The Commodities Futures Trading Commission may have chosen April Fools' Day to approve an important exemption for inter-affiliate swaps transactions, but exemption is no joke. It provides some much needed relief from a perceived flaw in the new swaps regime under Dodd-Frank. The Dodd-Frank legislation amended the Commodity Exchange Act to require clearing of any and all swaps the CFTC determined should be subject to mandatory clearing, but provided no exemption for transactions between affiliates. Inter-affiliate swaps serve some vital business purposes and pose significantly fewer risks than swaps transactions between unaffiliated investors. For this reason, financial institutions have been urging the CFTC to grant them the option to opt out of mandatory clearing requirements for this fairly narrow kind of transactions. Applying the clearing requirement to every inter-affiliate transaction, they argued, made little sense under the circumstances, and thus was an unnecessary burden. The CFTC obliged initially with some temporary exemptive orders, and in August 2012 proposed to make this temporary relief more permanent. On April 1, 2013, the CFTC approved an
order making the previously temporary relief permanent.
The final rule allows affiliated entities within a corporate group to opt out of swaps clearing for inter-company swaps transactions, but under certain conditions:
- both affiliated counterparties must elect not to clear the swap,
- the terms of the swap must be documented in a swap trading relationship document (or comply with the requirements of Commission regulation 23.504, if one of the affiliated counterparties is a swap dealer or a major swap participant),
- the swap must be subject to a centralized risk management program that is reasonably designed to monitor and manage the risks associated with the swap (or if one of the affiliated counterparties is a swap dealer or a major swap participant, the requirements of Commission regulation 23.600 must be met), and
- each swap entered into by the affiliated counterparties with unaffiliated counterparties must be cleared.
The final rule does not exempt these inter-affilate swaps transactions from the new Dodd-Frank reporting requirements, however. The final rule requires the reporting counterparty to report to a swap data repository, or SDR (or if no SDR is available, to the CFTC) the following information for each swap for which the inter-affiliate exemption applies:
- confirmation that both affiliated counterparties to the swap are electing not to clear the swap and that each of the electing eligible affiliate counterparties satisfies the requirements of the rule;
- information regarding how both affiliated counterparties generally meet their financial obligations associated with entering into non-cleared swaps; and
- certain information, if the affiliated counterparties are issuers of securities registered under section 12, or are required to file reports under section 15(d), of the Securities Exchange Act of 1934.
Though it was April Fools' Day, the CFTC made it clear that compliance with the new swaps clearing regime is no laughing matter. The final rule release reemphasized in fairly strong language financial institutions' responsibilities to comply with the mandatory clearing when they are dealing with non-affiliates.