By Mark Matthews and Scott Macdonald, Maples and Calder

With the recent passing of the 5 May 2014 registration deadline to be included in the first IRS GIIN list on 2 June 2014, and the 3 June 2014 registration deadline for the 1 July 2014 GIIN list imminent, this update outlines the practical implications for CLO issuers incorporated in the Cayman Islands (“CLO Issuers”), including: (i) the registration status of CLO 2.0 Issuers; (ii) the application of the LLDIE exemption to older CLO 1.0 Issuers; and (iii) steps being taken to prepare for FATCA reporting in the Cayman Islands in 2015, including a summary of the recent Trustee roundtable Maples and Calder and MaplesFS held with the major indenture trustees.

The Obligatory Acronyms

“CLO 1.0” – pre-credit crisis CLO

“CLO 2.0” – post-credit crisis CLO

“FATCA” – US Foreign Account Tax Compliance Act

“GIIN” – Global Intermediary Identification Number

“IGA” – the Cayman Islands Model 1B (non-reciprocal) intergovernmental agreement with the US

“LLDIE” – Limited Life Debt Investment Entity

“TIA” – Cayman Islands Tax Information Authority

“TIN” – Taxpayer Identification Number

A Regulatory Recap

The US Treasury and the IRS released the final FATCA regulations (the “FATCA Regulations”)1 on 20 February 2014, which include the LLDIE provisions. Regulations:

FATCA and the Cayman IGA – Key Points for Cayman CLO Issuers

FATCA Final Regulations – Update for Cayman and Irish CLO Issuers

The US Treasury and IRS Announcement 2014-17 issued on 2 April 2014 split the former issuance date of the GIIN list into: (i) the first GIIN list of 2 June 2014, for which the registration deadline was extended to 5 May 2014; and (ii) the second GIIN list of 1 July 2014, for which the registration deadline is 3 June 2014. Importantly, this Announcement reconfirmed to withholding agents that:

they will have an additional 90 days to verify that the GIIN of a payee (such as a CLO Issuer) appears on the GIIN list before they are deemed to have reason to know that the payee is not FATCA compliant; and

withholding agents do not need to obtain a GIIN from a Reporting Model 1 FFI (as defined below) for payments made before 1 January 2015 (see “FATCA Reporting – Trustee Roundtable” below).

Cayman Islands Legislation Update

Although signed, the Cayman IGA has not come into force yet. The Cayman IGA will come into force once the Cayman Islands government completes its necessary internal procedures (which includes giving notice of such to the US).

The Cayman Islands government is working towards adopting supporting legislation in the first half of 2014 through: (i) an amendment to the existing Cayman Islands Tax Information Authority Law (primary legislation), which is expected to be adopted in May/June 2014; (ii) new Cayman Islands regulations (“Cayman FATCA Regulations”); and (iii) guidance notes to the Cayman FATCA Regulations (the “Guidance Notes”). The Cayman FATCA Regulations and Guidance Notes are expected to be published in August 2014 or soon thereafter, however draft Guidance Notes were issued to industry on 12 May 2014.

GIIN Registration of CLO 2.0 Issuers

By virtue of the LLDIE exemption “cut off” date of 17 January 2013, CLO 2.0 Issuers can be divided into two groups (see “The LLDIE Exemption” below for CLO 1.0 deals):

Group 1 – CLOs that issued securities after 17 January 2013; and

Group 2 – CLOs that issued all their securities before that date, but after 1 March 2010.

All Group 1 CLOs and those Group 2 CLOs that do not satisfy the LLDIE criteria (see below) are each classified as a Reporting Financial Institution, or to use the FATCA Regulations terminology, a “Reporting Model 1 FFI”, and must therefore register to obtain a GIIN and report information on US reportable accounts (“US Reportable Accounts”) to the TIA.

While a Reporting Model 1 FFI has until 31 December 2014 to obtain a GIIN, the application of the FATCA Regulations to CLO Issuers is sufficiently settled that there is no longer any reason not to proceed with the registration of applicable CLO 2.0 Issuers to secure a GIIN in advance of the initial FATCA withholding date of 1 July 2014. This position is reinforced by the concern that agent banks and other potential withholding agents may simply take the view that come 1 July 2014, if the CLO Issuer either: (i) does not have a GIIN (which would require registration by 3 June 2014); or (ii) is unable to certify itself as a certified deemed compliant entity (such as a CLO 1.0 Issuer that qualifies for the LLDIE exemption), then they withhold.

