Chapter 11 of Title 
11, United States Code (11 U.S.C. 1101-74.).
    Consolidated affiliate means an affiliate of another company that
    (1) Either consolidates the other company, or is consolidated by 
the other company, on financial statements prepared in accordance with 
U.S. Generally Accepted Accounting Principles, the International 
Financial Reporting Standards, or other similar standards;
    (2) Is, along with the other company, consolidated with a third 
company on a financial statement prepared in accordance with principles 
or standards referenced in paragraph (1) of this definition; or
    (3) For a company that is not subject to principles or standards 
referenced in paragraph (1), if consolidation as described in paragraph 
(1) or (2) of this definition would have occurred if such principles or 
standards had applied.
    Default right (1) Means, with respect to a QFC, any:
    (i) Right of a party, whether contractual or otherwise (including, 
without limitation, rights incorporated by reference to any other 
contract, agreement, or document, and rights afforded by statute, civil 
code, regulation, and common law), to liquidate, terminate, cancel, 
rescind, or accelerate such agreement or transactions thereunder, set 
off or net amounts owing in respect thereto (except rights related to 
same-day payment netting), exercise remedies in respect of collateral 
or other credit support or property related thereto (including the 
purchase and sale of property), demand payment or delivery thereunder 
or in respect thereof (other than a right or operation of a contractual 
provision arising solely from a change in the value of collateral or 
margin or a change in the amount of an economic exposure), suspend, 
delay, or defer payment or performance thereunder, or modify the 
obligations of a party thereunder, or any similar rights; and
    (ii) Right or contractual provision that alters the amount of 
collateral or margin that must be provided with respect to an exposure 
thereunder, including by altering any initial amount, threshold amount, 
variation margin, minimum transfer amount, the margin value of 
collateral, or any similar amount, that entitles a party to demand the 
return of any collateral or margin transferred by it to the other party 
or a custodian or that modifies a transferee's right to reuse 
collateral or margin (if such right previously existed), or any similar 
rights, in each case, other than a right or operation of a contractual 
provision arising solely from a change in the value of collateral or 
margin or a change in the amount of an economic exposure;
    (2) With respect to Sec.  252.84, does not include any right under 
a contract that allows a party to terminate the contract on demand or 
at its option at a specified time, or from time to time, without the 
need to show cause.
    Excluded bank:
    (1) Means a national bank, a Federal savings association, a Federal 
branch, a Federal agency, or an FSI that is exempted from the scope of 
this subpart pursuant to paragraph (b)(2) or (b)(3) of Sec.  252.82;
    (2) Does not include any entity described in paragraph (1) of this 
definition that is owned pursuant to section 3(a)(A)(ii) of the Bank 
Holding Company Act (12 U.S.C. 1842(a)(A)(ii)); is owned by a 
depository institution in satisfaction of debt previously contracted in 
good faith; is a portfolio concern, as defined under 13 CFR 107.50, 
that is controlled by a small business investment company, as defined 
in section 103(3) of the Small Business Investment Act of 1958 (15 
U.S.C. 662); is owned pursuant to paragraph (11) of section 5136 of the 
Revised Statutes of the United States (12 U.S.C. 24); or is a DPC 
branch subsidiary.
    FDI Act proceeding means a proceeding in which the Federal Deposit 
Insurance Corporation is appointed as conservator or receiver under 
section 11 of the Federal Deposit Insurance Act (12 U.S.C. 1821).

[[Page 42921]]

