Regulation of the capital markets in the United States is principally conducted by federal government agencies, particularly the Securities and Exchange Commission (SEC).

The Securities Act of 1933 (the Securities Act) requires that all offers and sales of securities in the United States be made either pursuant to an effective registration statement or an explicit exemption from registration. In addition, any class of securities listed on a US exchange must be registered under the Securities Exchange Act of 1934 (the Exchange Act), and the issuer of the relevant class is required to file annual and other reports with the SEC. Exchange Act registration and reporting also apply to unlisted equity securities, including securities of companies traded and organised outside the United States, held by a sufficiently large population of US record-holders. Companies with securities registered under the Exchange Act are also subject to the SEC's rules on ownership reporting and tender offers.

The perspective of the SEC statutes is that persons making investment decisions in regulated transactions should have complete and reliable information. The detailed disclosure requirements that apply to such transactions are found in the rules promulgated by the SEC under the securities laws.

In addition to the SEC, other federal and state regulators and self-regulatory organisations, such as the Financial Industry Regulatory Authority, have important roles in the oversight of the securities activities of banks, insurers and broker-dealers, in particular. Finally, the Commodity Futures Trading Commission (CFTC) continues to adopt and propose important rules relevant to the securities industry and the capital markets.

Although the SEC proposes and adopts rules under the federal securities laws every year, particularly wide-ranging rule changes were adopted in recent years as a result of the financial crisis, including those mandated by the Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010 (the Dodd–Frank Act). The thrust of the Dodd–Frank Act, which sought to increase investor protection through substantive market regulation, was somewhat at odds with the SEC's previous efforts to reduce the regulatory burden on issuers, and many argue that the Dodd–Frank Act reforms have gone so far as to have had a chilling effect on the capital markets. Reflecting these concerns, the administration of President Trump has rolled back some and announced plans to further roll back many of the Dodd–Frank Act reforms. While the deregulatory stance of the Trump administration is clear, so far the changes relevant to the capital markets and the US financial system have been limited.

This chapter summarises some of the more important rule changes and proposals during the past year, and important litigation, tax and other developments likely to be of interest to capital markets practitioners outside the United States.


Although the SEC and other regulators continued to make important rule changes and proposals in the year under review, the changes of perhaps greatest importance to capital markets issuers and investors are those embodied in the comprehensive tax reform legislation signed by President Trump in December 2017. In addition, during this period, federal courts have continued to wrestle with the extent to which US securities and bankruptcy laws should continue to have extraterritorial effect, and it seems likely the US Supreme Court will be called on to resolve at least some of that uncertainty. Other developments of potential interest, although mooted, are likely to face considerable scrutiny before implementation. For example, on 17 August 2018, President Trump announced that he has asked the SEC to consider eliminating quarterly reporting requirements in favour of semi-annual interim reports, a system that might foster greater managerial flexibility for public companies, but which many large investors strongly object to.

i Developments affecting debt and equity offerings

The SEC, Congress and various administrations have long wrestled with the challenge of updating the requirements of the Securities Act, the Exchange Act and other federal securities laws to keep pace with changes in market practice and technology. There has also been the ever-present challenge of simplifying disclosure to ensure an appropriate balance between the quantity and quality of the information furnished to investors. Although there have been few rule changes of great importance in 2018, the SEC and the United States Department of the Treasury, via the Financial Crimes Enforcement Network (FinCEN) bureau, adopted rules and provided guidance with a view to furthering each of these important objectives. New revenue recognition standards also came into effect for both companies using US generally accepted accounting principles (US GAAP) and International Financial Reporting Standards (IFRS).

SEC guidance on cybersecurity and adoption of Inline XBRL

The SEC continues to adopt rules and provide guidance in recognition of technological risks and advances affecting the securities industry. This year, the SEC published its views on cybersecurity disclosures and adopted rules that will require issuers to use a new language format for submission of certain company financial information. Both developments affect foreign private issuers.

SEC Guidance on Cybersecurity

On 21 February 2018, the SEC announced its position on cybersecurity risk disclosures to assist SEC-registered companies with their disclosure obligations, as follows.2

  1. Disclosure controls and procedures – Going forward, reporting companies should assess whether their disclosure controls and procedures under the Exchange Act are effective to process information on cybersecurity risks and incidents. Companies should evaluate whether the controls and procedures ensure that relevant information about cybersecurity issues is appropriately processed to enable disclosure decisions related to cybersecurity risks and incidents. The need for disclosure should be considered from the perspective of Rule 12b-20, requiring any necessary additional information beyond prescribed disclosure to make other statements not misleading.
  2. Insider trading – Information on cybersecurity risks and incidents may be material, non-public information and subject to the SEC's antifraud prohibitions. Companies should evaluate whether their policies prevent insider trading on the basis of such information. During investigations of cybersecurity incidents, companies should consider implementing restrictions, including preventive measures, to avoid the appearance of improper trading by directors and officers.
  3. Regulation FD (fair disclosure) – Companies should ensure compliance with Regulation FD (which seeks to ensure timely disclosures to the market) as it pertains to cybersecurity risks and incidents, and not selectively disclose cybersecurity-related material information prior to public disclosure.

The SEC advises that companies should consider cybersecurity-related disclosures in their periodic reports, registration statements and current reports. Issuers should also review their risk factors to evaluate whether additional cybersecurity-related information is required. The relevant considerations, the SEC suggested, are:

  1. the occurrence, frequency and severity of cybersecurity incidents;
  2. the probability and potential magnitude of cybersecurity incidents;
  3. the adequacy of preventive actions taken to reduce cybersecurity risks and the associated costs;
  4. any aspects of the company's business and operations that give rise to material cybersecurity risks (including industry-specific risks and third-party supplier or service provider risks);
  5. the costs associated with maintaining cybersecurity protections (such as cyber insurance coverage or service provider payments);
  6. the potential for reputational harm;
  7. any existing or pending laws and regulations that may affect the cyber requirements and the associated costs to companies; and
  8. any litigation, regulatory investigation and remediation costs associated with cybersecurity incidents.

