---------------------------------------------------------------------------

    \1073\ The commenters' suggested exclusion from the swap
definition would also exclude their transactions from the security-
based swap definition, which is based on the definition of swap.
---------------------------------------------------------------------------

    In addition, swaps entered into by foreign sovereigns, foreign
central banks, IFIs and similar entities undeniably are swaps. To be
sure, the Commissions have adopted rules and interpretations to further
define the term ``swap'' to exclude certain transactions, which prior
to the enactment of the Dodd-Frank Act generally would not have been
considered swaps. However, the CFTC is not using its authority to
further define the term ``swap'' to effectively exempt transactions
that are, in fact, swaps. While, as noted above, Congress included a
counterparty-specific exclusion for swaps entered into by the Federal
Reserve Board, the Federal government and certain government agencies,
Congress did not provide a similar exemption for foreign central banks,
foreign sovereigns, IFIs, or similar organizations.

C. Definition of the Terms ``Swap'' and ``Security-Based Swap'' as Used
in the Securities Act

    The SEC is adopting a technical rule that provides that the terms
``swap'' and ``security-based swap'' as used in the Securities Act
\1074\ have the same meanings as in the Exchange Act \1075\ and the
rules and regulations thereunder.\1076\ The SEC is adopting such
technical rule to assure consistent definitions of these terms under
the Securities Act and the Exchange Act.
---------------------------------------------------------------------------

    \1074\ See section 2(a)(17) of the Securities Act, 15 U.S.C.
77b(a)(17).
    \1075\ See sections 3(a)(69) of the Exchange Act, 15 U.S.C.
78c(a)(69), and 3(a)(68) of the Exchange Act, 15 U.S.C. 78c(a)(68).
The definitions of the terms ``swap'' and ``security-based swap'' in
the Exchange Act are the same as the definitions of these terms in
the CEA. See section 1a of the CEA, 7 U.S.C. 1a.
    \1076\ See rule 194 under the Securities Act.
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IX. Effective Date and Implementation

    Consistent with sections 754 and 774 of the Dodd-Frank Act, the
final rules and interpretations will be effective October 12, 2012. The
compliance date for the final rules and interpretations also will be
October 12, 2012; with the following exceptions:
     The compliance date for the interpretation regarding
guarantees of swaps will be the effective date of the rules proposed in
the separate CFTC release when such rules are adopted by the CFTC.
     Solely for the purposes of the Order Granting Temporary
Exemptions under the Securities Exchange Act of 1934 in Connection with
the Pending Revision of the Definition of ``Security'' to Encompass
Security-Based Swaps \1077\ and the Exemptions for Security-Based
Swaps,\1078\ the compliance date for the final rules further defining
the term ``security-based swap'' will be February 11, 2013.
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    \1077\ 76 FR 39927 (Jul. 7, 2011) (``Exchange Act Exemptive
Order''). The Exchange Act Exemptive Order grants temporary relief
and provides interpretive guidance to make it clear that a
substantial number of the requirements of the Exchange Act do not
apply to security-based swaps as a result of the revised definition
of ``security'' going into effect on July 16, 2011. The Exchange Act
Exemptive Order also provided temporary relief from provisions of
the Exchange Act that allow the voiding of contracts made in
violation of those laws.
    \1078\ Rule 240 under the Securities Act, 17 CFR 230.240, rules
12a-11 and 12h-1(i) under the Exchange Act 1934, 17 CFR 240.12a-11
and 240.12h-1(i), and Rule 4d-12 under the Trust Indenture Act of
1939, 17 CFR 260.4d-12 (``SB Swaps Interim Final Rules''). See also
76 FR 40605 (Jul. 11, 2011). The SB Swaps Interim Final Rules
provide exemptions under the Securities Act, the Exchange Act, and
the Trust Indenture Act of 1939 for those security-based swaps that
prior to July 16, 2011, were security-based swap agreements and are
defined as ``securities'' under the Securities Act and the Exchange
Act as of July 16, 2011, due solely to the provisions of the Dodd-
Frank Act. The SB Swaps Interim Final Rules exempt offers and sales
of these security-based swaps from all provisions of the Securities
Act, other than the Section 17(a) anti-fraud provisions, as well as
exempt these security-based swaps from Exchange Act registration
requirements and from the provisions of the Trust Indenture Act of
1939, provided certain conditions are met.
---------------------------------------------------------------------------

