EMIR: Refit finally arrived

More than two years after the European Commission published its proposal to amend the European Market Infrastructure Regulation (EMIR) on 4 May 2017, the amending regulation finally came into force on 28 May 2019.  The text, widely referred to as the Refit Regulation - or simply Refit - after the European Commission's Regulatory Fitness and Performance programme, will apply from 17 June 2019 and makes important changes to EMIR. Its aim is to simplify the rules and reduce regulatory and administrative burdens where possible, especially for non-financial counterparties, without compromising the regulatory goal of EMIR to make the global financial system less risky. However, for certain counterparty types, the wider scope means that the related operational burdens may in fact have increased.

In this briefing, we consider the key changes made to EMIR by the Refit Regulation and their implications for the OTC derivatives market.

Key points 

• EU Alternative Investment Funds (AIFs) are now classed as financial counterparties (FCs), irrespective of where their investment manager is established. Non-EU AIFs managed by EU investment managers (AIFMs) are still classed as FCs.
• Certain non-EU AIFs are now also classed as FCs and are therefore subject to mandatory clearing obligations when trading with in-scope entities.
• All FCs and non-financial counterparties which exceed the clearing thresholds (NFC+s) remain subject to mandatory margining requirements.
• FCs and non-financial counterparties (NFCs) must choose whether or not to calculate their OTC derivative positions on 17 June 2019. They must then notify ESMA and the relevant competent authorities if (i) they exceed the existing clearing thresholds, or (ii) they choose not to perform the calculation.
• Entities which choose not to perform the calculation are automatically considered to be above the clearing thresholds, and are therefore subject to the clearing obligation.
• FCs which exceed the clearing thresholds (FC+s) or which do not perform the position calculation are required to clear all derivative contracts which are subject to mandatory clearing. Those which do not exceed the thresholds (FC-s) are not required to clear.
• NFCs can limit the scope of their clearing obligation to those class(es) of OTC derivatives in which they exceed the clearing thresholds by performing the position calculation and notifying ESMA and the relevant competent authorities if they exceed the thresholds. NFCs which do not perform the calculation must clear all derivative contracts which are subject to mandatory clearing.
• FCs engaging in hedging activity will no longer be able to exclude these transactions from their clearing threshold calculation and must include the OTC derivative positions of all entities within their group.
• FC+s and NFC+s will have four months from the date on which they give notification of their status to put in place clearing arrangements.
• Category 3 counterparties (smaller FCs and AIFs which are NFCs) which become subject to mandatory clearing for G4 interest rate and credit derivative products on 21 June 2019 will now have until 17 October 2019 to put in place clearing arrangements.
• Category 4 counterparties (non-AIF NFC+s) which become subject to mandatory clearing for interest rate products denominated in non-G4 currencies on 9 August 2019 will also have until 17 October 2019 to do so.
• The exemption from the clearing obligation for pension scheme arrangements has been extended for two years until 18 June 2021 and is applied retrospectively to all in-scope transactions entered into since 16 August 2018.
• The exemption from variation margin requirements for physically settled foreign exchange forwards and swaps that expires on 1 January 2020 is proposed to be extended indefinitely for all counterparties other than those which pose the highest level of systemic risk.  Draft technical standards are being formulated to achieve this.
• FCs will be responsible and legally liable for accurately reporting, for their NFC– counterparties, details of OTC derivatives entered into on or after 18 June 2020 unless the NFC- counterparty elects otherwise. FCs will need to ensure operational readiness to undertake such reporting and review their delegated reporting arrangements to determine whether they are still appropriate.

BACKGROUND

Publication of the Refit Regulation follows the submission to the European Parliament and the Council of the EU of a report on EMIR (the EMIR Review) by the European Commission in November 2016.  The EMIR Review was mandated under Article 85(1) of EMIR and concluded (after some delay) that, although no fundamental change to the core requirements of EMIR was needed, certain areas could be adjusted to simplify the rules and reduce disproportionate cost without compromising the overarching regulatory objectives.

You can read more about the original proposal submitted by the European Commission here and more about the EMIR Review here.

The European Commission published the Refit proposal on 4 May 2017. Following a series of negotiations on the proposed text, including in trilogue between the European Commission, the European Parliament and the Council of the EU, the final text was adopted on 14 May 2019.