Following an analysis by the MaplesFS FATCA Task Force of its CLOs over the past 24 months, the applicable CLO Issuer directors at MaplesFS have registered over 125 Group 1 and Group 2 CLO 2.0 Issuers to date. As indicated in our previous updates, there is no requirement to appoint a distinct FATCA ‘responsible officer’ (an “FRO”). A press release issued by the Cayman Islands government on 12 March 2014 confirming the same can be viewed here.

The IRS GIIN Portal is designed to be used by both Model 2 IGA FFIs (that do require an FRO) and Reporting Model 1 FFIs. However, it is clear that the director of the Reporting Model 1 FFI who provides his or her details as part of the GIIN registration is only doing so to provide a point of contact for the relevant CLO Issuer and is not assuming any obligations of an FRO.

We expect that almost all Group 2 CLO 2.0 Issuers will be required to register for a GIIN by virtue of failing the ‘Authority Test’, which is one of the LLDIE exemption criteria described below. MaplesFS has undertaken a preliminary review of the deal documents for each Group 2 CLO 2.0 Issuer and is liaising with the relevant collateral manager and/or US counsel to ascertain whether or not the trustee (or some other person) has the authority to ensure compliance with FATCA. Generally, however, most indentures for Group 2 CLO Issuers contain provisions which give the applicable indenture trustee sufficient authority to amend the documents to ensure compliance with FATCA.

CLO 1.0 Issuers – The LLDIE Exemption

The LLDIE exemption is likely to allow “old and cold” deals, i.e. those CLO 1.0 Issuers2 that were set up pre-FATCA (essentially prior to March 2010), to avoid GIIN registration and reporting to the TIA. Such CLO 1.0 Issuers will be “certified deemed compliant” under the IGA and will be able to certify this fact through the new W-8BEN-E to agent banks and other paying agents.

LLDIE Criteria

There are six criteria required by the LLDIE provisions (listed (A) to (F)) which all must be met in order for the CLO to qualify as an LLDIE. The criteria are set out in full in Annex 1. However, the most critical criteria are:

(1) Asset Mix Test (criteria (D))

This criteria requires that: “substantially all of the assets of the [CLO] consist of debt instruments or interests therein”.

The US Treasury has confirmed that:

“substantially all” is intended to mean 80% or more by value;

“interests therein” would include equity interests in wholly owned ‘blocker’ entities which in turn holds debt instruments as well as credit default and total return swaps which reference debt instruments; and

cash may be treated as debt for the purposes of this test.

We, along with colleagues in the CLO industry, are taking the common sense position that this test should be applied to the relevant CLO Issuer at the point at which it is fully-ramped during the reinvestment period and not when the deal is being unwound. We have found that, for almost all CLO 1.0 Issuers, the collateral manager can provide confirmation to the directors of the CLO Issuer that this test is satisfied.

(2) Authority Test (criteria (F))

The LLDIE exemption is not available where the “[CLO]’s trustee or other fiduciary” or indeed “any other person” is authorised “to fulfil the obligations of a participating FFI”.

The US Treasury has confirmed that the Authority Test is not intended to catch directors of the CLO Issuer, who could be said to be “authorised” in the general sense under the constitutional documents of the CLO Issuer.

We anticipate that the Guidance Notes accompanying the Cayman FATCA Legislation will permit CLO 1.0 Issuers to assume they satisfy the Authority Test unless they are specifically advised to the contrary by US counsel.

FATCA Reporting in the Cayman Islands

Reporting of information on US Reportable Accounts by a Reporting Model 1 FFI is not required until September 2015. However, as the information will first be submitted to the TIA in the Cayman Islands, it is likely that reporting to the TIA will need to occur towards the end of June 2015. It is expected that the information to be reported to the TIA annually will be straight-forward and consist of: (i) name and address of the CLO Issuer payer; (ii) name and address of the payee(s) (i.e. DTC); (iii) TIN of each payee; (iv) dates of payments; and (v) amounts paid. We understand that the information required is similar to that currently provided in respect of IRS Form 1099 filings. While a specific format for reporting information to the TIA is yet to be confirmed, we understand that a system is being built to accept electronic reporting. A global reporting format is expected to emerge following the release of the Common Reporting Standard in February 2014 by the OECD. The Cayman Islands is a member of the early adopters group committed to the principles of such standard.

