Bank loan

Snapshot: Regulation of bank credit facilities in the United States


Equity and liquidity requirements

Describe how capital and liquidity requirements affect the structure of bank loan facilities, including the availability of related facilities.

Due to the capital requirements imposed on U.S. banks by the Basel III guidelines with respect to confirming letters of credit and maintaining swingline loan commitments, U.S. banks are facing internal pressures to only provide part of total letter of credit commitment and swingline commitment. , especially when engagement levels are high.

One approach is to provide in the bank loan documentation that each of the lenders under the revolving credit facility (or, at least, the lenders who are co-lead co-arrangers of the revolving credit facility) agree to a pro rata share of the letter of credit fronting the commitment and the swingline commitment, based on their respective shares of the total commitments under the revolving credit facility.

Another approach is to cap the overall exposure of the financial institution serving as the letter of credit issuing bank and principal lender such that the outstanding nominal amount of the letters of credit issued by the financial institution, when taken together with the aggregate principal amount of the swingline credits and revolving credits held by such financial institutions may not exceed the financial institution’s commitment under the revolving credit facility.

Disclosure requirements

For public enterprise debtors, are there any disclosure requirements applicable to bank loan facilities?

Under the U.S. Securities Exchange Act of 1934, as amended, public company debtors must disclose in a current report on Form 8-K, within four business days, the entering into of a material definitive agreement or the creation of a direct financial obligation. Debtor entry into a bank loan facility triggers a public disclosure requirement in both of these current reporting categories. Public debtors will generally also be required to disclose changes to material financing facilities.

Use of loan proceeds

How is the debtor’s use of bank loan proceeds regulated? What liability could investors be exposed to if the debtor uses the product contrary to the regulations? Can investors mitigate their liability?

The terms of the bank loan documentation prohibit obligors from using bank loan proceeds in violation of U.S. and foreign anti-corruption laws (such as the Foreign Corrupt Practices Act), anti-money laundering laws (such as the Bank Secrecy Act) and anti-terrorism laws (such as the USA PATRIOT Act, as reinstated by the USA FREEDOM Act, and regulations administered by the Office of Foreign Assets Control of the United States Department of the Treasury (OFAC)) . In addition to damage to the reputation of lenders, a violation of these regulations by the debtor could expose the lenders to sanctions, disgorgement of profits, questioning of the priority of the lenders’ security over the debtor’s security, fines pecuniary and criminal penalties, depending on the regulation violated and the extent of the violation. In some circumstances, lenders may be able to mitigate their liability by demonstrating that they have exercised due diligence on the debtor’s transactions and that the bank loan documentation contains certain safeguards, such as requirements that the debtor maintain and enforces internal policies regarding compliance with these regulations.

In addition, the bank loan documentation prohibits the obligor from using bank loan proceeds in violation of margin regulations promulgated by the Board of Governors of the Federal Reserve System. In particular, Regulation U prohibits banks from extending credit for the purpose of financing the purchase or holding of publicly traded equity securities (margin shares) in excess of the “maximum loan value”. » of the guarantee guaranteeing such credit. The maximum loan value of stocks on margin is 50% of their market value, which means that a bank cannot lend up to US$50 to a debtor to buy stocks on margin with a market value of US$100. EU if these margined stocks secure the loan, unless other non-margined stock collateral also secures the loan. Violations of Regulation U may lead to criminal liability of lenders as well as cancellation of the bank loan. To provide lenders with a defense against a request for cancellation, the bank loan documentation includes a statement from the debtor that it will not use the proceeds of the bank loan in violation of Regulation U. In addition, some loan documents bank will impose additional restrictions on the debtor’s use of proceeds, such as limiting the use of proceeds from the revolving facility to repurchase term loans.

A breach of the use of proceeds provisions of bank loan documentation almost always results in an automatic event of default, allowing lenders to accelerate any outstanding loan, terminate unused covenants, and pursue remedies against the debtor. and the warranty.

Cross-border loans

Are there regulations that limit an investor’s ability to extend credit to debtors organized or operating in particular jurisdictions? What liability do investors incur if they lend to these debtors? Can investors mitigate their liability?