Foreign private issuers reporting on Form 20-F should consider disclosure, if appropriate, on cybersecurity risks and incidents in the Management's Discussion and Analysis of Financial Condition and Results of Operations (Item 5) and the Description of Business (Item 4.B).

Adoption of Inline XBRL

The SEC adopted rules that will require issuers to use the Inline eXtensible Business Reporting Language (XBRL) format for 'the submission of operating company financial statement information and fund risk/return summary information'.3 The use of this technology will allow the disclosure to be readable by both human beings and machines, and aims to reduce the likelihood of inconsistencies between HTML and XBRL filings and enhance the usability of disclosures for investors. Foreign private issuers will be required to comply with the rule beginning on the fiscal period ending on or after 15 June 2021.

FinCEN customer due diligence requirements

On 11 May 2018, FinCEN's Customer Due Diligence Requirements for Financial Institutions Rule (the CDD Rule) became effective.4 The CDD Rule requires covered financial institutions5 to collect and verify the identities of key individuals who own (directly or indirectly) or control 'legal entity customers' who are opening a new account. Under the Bank Secrecy Act of 1970, the definition of 'account' is broad enough to cover underwriting, purchase and placement agency agreements in capital markets transactions.6 As such, the CDD Rule is being interpreted to require underwriters, initial purchasers and placement agents to collect and verify the identities of certain individuals.

The CDD Rule includes:

  1. a control condition under which the covered financial institution is required to collect and verify the beneficial ownership of one individual with significant control responsibilities over the issuer, such as an executive officer; and
  2. an ownership condition under which the covered financial institution is required to collect and verify the beneficial ownership of all individuals who own, directly or indirectly, 25 per cent or more of the equity interests of the issuer. In practice, there may only be a control test given that an issuer may not have an individual who owns 25 per cent or more of its equity interests.

In capital markets transactions, covered financial institutions have complied with this rule by obtaining a certificate from the issuer containing the required beneficial ownership information (often, using the form that has been prepared by the Securities Industry and Financial Markets Association) and subsequently verifying this information. Among the information that covered financial institutions are required to obtain is the name, date of birth and government identification of the control person or beneficial owner. Covered financial institutions should consider developing procedures to mitigate any privacy risks associated with the possession of this information.

There are several exceptions to the legal entity customer definition, the most common being issuers with a class of securities registered under the Exchange Act or otherwise required to report to the SEC. Foreign issuers are subject to the CDD Rule unless they qualify for any of the limited exceptions that apply to domestic companies or are financial institutions established in a jurisdiction where its regulator collects and maintains beneficial ownership information regarding the issuer. The CDD Rule does not require covered financial institutions to research and compare the foreign transparency standards with those that are imposed by equivalent US regulators.7 Foreign issuers that qualify under these limited exceptions should nevertheless be aware that, owing to the record-keeping provisions of the CDD Rule, they may still be asked to provide a certificate indicating that an exception from the CDD Rule applies to them.

New revenue recognition accounting standards

For public companies using US GAAP, ASU 2014-09: Revenue from Contracts with Customers8 became effective for fiscal years beginning after 15 December 2017. For companies using IFRS, IFRS 15 Revenue from Contracts with Customers9 became effective for annual reporting periods beginning on or after 1 January 2018.

ASU No. 2014-09 and IFRS 15 were issued in 2014 by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB), respectively. The standards, which superseded earlier revenue recognition guidance, were intended to establish substantially converged guidelines for entities to use in accounting for revenue arising from contracts with customers and eliminated many of the prior differences in accounting for revenue between the two frameworks.

Since 2014, separate amendments to clarify guidance and to provide some practical expedients to the requirements have been issued by the FASB10 and the IASB.11 These amendments have created differences in certain areas in addition to the differences that had already existed in the original versions of the standards.

The differences are technical and include those governing when a company can report the sale of goods as revenue under certain circumstances, what to disclose about revenue in the footnotes, particularly on an interim basis, certain definitions, such as 'revenue', 'completed contract' and 'probable', and how to account for revenue from long-term construction contracts. Even with such differences, the standards are substantially more converged than they were prior to the adoption of ASU No. 2014-09 and IFRS 15. In adopting either of these standards, companies were permitted to use either a full retrospective method (i.e., applying it retrospectively to each prior period presented) or a modified retrospective method (i.e., applying it prospectively without restating a prior period's financial statements, but with footnote disclosure of the effects of adoption).

Removal of redundant disclosure requirements

Responding to Congressional directions to simplify regulation under the federal securities laws, the SEC approved amendments to its rules eliminating numerous redundant or obsolete disclosures in August 2018.12 Narrative disclosures duplicating financial statement information are an example of the former and disclosure prescriptions not taking account of the availability of information on the internet are typical of the latter. For similar purposes, the SEC is considering proposals published in October 2017 that would streamline the filing process by eliminating requirements perceived as unnecessary, such as filing appendices and similar attachments to material contracts as exhibits in annual reports.