    FDI Act stay period means, in connection with an FDI Act 
proceeding, the period of time during which a party to a QFC with a 
party that is subject to an FDI Act proceeding may not exercise any 
right that the party that is not subject to an FDI Act proceeding has 
to terminate, liquidate, or net such QFC, in accordance with section 
11(e) of the Federal Deposit Insurance Act (12 U.S.C. 1821(e)) and any 
implementing regulations.
    Financial counterparty means a person that is:
    (1)(i) A bank holding company or an affiliate thereof; a savings 
and loan holding company as defined in section 10(n) of the Home 
Owners' Loan Act (12 U.S.C. 1467a(n)); a U.S. intermediate holding 
company that is established or designated for purposes of compliance 
with this part; or a nonbank financial company supervised by the Board;
    (ii) A depository institution as defined in section 3(c) of the 
Federal Deposit Insurance Act (12 U.S.C. 1813(c)); an organization that 
is organized under the laws of a foreign country and that engages 
directly in the business of banking outside the United States; a 
Federal credit union or State credit union as defined in section 2 of 
the Federal Credit Union Act (12 U.S.C. 1752(1) & (6)); an institution 
that functions solely in a trust or fiduciary capacity as described in 
section 2(c)(2)(D) of the Bank Holding Company Act (12 U.S.C. 
1841(c)(2)(D)); an industrial loan company, an industrial bank, or 
other similar institution described in section 2(c)(2)(H) of the Bank 
Holding Company Act (12 U.S.C. 1841(c)(2)(H));
    (iii) An entity that is state-licensed or registered as:
    (A) A credit or lending entity, including a finance company; money 
lender; installment lender; consumer lender or lending company; 
mortgage lender, broker, or bank; motor vehicle title pledge lender; 
payday or deferred deposit lender; premium finance company; commercial 
finance or lending company; or commercial mortgage company; except 
entities registered or licensed solely on account of financing the 
entity's direct sales of goods or services to customers;
    (B) A money services business, including a check casher; money 
transmitter; currency dealer or exchange; or money order or traveler's 
check issuer;
    (iv) A regulated entity as defined in section 1303(20) of the 
Federal Housing Enterprises Financial Safety and Soundness Act of 1992, 
as amended (12 U.S.C. 4502(20)) or any entity for which the Federal 
Housing Finance Agency or its successor is the primary federal 
regulator;
    (v) Any institution chartered in accordance with the Farm Credit 
Act of 1971, as amended, 12 U.S.C. 2002 et seq., that is regulated by 
the Farm Credit Administration;
    (vi) Any entity registered with the Commodity Futures Trading 
Commission as a swap dealer or major swap participant pursuant to the 
Commodity Exchange Act of 1936 (7 U.S.C. 1 et seq.), or an entity that 
is registered with the U.S. Securities and Exchange Commission as a 
security-based swap dealer or a major security-based swap participant 
pursuant to the Securities Exchange Act of 1934 (15 U.S.C. 78a et 
seq.);
    (vii) A securities holding company, with the meaning specified in 
section 618 of the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (12 U.S.C. 1850a); a broker or dealer as defined in 
sections 3(a)(4) and 3(a)(5) of the Securities Exchange Act of 1934 (15 
U.S.C. 78c(a)(4)-(5)); an investment adviser as defined in section 
202(a) of the Investment Advisers Act of 1940 (15 U.S.C. 80b-2(a)); an 
investment company registered with the U.S. Securities and Exchange 
Commission under the Investment Company Act of 1940 (15 U.S.C. 80a-1 et 
seq.); or a company that has elected to be regulated as a business 
development company pursuant to section 54(a) of the Investment Company 
Act of 1940 (15 U.S.C. 80a-53(a));
    (viii) A private fund as defined in section 202(a) of the 
Investment Advisers Act of 1940 (15 U.S.C. 80b-2(a)); an entity that 
would be an investment company under section 3 of the Investment 
Company Act of 1940 (15 U.S.C. 80a-3) but for section 3(c)(5)(C); or an 
entity that is deemed not to be an investment company under section 3 
of the Investment Company Act of 1940 pursuant to Investment Company 
Act Rule 3a-7 (17 CFR 270.3a-7) of the U.S. Securities and Exchange 
Commission;
    (ix) A commodity pool, a commodity pool operator, or a commodity 
trading advisor as defined, respectively, in sections 1a(10), 1a(11), 
and 1a(12) of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(10), 
1a(11), and 1a(12)); a floor broker, a floor trader, or introducing 
broker as defined, respectively, in sections 1a(22), 1a(23) and 1a(31) 
of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(22), 1a(23), and 
1a(31)); or a futures commission merchant as defined in section 1a(28) 
of the Commodity Exchange Act of 1936 (7 U.S.C. 1a(28));
    (x) An employee benefit plan as defined in paragraphs (3) and (32) 
of section 3 of the Employee Retirement Income and Security Act of 1974 
(29 U.S.C. 1002);
    (xi) An entity that is organized as an insurance company, primarily 
engaged in writing insurance or reinsuring risks underwritten by 
insurance companies, or is subject to supervision as such by a State 
insurance regulator or foreign insurance regulator; or
    (xii) An entity that would be a financial counterparty described in 
paragraphs (1)(i)-(xi) of this definition, if the entity were organized 
under the laws of the United States or any state thereof.
    (2) The term ``financial counterparty'' does not include any 
counterparty that is:
    (i) A sovereign entity;
    (ii) A multilateral development bank; or
    (iii) The Bank for International Settlements.
    Financial market utility (FMU) means any person, regardless of the 
jurisdiction in which the person is located or organized, that manages 
or operates a multilateral system for the purpose of transferring, 
clearing, or settling payments, securities, or other financial 
transactions among financial institutions or between financial 
institutions and the person, but does not include:
    (1) Designated contract markets, registered futures associations, 
swap data repositories, and swap execution facilities registered under 
the Commodity Exchange Act (7 U.S.C. 1 et seq.), or national securities 
exchanges, national securities associations, alternative trading 
systems, security-based swap data repositories, and swap execution 
facilities registered under the Securities Exchange Act of 1934 (15 
U.S.C. 78a et seq.), solely by reason of their providing facilities for 
comparison of data respecting the terms of settlement of securities or 
futures transactions effected on such exchange or by means of any 
electronic system operated or controlled by such entities, provided 
that the exclusions in this clause apply only with respect to the 
activities that require the entity to be so registered; or
    (2) Any broker, dealer, transfer agent, or investment company, or 
any futures commission merchant, introducing broker, commodity trading 
advisor, or commodity pool operator, solely by reason of functions 
performed by such institution as part of brokerage, dealing, transfer 
agency, or investment company activities, or solely by reason of acting 
on behalf of a FMU or a participant therein in connection with the 
furnishing by the FMU of services to its

