Fed finalizes rule applying netting provisions to swap dealers, more

A final rule to apply netting provisions of a 1991 banking law to an expanded group of entities, including swap dealers, nonbank systemically important financial institutions and others, was announced by the Federal Reserve Board Thursday and is slated to take effect 30 days after its publication in the Federal Register.

The rule, proposed in May 2019 and finalized Wednesday, revises the Fed’s Regulation EE to expand the definition of “financial institution” to which the netting requirements may apply; and clarifies how the rule’s existing activities-based test applies following a consolidation of legal entities.

The Fed notes that the 1991 Federal Deposit Insurance Corporation Improvement Act (FDICIA) provides certainty that netting contracts will be enforced, even in the event of the insolvency of one of the parties. Under sections 401-407 of the act, parties to a netting contract agree that they will pay or receive the net, rather than the gross, payment due under the netting contract.

Regulation EE currently includes an activities-based test pursuant to which an entity can qualify as a financial institution for purposes of FDICIA’s netting provisions if it is a market intermediary and, during the previous 15-month period, it engaged in financial contracts exceeding specified numerical thresholds.

“Consistent with FDICIA’s goals of reducing systemic risk and increasing efficiency in the financial markets, the Board’s final rule expands the definition of financial institution to ensure that certain entities qualify as financial institutions, including swap dealers and security-based swap dealers; major swap participants and major security-based swap participants; nonbank systemically important financial institutions; certain financial market utilities; foreign banks; bridge institutions; qualifying central counterparties; the Bank for International Settlements; foreign central banks; and Federal Reserve Banks,” the Fed said.

Additionally, the final rule clarifies that, following a consolidation of legal entities, the surviving entity can determine whether its financial contracts exceeded the numerical thresholds in the activities-based test by considering the aggregated financial contracts of the consolidated persons during the previous 15-month period.

Federal Reserve Board announces final rule intended to reduce risk and increase efficiency in the financial system by applying netting protections to a broader range of financial institutions