CLEARING

Financial Counterparty definition widened to include EU AIFs, UCITS management companies and Central Securities Depositories

The original Refit Regulation proposed widening the classification of "financial counterparty" (FC) by, amongst other things, including securitisation special purpose entities (SSPEs) and central securities depositories (CSDs) in the definition.

The final Refit Regulation does widen the FC definition somewhat, but not as much as originally proposed.  The principal changes are as follows:

• The definition now includes alternative investment funds (AIFs) that are established in the EU, as well as AIFs with an EU-authorised alternative investment fund manager (AIFM) (also see Application of clearing obligation to non-EU AIFs below);
•  AIFs (where relevant managed by an EU AIFM) that are SSPEs are specifically excluded from the definition of FC (also see Application of clearing obligation to non-EU AIFs below);
• UCITS set up exclusively for serving one or more employee share purchase plans are also carved out, but UCITS' management companies are now explicitly included;
• CSDs are now classified as FCs; and
• References to legislation have been updated; for example, the definition now refers to investment firms authorised in accordance with MiFID II, rather than MiFID, and credit institutions authorised in accordance with the Capital Requirements Directive, rather than its predecessor.

Application of clearing obligation to non-EU AIFs

Under EMIR, an AIF is classed as a FC only if its manager is authorised or registered under the EU Alternative Investment Funds Directive (Directive 2011/61/EU) (AIFMD), irrespective of where the AIF itself is established. Under the Refit Regulation this has changed, so that an AIF will now be classed as a FC if (i) its manager is authorised or registered under the AIFMD, or (ii) it is established in the EU. 

One consequence of this change is that non-EU AIFs are now more likely to be classed as non-EU equivalent FCs for the purposes of Article 4(1)(iv) of the Refit Regulation, on the basis that they would be FCs if they were established in the EU. Such entities will now therefore need to make their calculations on an "equivalent FC" basis, rather than on an "equivalent NFC" basis. The calculation methodology for FCs is different from the NFC methodology, and is more likely to result in clearing thresholds being exceeded because (i) FCs are not permitted to exclude hedging activity from their calculations (as NFCs are), and (ii) FCs must take into account the derivatives activity of all of their group entities, rather than only the activity of other entities of the same classification (as is the case for NFCs) (also see New clearing threshold calculation and notification requirements below). Once a clearing threshold has been exceeded, FCs are subject to mandatory clearing in all relevant classes of OTC derivatives when trading with other FC+s or NFC+s.

As this is such a significant development, ISDA has published an explanatory note to help market participants to explain the impact of these changes to clients that will be newly in-scope under Refit.

The inclusion of EU AIFs in the definition of a FC and the widening of the clearing obligation scope to include non-EU equivalents increases the significance of whether a counterparty is (i) an AIF as defined under AIFMD, and (ii) a SSPE and therefore not a FC under the Refit Regulation.  

What is an Alternative Investment Fund?

The key elements of the definition of an AIF under AIFMD are that:

• It is a collective investment undertaking;
•  It raises capital from a number of investors; and
• It has a defined investment policy about how the pooled capital will be managed to generate a pooled return.

While ESMA has published guidelines on the interpretation of these key elements, they do not address the type of instruments that qualify as capital raising.  The FCA’s perimeter guidance (PERG 2.44 of the FCA Handbook), however, does address this and indicates that a key differentiator between entities that should be considered AIFs and those that should not is whether the entity raises capital from investors through the issue of shares or units, or raises finance through the issue of debt securities. However, the dividing line is not always clear, for example where profit participating loan notes are issued.  Consideration should therefore be given to the instruments through which the entity raises funds from investors as this may be material to the proper characterisation of an entity.

What is a Securitisation Special Purpose Entity?

SSPEs are defined by reference to AIFMD as entities "whose sole purpose is to carry on a securitisation or securitisations…and other activities which are appropriate to accomplish that purpose".

A key element of that definition is that the entity must have as its "sole activity" carrying out securitisations and activities "appropriate to accomplish that purpose".  "Securitisations" are defined under Regulation (EC) 24/2009 of the European Central Bank (the Statistics Regulation) as follows:

"a transaction or scheme whereby an asset or pool of assets is transferred to an entity that is separate from the originator and is created for or serves the purpose of the securitisation and/or the credit risk of an asset or pool of assets, or part thereof, is transferred to the investors in the securities, securitisation fund units, other debt instruments and/or financial derivatives issued by an entity that is separate from the originator and is created for or serves the purpose of the securitisation and… where such securities, securitisation fund units, debt instruments and/or financial derivatives are issued, they do not represent the originator's payment obligations".

