Guidance

Draft Over the Counter Derivatives, Central Counterparties and Trade Repositories (Amendment, etc., and Transitional Provision) (EU Exit) Regulations 2018: explanatory information

Updated 29 October 2019

1. Stay up to date

The UK is leaving the EU. This page tells you how to prepare for Brexit and will be updated if anything changes.

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2. Context

The European Union (Withdrawal) Act 2018 (EUWA) repeals the European Communities Act 1972 on the day the UK leaves the EU and converts into UK domestic law the existing body of directly applicable EU law. The purpose of the EUWA is to provide a functioning statute book on the day we leave the EU.

The EUWA also gives Ministers powers to make Statutory Instruments (SIs) to prevent, remedy or mitigate any failure of EU law to operate effectively, or any other deficiency in retained EU law. We refer to these contingency preparations for financial services legislation as ‘onshoring’.

HM Treasury is using these powers to ensure that the UK continues to have a functioning financial services regulatory regime in any scenario.

This SI is part of the wider work the government is undertaking to prepare for the UK’s withdrawal from the EU. It is not intended to make policy changes, other than to reflect the UK’s new position outside the EU, and to smooth the transition.

3. Notice

The attached draft SI is intended to provide Parliament and stakeholders with further details on our approach to onshoring financial services legislation. The draft instrument is still in development. The drafting approach, and other technical aspects of the proposal, may change before the final instrument is laid before Parliament. This SI is meant to sit alongside the Central Counterparties (Amendment, etc., and Transitional Provision) (EU Exit) Regulations 2018 that were laid before Parliament on 24th July 2018 and the Trade Repositories (Amendment and Transitional Provision) (EU Exit) Regulations 2018 that were published by HM Treasury on 5 October 2018. The SI is based on the existing EU regulatory framework for over-the-counter (OTC) derivatives, central counterparties (CCPs) and trade repositories (TRs).

4. Policy background and purpose of the SI

4.1 What does the underlying EU regulation and UK law do?

The European Market Infrastructure Regulation (EMIR) lays down rules on OTC derivatives, CCPs and TRs. It regulates derivative trades by mandating risk mitigation techniques which vary depending on the financial instrument. It is the EU’s response to the G20 Pittsburgh commitment in 2009 that more derivatives trades should be cleared through CCPs and reported to trade repositories and is widely recognised as an important regulatory measure to improve the resilience of CCPs and address deficiencies in global derivatives markets.

The SI amends aspects of the onshored EMIR and related UK legislation to ensure that the UK continues to have an effective regulatory framework for OTC derivatives, CCPs and TRs in a no-deal scenario. This SI will also ensure that the UK upholds its international commitments.

4.2 Deficiencies this SI remedies

Consistent with the government’s objective of providing continuity to businesses and consumers as far as possible, the policy approach set out in the EMIR legislation will not change after the UK has left the EU. However, to ensure that the EMIR regime continues to operate effectively once the UK is outside of the EU, certain deficiency fixes to the legislation will be necessary. These are explained below.

Transfer of functions

This SI ensures that requirements imposed by EMIR continue to apply in the UK and transfers responsibilities from EU authorities to the appropriate UK authorities.

Functions under EMIR that are carried out by EU authorities, principally the European Commission and the European Securities and Markets Authority (ESMA), would no longer apply in the UK after EU Withdrawal. This SI removes this deficiency by generally transferring the functions of ESMA to the relevant UK regulator and the functions of the Commission to HM Treasury.

Equivalence

Under EMIR, a third country’s regulatory or supervisory regime may be deemed by the European Commission to be equivalent to the approach set out in EMIR. For example, a third-country regime may be equivalent in relation to its supervision of trade repositories, or its rules on bilateral margining. Equivalence decisions reduce duplication in regulatory or supervisory requirements between the EU and third-countries and facilitate international trade in financial services.

To ensure that the EMIR equivalence regimes can continue to operate effectively in the UK, HM Treasury will take on the Commission’s function of making equivalence decisions for third-country regimes. Where the Commission has taken equivalence decisions for third-countries before exit day, these will be incorporated into UK law and will continue to apply to the UK’s regulatory and supervisory relationship with those third countries – with the exception of those taken under Article 25 EMIR as set out in the Central Counterparties (Amendment, etc., and Transitional Provision) (EU Exit) Regulations 2018.