    The CFTC believes that it is appropriate to make the compliance
date for the interpretation regarding guarantees of swaps the same as
the effective date of the rules proposed in the separate CFTC release
when such rules are adopted by the CFTC in order to relieve market
participants from compliance obligations that would arise as a result
of the interpretation. As described in the Exchange Act Exemptive Order
and as provided in the SB Swaps Interim Final Rules, the exemptions
granted pursuant to the Exchange Act Exemptive Order and the SB Swaps
Interim Final Rules will expire upon the compliance date of the final
rules further defining the terms ``security-based swap'' and ``eligible
contract participant.'' The final rules further defining the term
``eligible contract participant,'' adopted in the Entity Definitions
Release,\1079\ were published in the Federal Register on May 23, 2012.
The compliance date and the effective date for such final rules is the
same, July 23, 2012. The SEC believes that establishing a compliance
date for the definition of ``security-based swap'' solely for purposes
of the Exchange Act Exemptive Order and the SB Swaps Interim Final
Rules that is February 11, 2013 (i.e. 120 days after the effective
date) is appropriate because doing so will leave in place the
exemptions granted by the Exchange Act Exemptive Order and the SB Swaps
Interim Final Rules for a period of time that is sufficient to
facilitate consideration of that order and rule. Specifically, the SEC
will consider the appropriate treatment of security-based swaps under
the provisions of the Exchange Act not amended by the Dodd-Frank Act
before expiration of the exemptions set forth in the Exchange Act
Exemptive Order, and will consider the appropriate treatment of
security-based swaps for purposes of the registration provisions of the
Securities Act, the registration provisions of the Exchange Act, and
the indenture qualification provisions of the Trust Indenture Act of
1939 before the expiration of the exemptions set forth in the SB Swaps
Interim Final Rules.\1080\
---------------------------------------------------------------------------

    \1079\ See supra note 12.
    \1080\ The SEC has received a request for certain permanent
exemptions upon the expiration of the exemptions contained in the
Exchange Act Exemptive Order. See SIFMA SBS Exemptive Relief Request
(Dec. 5, 2011), which is available at http://www.sec.gov/comments/s7-27-11/s72711-10.pdf. The SEC also has received comments regarding
the exemptions under the Securities Act, the Exchange Act, and the
Trust Indenture Act of 1939. See Letter from Kenneth E. Bentsen,
Jr., Executive Vice President, Public Policy and Advocacy, SIFMA,
and Robert Pickel, Chief Executive Officer, ISDA, dated Apr. 20,
2012, which is available at http://www.sec.gov/comments/s7-26-11/s72611-5.pdf. The SEC is reviewing the request for exemptive relief
and each related comment and will consider any appropriate actions
regarding such request.
---------------------------------------------------------------------------

    If any provision of these final rules or interpretations, or the
application thereof to any person or circumstance, is held to be
invalid, such invalidity shall not affect other provisions or
application of such provisions to other persons or circumstances that
can be

given effect without the invalid provision or application.

X. Administrative Law Matters--CEA Revisions

A. Paperwork Reduction Act

1. Introduction
    The Paperwork Reduction Act of 1995 (``PRA'') imposes certain
requirements on Federal agencies in connection with their conducting or
sponsoring any collection of information as defined by the PRA.\1081\
An agency may not conduct or sponsor, and a person is not required to
respond to, a collection of information unless it displays a currently
valid control number. Certain provisions of this rule will result in
new collection of information requirements within the meaning of the
PRA. With the exception of the new ``book-out'' confirmation
requirement discussed below, the CFTC believes that the burdens that
will be imposed on market participants under rules 1.8 and 1.9 already
have been accounted for within the SEC's calculations regarding the
impact of this collection of information under the PRA and the request
for a control number submitted by the SEC to OMB for rule 3a68-2
(``Interpretation of Swaps, Security-Based Swaps, and Mixed Swaps'')
and rule 3a68-4 (``Regulation of Mixed Swaps: Process for Determining
Regulatory Treatment for Mixed Swaps''). In response to this
submission, OMB issued control number 3235-0685. The responses to these
collections of information will be mandatory.\1082\ The CFTC will
protect proprietary information according to the Freedom of Information
Act and 17 CFR part 145, headed ``Commission Records and Information.''
In addition, the CFTC emphasizes that section 8(a)(1) of the CEA \1083\
strictly prohibits the Commission, unless specifically authorized by
the CEA, from making public ``data and information that would
separately disclose the business transactions or market positions of
any person and trade secrets or names of customers.'' The CFTC also is
required to protect certain information contained in a government
system of records pursuant to the Privacy Act of 1974.
---------------------------------------------------------------------------