[[Page 42922]]

participants or the use of services of the FMU by its participants, 
provided that services performed by such institution do not constitute 
critical risk management or processing functions of the FMU.
    FSI means a state savings association or state nonmember bank (as 
the terms are defined in section 3 of the Federal Deposit Insurance 
Act, 12 U.S.C. 1813).
    Investment advisory contract means any contract or agreement 
whereby a person agrees to act as investment adviser to or to manage 
any investment or trading account of another person.
    Master agreement means a QFC of the type set forth in sections 
210(c)(8)(D)(ii)(XI), (iii)(IX), (iv)(IV), (v)(V), or (vi)(V) of Title 
II of the Dodd-Frank Wall Street Reform and Consumer Protection Act (12 
U.S.C. 5390(c)(8)(D)(ii)(XI), (iii)(IX), (iv)(IV), (v)(V), or (vi)(V)) 
or a master agreement that the Federal Deposit Insurance Corporation 
determines by regulation is a QFC pursuant to section 210(c)(8)(D)(i) 
of Title II of the act (12 U.S.C. 5390(c)(8)(D)(i)).
    Person has the same meaning as in 12 CFR 225.2.
    Qualified financial contract (QFC) has the same meaning as in 
section 210(c)(8)(D) of Title II of the Dodd-Frank Wall Street Reform 
and Consumer Protection Act (12 U.S.C. 5390(c)(8)(D)).
    Retail customer or counterparty has the same meaning as in Sec.  
249.3 of the Board's Regulation WW (12 CFR 249.3).
    Small financial institution means a company that:
    (1) Is organized as a bank, as defined in section 3(a) of the 
Federal Deposit Insurance Act, the deposits of which are insured by the 
Federal Deposit Insurance Corporation; a savings association, as 
defined in section 3(b) of the Federal Deposit Insurance Act, the 
deposits of which are insured by the Federal Deposit Insurance 
Corporation; a farm credit system institution chartered under the Farm 
Credit Act of 1971; or an insured Federal credit union or State-
chartered credit union under the Federal Credit Union Act; and
    (2) Has total assets of $10,000,000,000 or less on the last day of 
the company's most recent fiscal year.
    U.S. special resolution regimes means the Federal Deposit Insurance 
Act (12 U.S.C. 1811-1835a) and regulations promulgated thereunder and 
Title II of the Dodd-Frank Wall Street Reform and Consumer Protection 
Act (12 U.S.C. 5381-5394) and regulations promulgated thereunder.


Sec.  252.82  Applicability.

    (a) General requirement. A covered entity must ensure that each 
covered QFC conforms to the requirements of Sec. Sec.  252.83 and 
252.84.
    (b) Covered entities. For purposes of this subpart, a covered 
entity is:
    (1) A bank holding company that is identified as a global 
systemically important BHC pursuant to 12 CFR 217.402;
    (2) A subsidiary of a company identified in paragraph (b)(1) of 
this section other than a subsidiary that is:
    (i) A national bank, a Federal savings association, a Federal 
branch, a Federal agency, an FSI;
    (ii) A company owned pursuant to section 3(a)(A)(ii), 4(c)(2), 
4(k)(4)(H), or 4(k)(4)(I) of the Bank Holding Company Act (12 U.S.C. 
1842(a)(A)(ii), 1843(c)(2), 1843(k)(4)(H), 1843(k)(4)(I));
    (iii) A company owned by a depository institution in satisfaction 
of debt previously contracted in good faith;
    (iv) A portfolio concern, as defined under 13 CFR 107.50, that is 
controlled by a small business investment company, as defined in 
section 103(3) of the Small Business Investment Act of 1958 (15 U.S.C. 
662); or
    (v) A company the business of which is to make investments that are 
designed primarily to promote the public welfare, of the type permitted 
under paragraph (11) of section 5136 of the Revised Statutes of the 
United States (12 U.S.C. 24), including the welfare of low- and 
moderate-income communities or families (such as providing housing, 
services, or jobs)); or
    (3) A U.S. subsidiary, U.S. branch, or U.S. agency of a global 
systemically important foreign banking organization other than a U.S. 
subsidiary, U.S. branch, or U.S. agency that is:
    (i) A national bank, a Federal savings association, a Federal 
branch, a Federal agency, an FSI;
    (ii) A company owned pursuant to section 3(a)(A)(ii), 4(c)(2), 
4(k)(4)(H), or 4(k)(4)(I) of the Bank Holding Company Act (12 U.S.C. 
1842(a)(A)(ii), 1843(c)(2), 1843(k)(4)(H), 1843(k)(4)(I));
    (iii) A company owned by a depository institution in satisfaction 
of debt previously contracted in good faith;
    (iv) A portfolio concern, as defined under 13 CFR 107.50, that is 
controlled by a small business investment company, as defined in 
section 103(3) of the Small Business Investment Act of 1958 (15 U.S.C. 
662);
    (v) A company the business of which is to make investments that are 
designed primarily to promote the public welfare, of the type permitted 
under paragraph (11) of section 5136 of the Revised Statutes of the 
United States (12 U.S.C. 24), including the welfare of low- and 
moderate-income communities or families (such as providing housing, 
services, or jobs);
    (vi) A section 2(h)(2) company; or
    (vii) A DPC branch subsidiary.
    (c) Covered QFCs. For purposes of this subpart, a covered QFC is:
    (1) With respect to a covered entity that is a covered entity on 
November 13, 2017, an in-scope QFC that the covered entity:
    (i) Enters, executes, or otherwise becomes a party to on or after 
January 1, 2019; or
    (ii) Entered, executed, or otherwise became a party to before 
January 1, 2019, if the covered entity or any affiliate that is a 
covered entity or excluded bank also enters, executes, or otherwise 
becomes a party to a QFC with the same person or a consolidated 
affiliate of the same person on or after January 1, 2019.
    (2) With respect to a covered entity that becomes a covered entity 
after November 13, 2017, an in-scope QFC that the covered entity:
    (i) Enters, executes or otherwise becomes a party to on or after 
the later of the date the covered entity first becomes a covered entity 
and January 1, 2019; or
    (ii) Entered, executed, or otherwise became a party to before the 
date identified in paragraph (c)(2)(i) of this section with respect to 
the covered entity, if the covered entity or any affiliate that is a 
covered entity or excluded bank also enters, executes, or otherwise 
becomes a party to a QFC with the same person or consolidated affiliate 
of the same person on or after the date identified in paragraph 
(c)(2)(i) with respect to the covered entity.
    (d) In-scope QFCs. An in-scope QFC is a QFC that explicitly:
    (1) Restricts the transfer of a QFC (or any interest or obligation 
in or under, or any property securing, the QFC) from a covered entity; 
or
    (2) Provides one or more default rights with respect to a QFC that 
may be exercised against a covered entity.
    (e) Rules of construction. For purposes of this subpart:
    (1) A covered entity does not become a party to a QFC solely by 
acting as agent with respect to the QFC; and
    (2) The exercise of a default right with respect to a covered QFC 
includes the automatic or deemed exercise of the default right pursuant 
to the terms of the QFC or other arrangement.
    (f) Initial applicability of requirements for covered QFCs. (1) 
With respect to each of its covered QFCs, a covered entity that is a 
covered entity on November 13, 2017 must conform the covered QFC to the 
requirements of this subpart by:

