On March 15, President Biden signed into law the Adjustable Interest Rate (LIBOR) Act, which aims to reduce uncertainty about the effect of the end of LIBOR on existing USD LIBOR transactions, as part of the a set of omnibus expenses.
The London Interbank Offered Rate, or LIBOR, is a global interest rate benchmark based on the average of the interbank offered rates for deposits of different currencies and tenors in the London market based on quotes from major banks. Floating interest rates embedded in many types of financial contracts, including loans, derivatives and bonds, are often calculated by reference to LIBOR, with a spread of a given number of basis points. According to the Adjustable Interest Rate (LIBOR) Act, LIBOR is used as the reference rate in more than $200 trillion of existing contracts worldwide.
The one-week and two-month USD LIBOR rates were phased out on December 31, 2021, and all remaining USD LIBOR rates are scheduled to be phased out on June 30, 2023. The Federal Reserve Board of Governors (the Board), the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency have made it clear that supervised institutions, including banks and bank holding companies, should not enter into new contracts using USD LIBOR after December 31, 2021, subject to very limited exceptions.
Many legacy contracts that use LIBOR as a benchmark rate do not provide an effective fallback if LIBOR becomes unavailable, and many of these contracts are not easily changed to provide a new benchmark interest rate. In April 2021, New York passed a legislative “solution” for old contracts, but it only applied to contracts governed by New York law.
LIBOR is similar in many ways to New York law. Its main objective is to establish a clear and uniform national process for replacing LIBOR in existing contracts that do not provide for the use of a clearly defined or practicable replacement reference rate (other than as regarding the little-used one-week rate and two-month USD LIBOR maturities, which have already been discontinued and are excluded from LIBOR coverage).
For contracts that contain no alternate provisions (after ignoring certain types of alternates discussed below) or that contain alternate terms that do not identify a specific USD LIBOR benchmark replacement or identify a person having the authority to select a USD LIBOR benchmark replacement (referred to as a determining person), a Council-recommended benchmark replacement will automatically replace the USD LIBOR benchmark in the contract after June 30, 2023. the recommended benchmark will be based on the Secured Overnight Funding Rate (SOFR) published by the Federal Reserve Bank of New York. , including any recommended spread adjustments and any changes consistent with the benchmark replacement.
A spread adjustment is necessary because, unlike LIBOR, SOFR is effectively a risk-free rate. Changes consistent with the Benchmark Replacement are changes that the Board believes would resolve one or more issues surrounding the Contract’s Benchmark Replacement, or (for non-consumer contracts) that are necessary or appropriate to implement the new benchmark in the responsible person’s reasonable judgment. for the calculation of this reference under the contract (referred to as the person in charge of the calculation).
LIBOR provides that the following types of LIBOR replacement contractual clauses will be disregarded as if they were not included in the contract:
- provisions that base the LIBOR replacement in any way on a LIBOR value (such as provisions that fall back to the last published LIBOR rate), except to take into account the difference between LIBOR and the benchmark replacement; and
- provisions that require a transaction administrator to conduct a poll, survey or requests for quotes or information regarding interbank lending or deposit rates (such as provisions that require a transaction administrator to query reference banks for a LIBOR equivalent).
For contracts that identify a determining person, the determining person will have the authority to override the LIBOR rates with the benchmark override based on the SOFR selected by the Board. If the Determining Person selects no non-LIBOR Benchmark Override, the Board-selected Benchmark Override will automatically override the USD LIBOR rates in the Contract.
LIBOR contains “safe harbor” provisions protecting any person (including a determining person or calculating person) from liability for:
- the selection or use of a benchmark replacement based on the SOFR selected by the Board;
- the implementation of modifications in accordance with the replacement of the repositories; Where
- for contracts other than consumer loans, the determination of conforming changes to replace the benchmark index.
For contracts subject to the Trust Indenture Act of 1939 (TIA), the LIBOR Act amends Section 316(b) of the TIA to provide that the right of any holder of a security in deed to receive payment of principal and interest thereon the security shall not be deemed to be impaired or affected by any change resulting from the application of LIBOR to any security.
LIBOR has no effect on contracts that already contain fallback provisions identifying a benchmark replacement that is in no way based on USD LIBOR (including prime rate or effective federal funds), or which the parties agree in writing to withdraw. of the application of the LIBOR law.
LIBOR supersedes any state law relating to the selection of a replacement benchmark (including the recent New York law) or limiting the manner in which interest is calculated (to the extent such provision applies to the selection or use of a Board-Selected Benchmark or Substitute-Consistent Benchmark). LIBOR is not self-executing – it provides that no later than 180 days from the date of its enactment, the Board will promulgate regulations to implement LIBOR.