    \1081\ 44 U.S.C. 3501 et seq.
    \1082\ As discussed below, the ``collection of information''
related to the new ``book out'' confirmation requirement was not
included in the SEC's submission and will be the subject of a
request for a control number by the CFTC to OMB.
    \1083\ 7 U.S.C. 12(a)(1).
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2. Rules 1.8 and 1.9
    As discussed in the proposal, Rules 1.8 and 1.9 under the CEA will
result in new ``collection of information'' requirements within the
meaning of the PRA. Rule 1.8 under the CEA will allow persons to submit
a request for a joint interpretation from the Commissions regarding
whether an agreement, contract or transaction (or a class thereof) is a
swap, security-based swap, or mixed swap. Rule 1.8 provides that a
person requesting an interpretation as to the nature of an agreement,
contract, or transaction as a swap, security-based swap, or mixed swap
must provide the Commissions with the person's determination of the
nature of the instrument and supporting analysis, along with certain
other documentation, including a statement of the economic purpose for,
and a copy of all material information regarding the terms of, each
relevant agreement, contract, or transaction (or class thereof). The
Commissions also may request the submitting person to provide
additional information. In response to the submission, the Commissions
may issue a joint interpretation regarding the status of that
agreement, contract, or transaction (or class of agreements, contracts,
or transactions) as a swap, security-based swap, or mixed swap.
    Rule 1.9 of the CEA enables persons to submit requests to the
Commissions for joint orders providing an alternative regulatory
treatment for particular mixed swaps. Under rule 1.9, a person will
provide to the Commissions a statement of the economic purpose for, and
a copy of all material information regarding, the relevant mixed swap.
In addition, the person will provide the specific alternative
provisions that the person believes should apply to the mixed swap, the
reasons the person believes it would be appropriate to request an
alternative regulatory treatment, and an analysis of: (i) The nature
and purposes of the specified provisions; (ii) the comparability of the
specified provisions to other statutory provisions of Title VII of the
Dodd-Frank Act and the rules and regulations thereunder; and (iii) the
extent of any conflicting or incompatible requirements of the specified
provisions and other statutory provisions of Title VII and the rules
and regulations thereunder. The Commissions also may request the
submitting person to provide additional information.
(a) Information Provided by Reporting Entities
    The burdens imposed by rules 1.8 and 1.9 under the CEA are the same
as the burdens imposed by the SEC's rules 3a68-2 and 3a68-4. Therefore,
the burdens that will be imposed on market participants under rules 1.8
and 1.9 already have been accounted for within the SEC's calculations
regarding the impact of this collection of information under the PRA
and the request for a control number submitted by the SEC to OMB.\1084\
(b) Information Collection Comments
---------------------------------------------------------------------------

    \1084\ 44 U.S.C. 3501-3521. See also 44 U.S.C. 3509 and 3510.
---------------------------------------------------------------------------

    In the Proposing Release, the CFTC invited public comment on the
reporting and recordkeeping burdens discussed above with regard to
rules 1.8 and 1.9. Pursuant to 44 U.S.C. 3506(c)(2)(B), the CFTC
solicited comments in order to: (i) Evaluate whether the proposed
collections of information are necessary for the proper performance of
the functions of the CFTC, including whether the information will have
practical utility; (ii) evaluate the accuracy of the CFTC's estimate of
the burden of the proposed collections of information; (iii) determine
whether there are ways to enhance the quality, utility, and clarity of
the information to be collected; and (iv) minimize the burden of the
collections of information on those who are to respond, including
through the use of automated collection techniques or other forms of
information technology.
    No comments were received with respect to the reporting and
recordkeeping burdens discussed in the proposing release. In response
to the request for a control number by the SEC, OMB issued control
number 3235-0685.
3. Book-Out Confirmation
    As noted above, the CFTC believes that its interpretation which
clarifies that oral book-out agreements must be followed in a
commercially reasonable timeframe by a confirmation in some type of
written or electronic form would result in a new ``collection of
information'' requirement within the meaning of the PRA. Therefore, the
CFTC is submitting the new ``book-out'' information collection to OMB
for review in accordance with 44 U.S.C. 3506(c)(2)(A) and 5 CFR
1320.8(d). The CFTC will, by separate action, publish in the Federal
Register a notice on the paperwork burden associated with the
interpretation's requirement that oral book-outs be followed in a
commercially reasonable timeframe by confirmation in some type of
written or electronic form in accordance with 5 CFR 1320.8 and 1320.10.
If approved, this new collection of information will be mandatory.

B. Regulatory Flexibility Act

    The Regulatory Flexibility Act (``RFA'') requires that agencies
consider whether the rules they propose will have a significant
economic impact on a substantial number of small entities and, if so,
provide a regulatory flexibility analysis respecting the impact.\1085\
A regulatory flexibility analysis or certification typically is
required for ``any rule for which the agency publishes a general notice
of proposed rulemaking pursuant to'' the notice-and-comment provisions
of the Administrative Procedure Act, 5 U.S.C. 553(b).
---------------------------------------------------------------------------

    \1085\ 5 U.S.C. 601 et seq.
---------------------------------------------------------------------------

    With respect to the proposed release, while the CFTC provided an
RFA statement that the proposed rule would have a direct effect on
numerous entities, specifically DCMs, SDRs, SEFs, SDs, MSPs, ECPs,
FBOTs, DCOs, and certain ``appropriate persons'' who relied on the
Energy Exemption,\1086\ the Chairman, on behalf of the CFTC, certified
that the rulemaking would not have a significant economic effect on a
substantial number of small entities. Comments on that certification
were sought.
---------------------------------------------------------------------------

    \1086\ See 76 FR 29868-89.
---------------------------------------------------------------------------