Additional conditions apply to structures that transfer credit risk but this definition is nonetheless notably broader than equivalent definitions under the Capital Requirements Regulation (Regulation (EC) 575/2013) (CRR) and the Securitisation Regulation (Regulation (EC) 2017/2042) in that it doesn't require a tranching of risk.  As such, it is conceivable that certain fund structures, particularly those using asset holding subsidiary entities, include entities that are SSPEs for EMIR purposes. However, consideration may need to be given to whether the entity’s sole activity is securitisations. This will be a question of fact and care needs to be taken where, for example, such entities are engaged in direct lending activities as well as purchasing assets.

Timing of Application

On 28 March 2019, ESMA published a statement (the ESMA statement) confirming that newly in-scope entities, including non-EU AIFs, will need to make their calculations and notifications on 17 June 2019 - the day on which Refit enters into force. There is no phase-in so newly affected entities have little time to ensure compliance. This decision was made late in the legislative process, with little market consultation. ISDA had previously lobbied for changes to counterparty scope to be subject to a six-month phase-in period and the European Parliament’s ECON Committee had suggested a five month phase-in, but these suggestions were not adopted. As a result, ISDA has asked ESMA to confirm that, for six months after the application of the Refit Regulation, ESMA would expect national competent authorities to exercise their supervisory powers proportionately in relation to derivatives contracts entered into with newly in-scope entities. However, as at the date of publication, no official response had been received. 

After notification of their status to ESMA, FC+s and NFC+s will have four months, until 17 October 2019, to establish the clearing arrangements necessary to allow them to clear applicable transactions going forward, and to put in place collateral documentation providing for the mandatory exchange of margin.

New FC- classification 

Under EMIR, all FCs and all non-financial counterparties that exceed specified thresholds (known as NFC+s) are subject to the clearing obligation.

The EMIR Review noted that small FCs often undertake such limited OTC derivative activity that it is not commercially viable for them to establish clearing solutions, and that their activity poses less of a systemic risk to the financial system than that of larger FCs. These smaller FCs would face significant challenges if they were required to clear, principally as a result of the leverage ratio requirements anticipated by clearing members under the CRR.

The Refit Regulation addresses this by dividing FCs into two categories: those that exceed the specified thresholds (FC+s) and those that do not (FC-s). FC-s are not subject to the clearing obligation, in the same way that NFC-s are not. The clearing thresholds are defined by asset class and are specified in Commission Delegated Regulation (EU) No 149/2013. An entity will only be a FC- if it is below the thresholds for every asset class (see The clearing thresholds below). 

The clearing thresholds

The thresholds remain unchanged under Refit, as follows (gross notional value):

• EUR 1 billion for OTC credit derivative contracts;
• EUR 1 billion for OTC equity derivative contracts;
• EUR 3 billion for OTC interest rate derivative contracts;
• EUR 3 billion for OTC foreign exchange derivative contracts; and
• EUR 3 billion for OTC commodity derivative contracts and all other classes of OTC derivatives combined.

New clearing threshold calculation and notification requirements

Calculation and notification requirements for FCs and NFCs

Under EMIR, all FCs and NFC+s were subject to the clearing obligation when facing other FCs and NFC+s or non-EU equivalent entities. The clearing thresholds for NFCs were calculated on a rolling 30-day average and NFCs could (at least in theory) drop in and out of the NFC+ categorisation requiring notification to ESMA each time.  In practice, those NFCs close to the clearing thresholds typically declare themselves as NFC+s, implement clearing and margining arrangements and comply with the mandatory clearing and margining requirements as the practical reality is that it is difficult to identify to which transactions these requirements do or do not apply once the arrangements are in place.