Indenture Provisions

We are liaising with US counsel and trustees to incorporate suitable provisions in the indenture for new CLOs that ensure the CLO Issuer can: (i) obtain the information from the trustee/registrar it requires to comply with its FATCA reporting obligations; and (ii) pass such information on to any agents hired to assist with its reporting obligations. Once these provisions have been accepted as market standard, there may be scope for existing CLO 2.0 Issuers to update their indentures accordingly. The indentures for the vast majority of such CLO 2.0 Issuers will permit such an amendment without noteholder consent.

Trustee Roundtable

Maples and Calder and MaplesFS held a trustee roundtable call on 25 April 2014 with representatives from BNY Mellon, Citibank, Deutsche Bank, State Street, US Bank and Wells Fargo. During a discussion regarding all aspects of FATCA registration and reporting, the following important points were noted:

Trustees will rely on existing W-8BEN forms through the end of 2014 and will not require replacement with the new W-8BEN-E (which, although released by the IRS, will not be considered ‘live’ by market participants until the accompanying IRS instructions are published).

For each CLO that closes after 1 July 2014, Trustees will accept a W-8BEN-E form from the CLO Issuer confirming its status as a Reporting Model 1 FFI without a GIIN until the end of 2014.

Trustees are building systems to facilitate the reporting of FATCA information, as the agent of the CLO Issuer, directly to the TIA.

The Way Forward

Given the acknowledged economic importance of the CLO market, and the significant efforts made by industry participants such as the LSTA, ISDA and SFIG, the practical application of FATCA is much clearer and better understood for CLOs than it is for almost all other asset classes. That said, certain aspects of the application of FATCA are still not free from doubt. In particular, some withholding agents have concerns about the transitional period of 1 July to 31 December 2014. In the context of a Model 1 Reporting FFI that has provided a W-8BEN-E (checking the Reporting Model 1 FFI box) but not registered for a GIIN, which is permissible, the withholding agents are concerned that if they fail to withhold in respect of such a CLO Issuer and that entity does not subsequently obtain a GIIN before 1 January 2015, the agent may be deemed to have breached FATCA. In recognition of these concerns, the IRS released Notice 2014-33 on 2 May 2014 to provide some transitional relief for withholding agents from IRS enforcement with respect to the implementation of FATCA.

The existence of such potential issues underlines the importance of continued dialogue between indenture trustees and CLO Issuers during the initial implementation of FATCA and in preparation for FATCA reporting, including the appointment of agents to facilitate reporting during the warehouse phase. With that aim in mind, Maples and Calder and MaplesFS will host a further Trustee roundtable to discuss these issues in the context of the recently released draft Guidance Notes.

ANNEX 1

LLDIE Criteria

The FFI3 is an investment entity that issued one or more classes of debt or equity interests to investors pursuant to a trust indenture or similar agreement and all of such interests were issued on or before January 17, 2013.

The FFI was in existence as of January 17, 2013, and has entered into a trust indenture or similar agreement that requires the FFI to pay to investors holding substantially all of the interests in the FFI, no later than a set date or period following the maturity of the last asset held by the FFI, all amounts that such investors are entitled to receive from the FFI.

The FFI was formed and operated for the purpose of purchasing or acquiring specific types of debt instruments or interests therein and holding those assets subject to reinvestment only under prescribed circumstances to maturity.

Substantially all of the assets of the FFI consist of debt instruments or interests therein.

All payments made to the investors of the FFI (other than holders of a de minimis interest) are either cleared through a clearing organization or custodial institution that is a participating FFI, reporting Model 1 FFI, or U.S. financial institution or made through a transfer agent that is a participating FFI, reporting Model 1 FFI, or U.S.

The FFI’s trustee or fiduciary is not authorized through a fiduciary duty or otherwise to fulfill the obligations of a participating FFI under §1.1471-4 and no other person has the authority to fulfill the obligations of a participating FFI under §1.1471-4 on behalf of the FFI.

Footnotes

1 Maples and Calder is only qualified to advise on Cayman Islands, British Virgin Islands and Irish law and does not purport to offer any legal advice on FATCA or the FATCA Regulations, being US legislation. While the summaries in this article require reference to various provisions under FATCA, these are only included to highlight the applicable terms of the IGA.

2 The LLDIE exemption is also available to CDO 1.0 Issuers.

3 A CLO Issuer is an FFI (foreign financial institution).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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