Sanctions administered by OFAC prohibit U.S. persons (including financial institutions) from engaging in transactions in certain foreign countries targeted or involving persons or entities on OFAC’s list of Specially Designated Nationals. Blocked transactions include making loans to OFAC sanctions targets and fundraising for OFAC sanctions targets. OFAC regulations provide that a U.S. person who enters into a transaction with an OFAC sanctions target may be unable to enforce its rights under the applicable agreement, may be unable to enforce its rights under any warranties and may be subject to fines and other penalties by OFAC. However, OFAC sanctions do not impose strict liability on US persons. A U.S. Person may mitigate liability for OFAC violations by:

  • showing that they did not knowingly violate OFAC regulations;
  • showing that they had no reasonable reason to know or suspect that the transaction violated OFAC regulations; and
  • upon discovery of the violation, promptly report the violation to OFAC.

For this reason, the bank loan documentation will include a statement from the debtor that neither it nor its subsidiaries nor any of its respective directors, officers or employees are on OFAC’s list of Specially Designated Nationals or operate , are organized or reside in a targeted foreign country. . Depending on the debtor, this representation may extend to economic or financial sanctions or trade embargoes administered under foreign law, including the laws of the European Union and Her Majesty’s Treasury of the United Kingdom.

Debtor leverage profile

Are there limits to an investor’s ability to extend credit to a debtor based on the debtor’s debt profile?

Guidelines issued in March 2013 (and supplemented in November 2014 and clarified in February 2015) by certain U.S. financial institution regulators (the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency) outlines expectations for sound risk management of leveraged lending activities. Among other elements, the guidance called on regulated financial institutions engaged in leveraged lending to adopt a risk management framework that implements “an intensive and frequent review and monitoring process” with respect to lending. to leveraged debtors. In particular, the guidance indicated that leveraged financing resulting in an obligor having a total debt to EBITDA ratio greater than six times raises oversight concerns and that such transactions are much more likely to be criticized by regulators. More recent statements (particularly those of September 2018) from regulators of the aforementioned U.S. financial institutions have clarified that these prudential guidelines do not have the force of law and, further, that regulators do not take enforcement action based on prudential guidelines. . In particular, regulators have indicated they will limit the use of “clear line” tests and not criticize an institution for a “violation” of prudential guidelines.

Interest rate

Do regulations limit the interest rate that can be charged on bank loans?

State usury laws limit the amount of interest that can be charged for lending money. Failure to comply with usury laws could result in civil and criminal penalties for the lending institution. Although each state’s usury laws differ, it is generally the case that the maximum interest rate that can be charged by a lending institution to an individual differs from the maximum interest rate that can be charged to a commercial institution. Additionally, the maximum interest rate will often depend on the size of the loan in question. For example, in New York State, whose laws govern many business loans, the maximum interest rate that can be charged for a loan of money with a principal amount of less than US$2.5 million is 25%; however, if the loan has a principal amount of US$2.5 million or more, usury laws do not apply to the loan.

Currency restrictions

What are the limits on investors funding bank loans in a currency other than the local currency?

US law places no limits on US banks funding bank loans in a currency other than the US dollar.

Other regulations

Describe any other regulatory requirements that impact the structuring or availability of bank lending facilities.

Some additional regulatory requirements that impact the structuring and availability of bank lending facilities include the following:

  • The Investment Companies Act 1940 (the 1940 Act): an entity which is an investment company as defined in the 1940 Act is prohibited from engaging in various business activities, including borrowing on bank loans, unless that entity registers under the 1940 Act. If a lender makes a loan to an unregistered investment company, bank loan documentation may be unenforceable.
  • Anti-tying regulations: Anti-tying regulations enacted under amendments to the Bank Holding Company Act of 1970 prohibit U.S. banks from conditioning the availability or price of a banking product (for example, an extension of credit) on the requirement that the client also purchase a non-bank product (eg, capital markets underwriting services) from the bank or one of its affiliates. These regulations do not apply where the US bank customer is not a US Person.

Date declared by law

Correct the

Give the date the above content is accurate.

May 27, 2020.