Countdown to Security-Based Swap Registration and Compliance Deadlines

In Short

The Situation: With some exceptions, registration with the Securities and Exchange Commission ("SEC") as a security-based swap ("SBS") dealer is required under the Securities Exchange Act of 1934 ("Exchange Act") for entities meeting or exceeding certain notional thresholds of SBS dealing activity as of August 6, 2021 (the "Counting Date") and thereafter. Similarly, as of the Counting Date, major SBS participants meeting or exceeding certain SBS position thresholds as set out in applicable Exchange Act rules will be required to register with the SEC. 

The Result: With the passing of the Counting Date, those firms meeting the relevant thresholds for SBS dealers and major SBS participants must prepare, in short order, to register and comply with extensive rules and requirements applicable to their SBS activities. Non-U.S. firms subject to U.S. registration should determine whether, and to what extent, compliance with their home countries' applicable rules and regulations may be available in lieu of complying with related Exchange Act Rules ("Substituted Compliance"). 

Looking Ahead: The deadlines for registration are rapidly approaching and firms that are subject to registration should be preparing their registration applications. In addition, firms should be developing policies and procedures to accommodate compliance with applicable rules while also ensuring that existing operations and regulatory compliance systems and procedures for other regulatory regimes (e.g., swap dealers regulated by the Commodity Futures Trading Commission ("CFTC")) are revised appropriately to comply with applicable Exchange Act Rules. Firms may wish to consider the ISDA 2021 SBS Top-Up Protocol ("ISDA SBS Protocol"), which builds off of earlier ISDA protocols that assisted with implementation of CFTC rules for swap dealers.

Unless otherwise exempted, entities engaging in SBS dealing activity in the immediately preceding 12 months, as of the Counting Date and thereafter, must register as an SBS dealer if the SBS positions connected with its SBS dealing activity have a gross notional amount exceeding certain thresholds (e.g., $3 billion for credit default swaps that are SBS, $150 million for other SBS, and $25 million with regard to all SBS where the counterparty is a special entity). With the passing of the Counting Date, therefore, potential SBS dealers must begin evaluating their activities to determine whether they meet or exceed the thresholds set out in Exchange Act Rules 3a71-1 through 3a71-5 and thus must register as an SBS dealer with the SEC. Similarly, entities maintaining substantial positions in SBS that are not otherwise SBS dealers must determine, pursuant to Exchange Act Rules 3a67-1 through 3a67-10, whether they meet the thresholds and criteria for being a major SBS participant subject to registration. If a market participant meets the definition of "SBS dealer" on or after the Counting Date, it must register with the SEC by November 1, 2021, while those meeting the definition of "major SBS participant" on or after the Counting Date must register with the SEC by December 1, 2021. 

In addition to the looming registration deadlines, SBS dealers and major SBS participants (each an "SBS entity" and together "SBS entities") must meet the compliance date of October 6, 2021, for several applicable rules. These rules include recordkeeping and reporting requirements; business conduct standards; trade acknowledgement and verification requirements; and risk mitigation requirements. Though the SEC's Division of Trading and Markets granted no-action relief for the initial implementation of certain of the SBS dealer rules during the "gap" between the compliance and registration dates, firms should continue to work towards implementation in the near term. In addition, the SEC adopted rules related to capital and margin requirements for SBS dealers and non-bank SBS dealers and non-bank major SBS participants (i.e., SBS entities for which there is not a prudential regulator) that also must be met by October 6. Again, while the Division of Trading and Markets has granted no-action relief to non-bank SBS dealers in certain circumstances regarding collecting initial margin from certain small counterparties, firms should continue to work towards achieving compliance with the applicable margin requirements. 

Non-U.S. SBS entities may be able to satisfy certain SBS rules and requirements by complying with their home country's comparable requirements, if the SEC makes a "Substituted Compliance" determination under Exchange Act Rule 3a71-6. The SEC has issued orders granting conditional Substituted Compliance for certain SBS entities subject to regulation by United Kingdom, German, and French authorities and entered into memoranda of understanding ("MOUs") with relevant U.K., German, and French authorities in connection with the use of Substituted Compliance. Similarly, the SEC has entered into a MOU with the European Central Bank related to supervision, information sharing, and oversight of certain cross-border over-the-counter derivatives entities regarding the use of Substituted Compliance. Currently, the SEC has a pending notice and proposed amended order for Substituted Compliance with German authorities, a pending notice and proposed order with respect to Substituted Compliance for Swiss SBS dealers subject to regulation in the Swiss Confederation, and a pending notice and proposed order regarding those subject to regulation in the Kingdom of Spain

Each Substituted Compliance order is specific to the particular country for which it is given and different orders will vary with respect to their terms. For that reason, it is important for entities from jurisdictions for which Substituted Compliance orders have been issued to carefully review them to ensure that they comply with the conditions in those orders. Furthermore, while it is possible that additional Substituted Compliance orders may be issued prior to the compliance deadline for the applicable SBS rules, non-U.S. SBS entities in jurisdictions for which SEC approval of Substituted Compliance has not yet been proposed or obtained should be preparing to comply with all applicable U.S. rules. 

To the extent they have not already done so, firms should be assessing their SBS activity to determine if registration is required. SBS dealers and major SBS participants also should be preparing to meet the compliance date by reviewing their practices as they relate to SBS activities and developing sound policies and procedures to meet applicable requirements. While certain swap-dealer practices and disclosures relevant under CFTC rules may be comparable, in many instances the requirements do vary and firms will need separate or additional disclosures and policies and procedures in order to comply with SBS requirements. As noted above, firms may wish to review the ISDA SBS Protocol in considering and addressing the different regimes. Finally, as discussed, non-U.S. entities in the jurisdictions noted above should ensure compliance with home-country laws and regulations regarding SBS activities as applicable while also taking into considerations any additional conditions imposed by the SEC.

Three Key Takeaways

  1. Firms should carefully consider whether they meet the threshold for registration as a SBS dealer or major SBS participant on or after the Counting Date. This will determine whether they are required to register (and if so, when) and comply with SBS-related recordkeeping and reporting requirements, business conduct standards, and other requirements.
  2. Firms should be reviewing and updating current policies and procedures to reflect the new requirements that apply to their SBS business, even in light of SEC no-action relief that may provide for temporary delays in compliance.
  3. Non-U.S. firms required to register in the U.S. as SBS dealers, and ones that are seeking to rely on Substituted Compliance with their home country requirements for SBS activities, should ensure they are following the terms of the relevant SEC order and any conditions set forth therein.
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