[[Page 42923]]

    (i) January 1, 2019, if each party to the covered QFC is a covered 
entity or an excluded bank;
    (ii) July 1, 2019, if each party to the covered QFC (other than the 
covered entity) is a financial counterparty that is not a covered 
entity or excluded bank; or
    (iii) January 1, 2020, if a party to the covered QFC (other than 
the covered entity) is not described in paragraph (f)(1)(i) or 
(f)(1)(ii) of this section or if, notwithstanding paragraph (f)(1)(ii), 
a party to the covered QFC (other than the covered entity) is a small 
financial institution.
    (2) With respect to each of its covered QFCs, a covered entity that 
is not a covered entity on November 13, 2017 must conform the covered 
QFC to the requirements of this subpart by:
    (i) The first day of the calendar quarter immediately following 1 
year after the date the covered entity first becomes a covered entity, 
if each party to the covered QFC is a covered entity or an excluded 
bank;
    (ii) The first day of the calendar quarter immediately following 18 
months from the date the covered entity first becomes a covered entity 
if each party to the covered QFC (other than the covered entity) is a 
financial counterparty that is not a covered entity or excluded bank; 
or
    (iii) The first day of the calendar quarter immediately following 2 
years from the date the covered entity first becomes a covered entity 
if a party to the covered QFC (other than the covered entity) is not 
described in paragraph (f)(2)(i) or (f)(2)(ii) of this section or if, 
notwithstanding paragraph (f)(2)(ii), a party to the covered QFC (other 
than the covered entity) is a small financial institution.


Sec.  252.83   U.S. Special Resolution Regimes.

    (a) Covered QFCs not required to be conformed. (1) Notwithstanding 
Sec.  252.82, a covered entity is not required to conform a covered QFC 
to the requirements of this section if:
    (i) The covered QFC designates, in the manner described in 
paragraph (a)(2) of this section, the U.S. special resolution regimes 
as part of the law governing the QFC; and
    (ii) Each party to the covered QFC, other than the covered entity, 
is:
    (A) An individual that is domiciled in the United States, including 
any State;
    (B) A company that is incorporated in or organized under the laws 
of the United States or any State;
    (C) A company the principal place of business of which is located 
in the United States, including any State; or
    (D) A U.S. branch or U.S. agency.
    (2) A covered QFC designates the U.S. special resolution regimes as 
part of the law governing the QFC if the covered QFC:
    (i) Explicitly provides that the covered QFC is governed by the 
laws of the United States or a state of the United States; and
    (ii) Does not explicitly provide that one or both of the U.S. 
special resolution regimes, or a broader set of laws that includes a 
U.S. special resolution regime, is excluded from the laws governing the 
covered QFC.
    (b) Provisions required. A covered QFC must explicitly provide 
that:
    (1) In the event the covered entity becomes subject to a proceeding 
under a U.S. special resolution regime, the transfer of the covered QFC 
(and any interest and obligation in or under, and any property 
securing, the covered QFC) from the covered entity will be effective to 
the same extent as the transfer would be effective under the U.S. 
special resolution regime if the covered QFC (and any interest and 
obligation in or under, and any property securing, the covered QFC) 
were governed by the laws of the United States or a state of the United 
States; and
    (2) In the event the covered entity or an affiliate of the covered 
entity becomes subject to a proceeding under a U.S. special resolution 
regime, default rights with respect to the covered QFC that may be 
exercised against the covered entity are permitted to be exercised to 
no greater extent than the default rights could be exercised under the 
U.S. special resolution regime if the covered QFC were governed by the 
laws of the United States or a state of the United States.
    (c) Relevance of creditor protection provisions. The requirements 
of this section apply notwithstanding paragraphs (d), (f), and (h) of 
Sec.  252.84.