The Refit Regulation recognises this practical reality by explicitly allowing both FCs and NFCs to choose whether or not to make the clearing threshold calculations. Where an entity chooses not to make the calculation, it must notify ESMA and the relevant competent authorities of this choice and it is automatically considered to have exceeded the threshold, thus becoming subject to the clearing obligation as a FC+ or NFC+ for all mandatorily clearable transactions four months thereafter. Where an entity chooses to make the calculation and it is a FC+ or a NFC+, it must also provide notification  and will become subject to the clearing obligation four months thereafter. NFCs are incentivised to perform the calculation as doing so narrows the scope of their clearing obligations to the asset class(es) in which they exceed the clearing threshold rather than all mandatorily clearable classes.

If an entity determines that it does not exceed the clearing thresholds (i.e. it is a FC- or NFC-), there is no explicit notification requirement.

Annual calculation based on previous twelve months' activity

 The calculation methodology has also changed under the Refit Regulation.  Rather than calculating the clearing thresholds on a 30-day rolling basis, entities will now undertake the calculation annually based on the aggregate month-end average position in OTC derivative contracts for the previous twelve months. Despite lobbying from ISDA for delayed implementation of the new regime, it was confirmed in the ESMA statement that the first notification is expected to be made on the date of application of the Refit Regulation – 17 June 2019. This means that FCs and NFCs must be able to perform the necessary position calculations in advance of Refit taking effect, so that they can either (i) notify ESMA and the relevant competent authorities if their positions exceed one of the clearing thresholds or (ii) give notification of non-calculation and be automatically brought fully within scope.

Once an entity has become subject to the clearing obligation, it remains so until the next annual calculation date and until its aggregate month-end average position for the previous twelve months on such calculation date no longer exceeds a clearing threshold, unless it can demonstrate beforehand that it has fallen below the threshold.

Calculating entities must also be able to demonstrate that the calculation does not lead to a systematic underestimation of the position.

Calculation methodology dependent on FC/NFC classification

When making the calculation to determine whether it is a FC+, a FC must include all OTC derivative contracts entered into by it (including hedging transactions) and by all other members of its group. A NFC making the calculation is, by contrast, still permitted to exclude its hedging transactions and only needs to include the OTC derivative contracts entered into by the other NFC members of its group.

For AIFs and UCITS, these calculations are to be made at fund level.

Reduced scope for calculating NFC+s 

FC+s must clear all OTC derivatives that are subject to mandatory clearing. The requirement is the same for NFCs which do not calculate their activity levels, as they are automatically deemed to exceed the threshold for each asset class. However, calculating NFC+s only need to clear OTC derivatives of the class(es) in respect of which they have breached the threshold. As such, it is preferable for NFCs to perform the clearing threshold calculations and notify ESMA and the relevant competent authorities if they exceed the relevant threshold, thereby reducing the scope of their clearing obligation.

Effective dates for Category 3 and Category 4 counterparties

The requirement for non-AIF NFC+s (i.e. Category 4 counterparties) to clear interest rate products in G4 currencies came into force on 21 December 2018. However, given that certain Category 4 entities were expecting ultimately to be exempted from the clearing obligation due to low activity levels, ESMA issued a statement in October 2018 confirming that it expected national competent authorities to prioritise their supervisory actions accordingly. This has meant that NFC+s which do not breach the clearing threshold for interest rate products have not typically cleared these products despite technically being required to do so since December 2018.

As mentioned above, ESMA confirmed in the ESMA statement that clearing threshold notifications must be made on the Refit effective date even for entities which have not previously been subject to the clearing obligation (i.e. Category 3 and newly in-scope counterparties). However, as the Refit Regulation provides a four-month period from the date of notification for in-scope entities to establish clearing arrangements, Category 3 counterparties (smaller FCs and AIFs which are NFCs) which become subject to mandatory clearing for G4 interest rate and credit derivative products on 21 June 2019, and Category 4 counterparties which become subject to mandatory clearing for interest rate products denominated in other currencies on 9 August 2019, will now have until 17 October 2019 to put in place their clearing arrangements, as confirmed in the May 2019 ESMA Q&A (also see Updated ESMA Q&A below). 

The clearing obligation

Paragraph 1 of Article 4 of amended EMIR, which establishes the clearing obligation, now provides that the clearing obligation applies to all OTC derivative contracts pertaining to a class of OTC derivatives that has been declared subject to the clearing obligation if those contracts are:

• concluded between:

    - two FC+s;

    - a FC+ and a NFC+

    - two NFC+s;

    - a FC+ or a NFC+ and a non-EU entity which would be subject to the clearing obligation if it were established in the EU; and 

   -  two non-EU entities which would be subject to the clearing obligation if they were established in the EU where the contract in            question has a direct, substantial and foreseeable effect in the EU or where necessary to prevent the evasion of any provision          under EMIR; and 

• concluded on or after the applicable clearing effective date.

