How to Amend a Qualified Financial Contract (QFC) Under the Resolution Stay Rules

In the wake of the collapse of Lehman Brothers, US banking regulators launched a number of regulations designed to ensure that the failure of a large financial firm would not have the type of ripple effect that occurred in the aftermath of the Great Depression. One of these new regulations was the QFC Resolution Stay rules, which require GSIBs to amend a wide variety of qualified financial contracts (QFCs).

The QFC Resolution Stay rules essentially create a short window following an institution’s entry into receivership where counterparties can not terminate or exercise other default rights on collateral held by the insolvent financial company. To facilitate this process, the QFC Resolution Stay rules remove contractual restrictions on transfer of a QFC between the insolvent institution and its counterparties (the “Transfer Restrictions”).

To comply with these rules, GSIBs must either (i) amend all in-scope QFCs by bilateral amendment on a contract-by-contract basis or (ii) agree to adhere to an industry protocol published by ISDA or other trade groups that has been specifically approved by the FDIC as compliant with the Resolution Stay Regulations. Both of these approaches have advantages and disadvantages, but the final decision will be based on each institution’s specific situation.

The QFC rules explicitly exempt sovereign entities, central banks and multilateral development banks from the requirement to conform their QFCs. However, these entities will likely receive amendment requests from their covered entity counterparties throughout 2019 as they begin to enter into swaps and other QFCs that must be amended in order to comply with the requirements of the Resolution Stay Regulations.

There are three steps in the process of amending a QFC under the Resolution Stay Regulations: (i) identifying whether a QFC is in-scope; (ii) determining if a QFC requires remediation; and (iii) negotiating the appropriate bilateral amendment(s) with each affected counterparty. In general, a QFC is in-scope if it was entered into on or after January 1, 2019 by a covered entity or its consolidated affiliates. However, certain legacy agreements may also need to be amended in order to satisfy the QFC Resolution Stay rules.

Generally, an in-scope QFC will be identified by its primary governing document and field A1.8 (which is used to identify the netting set for the master agreement). In most cases, a QFC will only need to be amended if it contains a prohibited cross-default right or a Transfer Restriction. For that reason, most GSIBs are choosing to use ISDA’s standard bilateral amendments in order to achieve compliance with the Resolution Stay Regulations. However, there are other ways to accomplish the same result and some counterparties will be willing to negotiate a bilateral amendment on a contract-by-contract, rather than adherence to an ISDA protocol. This is especially the case when it comes to the treatment of guaranties and other collateral arrangements that may be in-scope. ISDA has prepared separate bilateral amendments that are suitable for different types of collateral. We encourage you to contact us if you have questions about the QFC Resolution Stay rules and how to comply with them.

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