Sec.  252.84  Insolvency proceedings.

    (a) Covered QFCs not required to be conformed. Notwithstanding 
Sec.  252.82, a covered entity is not required to conform a covered QFC 
to the requirements of this section if the covered QFC:
    (1) Does not explicitly provide any default right with respect to 
the covered QFC that is related, directly or indirectly, to an 
affiliate of the direct party becoming subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding; and
    (2) Does not explicitly prohibit the transfer of a covered 
affiliate credit enhancement, any interest or obligation in or under 
the covered affiliate credit enhancement, or any property securing the 
covered affiliate credit enhancement to a transferee upon or following 
an affiliate of the direct party becoming subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding or would 
prohibit such a transfer only if the transfer would result in the 
supported party being the beneficiary of the credit enhancement in 
violation of any law applicable to the supported party.
    (b) General prohibitions. (1) A covered QFC may not permit the 
exercise of any default right with respect to the covered QFC that is 
related, directly or indirectly, to an affiliate of the direct party 
becoming subject to a receivership, insolvency, liquidation, 
resolution, or similar proceeding.
    (2) A covered QFC may not prohibit the transfer of a covered 
affiliate credit enhancement, any interest or obligation in or under 
the covered affiliate credit enhancement, or any property securing the 
covered affiliate credit enhancement to a transferee upon or following 
an affiliate of the direct party becoming subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding unless the 
transfer would result in the supported party being the beneficiary of 
the credit enhancement in violation of any law applicable to the 
supported party.
    (c) Definitions relevant to the general prohibitions--(1) Direct 
party. Direct party means a covered entity or excluded bank that is a 
party to the direct QFC.
    (2) Direct QFC. Direct QFC means a QFC that is not a credit 
enhancement, provided that, for a QFC that is a master agreement that 
includes an affiliate credit enhancement as a supplement to the master 
agreement, the direct QFC does not include the affiliate credit 
enhancement.
    (3) Affiliate credit enhancement. Affiliate credit enhancement 
means a credit enhancement that is provided by an affiliate of a party 
to the direct QFC that the credit enhancement supports.
    (d) General creditor protections. Notwithstanding paragraph (b) of 
this section, a covered direct QFC and covered affiliate credit 
enhancement that supports the covered direct QFC may permit the 
exercise of a default right with respect to the covered QFC that arises 
as a result of:
    (1) The direct party becoming subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding;
    (2) The direct party not satisfying a payment or delivery 
obligation pursuant to the covered QFC or another contract between the 
same parties that gives rise to a default right in the covered QFC; or

[[Page 42924]]