The SI transfers the power to make equivalence decisions for trade repositories from the Commission to HM Treasury under Article 75, and the power and functions to recognise non-UK TRs from ESMA to the FCA. The SI removes the requirement as set out in Article 75 (2) for an international agreement concerning the cross-border transfer of data. HM Treasury under its new powers under Article 75 (1) will determine whether non-UK TR regimes meet equivalent standards such as enforcement by non-UK supervisors of the transfer data to UK regulators.

Continuation of EMIR requirements and transfer of functions

The SI ensures that requirements imposed by EMIR continue to apply in the UK and transfers responsibilities in this regard to UK regulators. For example:

Continuation of EMIR requirements and transfer of functions - Clearing Obligation

UK firms will be obliged to continue to clear certain derivative contracts through authorised or recognised CCPs by the Bank of England (the Bank) after exit. For all financial and non-financial counterparties, the power to set the clearing obligation for different types of asset classes will be transferred from ESMA to the Bank. The Bank will also have the power to specify the timing for any phase-in of any new clearing obligations to apply to Prudential Regulation Authority (PRA) regulated entities, while the FCA will have the power to specify the timing of entry of any changes to the clearing obligation for other counterparties.

Continuation of EMIR requirements and transfer of functions - Reporting Obligation

The SI requires that UK firms and CCPs entering into derivatives will be obliged to report details of those trades to a TR that has been registered, or recognised, by the FCA after exit. The responsibility for further specifying reporting requirements will be transferred from EU institutions to the relevant UK regulators. The Bank will be responsible for setting them for CCPs and the FCA will be responsible for all other firms.

The SI introduces a power for the FCA, in the scenario where there is no registered or recognised UK TR available, to suspend the reporting obligation for a period of up to one year and with the agreement of HM Treasury. Under this power, the FCA will also be able to specify when firms would be expected to report previous trades undertaken during the suspension period once the suspension ends.

The UK reporting obligation will be onshored via the EUWA and existing requirements will continue as defined within in EMIR under Article 9 (1). This will require counterparties and CCPs to continue to report trades entered into before, and that were outstanding on, 16 August 2012 and trades entered into on and after that date. CCPs and counterparties, in meeting this obligation will be expected to report modifications or terminations of outstanding trades only to a trade repository that has been registered or recognised by the FCA.

Continuation of EMIR requirements and transfer of functions - Margin Obligations

Uncleared over the counter (OTC) derivative contracts are subject to a range of risk mitigation requirements, including margin obligations. These margin obligations will continue to apply to firms trading in the UK after exit and rule setting powers will be transferred from EU institutions to the PRA and FCA.

Intragroup exemptions

Intragroup exemptions may be granted to allow parts of corporate groups to trade with each other without having to go through clearing at a CCP. After exit, permanent intragroup exemptions between UK and EU firms (which will become third-country firms), and all temporary intragroup exemptions granted before exit day, will no longer apply in the UK. This would impact UK firms who are currently trading via intragroup exemptions as it would disproportionately increase costs and would put UK firms at competitive disadvantage.

The SI establishes a temporary intragroup exemption regime to ensure that intragroup transactions can continue to be exempted from EMIR requirements where this is the case to date. This regime will last three years and may be extended by HM Treasury in certain circumstances. The regime will allow enough time for the consideration of equivalence decisions – a prerequisite for a permanent exemption.

Firms do not have to apply for entry to the regime. The regime is designed to help UK groups who currently benefit from exemptions from certain requirements on transactions with affiliates in the EU or other third country jurisdictions.

Although the following groups of firms are outside of the scope of the temporary regime, they may continue to benefit from these exemptions: *UK firms who before exit day benefit from intragroup exemptions with their UK group entities; and *UK firms who before exit day benefit from intragroup exemptions with third country group entities that have the cover of an equivalence determination.