    In the Proposing Release, the CFTC provided that it previously had
established that certain entities subject to the CFTC's jurisdiction--
namely, DCMs, DCOs and ECPs--are not small entities for purposes of the
RFA.\1087\ As the CFTC previously explained, because of the central
role they play in the regulatory scheme concerning futures trading, the
importance of futures trading in the national economy, and the
financial requirements needed to comply with the regulatory
requirements imposed on them under the CEA, DCMs and DCOs have long
been determined not to be small entities.\1088\ Based on the definition
of ECP in the Commodity Futures Modernization Act of 2000 (``CFMA'')
and the legislative history underlying that definition, the CFTC
determined that ECPs were not small entities.\1089\ In light of its
past determination, and the increased thresholds on ECPs added by the
Dodd-Frank Act making it more difficult for entities to qualify as an
ECP, the CFTC determined in its proposed rulemakings that ECPs are not
small entities.
---------------------------------------------------------------------------

    \1087\ See respectively, Policy Statement and Establishment of
Definitions of ``Small Entities'' for Purposes of the Regulatory
Flexibility Act, supra note 331, at 18619 (DCMs); A New Regulatory
Framework for Clearing Organizations, 66 FR 45604, 45609 (Aug. 29,
2001) (DCOs); Opting Out of Segregation, 66 FR 20740, 20743 (Apr.
25, 2001) (ECPs).
    \1088\ See respectively, Policy Statement and Establishment of
Definitions of ``Small Entities'' for Purposes of the Regulatory
Flexibility Act, supra note 331, at 18619 (DCMs); A New Regulatory
Framework for Clearing Organizations, 66 FR 45604, 45609, Aug. 29,
2001 (DCOs).
    \1089\ See Opting Out of Segregation. 66 FR 20740, 20743, Apr.
25, 2001 (ECPs).
---------------------------------------------------------------------------

    Furthermore, the CFTC provided that certain entities that would be
subject to the proposed rule--namely SDs, MSPs, SDRs, SEFs, and FBOTs--
are entities for which the CFTC had not previously made a size
determination for RFA purposes. The CFTC determined that these entities
should not be considered small entities based on their size and
characteristics analogous to non-small entities that pre-dated the
adoption of Dodd-Frank,\1090\ and certified in rulemakings that would
have an economic impact on these entities that these entities are not
small entities for RFA purposes.\1091\
---------------------------------------------------------------------------

    \1090\ See 76 FR 29868-89.
    \1091\ See respectively, Registration of Swap Dealers and Major
Swap Participants, 77 FR 2613, 2620, Jan. 19, 2012 (swap dealers and
major swap participants); Requirements for Derivatives Clearing
Organizations, Designated Contract Markets, and Swap Execution
Facilities Regarding the Mitigation of Conflicts of Interest, 75 FR
63732, 63745, Oct. 18, 2010 (SEFs); Swap Data Repositories, 76 FR
54538, 54575, Sept. 1, 2011; Registration of Foreign Boards of
Trade, 76 FR 80674, 80698, Dec. 23, 2011 (FBOTs).
---------------------------------------------------------------------------

    Finally, the CFTC recognized that, in light of the CFTC's proposed
withdrawal of the Energy Exemption, the proposed rule could have an
economic impact on certain ``appropriate persons'' who relied on the
Energy Exemption. The Energy Exemption listed certain ``appropriate
persons'' that could rely on the exemption and also required that, to
be eligible for this exemption, an ``appropriate person must have
demonstrable capacity or ability to make or take delivery.'' The Energy
Exemption stated: ``in light of the general nature of the current
participants in the market, the CFTC believes that smaller commercial
firms, which cannot meet [certain] financial criteria, should not be
included.'' \1092\ Therefore, the CFTC did not believe that the
``appropriate persons'' eligible for the Energy Exemption, and who may
be affected by its withdrawal, are ``small entities'' for purposes of
RFA. Moreover, as previously discussed, the CFTC is expanding the Brent
Interpretation to all nonfinancial commodities for both swaps and
future delivery definitions and is clarifying that certain alternative
delivery procedures discussed in the Energy Exemption will not
disqualify a transaction from the forward contract exclusion under the
Brent Interpretation.\1093\ Thus, to the extent any entities, small or
otherwise, relied on the Energy Exemption, such entities can now rely
on the expanded Brent Interpretation to qualify for the forward
contract exclusion. Accordingly, the withdrawal of the Energy Exemption
will not result in a significant economic impact on any entities.
---------------------------------------------------------------------------

    \1092\ Energy Exemption, supra note 207.
    \1093\ See supra part II.B.2.(a)(i)(C).
---------------------------------------------------------------------------

    With respect to this rulemaking, which includes interpretations, as
well as general rules of construction and definitions that will largely
be used in other rulemakings, the CFTC received one comment respecting
its RFA certification. The commenter, an association that represents
producers, generators, processors, refiners, merchandisers and
commercial end users of nonfinancial energy commodities, including
energy and natural gas, contended that the CFTC's overall new
jurisdiction under the Dodd-Frank Act over ``swaps'' and the burdens
that the CFTC's rules place on nonfinancial entities, including small
entities such as its members \1094\ that execute such swaps, can only
be determined after the rules and interpretations in the product
definitions rulemaking are finalized. Moreover, the commenter asserted
that its small entity members seek to continue their use of
nonfinancial commodity ``swaps'' only to hedge the commercial risks of
their not-for profit public service activities. The commenter concluded
that the CFTC should conduct a regulatory flexibility analysis for the
entire mosaic of its rulemakings under the Dodd-Frank Act, taking into
consideration the products definition rulemaking.
---------------------------------------------------------------------------