Cross-border exemptions for tender and exchange offers

On 17 October 2018, the SEC's Division of Corporation Finance published Compliance and Disclosure Interpretations (C&DIs) regarding cross-border exemptions to the Securities Act and Exchange Act provisions applicable to tender and exchange offers for target company securities.13 Although they do not have the status as SEC rules, C&DIs reflect the views of the SEC staff and provide important guidance to US M&A and securities practitioners. The C&DIs, which, in part, reflect the staff's continued efforts to encourage the extension of tender and exchange offers to US security holders, replace telephone interpretations published by the staff in July 2001 and discuss, among other things, the calculation of US ownership for the purposes of determining eligibility thresholds, determining the subject class of securities, equal treatment of security holders, filing, publication and dissemination of offer materials, and withdrawal rights.

ii Developments affecting derivatives, securitisations and other structured products

For several years, implementation of the Dodd–Frank Act has been the primary focus for US regulators interested in derivatives, securitisations and other structured products.

Margin requirements for uncleared swaps

The Dodd–Frank Act mandates the margining of swaps and security-based swaps that are not cleared, and it required US financial regulators to adopt implementing rules for collecting and posting both initial margin and variation margin by registered swap entities (i.e., swap dealers and material swap participants). The US prudential bank regulators and the CFTC have adopted different, though substantially similar, final rules implementing the statutory mandate.14 The margin requirements apply to swap dealers and security-based swap dealers when they transact with one another or with certain buy-side counterparties.

A phase-in period for both kinds of margin requirements began in September 2016. Uncleared swaps executed by a swap entity and a given counterparty before the applicable phase-in date will be grandfathered unless they are subsequently amended. The variation margin requirements were fully phased in as of 1 September 2017. The phase-in period for initial margin requirements will continue until September 2020. For most buy-side firms that will be subject to those requirements, the applicable phase-in date will be either 1 September 2019 or 1 September 2020. Only the swaps of larger buy-side firms – those that have 'material swap exposure' – will be subject to the initial margin requirements. Generally speaking, a swap market participant will be considered to have 'material swaps exposure' if the average aggregate notional amount of its uncleared over-the-counter (OTC) derivatives exceeds US$8 billion.

The prudential regulators and the CFTC have also adopted separate, though similar, rules that determine the cross-border application of the margin requirements.15 In some circumstances, the cross-border rules entirely exclude swap transactions from application of the margin requirements. In other circumstances, substituted compliance may be available – either for all purposes or only for a swap entities' obligation to post or to collect initial margin. In October 2017, the CFTC found the margin requirements for uncleared swaps in the European Union to be comparable to those under the Commodity Exchange Act and CFTC regulations;16 that determination followed a similar determination in September 2016 regarding Japanese margin requirements (with one exception related to inter-affiliate swaps).17

Asset-backed securities risk retention rules

The risk retention rules under the Dodd–Frank Act require sponsors of all US securitisation transactions to retain not less than 5 per cent of the credit risk on the securitised assets.18 Generally, the risk retention requirements aim to remedy the general erosion of lending standards purportedly resulting from the 'originate to distribute' business model by requiring sponsors of asset-backed securities (ABS) to align their economic interest with those of investors through retention of a vested interest.

The rules apply to ABS whether they are publicly offered or exempt from registration under the Securities Act. The rules allow a sponsor to satisfy the base risk retention requirement by retaining (directly or through a majority-owned affiliate) an 'eligible vertical interest', 'eligible horizontal residual interest' or any combination thereof, as long as the percentage amount retained is no less than 5 per cent.

Of particular importance to foreign private issuers, the rules also contain a safe harbour from risk retention for foreign-based securitisation transactions that satisfy certain conditions. The most important conditions are that (1) the sponsor and issuer not be US-located entities, (2) the initial investors that are US persons constitute no more than 10 per cent of the dollar value (or foreign currency equivalent) of all classes of ABS interests in the securitisation transaction, and (3) no more than 25 per cent of the assets collateralising the ABS sold were acquired by the sponsor from a consolidated affiliate of the sponsor or issuing entity that is a US-located entity. Significantly, the regulations do not recognise satisfaction of risk retention under other regimes, including the EU Capital Requirements Regulation, as sufficient to satisfy the rules.

In February 2018, the Court of Appeals for the DC Circuit ruled in The Loan Syndications and Trading Assoc. v. SEC that the three primary US federal banking regulators (Federal Reserve, Office of Comptroller of the Currency and the Federal Deposit Insurance Corporation) that had issued the risk retention rules implementing the Dodd–Frank Act's statutory risk retention requirements had misconstrued their statutory mandate.19 The agencies had concluded that managers of open market collateralised loan obligations (CLOs) were 'securitisers' for that purpose and were thus subject to the risk retention requirements. The Loan Syndications and Trading Association (LSTA) challenged that interpretation in US federal court. The DC Circuit rejected the agencies' construction of the statute and endorsed LSTA's position. The DC Circuit ruled that the statute does not authorise the agencies to subject open market CLO managers to risk retention regulation, because those managers are not securitisers under the statutory definition. The DC Circuit held that 'a party must actually be a transferor, relinquishing ownership or control of assets to an issuer' of the securities issued in the securitisation, in order for that party to be a securitiser. Although the holding of the DC Circuit addressed managers of open market CLOs, the principles of the DC Circuit opinion, as well as the text of the Dodd–Frank Act that the court construed as limiting the agencies' authority, can be applied to other participants in open market CLOs and, even more significantly, to participants in other kinds of transactions.

iii Cases and dispute settlement

In addition to the cases referred to in subsections ii and iv, capital markets practitioners will be interested in the continued developments in Stoyas v. Toshiba Corporation,20 a case that has surprised and concerned many international observers.