Pension schemes arrangements

The existing exemptions contained within EMIR concerning the clearing obligation and other requirements in EU law have lapsed and therefore under the powers of the EUWA will not form part of retained EU law. HM Treasury recognises the importance of this exemption, which is currently being negotiated in the EU as a part of amendments within the EMIR Regulatory Fitness and Performance (REFIT) proposal. Should EMIR REFIT come into force before the UK leaves the EU, the EU exemption would be onshored and continue to apply to UK pension funds as it would be onshored via the EUWA.

The existing definition of the Pension Scheme arrangements will be maintained and is not subject to revision as a part of this SI. This definition may be subject to revision as the EU finalises amendments to the Institutions for Occupational Retirement Provision Directive (IORP).

EMIR Processes

EMIR contains various processes or requirements for cooperation between UK and EEA regulators which will be amended or deleted in the SI:

EMIR Processes - Trade Repository Supervision

EMIR contains provisions relating to TR appeals, fines, supervisory fees, penalties and other supervisory requirements. These are being revoked and replaced with provisions that align with those already contained in the Financial Services and Markets Act 2000 (FSMA) concerning supervision and enforcement. This corresponds with the approach for credit rating agencies, as set out by HM Treasury on 8 October.

This SI expands the criminal offence of misleading the Financial Conduct Authority (FCA) to UK and non-UK TRs that apply for registration and recognition from the FCA after exit.

EMIR Processes - Colleges

Under EMIR, EU CCPs are supervised by colleges – groups of EEA regulators that oversee the jurisdiction in which CCPs and their members are based, and which assess compliance with EMIR requirements. Once the UK leaves the EU, the UK will be an independent from the EU jurisdiction and the college system as defined in EMIR will no longer be relevant to the UK. Instead, regulatory oversight will be provided by the Bank, FCA and PRA. The related EMIR provisions are therefore deleted from the onshored EMIR in the SI.

EMIR Processes - Information sharing

EMIR includes specific requirements and obligations on competent authorities to cooperate and share information with EEA authorities. As the UK will no longer be part of the EU supervisory regime this SI deletes these provisions. However, this will not preclude UK supervisors from sharing information with EU authorities where necessary, as the UK’s existing domestic framework for cooperation and information sharing with countries outside the UK already allows for regulatory cooperation and information sharing on a discretionary basis. Indeed, it is the UK’s firm intention to maintain a high level of mutually beneficial supervisory cooperation with EU and EEA authorities.

4.3 Relevant Rulebook and Binding Technical Standard changes

Under the EU system of financial regulation, the Commission is responsible for developing legislation, with the exception of binding technical standards (BTS), which are developed and drafted by the EU Supervisory Authorities (ESAs). Across financial services regulation, the Treasury is transferring responsibility for all BTS to UK regulators. The basis on which this function is to be exercised is set out in the Financial Regulators’ Powers (Technical Standards etc.) (Amendment etc.) (EU Exit) Regulations 2018.

For EMIR, the relevant BTS mandates will be brought into UK law with responsibility transferred to the Bank, FCA and PRA as appropriate. These authorities will have responsibility for correcting deficiencies in the EMIR BTS so that they operate effectively from day one of exit, and will be then responsible for ensuring these BTS remain fit for purpose after exit.

The Bank and FCA will be updating their rulebooks and relevant BTS to reflect the changes introduced through this SI, and to address any deficiencies as a result of the UK leaving the EU. The Bank and FCA have confirmed their intention to consult on these changes.

4.4 Stakeholders

This SI will affect CCPs, CCP clearing members, clients, TRs, TR users, and firms using derivative markets. HM Treasury has engaged with industry bodies where possible to ensure awareness of these changes.

This SI does not include provisions that may be necessary to ensure Gibraltarian financial services firms’ continued access to UK markets in line with the UK Government’s Statement in March 2018, and other provisions dealing with Gibraltar more generally. Where necessary, provisions covering Gibraltar will be included in future SIs.

5. Next steps

HM Treasury plans to lay this instrument before Parliament before exit.

6. Further information

Read HM Treasury’s approach to financial services legislation under the European Union (Withdrawal) Act 2018.

7. Enquiries

If you have queries regarding this instrument, email [email protected].