    \1094\ See ETA Letter. In general, ETA states that the Small
Business Administration (``SBA'') has determined that many of its
members are ``small entities'' for purposes of the RFA. Id.
(references the comment letter filed by the NRECA, APPA and LLPC as
the ``Not-for-Profit Electric Coalition'' in response to the
Commodity Option NOPR's (76 FR 6095) assertion that there are no
ECPs that are ``small entities'' for RFA purposes).
---------------------------------------------------------------------------

    The commenter did not provide specific information on how the
further defining of the terms swap, security-based swap and security-
based swap agreement, providing regulations regarding mixed swaps, and
providing regulations governing books and records requirements for
security-based swap agreements would have a significant impact on a
substantial number of small entities. Nonetheless, the CFTC has
reevaluated this rulemaking in light of the commenter's statements.
Upon consideration, the CFTC declines to consider the economic impacts
of the entire mosaic of rules under the Dodd-

Frank Act, since an agency is only required to consider the impact of
how it exercises its discretion to implement the statute through a
particular rule. In all rulemakings, the CFTC performs an RFA analysis
for that particular rule.
    Moreover, as the commenter mentioned, most of the transactions into
which its members enter are based on nonfinancial commodities. The CFTC
has provided interpretations in this release clarifying the forward
exclusion in nonfinancial commodities from the swap definition (and the
forward exclusion from the definition of ``future delivery''),
including forwards with embedded volumetric options, and separately,
has provided for a trade option exemption.\1095\ The CFTC also has
provided an interpretation that certain customary commercial
transactions are excluded from the swap definition.\1096\
---------------------------------------------------------------------------

    \1095\ See Commodity Options, 77 FR 25320, Apr. 27, 2012.
    \1096\ To the extent the transactions entered into by ETA
members are traded or executed on Regional Transmission
Organizations and Independent System Operators, or entered into
between entities described in section 201(f) of the Federal Power
Act, they may be addressed through the public interest waiver
process described in CEA section 4(c)(6).
---------------------------------------------------------------------------

    Accordingly, for the reasons stated in the proposal and the
foregoing discussion in response to the comment received, the CFTC
continues to believe that the rulemaking will not have a significant
impact on a substantial number of small entities. Therefore, the
Chairman, on behalf of the CFTC, hereby certifies pursuant to 5 U.S.C.
605(b) that the rules will not have a significant impact on a
substantial number of small entities.

C. Costs and Benefits Considerations

    Section 15(a) of the CEA requires the CFTC to consider the costs
and benefits of its actions before promulgating a regulation or issuing
certain orders under the CEA.\1097\ Section 15(a) further specifies
that the costs and benefits shall be evaluated in light of the
following five broad areas of market and public concern: (1) Protection
of market participants and the public; (2) efficiency, competitiveness,
and financial integrity of markets; (3) price discovery; (4) sound risk
management practices; and (5) other public interest considerations. The
CFTC considers the costs and benefits resulting from its discretionary
determinations with respect to the Section 15(a) factors. The CFTC also
considers, qualitatively, costs and benefits relative to the status
quo, that is, the pre-Dodd Frank Act regulatory regime, for historical
context to help inform the reader.
---------------------------------------------------------------------------

    \1097\ 7 U.S.C. 19(a).
---------------------------------------------------------------------------

    In the Proposing Release, the CFTC assessed the costs and benefits
of the proposed rules in general, followed by assessments of the costs
and benefits of each of the rules, taking into account the
considerations described above. The CFTC also requested comment on
these assessments, and a number of comments were received. In this
Adopting Release, the CFTC will again assess the costs and benefits of
the rules in general followed by the individual rules in this
rulemaking, for each case taking into account the above considerations
and the comments received. These costs and benefits, to the extent
identified and, where possible, quantified have helped to inform the
decisions of and the actions taken by the CFTC that are described
throughout this release.
1. Introduction
    Prior to the adoption of Title VII, swaps and security-based swaps
were by and large unregulated. The Commodity Futures Modernization Act
of 2000 (``CFMA'') excluded financial over-the-counter swaps from
regulation under the CEA, provided that trading occurred only among
``eligible contract participants.'' \1098\ Swaps based on exempt
commodities--including energy and metals--could be traded among ECPs
without CFTC regulation, but certain CEA provisions against fraud and
manipulation continued to apply to these markets. No statutory
exclusions were provided for swaps on agricultural commodities by the
CFMA, although they could be traded under certain regulatory exemptions
provided by the CFTC prior to its enactment. Swaps based on securities
were subject to certain SEC enforcement authorities, but the SEC was
prohibited from prophylactic regulation of such swaps.
---------------------------------------------------------------------------