After the Supreme Court's 2010 decision in Morrison v. National Australia Bank,21 US courts have generally held that foreign issuers whose securities are traded in the United States via American depositary receipts (ADRs) or American depositary shares (ADSs) cannot be sued under Section 10(b) of the Securities Exchange Act and Rule 10b-5 by purchasers or sellers of the company's stock traded abroad, but can be sued by buyers or sellers of ADRs22 if the suit is based on a purchase or sale on a US exchange or otherwise takes place in the United States (such as an OTC trade or private placement in which the parties commit to the trade within the United States). In 2016, the decision of the US District Court in Stoyas was the first to expressly rule on how Morrison applies to unsponsored ADR facilities. The Stoyas court held that a foreign issuer's lack of involvement in the unsponsored facility means it cannot be sued for statements it made to markets overseas. On appeal, in 2018, the Ninth Circuit reversed, holding that an issuer can be sued by purchasers of ADRs through an unsponsored facility.23 Toshiba has indicated that it will petition the Supreme Court to hear the case.

Since Morrison held that Section 10(b) applies only to transactions in the United States, most of the decisions on the territorial application of Section 10(b) have focused on where off-exchange transactions take place. For example, the Southern District of New York, in Satyam Computer Services Ltd Securities Litigation, held that Section 10(b) did not cover the exercise of employee stock options to buy NYSE-listed ADSs in an Indian corporation because the terms of the options (as written by the company) deemed them to be exercised only when notice was received in India.24 The fact that the company did not consent to options on its ADSs being transacted in the United States, regardless of the listing of the underlying security, was thus important in Satyam, but the court was still addressing securities with which the company was involved. By contrast, the Second Circuit's decision in ParkCentral Global Hub Ltd v. Porsche Automobile Holdings found that US trading alone was not sufficient if the company had no connection to the security – but ParkCentral involved swaps, not ADRs, and an unusual fact pattern in which the defendant was not the issuer but a potential acquiror.25

Stoyas presented the question squarely: the defendant, Toshiba, only has stock listed on the Tokyo and Nagoya exchanges and ADRs traded on US OTC markets – specifically, OTC Link – pursuant to an unsponsored ADR facility set up without the involvement of the company; it did not list or trade any securities in the United States.26 The plaintiffs in Stoyas argued that it was enough that the issuer had complied with Rule 12g3-2's disclosure requirements (an exemption from Exchange Act registration) 'and never objected to the sale of its securities in the United States'.27 The Ninth Circuit described the unsponsored ADR issuance as 'without Toshiba's “formal participation” and possibly without its acquiescence'.28

The District Court concluded that an OTC market is not a US exchange for the purposes of the Morrison rule that securities traded on US exchanges are covered, given that the Exchange Act treats national securities exchanges and OTC markets as distinct.29 The District Court further concluded that 'Plaintiffs have not argued or pled that Defendant was involved in th[e ADS] transactions in any way. . . . nowhere in Morrison did the Court state that US securities laws could be applied to a foreign company that only listed its securities on foreign exchanges but whose stocks are purchased by an American depositary bank on a foreign exchange and then resold as a different kind of security (an ADR) in the United States'.30

On appeal, the Ninth Circuit disagreed on both points. First, as to the Morrison reference to Section 10(b) covering 'domestic exchanges',31 the Ninth Circuit declined to decide whether OTC Link is a domestic exchange, but disagreed with the District Court that only national securities exchanges, as defined in the Exchange Act, qualify under Morrison. Second, the Ninth Circuit criticised the Second Circuit's reasoning in ParkCentral and concluded that the Exchange Act covers any ADR transaction in the United States regardless of whether the facility is sponsored.32 However, that was not the end, because the Ninth Circuit concluded that a claim could be stated only if there were sufficient facts pleaded to show a sufficient connection between the issuer and the transaction – a requirement that may in practice insulate some issuers who had no involvement in an unsponsored ADR facility.33 The Ninth Circuit sent the case back to let the plaintiffs plead more facts on this point.34 However, it did not suggest that investors other than ADR purchasers could ever sue.

Depending on whether the Supreme Court takes the case, or how it proceeds further in the District Court, the Stoyas case injects new uncertainty as to what exposure non-US issuers could face to unsponsored ADR purchasers.

iv Relevant tax and insolvency law

Comprehensive tax reform legislation

On 22 December 2017, President Trump signed into law legislation known as the Tax Cuts and Jobs Act (the TCJA), the first comprehensive reform of the US Internal Revenue Code since 1986. Among other things, several provisions of the TCJA affect capital market transactions in the United States by either limiting the deductibility of interest in the case of issuers or potentially accelerating the timing of income recognition in the case of investors.

The new Section 163(j) of the Internal Revenue Code provides a new limitation on interest deductibility and, as opposed to the old Section 163(j), is not limited to related party financing arrangements. With certain exceptions, the new Section 163(j) limits the deduction in any taxable year for business interest to the sum of (1) business interest income for that year, plus (2) 30 per cent of the adjusted taxable income for the year. For this purpose, 'business interest' is interest paid or accrued on indebtedness properly allocable to a trade or business, and 'business interest income' is interest income properly allocable to a trade or business; and 'adjusted taxable income' is a taxpayer's taxable income, computed without regard to, among other items:

  1. any items of income, gain, deduction or loss that are not properly allocable to a trade or business;
  2. any business interest or business interest income;
  3. the amount of any net operating loss deduction;
  4. the 20 per cent deduction for certain pass-through income; and
  5. in the case of taxable years beginning before 1 January 2022, any deduction allowable for depreciation, amortisation or depletion.

As such, adjusted taxable income can generally be approximated to earnings before interest, taxes, depreciation and amortisation for taxable years beginning before 1 January 2022 and earnings before interest and taxes thereafter. Any interest disallowed is carried forward indefinitely and, in the case of corporate taxpayers, preserved as a tax attribute in certain asset acquisitions. This limitation does not apply to taxpayers with gross receipts that do not exceed US$25 million.