    (3) The covered affiliate support provider or transferee not 
satisfying a payment or delivery obligation pursuant to a covered 
affiliate credit enhancement that supports the covered direct QFC.
    (e) Definitions relevant to the general creditor protections--(1) 
Covered direct QFC. Covered direct QFC means a direct QFC to which a 
covered entity or excluded bank is a party.
    (2) Covered affiliate credit enhancement. Covered affiliate credit 
enhancement means an affiliate credit enhancement in which a covered 
entity or excluded bank is the obligor of the credit enhancement.
    (3) Covered affiliate support provider. Covered affiliate support 
provider means, with respect to a covered affiliate credit enhancement, 
the affiliate of the direct party that is obligated under the covered 
affiliate credit enhancement and is not a transferee.
    (4) Supported party. Supported party means, with respect to a 
covered affiliate credit enhancement and the direct QFC that the 
covered affiliate credit enhancement supports, a party that is a 
beneficiary of the covered affiliate support provider's obligation(s) 
under the covered affiliate credit enhancement.
    (f) Additional creditor protections for supported QFCs. 
Notwithstanding paragraph (b) of this section, with respect to a 
covered direct QFC that is supported by a covered affiliate credit 
enhancement, the covered direct QFC and the covered affiliate credit 
enhancement may permit the exercise of a default right after the stay 
period that is related, directly or indirectly, to the covered 
affiliate support provider becoming subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding if:
    (1) The covered affiliate support provider that remains obligated 
under the covered affiliate credit enhancement becomes subject to a 
receivership, insolvency, liquidation, resolution, or similar 
proceeding, other than a Chapter 11 proceeding;
    (2) Subject to paragraph (h) of this section, the transferee, if 
any, becomes subject to a receivership, insolvency, liquidation, 
resolution, or similar proceeding;
    (3) The covered affiliate support provider does not remain, and a 
transferee does not become, obligated to the same, or substantially 
similar, extent as the covered affiliate support provider was obligated 
immediately prior to entering the receivership, insolvency, 
liquidation, resolution, or similar proceeding with respect to:
    (i) The covered affiliate credit enhancement;
    (ii) All other covered affiliate credit enhancements provided by 
the covered affiliate support provider in support of other covered 
direct QFCs between the direct party and the supported party under the 
covered affiliate credit enhancement referenced in paragraph (f)(3)(i) 
of this section; and
    (iii) All covered affiliate credit enhancements provided by the 
covered affiliate support provider in support of covered direct QFCs 
between the direct party and affiliates of the supported party 
referenced in paragraph (f)(3)(ii) of this section; or
    (4) In the case of a transfer of the covered affiliate credit 
enhancement to a transferee,
    (i) All of the ownership interests of the direct party directly or 
indirectly held by the covered affiliate support provider are not 
transferred to the transferee; or
    (ii) Reasonable assurance has not been provided that all or 
substantially all of the assets of the covered affiliate support 
provider (or net proceeds therefrom), excluding any assets reserved for 
the payment of costs and expenses of administration in the 
receivership, insolvency, liquidation, resolution, or similar 
proceeding, will be transferred or sold to the transferee in a timely 
manner.
    (g) Definitions relevant to the additional creditor protections for 
supported QFCs--(1) Stay period. Stay period means, with respect to a 
receivership, insolvency, liquidation, resolution, or similar 
proceeding, the period of time beginning on the commencement of the 
proceeding and ending at the later of 5:00 p.m. (eastern time) on the 
business day following the date of the commencement of the proceeding 
and 48 hours after the commencement of the proceeding.
    (2) Business day. Business day means a day on which commercial 
banks in the jurisdiction the proceeding is commenced are open for 
general business (including dealings in foreign exchange and foreign 
currency deposits).
    (3) Transferee. Transferee means a person to whom a covered 
affiliate credit enhancement is transferred upon the covered affiliate 
support provider entering a receivership, insolvency, liquidation, 
resolution, or similar proceeding or thereafter as part of the 
resolution, restructuring, or reorganization involving the covered 
affiliate support provider.
    (h) Creditor protections related to FDI Act proceedings. 
Notwithstanding paragraphs (b), (d), and (f) of this section, with 
respect to a covered direct QFC that is supported by a covered 
affiliate credit enhancement, the covered direct QFC and the covered 
affiliate credit enhancement may permit the exercise of a default right 
that is related, directly or indirectly, to the covered affiliate 
support provider becoming subject to FDI Act proceedings:
    (1) After the FDI Act stay period, if the covered affiliate credit 
enhancement is not transferred pursuant to 12 U.S.C. 1821(e)(9)-(e)(10) 
and any regulations promulgated thereunder; or
    (2) During the FDI Act stay period, if the default right may only 
be exercised so as to permit the supported party under the covered 
affiliate credit enhancement to suspend performance with respect to the 
supported party's obligations under the covered direct QFC to the same 
extent as the supported party would be entitled to do if the covered 
direct QFC were with the covered affiliate support provider and were 
treated in the same manner as the covered affiliate credit enhancement.
    (i) Prohibited terminations. A covered QFC must require, after an 
affiliate of the direct party has become subject to a receivership, 
insolvency, liquidation, resolution, or similar proceeding:
    (1) The party seeking to exercise a default right to bear the 
burden of proof that the exercise is permitted under the covered QFC; 
and
    (2) Clear and convincing evidence or a similar or higher burden of 
proof to exercise a default right.


Sec.  252.85  Approval of enhanced creditor protection conditions.

    (a) Protocol compliance. (1) Unless the Board determines otherwise 
based on the specific facts and circumstances, a covered QFC is deemed 
to comply with this subpart if it is amended by the universal protocol 
or the U.S. protocol.
    (2) A covered QFC will be deemed to be amended by the universal 
protocol for purposes of paragraph (a)(1) of this section 
notwithstanding the covered QFC being amended by one or more Country 
Annexes, as the term is defined in the universal protocol.
    (3) For purposes of paragraphs (a)(1) and (2) of this section:
    (i) The universal protocol means the ISDA 2015 Universal Resolution 
Stay Protocol, including the Securities Financing Transaction Annex and 
Other Agreements Annex, published by the International Swaps and 
Derivatives Association, Inc., as of May 3, 2016, and minor or 
technical amendments thereto;
    (ii) The U.S. protocol means a protocol that is the same as the 
universal protocol other than as