    \1098\ See 7 U.S.C. 1a(12) (2006).
---------------------------------------------------------------------------

    In the fall of 2008, an economic crisis threatened to freeze U.S.
and global credit markets. The Federal government intervened to
buttress the stability of the U.S. financial system.\1099\ The crisis
revealed the vulnerability of the U.S. financial system and economy to
wide-spread systemic risk resulting from, among other things, poor risk
management practices of certain financial firms and the lack of
supervisory oversight for financial institutions as a whole.\1100\ More
specifically, the crisis demonstrated the need for regulation of the
over-the-counter derivatives markets.\1101\
---------------------------------------------------------------------------

    \1099\ On October 3, 2008, President Bush signed the Emergency
Economic Stabilization Act of 2008, which was principally designed
to allow the U.S. Treasury and other government agencies to take
action to help to restore liquidity and stability to the U.S.
financial system (e.g., the Trouble Asset Relief Program--also known
as TARP--under which the U.S. Treasury was authorized to purchase up
to $700 billion of troubled assets that weighed down the balance
sheets of U.S. financial institutions). See Public Law 110-343, 122
Stat. 3765 (2008).
    \1100\ See Financial Crisis Inquiry Commission, ``The Financial
Crisis Inquiry Report: Final Report of the National Commission on
the Causes of the Financial and Economic Crisis in the United
States,'' Jan. 2011, at xxvii, available at http://www.gpo.gov/fdsys/pkg/GPO-FCIC/pdf/GPO-FCIC.pdf.
    \1101\ Id. at 25 (concluding that ``enactment of * * * [the
Commodity Futures Modernization Act of 2000 (``CFMA'')] to ban the
regulation by both the Federal and State governments of over-the-
counter (OTC) derivatives was a key turning point in the march
toward the financial crisis.''). See also id. at 343 (``Lehman, like
other large OTC derivatives dealers, experienced runs on its
derivatives operations that played a role in its failure. Its
massive derivatives positions greatly complicated its bankruptcy,
and the impact of its bankruptcy through interconnections with
derivatives counterparties and other financial institutions
contributed significantly to the severity and depth of the financial
crisis.'') and id. at 353 (``AIG's failure was possible because of
the sweeping deregulation of [OTC] derivatives, [* * *] including
capital and margin requirements that would have lessened the
likelihood of AIG's failure. The OTC derivatives market's lack of
transparency and of effective price discovery exacerbated the
collateral disputes of AIG and Goldman Sachs and similar disputes
between other derivatives counterparties.'').
---------------------------------------------------------------------------

    On July 21, 2010, President Obama signed the Dodd-Frank Act into
law. Title VII of the Dodd-Frank Act established a comprehensive new
regulatory framework for swaps and security-based swaps. As discussed
above, the legislation was enacted, among other reasons, to reduce
risk, increase transparency, and promote market integrity within the
financial system, including by: (i) Providing for the registration and
comprehensive regulation of swap dealers, security-based swap dealers,
major swap participants, and major security-based swap participants;
(ii) imposing clearing and trade execution requirements on swaps and
security-based swaps, subject to certain exceptions; (iii) creating
rigorous recordkeeping and real-time reporting regimes; and (iv)
enhancing the rulemaking and enforcement authorities of the Commissions
with respect to, among others, all registered entities and
intermediaries subject to the Commissions' oversight.\1102\
---------------------------------------------------------------------------

    \1102\ The CFTC has provided a table in the Appendix that cross-
references the costs and benefits considerations of the final rules
effectuated by the Product Definitions in order to provide more
transparency with respect to this qualitative assessment of the
programmatic costs. See Appendix, ``Rules Effectuated by Product
Definitions.'' The CFTC is not providing a quantitative estimate of
total programmatic costs, because it cannot be reliably estimated at
this time. Many rules have not been finalized, including capital and
margin which may have significant costs. Any estimate made of the
programmatic costs of the Product Definitions would be unreliable
and therefore may be misleading.