The TCJA introduced two new limitations on interest deductibility in certain related party financing arrangements. First, Section 59A of the Internal Revenue Code, which is akin to a minimum tax, requires an applicable taxpayer to pay a tax generally equal to its base erosion minimum tax amount. For this purpose, a taxpayer's 'base erosion minimum tax amount' is the excess of 10 per cent (5 per cent for taxable years beginning in 2018) of the corporation's taxable income (determined without regard to deductions and certain other tax benefits from base erosion payments or the base erosion percentage of any net operating loss deduction) over its regular tax liability (computed generally without regard to credits other than research and development credits). For affiliated groups that include certain banks and securities dealers, the income threshold is 11 per cent (6 per cent for taxable years beginning in 2018). For taxable years beginning after 31 December 2025, the income threshold increases to 12.5 per cent (13.5 per cent for affiliated groups that include certain banks and securities dealers) and all credits are also subtracted from regular tax liability in computing the base erosion minimum tax amount. A 'base erosion payment' generally includes any deductible amount, such as interest, paid or accrued by a taxpayer to a foreign person that is a related party (generally, with a 25 per cent affiliation threshold). The provision applies to corporations (other than regulated investment companies, real estate investment trusts and S corporations)35 with average annual gross receipts of at least US$500 million for the preceding three years (computed on a group-wide basis) and a base erosion percentage of at least 3 per cent (two per cent for affiliated groups that include certain banks and securities dealers). The 'base erosion percentage' is generally the taxpayer's base erosion tax benefits divided by certain of its deductions.

Second, Section 267A denies a deduction for any disqualified related party amount, such as interest, paid or accrued pursuant to a hybrid transaction or by, or to, a hybrid entity. For this purpose, a 'disqualified related party amount' is generally any interest or royalty paid or accrued to a related party (generally, with a 50 per cent affiliation threshold) to the extent that (1) there is no corresponding inclusion to the related party under the tax law of the country of which the related party is a resident for tax purposes or is subject to tax, or (2) the related party is allowed a deduction with respect to such amount under the tax law of the relevant country.

A 'hybrid transaction' includes any transaction, series of transactions, agreement, or instrument of one or more payments that are treated as interest for US federal income tax purposes and that are not so treated for purposes of the tax law of the foreign country of which the recipient of the payment is resident for tax purposes or is subject to tax.

A 'hybrid entity' is any entity which is either (1) treated as fiscally transparent for US federal income tax purposes but not so treated for purposes of the tax law of the foreign country of which the entity is resident for tax purposes or is subject to tax, or (2) treated as fiscally transparent for purposes of the tax law of the foreign country of which the entity is resident for tax purposes or is subject to tax but not so treated for US federal income tax purposes.

Section 267A grants broad authority to the US Department of the Treasury to issue regulations or other guidance as may be necessary or appropriate to carry out the purposes of the provision. The provision applies to taxable years beginning after 31 December 2017.

Finally, new Section 451(b) of the Internal Revenue Code generally requires an accrual method taxpayer to include items in gross income no later than the taxable year in which that item is taken into account in any applicable financial statement. An 'applicable financial statement' is one prepared in accordance with generally accepted accounting principles, a Form 10-K annual statement, an audited financial statement or a financial statement filed with any US federal agency for non-tax purposes. This provision applies before accrual rules otherwise applicable to debt instruments. Therefore, the application of new Section 451(b) may require the accrual of income earlier than would be the case under other general tax rules, including rules applicable to market discount and original issue discount (OID) of existing debt instruments. This provision generally applies for taxable years beginning after 31 December 2017, but with respect to debt instruments having OID, the provision applies for taxable years beginning after 31 December 2018.

Supreme Court limits application of safe harbour defence in avoidance actions

In February 2018, the Supreme Court of the United States issued a decision in Merit Management Group, LP v. FTI Consulting, Inc limiting the application of the Bankruptcy Code's safe harbour defence for avoidance of securities and other financial transactions.36 This decision resolved a long-standing circuit split regarding the scope of the safe harbour defences.37

Under the Bankruptcy Code, a debtor or trustee in bankruptcy may avoid pre-petition transfers that are preferential to certain creditors and transfers that are made while the debtor is insolvent if the debtor did not receive sufficient value for the transfers.38 However, the Bankruptcy Code provides a defence to these preference and constructive fraudulent transfer actions for certain qualified financial transactions. For example, Section 546(e) of the Bankruptcy Code prohibits a debtor or bankruptcy trustee from avoiding (1) margin payments or settlement payments or (2) transfers in connection with a securities contract, commodity contract or forward contract, in each case 'made by or to (or for the benefit of)' a qualified entity.39 For the purposes of Section 546(e), a 'qualified entity' may be a commodity broker, forward contract merchant, stockbroker, financial institution (such as a bank), financial participant or securities clearing agency.

The question in Merit Management was whether the Section 546(e) safe harbour applies to a transfer in which the sole qualified entity involved in the transfer is an intermediary or conduit that has no beneficial interest in the property transferred. In Merit Management, a litigation trustee sought to avoid a payment made by a corporate debtor to a shareholder in connection with the debtor's purchase of privately held stock where neither the debtor nor shareholder were qualified entities. However, the transfer at issue was a settlement payment made in connection with a securities contract and technically was made by the debtor's bank to another bank serving as an escrow agent for the shareholder, each of which was a qualified entity. The Supreme Court held that the application of the safe harbour defence must be considered in the context of the transfer that is being challenged by the trustee as preferential or constructively fraudulent. As such, even if a challenged transfer was technically made through a qualified entity as an intermediary or conduit, Section 546(e) does not apply where the qualified entity is neither the debtor-transferor nor the transferee (or beneficiary) of the challenged transfer.

