Swaps Regulation - End-User Exception to Mandatory Clearing

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Gavel.png FINAL RULE: End-User Exception to the Clearing Requirement for Swaps approved at July 10, 2012 open meeting
Dodd-Frank Timeline, End-user Exception to Mandatory Clearing of Swaps, CFTC
Final Rule Issue Effective Date Compliance Date
July 19, 2012 September 17, 2012 April 10, 2013
Dodd-Frank Timeline, End-User Exception to Mandatory Clearing of Swaps, SEC
Proposal Date Comment Deadline Reopened Comment Period Deadline
December 21, 2010 February 4, 2011 July 22, 2013

The Dodd-Frank Act requires, among other things, that the Commodity Futures Trading Commission (CFTC) and Securities and Exchange Commission (SEC), create and implement rules regarding mandatory clearing of swaps transactions. A major topic of contention has been whether end-users should be granted an exception to the Dodd-Frank requirement for mandatory clearing of swap transactions. At its July 10, 2012 open meeting the CFTC approved a final rulemaking that implements an exception to the clearing requirement for non-financial entities and small financial institutions that use swaps to hedge or mitigate commercial risk ("commercial end-users"). <ref>CFTC to Hold Open Meeting to Consider Final Rule on the Further Definition of the term “Swap,” Final Rule on the End-User Exception to Clearing, and Proposed Rule to Exempt from Clearing Certain Swaps by Cooperatives. CFTC. Retrieved on July 10, 2012.</ref>

  • The SEC has authority over “security-based swaps,” which are broadly defined as swaps based on (1) a single security or (2) a loan or (3) a narrow-based group or index of securities or (4) events relating to a single issuer or issuers of securities in a narrow-based security index.
  • The CFTC, on the other hand, has primary regulatory authority over all other swaps.
  • Meanwhile, the CFTC and SEC share authority over “mixed swaps,” which are security-based swaps that also have a commodity component. One of the provisions gave the commissions the authority to decide which, if any, swap participants should be exempt from mandatory clearing requirements. For more information, see the swaps guidance summary table.

In December 2010, the commissions held open meetings to address the end-user issue -- how it should be implemented, and to which entities it should be granted.

End-user Exception, CFTC[edit]

At its December 9, 2010 open meeting, the CFTC proposed rules pertaining to an exception to the mandatory clearing of swaps for qualified end-users. The proposal explained the process of applying for an exception to mandatory clearing, and sought public comments on the proposed process, and whether the exception should be extended to small financial institutions.

The final rulemaking approved at the commission's July 10, 2012 open meeting highlights three conditions under which an entity may claim the end-user exception:.

  • Small Financial Institutions qualifying for the exemption include the following organizations with assets under $10 billion:
    • small banks,
    • savings associations,
    • farm credit system institutions, and
    • credit unions.
  • Hedging or Mitigating Commercial Risk provisions are virtually the same as those used in defining "major swap participants" as defined in the CFTC/SEC Joint Final Rule on Swap Entity Definitions, from the CFTC Open Meeting, April 18, 2012.
  • Notification to the Commission is required to be reported to a swap data repository ("SDR") or, if no SDR is available, the swap must be reported to the commission. Required information should include notice of the election of the exception and the name of the electing counterparty ("the eligible end-user"). A filing must also be made annually citing the nature of the exception and, if the electing counterparty is an SEC filer, whether its board has approved the decision to enter into non-cleared swaps.

The definition covers swaps hedging and the mitigation business risks, and is irrespective of any accounting guidelines for hedging, or the CFTC's bona fide hedging rule. The rule became effective on September 17, 2012, and end-users must become compliant by April 10, 2013.

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End-user Exception, SEC[edit]

At its December 15, 2010 open meeting, the SEC addressed the end-user exception to the mandatory clearing requirement for swaps transactions as it pertains to security-based swaps. As with the CFTC proposal, the SEC proposal seeks public comments regarding, among other things, whether the exception should apply to small banks, savings associations, farm credit system institutions, and credit unions.

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