Contractual recognition of bail-in: EU implementation is finally here (1)
Since 1 January 2016, EEA2 banks and certain investment firms have been required to ensure that contracts creating liabilities governed by non-EEA law (other than certain excluded liabilities) include a contractual recognition and acceptance of the European bail-in powers. Article 55 of the Bank Recovery and Resolution Directive (BRRD) (which is supplemented by a draft Regulatory Technical Standard (RTS)) aims to put creditors of EEA financial institutions under non-EEA law-governed agreements in the same position as those under EEA law-governed agreements in relation to the exercise of bail-in powers.
This short article seeks to address three questions: 1. Scope: what is Article 55 of the BRRD meant to capture? 2. UK implementation: have the UK regulators delayed implementation? 3. The requirements are now in force – does that mean continued lobbying efforts are irrelevant?
Whilst the term "liability" is not defined in the BRRD, the UK Prudential Regulation Authority's (PRA) implementing rules define it as "any debt or liability to which the [relevant entity] is subject, whether it is present or future, certain or contingent, ascertained or sounding only in damages". This is to ensure that the requirement applies to all provable debts in insolvency and therefore includes monetary and non-monetary legal obligations which are capable of giving rise to a claim in insolvency. As a result, whilst promises to pay counterparties are quite clearly in scope, the requirements also apply to indemnities, representations, warranties and covenants whose breach could give rise to a claim against the entity subject to the rules. There is no suggestion that the BRRD (as opposed to the UK rules) intended the term to be construed more narrowly and it is this breadth of scope that has been proving hugely problematic for implementation.
On 25 November 2015, the PRA published a notice in relation to the "modification by consent" of the contractual recognition of bail-in requirements. To the extent that it would be impracticable for firms to comply in respect of liabilities other than certain debt instruments, the PRA will modify their rules on a firm-by-firm basis to allow implementation to be delayed until 30 June 2016 (or earlier, if the relevant rules are amended or revoked – the PRA will be consulting on changes to their rules in the early part of this year in order to bring them in line with the RTS). The Financial Conduct Authority has also published a notice in relation to the modification by consent of its rules so as to replicate the approach adopted by the PRA.
The regulators made clear that firms should consider implementation on a contract-by-contract basis. Rather than declaring implementation across the board to be impracticable, firms could only make that determination in relation to contracts where negotiation was simply not possible, for example in relation to contracts concluded with non-EU clearing houses.
The scope of liabilities to which the Article 55 requirements attach can only be narrowed to the extent the Level 1 text of the BRRD is amended. This could be achieved as part of the MREL Review which is scheduled to be completed in October 2016 or as part of the general BRRD review that is required to be finalised by 1 June 2018. As a result, lobbying efforts should continue apace in relation to the European Commission, European Central Bank and other national resolution and competent authorities.
1 For more detail on the requirements of Article 55 of the BRRD and the related RTS, please see: https://www.aohub.com/aohub/publication s/brrd-resolution-recognition-for-non-eealiabilities- of-eea-financial-institutions; and https://www.aohub.com/aohub/publication s/brrd-final-rts-on-resolution-recognitionfor- non-eea-liabilities-of-eea-financialinstitutions.
2 Note that the BRRD will be incorporated into the EEA financial services agreement so that it applies to Norway, Iceland and Liechtenstein but this is not anticipated to be completed until 2016 (although the timing may change – from that date, references to "EU" can be construed as references to "EEA"). Until the EEA financial services agreement is updated, the BRRD only applies in the EU and references cannot be read as EEA. Despite this requirement, the UK government has implemented the BRRD on the basis that it applies within the EEA and the PRA have taken this into account in drafting their rules and not applied a transitional provision to apply their rules only in the context of the EU in the period before the EEA financial services agreement is updated.