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Section 907 of the conference report makes a series of amendments to the Bankruptcy Code. Subsection (a)(1) amends the Bankruptcy Code definitions of ``repurchase

[Page: H5778]  GPO's PDF

   In connection with the definition of ``repurchase agreement,'' the term ``qualified foreign government securities'' is defined to include securities that are direct obligations of, or fully guaranteed by, central governments of members of the Organization for Economic Cooperation and Development (OECD). This language reflects developments in the repurchase agreement markets, which increasingly use foreign government securities as the underlying asset. The securities are limited to those issued by or guaranteed by full members of the OECD, as well as countries that have concluded special lending arrangements with the International Monetary Fund associated with the Fund's General Arrangements to Borrow. The term ``stockbroker,'' as defined in Bankruptcy Code section 101(53A), is intended to include within its scope an ``OTC derivatives dealer'', as that term is defined in Rule 3b-12 of the Securities Exchange Act of 1934, as amended, which is the new class of broker-dealer created by the Securities and Exchange Commission in 1999 to engage in over-the-counter derivatives transactions that are securities.

   Subsection (a)(1) also amends the definition of ``repurchase agreement'' to include those on mortgage-related securities, mortgage loans and interests therein, and expressly to include principal and interest-only U.S. government and agency securities as securities that can be the subject of a ``repurchase agreement.'' The reference in the definition to United States government- and agency-issued or fully guaranteed securities is intended to include obligations issued or guaranteed by Fannie Mae and the Federal Home Loan Mortgage Corporation (Freddie Mac) as well as all obligations eligible for purchase by Federal Reserve banks under the similar language of section 14(b) of the Federal Reserve Act.

   This amendment is not intended to affect the status of repos involving securities or commodities as securities contracts, commodity contracts, or forward contracts, and their consequent eligibility for similar treatment under other provisions of the Bankruptcy Code. In particular, an agreement for the sale and repurchase of a security would continue to be a securities contract as defined in the Bankruptcy Code and thus also would be subject to the Bankruptcy Code provisions pertaining to securities contracts, even if not a ``repurchase agreement'' as defined in the Bankruptcy Code. Similarly, an agreement for the sale and repurchase of a commodity, even though not a ``repurchase agreement'' as defined in the Bankruptcy Code, would continue to be a forward contract for purposes of the Bankruptcy Code and would be subject to the Bankruptcy Code provisions pertaining to forward contracts.

   Subsection (a)(1) specifies that repurchase obligations under a participation in a commercial mortgage loan do not make the participation agreement a ``repurchase agreement.'' Such repurchase obligations embedded in participations in commercial loans (such as recourse obligations) do not constitute a ``repurchase agreement.'' However, a repurchase agreement involving the transfer of participations in commercial mortgage loans with a simultaneous agreement to repurchase the participation on demand or at a date certain one year or less after such transfer would constitute a ``repurchase agreement'' (as well as a ``securities contract'').

   The definition of ``swap agreement'' is amended to include an ``interest rate swap, option, future, or forward agreement, including a rate floor, rate cap, rate collar, cross-currency rate swap, and basis swap; a spot, same day-tomorrow, tomorrow-next, forward, or other foreign exchange or precious metals agreement; a currency swap, option, future, or forward agreement; an equity index or equity swap, option, future, or forward agreement; a debt index or debt swap, option, future, or forward agreement; a total return, credit spread or credit swap, option, future, or forward agreement; a commodity index or commodity swap, option, future, or forward agreement; or a weather swap, weather derivative , or weather option.'' As amended, the definition of ``swap agreement'' will update the statutory definition and achieve contractual netting across economically similar transactions.

   The definition of ``swap agreement'' originally was intended to provide sufficient flexibility to avoid the need to amend the definition as the nature and uses of swap transactions matured. To that end, the phrase ``or any other similar agreement'' was included in the definition. (The phrase ``or any similar agreement'' has been added to the definitions of ``forward contract,'' ``commodity contract,'' ``repurchase agreement,'' and ``securities contract'' for the same reason.) To clarify this, subsection (a)(1) expands the definition of ``swap agreement'' to include ``any agreement or transaction that is similar to any other agreement or transaction referred to in [Section 101(53B) of the Bankruptcy Code] and that is of a type that has been, is presently, or in the future becomes, the subject of recurrent dealings in the swap markets? and [that] is a forward, swap, future, or option on one or more rates, currencies, commodities, equity securities or other equity instruments, debt securities or other debt instruments, quantitative measures associated with an occurrence, extent of an occurrence, or contingency associated with a financial, commercial, or economic consequence, or economic or financial indices or measures of economic or financial risk or value.''