Removal of frontloading

Under EMIR, certain OTC derivative contracts were subject to the clearing requirement even if they had been concluded prior to the relevant clearing effective date.  This was termed "frontloading" and no longer applies under the Refit Regulation.  The rationale for this is set out in the Recitals and includes the fact that the frontloading requirement created legal uncertainty and operational complications but was only of limited benefit.

Given that the clearing obligation for most categories of counterparty has already taken effect, this change will be of limited benefit.  However, if the clearing obligation is widened in the future to encompass other asset classes, the removal of the frontloading requirement will help to reduce the operational burden on those affected.

New power to suspend clearing obligation 

A new Article 6a has been inserted by the Refit Regulation, allowing the European Commission, at the request of ESMA and following consultation with national competent authorities and the European System of Central Banks (ESRB), to suspend the clearing obligation for a specific class of OTC derivative or for a specific counterparty type in certain circumstances. 

Under the new provision, ESMA can request a suspension in any of the following situations:

That class of OTC derivative is no longer suitable for central clearing on the basis of the criteria set out in EMIR;

• A CCP is likely to cease clearing that class of OTC derivative and no other CCP is able to do so without interruption; 
•  Suspension is necessary to avoid a serious threat to financial stability or the orderly functioning of financial markets in the EU and the suspension is proportionate.

ESMA may also request a corresponding suspension of the derivatives trading obligation under the EU Markets in Financial Instruments Regulation (Regulation (EU) 600/2014) (MiFIR). Any such suspension(s) can be implemented on an expedited basis and will initially last for no longer than three months. Thereafter, the suspension may be extended by additional periods, each lasting no more than three months, subject to an overall limit of twelve months.

The FRAND Requirement for CCPs and clearing members

A new provision has been inserted at Article 4(3a), requiring clearing members and clients of clearing members providing direct or indirect clearing services to provide their services under fair, reasonable, non-discriminatory and transparent commercial terms (the so-called "FRAND" requirement). These entities are required to take "all reasonable measures" to identify, prevent, manage and monitor conflicts of interest that may adversely affect the provision of their services under such terms. The requirement also applies where trading and clearing services are provided by different legal entities belonging to the same group. 

In due course, the European Commission will adopt delegated acts specifying the conditions under which commercial terms will be considered to meet the FRAND requirement, based on certain specified factors set out in the Refit Regulation. 

Extension and retroactive application of pension scheme arrangement exemption

EMIR contains a temporary exemption from the clearing requirement for hedging transactions entered into by pension scheme arrangements (PSAs). The exemption is recognition that PSAs do not hold the amounts of cash required to allow them to comply with CCPs' daily margining requirements and is intended to give the industry time to develop a viable solution for the transfer of non-cash collateral for such purposes. The exemption originally lasted for three years until 16 August 2015 and was subsequently extended until 16 August 2018, when it expired. Since that date, PSAs have been relying on a statement made by ESMA in July 2018 that it expected the exemption to be extended under the forthcoming Refit Regulation and that competent authorities should therefore exercise their supervisory powers in a proportionate manner in the meantime.

The Refit Regulation extends the exemption for a further two years, until 18 June 2021, and also applies it retroactively, officially exempting any otherwise in-scope transactions entered into by PSAs since 16 August 2018. However, as the Recitals make clear, the ultimate goal is still for PSAs to clear their in-scope transactions once a viable solution has been developed. A report on progress in this area is to be prepared by ESMA on an annual basis for the European Commission to consider. 

Notwithstanding the extension of the clearing exemption, PSAs remain subject to existing risk mitigation requirements, including the obligation to exchange margin. 

MARGINING

Margin requirements are dealt with only generally under EMIR. Article 11 sets out the basic risk mitigation requirements but the detail is contained in EU Delegated Regulation 2016/2251 (the Margin Rules).