The Supreme Court focused on the plain language and the statutory context of Section 546(e) to conclude that the specific transfer that the trustee is seeking to avoid is the relevant transfer for purposes of applying the safe harbour defence. The Supreme Court rejected policy-based arguments that a broad interpretation is necessary to protect financial markets and is consistent with legislative intent, noting that the statute only applies to certain securities-related transactions made by, to or for the benefit of qualified entities, and does not purport to protect all securities-related transactions, or transfers made through qualified entities, from avoidance.

The Supreme Court's decision followed the narrow approach taken by the Eleventh and Seventh Circuits, and rejected the broad approach adopted by the Second, Third, Sixth, Eight and Tenth Circuits, which have applied Section 546(e) to protect transfers between non-qualified entities where a qualified entity acted as a conduit or intermediary in the transaction. The ruling is likely to limit the availability of Section 546(e)'s safe harbour defence in challenges to leveraged buy-out transactions, corporate buy-backs, note repurchases and other securities-related transactions between non-qualified entities that typically involve the use of a qualified entity as a financial intermediary.

Extraterritorial application of bankruptcy avoidance laws

In January 2018, a bankruptcy court concluded in In re CIL Ltd that the fraudulent transfer avoidance and recovery provisions of the Bankruptcy Code cannot be applied extraterritorially to foreign transactions.40 Under US law, absent an affirmative intent of Congress to have a statute apply extraterritorially, it must be presumed that a statute only applies domestically in the United States, and any ambiguity as to that intent must be resolved against the extraterritorial application of the statute.

In In re CIL Ltd, the US Bankruptcy Court for the Southern District of New York noted that nothing in the avoidance and recovery provisions of the Bankruptcy Code (Sections 544, 548 and 550) suggests that Congress intended these provisions to apply to foreign transfers. The trustee argued that the language of Section 541(a) defining 'property of the estate' as including interests of the debtor in property 'wherever located and by whomever held' evidences an intent that Bankruptcy Code provisions addressing a debtor's property interests apply extraterritorially, including the avoidance and recovery provisions. The Court noted, however, that Section 541(a)(1) references 'interests of the debtor in property as of the commencement of the case', and, under Section 541(a)(3), the debtor does not have an interest in property transferred pre-petition that is the subject of an avoidance action until the transfer is avoided and the property recovered. As a result, the 'wherever located' language in Section 541 is insufficient to demonstrate Congressional intent that the avoidance and recovery provisions of the Bankruptcy Code have extraterritorial application. The Court rejected the argument that avoidance and recovery provisions must apply extraterritorially as a matter of public policy to prevent debtors from defrauding their creditors, noting that the desire to avoid loopholes in fraudulent transfer law had to be balanced against the presumption against extraterritoriality and respect for international laws. The Court also rejected the trustee's argument that Section 544(b) of the Bankruptcy Code, which permits a trustee to avoid pre-petition transfers under 'applicable law', permits a trustee to avoid a transfer under foreign law through the Bankruptcy Code. To the extent that the challenged transfer was foreign, and not a domestic transaction, the trustee could not seek to avoid the transfer under US bankruptcy law.41

The In re CIL Ltd decision is consistent with other recent decisions – the Madoff cases and In re Ampal-American Israel Corp;42 however, other courts within the Southern District of New York and its bankruptcy courts have concluded that Congress did intend to extend the scope of the Bankruptcy Code's avoidance powers to recover assets transferred abroad43 and have asserted jurisdiction over foreign defendants in connection with avoidance litigation.44 The Second Circuit has yet to address the extraterritorial application of avoidance laws and the role of international comity in fraudulent transfer actions, and this remains an unsettled area of bankruptcy law.

v Other strategic considerations

While it is unclear to what extent recent Trump administration initiatives will be implemented, the President's expressed desire to loosen the restrictions contained in the Volcker Rule under the Dodd–Frank Act appears to be progressing. In May 2018, the five US federal agencies that are principally responsible for banking and financial market regulation in the United States approved a notice of proposed rule-making that proposes significant revisions to the regulations implementing the Volcker Rule, which prohibits covered banking organisations from engaging in 'proprietary trading' and from acquiring or retaining ownership interests in, or sponsoring, hedge funds, private equity funds and certain other private funds (subject to certain exceptions).45 The revisions would leave intact the core restrictions on proprietary trading and covered fund activities. However, they would make certain significant changes to the proprietary trading restrictions and compliance programme requirements.

For example, the revisions to the proprietary trading restrictions would eliminate the first element of the 'trading account' definition, which addresses the intent of a banking entity when it purchases and sells financial instruments, and would add a new element that addresses those financial instruments that are recorded by a banking entity at fair value under applicable accounting standards. The revisions to the compliance programme requirements would eliminate almost all the 'enhanced minimum standards' set forth in Appendix B of the implementing regulations. The revisions to the covered fund restrictions would be more limited, but the federal agencies sought comment regarding many other aspects of those restrictions, including the base definition of 'covered fund' (and certain express exclusions from that definition) and the definition of 'ownership interest' as it relates to debt securities issued by covered funds that are securitisation issuers.

The revisions would also pare back the conditions that must be satisfied for the application of the TOTUS exemption (for proprietary trading outside the United States) and the SOTUS exemption (for covered fund activity solely outside the United States).

In a separate prior development, legislation was passed that exempted community banks and other small banking organisations from the Volcker Rule and modified the name-sharing restrictions under the implementing regulations.