---------------------------------------------------------------------------

    Section 721 of the Dodd-Frank Act amends the Commodity Exchange Act
(``CEA'') by adding definitions of the terms ``swap,'' ``security-based
swap,'' and ``security-based swap agreement.'' Section 712(d)(1)
provides that the CFTC and the SEC, in consultation with the Federal
Reserve Board, shall jointly further define those terms. Section
712(a)(8) provides further that the Commissions shall jointly prescribe
such regulations regarding ``mixed swaps'' as may be necessary to carry
out the purposes of Title VII of the Dodd-Frank Act (``Title VII'').
Section 712(d)(2) requires the Commissions, in consultation with the
Federal Reserve Board, to jointly adopt rules governing books and
records requirements for security-based swap agreements.
    Under the comprehensive framework for regulating swaps and
security-based swaps established in Title VII, the CFTC is given
regulatory authority over swaps, the SEC is given regulatory authority
over security-based swaps, and the Commissions jointly are to prescribe
such regulations regarding mixed swaps as may be necessary to carry out
the purposes of Title VII. In addition, the SEC is given antifraud
authority over, and access to information from, certain CFTC-regulated
entities regarding security-based swap agreements, which are a type of
swap related to securities over which the CFTC is given regulatory and
enforcement authority.
    The statutory definitions of ``swap'' and ``security-based swap''
in Title VII are detailed and comprehensive. The Dodd-Frank Act directs
the Commissions, among other things, to ``further define'' these terms;
it does not direct the Commissions to provide definitions for them,
which are already provided for in the statute. Thus, even in the
absence of these rules, the Dodd-Frank Act would require regulating
products that meet the statutory definitions of these terms as swaps
and security-based swaps. Consequently, a large part of the costs and
benefits resulting from the regulation of swaps and security-based
swaps derives from the Dodd-Frank Act itself and not from these rules
that further define swaps.
    Several commenters to the ANPR issued by the Commissions regarding
the definitions expressed a concern that the product definitions could
be read broadly to include certain types of transactions that
previously had never been considered swaps or security-based swaps. In
response to those comments, the rules and interpretations clarify that
certain traditional insurance products, consumer and commercial
agreements, and loan participations are not swaps or security-based
swaps, which will increase legal certainty and lower the costs of
assessing whether a product is a swap or security-based swap for market
participants. In this regard, the rules and interpretations are
intended to reduce unnecessary burdens on persons using such
agreements, contracts, or transactions, the regulation of which under
Title VII may not be necessary or appropriate to further the purposes
of Title VII.
    In addition, the CFTC is clarifying the scope of the forward
contract exclusion \1103\ for nonfinancial commodities from the
statutory swap definition to provide legal certainty for market
participants as to which transactions will qualify for the exclusion.
In this regard, the CFTC is clarifying the circumstances under which
market participants may rely on past CFTC guidance regarding the
forward exclusion from the definition of ``future delivery,'' and in
particular the Brent Interpretation for booked-out transactions,\1104\
with respect to the forward exclusion from the swap definition. The
CFTC is extending the Brent Interpretation to all nonfinancial
commodities, and is withdrawing the Energy Exemption as proposed,
\1105\ with certain clarifications. The final interpretation with
clarifications in response to comments should enhance legal certainty
regarding the forward exclusions.
---------------------------------------------------------------------------

    \1103\ See supra part II.B.2.a).
    \1104\ See supra part II.B.2.a)i)(B).
    \1105\ See supra part II.B.2.a)i)(C).
---------------------------------------------------------------------------

    While the statutory definitions of swap and security-based swap are
detailed and comprehensive, the rules further clarify whether
particular types of transactions are swaps or security-based swaps. For
example, foreign exchange forwards and swaps are defined as swaps,
subject to the Treasury Secretary's determination to exempt them from
the swap definition. The statute provides that certain provisions of
the CEA apply to foreign exchange forwards and swaps, even if the
Treasury Secretary determines to exempt them, and the rules reflect
this. Specifically, these transactions still would be subject to
certain requirements for reporting swaps, and swap dealers and major
swap participants engaging in such transactions still would be subject
to certain business conduct standards. The rules also clarify that,
because certain foreign exchange products do not fall within the
definitions of foreign exchange swap and forward, such products are not
subject to the Treasury Secretary's determination to exempt. Outside of
the foreign exchange suite of products, the rules and interpretations
clarify that certain transactions are swaps or security-based swaps.
These products include forward rate agreements, certain contracts for
differences, swaptions and forward swaps. The rules and the
interpretations are intended to increase clarity and legal certainty
for market participants with respect to these products.
    Next this release addresses the relationship between swaps and
security-based swaps and how to distinguish them. The Commissions are
clarifying whether particular agreements, contracts or transactions
that are subject to Title VII of the Dodd-Frank Act (which are referred
to as ``Title VII Instruments'' in this release) are swaps, security-
based swaps or both (i.e., mixed swaps). In addition, the Commissions
are clarifying the use of the term ``narrow-based security index'' in
the security-based swap definition. In general, the CFTC has
jurisdiction over Title VII instruments on broad-based security
indexes, while the SEC has jurisdiction over Title VII instruments on
narrow-based security indexes. This release clarifies that the existing
criteria for determining whether a security index is narrow-based, and
the past guidance of the Commissions regarding those criteria in the
context of security futures, apply to Title VII instruments. Credit
default swaps (``CDS'') also are subject to this same jurisdictional
division--CDS on broad-based security indexes are regulated by the
CFTC, while CDS on narrow-based security indexes (as well as CDS on
single name securities or loans) generally are regulated by the SEC.
This release provides new criteria tailored to CDS for determining
whether a CDS is based on an index that is a narrow-based security
index. Also, it explains the term ``index'' and adopts a final rule
governing tolerance and grace periods for Title VII instruments on
security indexes traded on trading platforms. These rules and
interpretations generally are designed to provide clarity and enhanced
legal certainty regarding the appropriate classification of Title VII
instruments as swaps, security-based swaps or mixed swaps, so that
market participants may ascertain the applicable regulatory
requirements more easily.
    This release anticipates that mixed swaps, which are both swaps and
security-based swaps, will be a narrow category, but lists a few
examples of