Future validation of risk management procedure

Under the Refit Regulation, a new requirement has been added into Article 11 that requires additional technical standards to be developed specifying new supervisory procedures to be introduced requiring initial and ongoing validation by national competent authorities of in-scope entities' risk management. The reason for this new requirement, as explained in the Recitals, is to avoid inconsistencies across the EU which may arise due to the complexity of the procedures used. Competent authorities will be required to validate the procedures used, and any significant changes to such procedures, before they apply. Draft technical standards are to be provided in due course.

Future restriction of requirement to exchange variation margin for physically settled FX swaps and forwards

 Under EMIR, a time-limited exemption from the requirement to exchange variation margin has been available for physically settled foreign exchange forwards and physically settled foreign exchange swaps. The exemption is due to expire on 1 January 2020. However, the Recitals to the Refit Regulation propose that, in the interests of international convergence and to reduce the risks associated with currency risk exposures, the mandatory exchange of variation margin for these products should be restricted to transactions between counterparties which pose the highest level of systemic risk. This cannot be achieved in the level one text, as the substantive margin requirements are all established in the Margin Rules, so level two technical standards will be required to implement this.

No change is made under the Refit Regulation to the time-limited exemption from the requirement to exchange variation margin for single stock equity and index options. This will expire on 4 January 2020 but ESMA is expected in the summer to launch a consultation on an extension to this.

The is also no indication as to whether any change will be made to the threshold for Phase five counterparties becoming subject to initial margin requirements from 1 September 2020. 

TRADE REPORTING

 EMIR requires all EU derivative market participants, whatever their status, to report the details of their derivative contracts to a trade repository registered with or recognised by ESMA. The Refit Regulation makes various changes to the reporting regime under EMIR, which are broadly intended to ease the administrative burden on non-financial reporting entities. However, in practice, some of the changes may in fact create additional administrative challenges.

FCs responsible and legally liable for reporting on behalf of NFC-s

Unless a NFC- chooses otherwise, FCs are responsible and legally liable for accurately reporting both sides of their trades with NFC-s. Where a FC is reporting details of a trade with a NFC, the NFC must provide the details that the FC cannot reasonably be expected to know, and the NFC is responsible for their accuracy. Where the NFC chooses to report for itself (and informs its FC counterparty), it may still delegate to a third party in the same way that it does under EMIR.

As such, both FCs that currently provide a delegated reporting service and NFCs that currently delegate their reporting may need to review their existing arrangements. In addition, FCs will need to set themselves up operationally to report for their NFC counterparties. Helpfully, this requirement does not come into effect until 18 June 2020.

For UCITS and AIFs, it is the management company and the AIF's AIFM (respectively) that is responsible for reporting the fund's transactions, and for the accuracy of the report. 

Dual-sided reporting remains

Despite original proposals and lobbying from ISDA for dual-sided reporting to be replaced with single-sided reporting, this proposal was not accepted and dual-sided reporting remains. 

Substituted compliance available

The Refit Regulation introduces substituted compliance for reporting transactions between an EU NFC- and a non-EU equivalent FC where (i) an equivalence decision has been made in respect of the non-EU jurisdiction and (ii) the non-EU entity has reported to an entity that is obliged to allow ESMA and other specified entities immediate access to its data.

Removal of reporting requirement for intra-group transactions

The Refit Regulation also removes the reporting requirement for intra-group transactions where one or both counterparties is/are (or would be, if established in the EU) a NFC and the following conditions are met:

• The parent is not a FC;
•  The relevant competent authorities have been informed;
• Both entities are included in the same consolidation on a full basis; and
• Both counterparties are subject to risk evaluation, measurement and control procedures.

Removal of backloading 

The reporting obligation extends back to cover certain trades that were entered into before EMIR entered into force but were no longer in force when the reporting obligations were phased in. This is known as "backloading". It has proven difficult for market participants to gather all the necessary data for this, as many of the reportable details were not accurately recorded or easily retrieved. For this reason, the Refit Regulation removes the obligation altogether.

The backloading requirement has only applied since February 2019, and at the end of January 2019 ESMA issued a statement indicating that, given that Refit was due to come into force and remove the requirement, it expected national competent authorities to exercise their supervisory powers in a proportionate manner. As a result, in practice, many entities have not reported these historical trades.