The US capital markets continue to attract existing and first-time issuers of debt and equity securities, notwithstanding the continued rapid evolution of markets in Europe, Asia and elsewhere. The prospect of SEC, Department of Justice and other US regulatory oversight, although certainly a concern for many foreign private issuers, remains outweighed by the depth and liquidity of US institutional and retail markets. This is perhaps particularly the case for initial public offerings of equity by sector-specific industries, such as life sciences and technology companies, and by issuers of non-investment grade debt securities, where

US investor participation is often viewed as integral to the success of a proposed transaction, but it also remains a key for the generally larger SEC registrants of long standing for whom a diversified global investor base is important. The overall thrust of current US regulatory developments appears likely to remain focused for the moment on easing the burdens associated with accessing these markets.46 At the same time, the SEC has expressed its intent to continue to regulate strictly capital raising initiatives, in respect of which it has well-known concerns.47


1 Mark Walsh is a partner and Michael Hyatte is a senior counsel at Sidley Austin LLP. The authors would like to thank their colleague, Kostian Ciko, for his assistance with this chapter. They would also like to thank their colleagues Alfred N Sacha (accounting standards), Edward D  Ricchiuto (tender and exchange offers), David D Sylofski and William Shirley (structured finance, Volcker Rule and CFTC matters), Daniel McLaughlin (litigation), Nick Brown and Rémi D Gagnon (tax) and Dennis M Twomey and Allison Ross Stromberg (bankruptcy).

2 SEC Release No. 33-10459 (21 February 2018).

3 SEC Release No. 33-10514 (28 June 2018).

4 31 C.F.R. Section 1010.230.

5 The term 'covered financial institutions' includes banks, broker-dealers in securities, mutual funds, futures commission merchants and introducing brokers in commodities. See 31 C.F.R. Section 1010.605(e)(1).

6 See 31 C.F.R. Section 1023.100(a)(1).

7 See Question 26 of Financial Crimes Enforcement Network (FinCEN) Frequently Asked Questions Regarding Customer Due Diligence Requirements for Financial Institutions (3 April 2018), available at https://www.fincen.gov/sites/default/files/2018-04/FinCEN_Guidance_CDD_FAQ_FINAL_508_2.pdf.

8 Accounting Standard Update (ASU) No. 2014-09, 'Revenue from Contracts with Customers (Topic 606)', codified in Accounting Standards Codification 606, available at https://www.fasb.org/cs/ContentServer?c=

9 International Financial Reporting Standards (IFRS) No. 15, Revenue From Contracts With Customers, available at https://www.ifrs.org/issued-standards/list-of-standards/ifrs-15-revenue-from-contracts-with-customers/.

10 See Financial Accounting Standards Board (FASB) page on amendments to ASU No. 2014-09, available at https://www.fasb.org/cs/ContentServer?c=FASBContent_C&cid=1176169274515&d=&pagename=FASB%2FFASBContent_C%2FCompletedProjectPage.

12 SEC Release No. 33-10532 (17 August 2018).

13 See SEC Division of Corporation Finance, Compliance & Disclosure Interpretations: Cross-Border Exemptions, 17 October 2018, available at https://www.sec.gov/corpfin/cross-border-exemptions-cdi.

14 See Prudential Regulators, 'Margin and Capital Requirements for Covered Swap Entities', Final Rule, 80 Fed. Reg. 74840 (30 November 2015), available at www.gpo.gov/fdsys/pkg/FR-2015-11-30/pdf/2015-28671.pdf; CFTC, 'Margin Requirements for Covered Uncleared Swaps for Swap Dealers and Major Swap Participants', Final Rule, 81 Fed. Reg. 636 (6 January 2016), available at www.cftc.gov/idc/groups/public/@lrfederalregister/documents/file/2015-32320a.pdf.

15 See Commodity Futures Trading Commission (CFTC), 'Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants –Cross-Border Application of the Margin Requirements; Agency Information Collection Activities: Proposed Collection, Comment Request: Final Rule, Margin Requirements for Uncleared swaps for Swap Dealers and Major Swap Participants – Cross-Border Application of the Margin Requirements; Final Rule and Notice', 81 Fed. Reg. 34818 (31 May 2016), available at https://www.gpo.gov/fdsys/pkg/FR-2016-05-31/pdf/2016-12612.pdf; Prudential Regulators, 'Margin and Capital Requirements for Covered Swap Entities', Final Rule, 80 Fed. Reg. 74840 (30 November 2015).

16 See CFTC, 'Comparability Determination for the European Union: Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants', 81 Fed. Reg. 48394 (18 October 2017), available at https://www.cftc.gov/sites/default/files/idc/groups/public/@lrfederalregister/documents/file/2017-22616a.pdf.

17 See CFTC, 'Comparability Determination for Japan: Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants', 81 Fed. Reg. 63376 (15 September 2016), available at

18 Securities Exchange Act of 1934 (15 USC Section 78o–11) (2016).

19 The Loan Syndications and Trading Assoc. v. SEC, No. 17-5004 (D.C. Cir. 2018).

20 Stoyas v. Toshiba Corp., 191 F.Supp.3d 1080 (C.D. Cal. 2016) (Stoyas I), rev'd, 896 F.3d 933 (9th Cir. 2018).

21 Morrison v. Nat'l Australia Bank Ltd, 561 US 247 (2010).

22 'ADR' and 'ADS' will be used interchangeably here, despite the distinct role of the two instruments in trading.