   The definition of ``swap agreement'' in this subsection should not be interpreted to permit parties to document non-swaps as swap transactions. Traditional commercial arrangements, such as supply agreements, or other non-financial market transactions, such as commercial, residential or consumer loans, cannot be treated as ``swaps'' under either the FDIA or the Bankruptcy Code because the parties purport to document or label the transactions as ``swap agreements.'' These definitions, and the characterization of a certain transaction as a ``swap agreement,'' are not intended to affect the characterization, definition, or treatment of any instruments under any other statute, regulation , or rule including, but not limited to, the statutes, regulations or rules enumerated in subsection (a)(1)(C). The definition also includes any security agreement or arrangement, or other credit enhancement, related to a swap agreement, including any guarantee or reimbursement obligation related to a swap agreement. This ensures that any such agreement, arrangement or enhancement is itself deemed to be a swap agreement, and therefore eligible for treatment as such for purposes of termination, liquidation, acceleration, offset and netting under the Bankruptcy Code and the FDIA. Similar changes are made in the definitions of ``forward contract,'' ``commodity contract,'' ``repurchase agreement,'' and ``securities contract.'' An example of a security arrangement is a right of setoff; examples of other credit enhancements are letters of credit and other similar agreements. A security agreement or arrangement or guarantee or reimbursement obligation related to a ``swap agreement,'' ``forward contract,'' ``commodity contract,'' ``repurchase agreement'' or ``securities contract'' will be such an agreement or contract only to the extent of the damages in connection with such agreement measured in accordance with Section 562 of the Bankruptcy Code (added by the Act). This limitation does not affect, however, the other provisions of the Bankruptcy Code (including Section 362(b)) relating to security arrangements in connection with agreements or contracts that otherwise qualify as ``swap agreements,'' ``forward contracts,'' ``commodity contracts,'' ``repurchase agreements'' or ``securities contracts.''

   The use of the term ``forward'' in the definition of ``swap agreement'' is not intended to refer only to transactions that fall within the definition of ``forward contract.'' Instead, a ``forward'' transaction could be a ``swap agreement'' even if not a ``forward contract.''

   Subsections (a)(2) and (a)(3) amend the Bankruptcy Code definitions of ``securities contract'' and ``commodity contract,'' respectively, to conform them to the definitions in the FDIA.

   Subsection (a)(2), like the amendments to the FDIA, amends the definition of ``securities contract'' expressly to encompass margin loans, to clarify the coverage of securities options and to clarify the coverage of repurchase and reverse repurchase transactions. The reference in subsection (b) to a ``guarantee'' by or to a ``securities clearing agency'' is intended to cover other arrangements, such as novation, that have an effect similar to a guarantee. The reference to a ``loan'' of a security in the definition is intended to apply to loans of securities, whether or not for a ``permitted purpose'' under margin regulations. The reference to ``repurchase and reverse repurchase transactions'' is intended to eliminate any inquiry under section 555 and related provisions as to whether a repurchase or reverse repurchase transaction is a purchase and sale transaction or a secured financing. Repurchase and reverse repurchase transactions meeting certain criteria are already covered under the definition of ``repurchase agreement'' in the Bankruptcy Code. Repurchase and reverse repurchase transactions on all securities (including, for example, equity securities, asset-backed securities, corporate bonds and commercial paper) are included under the definition of ``securities contract''. A repurchase or reverse repurchase transaction which is a ``securities contract'' but not a ``repurchase agreement'' would thus be subject to the ``counterparty limitations'' contained in section 555 of the Bankruptcy Code (i.e., only stockbrokers, financial institutions, securities clearing agencies and financial participants can avail themselves of section 555 and related provisions).

   Subsection (a)(2) also specifies that purchase, sale and repurchase obligations under a participation in a commercial mortgage loan do not constitute ``securities contracts.'' While a contract for the purchase, sale or repurchase of a participation may constitute a ``securities contract,'' the purchase, sale or repurchase obligation embedded in a participation agreement does not make that agreement a ``securities contract.''

   Section 907(a) reflects the Senate position as represented in section 907(a) of the Senate amendment. The House version of this provision did not include the clarification that the definition applies to mortgage loans. The conference report also includes the Senate amendment's clarification of the reference to guarantee or reimbursement obligation.

   Section 907(b) amends the Bankruptcy Code definitions of ``financial institution'' and ``forward contract merchant.'' It is substantively identical to section 907(b) of the House bill and the Senate amendment. The

[Page: H5779]  GPO's PDF

   Subsection (b) also adds a new definition of ``financial participant'' to limit the potential impact of insolvencies upon other major market participants. This definition will allow such market participants to close-out and net agreements with insolvent entities under sections 362(b)(6), 555, and 556 even if the creditor could not qualify as, for example, a commodity broker. Sections 362(b)(6), 555 and 556 preserve the limitations of the right to close-out and net such contracts, in most cases, to entities who qualify under the Bankruptcy Code's counterparty limitations. However, where the counterparty has transactions with a total gross dollar value of at least $1 billion in notional or actual principal amount outstanding on any day during the previous 15-month period, or has gross mark-to-market positions of at least $100 million (aggregated across counterparties) in one or more agreements or transactions on any day during the previous 15-month period, sections 362(b)(6), 555 and 556 and corresponding amendments would permit it to exercise netting and related rights irrespective of its inability otherwise to satisfy those counterparty limitations. This change will help prevent systemic impact upon the markets from a single failure, and is derived from threshold tests contained in Regulation EE promulgated by the Federal Reserve Board in implementing the netting provisions of the Federal Deposit Insurance Corporation Improvement Act. It is intended that the 15-month period be measured with reference to the 15 months preceding the filing of a petition by or against the debtor.