[[Page 42925]]

provided in paragraphs (a)(3)(ii)(A)-(F) of this section.
    (A) The provisions of Section 1 of the attachment to the universal 
protocol may be limited in their application to covered entities and 
excluded banks and may be limited with respect to resolutions under the 
Identified Regimes, as those regimes are identified by the universal 
protocol;
    (B) The provisions of Section 2 of the attachment to the universal 
protocol may be limited in their application to covered entities and 
excluded banks;
    (C) The provisions of Section 4(b)(i)(A) of the attachment to the 
universal protocol must not apply with respect to U.S. special 
resolution regimes;
    (D) The provisions of Section 4(b) of the attachment to the 
universal protocol may only be effective to the extent that the covered 
QFCs affected by an adherent's election thereunder would continue to 
meet the requirements of this subpart;
    (E) The provisions of Section 2(k) of the attachment to the 
universal protocol must not apply; and
    (F) The U.S. protocol may include minor and technical differences 
from the universal protocol and differences necessary to conform the 
U.S. protocol to the differences described in paragraphs (a)(3)(ii)(A)-
(E) of this section;
    (iii) Amended by the universal protocol or the U.S. protocol, with 
respect to covered QFCs between adherents to the protocol, includes 
amendments through incorporation of the terms of the protocol (by 
reference or otherwise) into the covered QFC; and
    (iv) The attachment to the universal protocol means the attachment 
that the universal protocol identifies as ``ATTACHMENT to the ISDA 2015 
UNIVERSAL RESOLUTION STAY PROTOCOL.''
    (b) Proposal of enhanced creditor protection conditions. (1) A 
covered entity may request that the Board approve as compliant with the 
requirements of Sec. Sec.  252.83 and 252.84 proposed provisions of one 
or more forms of covered QFCs, or proposed amendments to one or more 
forms of covered QFCs, with enhanced creditor protection conditions.
    (2) Enhanced creditor protection conditions means a set of limited 
exemptions to the requirements of Sec.  252.84(b) that is different 
than that of paragraphs (d), (f), and (h) of Sec.  252.84.
    (3) A covered entity making a request under paragraph (b)(1) of 
this section must provide:
    (i) An analysis of the proposal that addresses each consideration 
in paragraph (d) of this section;
    (ii) A written legal opinion verifying that proposed provisions or 
amendments would be valid and enforceable under applicable law of the 
relevant jurisdictions, including, in the case of proposed amendments, 
the validity and enforceability of the proposal to amend the covered 
QFCs; and
    (iii) Any other relevant information that the Board requests.
    (c) Board approval. The Board may approve, subject to any 
conditions or commitments the Board may set, a proposal by a covered 
entity under paragraph (b) of this section if the proposal, as compared 
to a covered QFC that contains only the limited exemptions in 
paragraphs of (d), (f), and (h) of Sec.  252.84 or that is amended as 
provided under paragraph (a) of this section, would prevent or mitigate 
risks to the financial stability of the United States that could arise 
from the failure of a global systemically important BHC, a global 
systemically important foreign banking organization, or the 
subsidiaries of either and would protect the safety and soundness of 
bank holding companies and state member banks to at least the same 
extent.
    (d) Considerations. In reviewing a proposal under this section, the 
Board may consider all facts and circumstances related to the proposal, 
including:
    (1) Whether, and the extent to which, the proposal would reduce the 
resiliency of such covered entities during distress or increase the 
impact on U.S. financial stability were one or more of the covered 
entities to fail;
    (2) Whether, and the extent to which, the proposal would materially 
decrease the ability of a covered entity, or an affiliate of a covered 
entity, to be resolved in a rapid and orderly manner in the event of 
the financial distress or failure of the entity that is required to 
submit a resolution plan;
    (3) Whether, and the extent to which, the set of conditions or the 
mechanism in which they are applied facilitates, on an industry-wide 
basis, contractual modifications to remove impediments to resolution 
and increase market certainty, transparency, and equitable treatment 
with respect to the default rights of non-defaulting parties to a 
covered QFC;
    (4) Whether, and the extent to which, the proposal applies to 
existing and future transactions;
    (5) Whether, and the extent to which, the proposal would apply to 
multiple forms of QFCs or multiple covered entities;
    (6) Whether the proposal would permit a party to a covered QFC that 
is within the scope of the proposal to adhere to the proposal with 
respect to only one or a subset of covered entities;
    (7) With respect to a supported party, the degree of assurance the 
proposal provides to the supported party that the material payment and 
delivery obligations of the covered affiliate credit enhancement and 
the covered direct QFC it supports will continue to be performed after 
the covered affiliate support provider enters a receivership, 
insolvency, liquidation, resolution, or similar proceeding;
    (8) The presence, nature, and extent of any provisions that require 
a covered affiliate support provider or transferee to meet conditions 
other than material payment or delivery obligations to its creditors;
    (9) The extent to which the supported party's overall credit risk 
to the direct party may increase if the enhanced creditor protection 
conditions are not met and the likelihood that the supported party's 
credit risk to the direct party would decrease or remain the same if 
the enhanced creditor protection conditions are met; and
    (10) Whether the proposal provides the counterparty with additional 
default rights or other rights.


Sec.  252.86  Foreign bank multi-branch master agreements.