23 Stoyas v. Toshiba Corp., 896 F.3d 933 (9th Cir. 2018) (Stoyas II).

24 Satyam Computer Servs. Ltd. Secs. Litig., 915 F. Supp. 2d 450, 474-75 (S.D.N.Y. 2013).

25 ParkCentral Global Hub Ltd. v. Porsche Automobile Holdings SE, 763 F.3d 198, 215-16 (2d Cir. 2014).

26 Stoyas I, 191 F. Supp.3d at 1084 n. 1, 1089, 1091 (noting that the depositary bank had to purchase the stock on a foreign exchange); Stoyas II, 896 F.3d at 939.

27 Stoyas I, 191 F. Supp.3d at 1093.

28 Stoyas II, 896 F.3d at 941.

29 Stoyas I, 191 F. Supp.3d at 1090 to 91.

30 Stoyas I, 191 F. Supp.3d at 1094.

31 Morrison, 561 US at 267.

32 Stoyas II, 896 F.3d at 950.

33 Stoyas II, 896 F.3d at 951.

34 id.

35 An S corporation is one that makes a valid election to be taxed under Subchapter S of Chapter 1 of the Internal Revenue Code. In general, S corporations do not pay any income tax.

36 138 S.Ct. 883 (2018).

37 Compare In re Quebecor World (USA) Inc., 719 F.3d 94 (2d Cir 2013), In re QSI Holdings, Inc., 571 F.3d 545 (6th Cir. 2009), Contemporary Indus. Corp. v. Frost, 564 F.3d 981 (8th Cir. 2009), Lowenschuss v. Resorts Int'l, Inc. (In re Resorts Int'l, Inc.), 181 F.3d 505 (3d Cir. 1999), Kaiser Steel Corp. v. Charles Schwab & Co. (In re Kaiser Steel Corp.), 913 F.2d 846 (10th Cir. 1991) with In re Munford, 98 F.3d 604 (11th Cir. 1996) and FTI Consulting v. Merit Mgmt. Gr., LP, 830 F.3d 690 (7th Cir. 2016).

38 See 11 USC Sections 544(b), 547, 548(a)(1)(B).

39 11 USC Section 546(e). Similar 'safe harbour' defences exist prohibiting the avoidance of transfers made in connection with repurchase agreements (Section 546(f)), swap agreements (Section 546(g)) and master netting agreements (Section 546(j)).

40 LaMonica v. CEVA Group PLC (In re CIL Ltd), 582 B.R. 46 (Bankr. S.D.N.Y. 2018).

41 Courts determine whether a transaction is foreign by considering either (1) whether the conduct relevant to the statute's focus occurred in a foreign country, or (2) whether the facts surrounding a transaction have a 'centre of gravity' outside the United States. While the Bankruptcy Court for the Southern District of New York initially determined that the transfer at issue in In re CIL Ltd was a foreign transaction, the Bankruptcy Court amended its decision on reconsideration to allow the trustee to replead the avoidance claims to try to establish that the transfer was domestic, not foreign. In re CIL Ltd., 2018 WL 3031094 (Bankr. S.D.N.Y. 15 June 2018).

42 Securities Investor Protection Corp. v. Bernard L. Madoff Investment Securities (In re Madoff Securities), 513 B.R. 222 (S.D.N.Y. 2014); Securities Investor Protection Corp. v. Bernard L. Madoff Investment Securities LLC, Adv. P. No. 08-01789, 2016 WL 6900689 (Bankr. S.D.N.Y 2016); Ampal-American Israel Corp. v. Goldfarb Seligman & Co., (In re Ampal-American Israel Corp.), 562 B.R. 601 (Bankr. S.D.N.Y. 2017).

43 See Weisfelner v. Blavatnik (In re Lyondell Chem. Co.), 543 B.R. 127 (Bankr. S.D.N.Y. 2016); see also In re FAH Liquidating Corp., 572 B.R. 117 (Bankr. D. Del. 2017) (recognising a split in authority but adopting the reasoning of Lyondell).

44 See Official Committee of Unsecured Creditors of Arcapita v. Bahrain Islamic Bank, 549 B.R. 56 (S.D.N.Y. 2016) (asserting personal jurisdiction over foreign investment bank in preference action on the basis of bank's use of US correspondent bank account to receive transfers from foreign entity); Lehman Bros. Special Financing Inc. v. Bank of Am. N.A. (In re Lehman Bros. Holdings Inc.), No. 10-03547 (Bankr. S.D.N.Y. 28 December 2015) (determining that the bankruptcy court had in rem jurisdiction over property of the debtor transferred to foreign defendant pre-petition for purposes of avoidance action).

45 See, Federal Reserve, Office of the Comptroller of the Currency, Federal Deposit Insurance Corporation, SEC and CFTC, 'Proposed Revisions to Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds and Private Equity Funds', 83 Fed. Reg. 33432 (17 July 2018), available at https://www.gpo.gov/fdsys/pkg/FR-2018-07-17/pdf/2018-13502.pdf.

46 For example, in May 2018, Congress directed the SEC to amend Regulation A+, which exempts public offerings of up to US$50 million by non-public companies over a 12-month period, so that it becomes available to companies reporting under the Exchange Act and to allow reporting companies to complete their Regulation A+ reporting requirements using reports they file under the Exchange Act. Only US and Canadian issuers are eligible to use Regulation A+.

47 For example, the SEC has expressed its intent to regulate strictly 'initial coin offerings' (ICOs), capital-raising transactions in which investors purchase virtual tokens or other cryptocurrencies employing blockchain technology. In an investigatory report published in mid 2017, the SEC concluded that the tokens subject to the investigation were securities, raising compliance issues under the Securities Act, the Exchange Act and the Investment Company Act of 1940. The SEC's enforcement division has prosecuted a number of ICO promotions for both registration and anti-fraud violations.