   ``Financial participant'' is also defined to include ``clearing organizations'' within the meaning of FDICIA (as amended by the CFMA and Section 906 of the Act). This amendment, together with the inclusion of ``financial participants'' as eligible counterparties in connection with ``commodity contracts,'' ``forward contracts'' and ``securities contracts'' and the amendments made in other Sections of the Act to include ``financial participants'' as counterparties eligible for the protections in respect of ``swap agreements'' and ``repurchase agreements'', take into account the CFMA and will allow clearing organizations to benefit from the protections of all of the provisions of the Bankruptcy Code relating to these contracts and agreements. This will further the goal of promoting the clearing of derivatives and other transactions as a way to reduce systemic risk. The definition of ``financial participant'' (as with the other provisions of the Bankruptcy Code relating to ``securities contracts,'' ``forward contracts,'' ``commodity contracts,'' ``repurchase agreements'' and ``swap agreements'') is not mutually exclusive, i.e., an entity that qualifies as a ``financial participant'' could also be a ``swap participant,'' ``repo participant,'' ``forward contract merchant,'' ``commodity broker,'' ``stockbroker,'' ``securities clearing agency'' and/or ``financial institution.''

   Section 907(c) of the conference report adds to the Bankruptcy Code new definitions for the terms ``master netting agreement'' and ``master netting agreement participant.'' The definition of ``master netting agreement'' is designed to protect the termination and close-out netting provisions of cross-product master agreements between parties. Such an agreement may be used (i) to document a wide variety of securities contracts, commodity contracts, forward contracts, repurchase agreements and swap agreements or (ii) as an umbrella agreement for separate master agreements between the same parties, each of which is used to document a discrete type of transaction. The definition includes security agreements or arrangements or other credit enhancements related to one or more such agreements and clarifies that a master netting agreement will be treated as such even if it documents transactions that are not within the enumerated categories of qualifying transactions (but the provisions of the Bankruptcy Code relating to master netting agreements and the other categories of transactions will not apply to such other transactions). A ``master netting agreement participant'' is any entity that is a party to an outstanding master netting agreement with a debtor before the filing of a bankruptcy petition. Section 907(c) is substantively identical to section 907(c) of the House bill and the Senate amendment.

   Subsection (d) amends section 362(b) of the Bankruptcy Code to protect enforcement, free from the automatic stay, of setoff or netting provisions in swap agreements and in master netting agreements and security agreements or arrangements related to one or more swap agreements or master netting agreements. This provision parallels the other provisions of the Bankruptcy Code that protect netting provisions of securities contracts, commodity contracts, forward contracts, and repurchase agreements. Because the relevant definitions include related security agreements, the references to ``setoff'' in these provisions, as well as in section 362(b)(6) and (7) of the Bankruptcy Code, are intended to refer also to rights to foreclose on, and to set off against obligations to return, collateral securing swap agreements, master netting agreements, repurchase agreements, securities contracts, commodity contracts, or forward contracts. Collateral may be pledged to cover the cost of replacing the defaulted transactions in the relevant market, as well as other costs and expenses incurred or estimated to be incurred for the purpose of hedging or reducing the risks arising out of such termination. Enforcement of these agreements and arrangements free from the automatic stay is consistent with the policy goal of minimizing systemic risk.

   Subsection (d) also clarifies that the provisions protecting setoff and foreclosure in relation to securities contracts, commodity contracts, forward contracts, repurchase agreements, swap agreements, and master netting agreements free from the automatic stay apply to collateral pledged by the debtor but that cannot technically be ``held by'' the creditor, such as receivables and book-entry securities, and to collateral that has been repledged by the creditor and securities re-sold pursuant to repurchase agreements. Section 907(d) is substantively identical to section 907(d) of the House bill and the Senate amendment.

   Subsections (e) and (f) of section 907 of the conference report amend sections 546 and 548(d) of the Bankruptcy Code to provide that transfers made under or in connection with a master netting agreement may not be avoided by a trustee except where such transfer is made with actual intent to hinder, delay or defraud and not taken in good faith. This amendment provides the same protections for a transfer made under, or in connection with, a master netting agreement as currently is provided for margin payments, settlement payments and other transfers received by commodity brokers, forward contract merchants, stockbrokers, financial institutions, securities clearing agencies, repo participants, and swap participants under sections 546 and 548(d), except to the extent the trustee could otherwise avoid such a transfer made under an individual contract covered by such master netting agreement. Subsections (e) and (f) are substantively identical to section 907(f) of the House bill and the Senate amendment.

   Subsections (g), (h), (i), and (j) of section 907 clarify that the provisions of the Bankruptcy Code that protect (i) rights of liquidation under securities contracts, commodity contracts, forward contracts and repurchase agreements also protect rights of termination or acceleration under such contracts, and (ii) rights to terminate under swap agreements also protect rights of liquidation and acceleration. These provisions are substantively similar to their counterparts in section 907 of the House bill and Senate amendment.

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