    (a) Treatment of foreign bank multi-branch master agreements. With 
respect to a U.S. branch or U.S. agency of a global systemically 
important foreign banking organization, a foreign bank multi-branch 
master agreement that is a covered QFC solely because the master 
agreement permits agreements or transactions that are QFCs to be 
entered into at one or more U.S. branches or U.S. agencies of the 
global systemically important foreign banking organization will be 
considered a covered QFC for purposes of this subpart only with respect 
to such agreements or transactions booked at such U.S. branches and 
U.S. agencies.
    (b) Definition of foreign bank multi-branch master agreements. A 
foreign bank multi-branch master agreement means a master agreement 
that permits a U.S. branch or U.S. agency and another place of business 
of a foreign bank that is outside the United States to enter 
transactions under the agreement.


Sec.  252.87  Identification of global systemically important foreign 
banking organizations.

    (a) For purposes of this subpart, a top-tier foreign banking 
organization that is

[[Page 42926]]

or controls a covered company (as defined at 12 CFR 243.2(f)) is a 
global systemically important foreign banking organization if any of 
the following conditions is met:
    (1) The top-tier foreign banking organization determines, pursuant 
to paragraph (c) of this section, that the top-tier foreign banking 
organization has the characteristics of a global systemically important 
banking organization under the global methodology; or
    (2) The Board, using information available to the Board, 
determines:
    (i) That the top-tier foreign banking organization would be a 
global systemically important banking organization under the global 
methodology;
    (ii) That the top-tier foreign banking organization, if it were 
subject to the Board's Regulation Q (part 217 of this chapter), would 
be identified as a global systemically important BHC under Sec.  
217.402 of the Board's Regulation Q; or
    (iii) That any U.S. intermediate holding company controlled by the 
top-tier foreign banking organization, if the U.S. intermediate holding 
company is or were subject to Sec.  217.402 of the Board's Regulation 
Q, is or would be identified as a global systemically important BHC.
    (b) Each top-tier foreign banking organization that determines 
pursuant to paragraph (c) of this section that it has the 
characteristics of a global systemically important banking organization 
under the global methodology must notify the Board of the determination 
by January 1 of each calendar year.
    (c) A top-tier foreign banking organization that is or controls a 
covered company (as defined at 12 CFR 243.2(f)) and prepares or reports 
for any purpose the indicator amounts necessary to determine whether 
the top-tier foreign banking organization is a global systemically 
important banking organization under the global methodology must use 
the data to determine whether the top-tier foreign banking organization 
has the characteristics of a global systemically important banking 
organization under the global methodology.
    (d) Each top-tier foreign banking organization that controls a U.S. 
intermediate holding company and that meets the requirements of Sec.  
252.153(b)(5) and (6) also meets the requirements of paragraphs (b) and 
(c) of this section.


Sec.  252.88   Exclusion of certain QFCs.

    (a) Exclusion of QFCs with FMUs. Notwithstanding Sec.  252.82, a 
covered entity is not required to conform to the requirements of this 
subpart a covered QFC to which:
    (1) A CCP is party; or
    (2) Each party (other than the covered entity) is an FMU.
    (b) Exclusion of certain excluded bank QFCs. If a covered QFC is 
also a covered QFC under parts 47 or 382 of this title that an 
affiliate of the covered entity is also required to conform pursuant to 
parts 47 or 382 of this title and the covered entity is:
    (1) The affiliate credit enhancement provider with respect to the 
covered QFC, then the covered entity is required to conform the credit 
enhancement to the requirements of this subpart but is not required to 
conform the direct QFC to the requirements of this subpart; or
    (2) The direct party to which the excluded bank is the affiliate 
credit enhancement provider, then the covered entity is required to 
conform the direct QFC to the requirements of this subpart but is not 
required to conform the credit enhancement to the requirements of this 
subpart.
    (c) Exclusion of certain contracts. Notwithstanding Sec.  252.82, a 
covered entity is not required to conform the following types of 
contracts or agreements to the requirements of this subpart:
    (1) An investment advisory contract that:
    (i) Is with a retail customer or counterparty;
    (ii) Does not explicitly restrict the transfer of the contract (or 
any QFC entered pursuant thereto or governed thereby, or any interest 
or obligation in or under, or any property securing, any such QFC or 
the contract) from the covered entity except as necessary to comply 
with section 205(a)(2) of the Investment Advisers Act of 1940 (15 
U.S.C. 80b-5(a)(2)); and
    (iii) Does not explicitly provide a default right with respect to 
the contract or any QFC entered pursuant thereto or governed thereby.
    (2) A warrant that:
    (i) Evidences a right to subscribe to or otherwise acquire a 
security of the covered entity or an affiliate of the covered entity; 
and
    (ii) Was issued prior to November 13, 2017.
    (d) Exemption by order. The Board may exempt by order one or more 
covered entities from conforming one or more contracts or types of 
contracts to one or more of the requirements of this subpart after 
considering:
    (1) The potential impact of the exemption on the ability of the 
covered entity(ies), or affiliates of the covered entity(ies), to be 
resolved in a rapid and orderly manner in the event of the financial 
distress or failure of the entity that is required to submit a 
resolution plan;
    (2) The burden the exemption would relieve; and
    (3) Any other factor the Board deems relevant.

    By order of the Board of Governors of the Federal Reserve 
System, September 1, 2017.
Ann E. Misback,
Secretary of the Board.
[FR Doc. 2017-19053 Filed 9-11-17; 8:45 am]
BILLING CODE P