Updated ESMA Q&A

 On 28 May 2019, ESMA updated its EMIR Q&A to provide interpretive guidance on the new Refit provisions, including the following:

• FCs and NFCs choosing to calculate their aggregate month-end positions for the previous twelve months must do so on 17 June 2019;
• FCs and NFCs which exceed the clearing thresholds, or which choose not to calculate their positions, must notify ESMA and the relevant competent authorities thereof on 17 June 2019;
• The notification requirements apply equally to entities which were subject to the clearing obligation before Refit entered into force and which had previously provided notification that they exceeded the thresholds;
• The position calculation should be repeated every twelve months. If an entity's status is unchanged at the next calculation date, no further notification is required;
• Where an entity chooses not to calculate its position on 17 June 2019, and provides notification thereof, no further notification is required if it again chooses not to calculate twelve months later;
• Entities which perform the calculation on 17 June 2019 but provide no notification because they are below the thresholds, and which then choose twelve months thereafter not to perform the calculation must give notice of non-calculation, as they will automatically become a FC+ or NFC+, as applicable;
• A counterparty which has given notification that it exceeds the thresholds can give further notice at any time that it no longer exceeds the thresholds. Twelve months after such notification it must choose whether or not to perform the calculation again, and must then provide notification of (i) exceeding the clearing thresholds or (ii) non-calculation, as applicable. If its status has not changed, no further notification is required;
• For group entities, a single notification to (i) ESMA and (ii) the competent authority for each EU member state in which it has entities which trade OTC derivatives is sufficient for the whole group;
• The clearing obligation will apply to all relevant transactions entered into more than four months after notification of exceeding the thresholds or non-calculation is given. If, during the four months between notification and application of the obligation, the counterparty is able to demonstrate that it no longer exceeds the thresholds, the obligation to clear will fall away;  
• Entities may continue to rely on representations provided by their counterparties as to their status under EMIR. Where no representation is obtained, the assumption (as notified to the counterparty) should be that the counterparty in question is above the threshold; and
• Entities which are due to become subject to the clearing obligation for certain product types on 21 June 2019 and 9 August 2019 will now have until 17 October 2019 to put in place their clearing arrangements.

Future developments

The Recitals to the Refit Regulation suggest that further analysis of the derivatives reporting regime – for both OTC and non-OTC transactions - will follow when "sufficient experience and data" is available, with a view to further reducing the reporting burden on market participants. 

In the meantime, ESMA has been mandated under the Refit Regulation to work with the ESRB to develop draft technical standards specifying: 

• the details to be reported;
• required reporting methods;
• the required frequency of reports; and
• any phase-in dates.

In preparing these draft standards, ESMA is specifically required to take into account international developments in this area and the similar requirements under the EU Securities Financing Transactions Regulation (Regulation (EU) 2015/2365) and MiFIR.  In addition, and to ensure consistency with the MiFIR trading obligation, the European Commission, along with ESMA, intends to assess whether trades arising as a result of post-trade risk reduction services such a portfolio compression should be exempted from the clearing obligation.

ESMA also intends to review the impact of the changes made by the Refit Regulation on the use and accessibility of clearing and the quality and accessibility of data reported to trade repositories, and a full review of the Refit Regulation is to be conducted by June 2024.

Where to from here?

Nearly seven years after its entry into force, EMIR has taken another step in its evolution.  While the continuation of exemptions for pension scheme arrangements and physically settled foreign exchange forwards and swaps will no doubt be welcomed by market participants, as will the ongoing commitment to simplify and streamline the reporting framework, increasing its extra-territorial application to non-EU AIFs managed by non-EU investment managers will result in increased regulatory and administrative burdens for entities not directly subject to EMIR.  It also remains to be seen whether the clearing thresholds for FCs are calibrated appropriately and result in a meaningful reduction in compliance and administrative burden for smaller FCs.  

While few would disagree with EMIR's goal of making the global financial system less risky, debate as to whether or not the right balance has been struck between achieving that goal without imposing undue burdens on market participants will no doubt persist. 

What we can say with some certainty is that, with many aspects of the changes implemented by the Refit Regulation being subject to the development of further technical standards and/or periodic review by ESMA and the European Commission and EMIR 2.2 on the horizon, this is not the end of the road.  All aboard for the ride to EMIR 2.2 and beyond.

For more on EMIR, see our EMIR Portal.

Authors: Partner; Kerion Ball, Expertise Counsel; Kirsty McAllister-Jones, Partner; Jonathan Haines