mixed swaps and interprets how to distinguish one type of TRS that is a
mixed swap from another that is not. This release addresses the
regulatory treatment of bilateral, uncleared mixed swaps where one
counterparty is a dual registrant with the CFTC and SEC. It also
establishes a process for requesting a joint order from the Commissions
to determine the appropriate regulatory treatment of mixed swaps that
do not fall into the category of mixed swaps where one counterparty is
a dual registrant. Concerning ``security-based swap agreements'' (or
SBSAs), this release explains what types of transactions are SBSAs and
includes rules that provide that there will not be additional books and
records requirements regarding SBSAs other than those that have been
proposed by the CFTC for swaps in order to avoid duplicative regulation
and costs.
    This release also includes rules establishing a process for members
of the public to request a joint interpretation from the Commissions
regarding whether a Title VII instrument is a swap, security-based swap
or a mixed swap. The process includes a deadline for a decision, as
well as a requirement that if the Commissions do not issue a joint
interpretation within the prescribed time period, each Commission must
publicly provide the reasons for not having done so.
    Finally, this release includes anti-evasion rules and related
interpretations adopted by the CFTC, which in general would apply to
agreements, contracts, transactions and entities that are willfully
structured to evade Dodd-Frank requirements.
2. Costs and Benefits of the Definitions--In General
    The rules and interpretations in this Adopting Release: further
define the terms ``swap,'' ``security-based swap,'' and ``security-
based swap agreement;'' provide for the regulation of ``mixed swaps;''
and address books and records requirements for security-based swap
agreements. In the discussion that follows, the CFTC considers the
costs and benefits resulting from its own discretionary determinations
with respect to the section 15(a) factors.
    There are ``programmatic'' costs and benefits as well as
``assessment'' costs of the Product Definitions. Programmatic costs
result from subjecting certain agreements, contracts, or transactions
to the regulatory regime of Title VII.\1106\ Effectiveness of the
Products Definitions will trigger effectiveness of any statutory
provision or regulation that depends, in whole or in part, on the
effectiveness of this final rulemaking. By fulfilling the statutory
mandate, many of the programmatic benefits of Title VII and the CFTC's
implementing regulations are triggered, including risk reduction,
increasing transparency, and promoting market integrity and, by
extension, the increased possibility of preventing or reducing the
severity of another global financial crisis such as occurred in 2008.
Delimiting the scope of the terms ``swap,'' ``security-based swap,''
``security-based swap agreement,'' and ``mixed swaps'' also helps to
determine the scope of activities and entities that will be subject to
the various Title VII regulatory requirements. Requirements for
clearing and trade execution, capital and margin, business conduct, and
reporting and recordkeeping, all of which have been or will be
implemented in other CFTC rules, will lead to programmatic costs that
have been or will be addressed in the CFTC's rules to implement those
requirements. When considering the programmatic costs and benefits of
the Product Definitions, the CFTC recognizes the scope of activities
and entities affected by the further Product Definitions by reference
to the other final rulemakings under Title VII accomplished to date.
The costs that parties will incur to assess whether certain agreements,
contracts, or transactions are ``swaps,'' ``security-based swaps,''
``security-based swap agreements,'' or ``mixed swaps'' that are subject
to the Title VII regulatory regime, and, if so, costs to assess whether
such Title VII instrument is subject to the regulatory regime of the
SEC or the CFTC are referred to herein as assessment costs.
---------------------------------------------------------------------------

    \1106\ See Appendix, ``Rules Effectuated by Product
Definitions.''
---------------------------------------------------------------------------

    In general, many commenters have suggested that the statutory
definitions of swap and security-based swap are overbroad in that they
could be viewed to include agreements, contracts, and transactions that
the market had not considered to be swaps or security-based swaps prior
to the enactment of the Dodd-Frank Act, are (or could be) swaps or
security-based swaps. Thus, in response to these comments, the CFTC has
engaged in a qualitative analysis of various agreements, contracts, and
transactions of which the CFTC is aware and that commenters have
brought to its attention. Based on this analysis, the CFTC has
established rules and interpretations to identify agreements,
contracts, and transactions that are swaps or security-based swaps
where the statutory definition may be inadequate or ambiguous. In
developing the further definitions, the CFTC has endeavored to narrow
the scope of the terms ``swap'' and ``security-based swap'' without
excluding agreements, contracts and transactions that the CFTC has
determined should be regulated as swaps and security-based swaps.
Narrowing the scope of the statutory definitions should reduce the
overall programmatic costs of Title VII because fewer agreements,
contracts, and transactions will be subject to the full panoply of
Title VII regulation. Narrowing the scope of the statutory definitions
should also increase the net programmatic benefits of the CFTC's Title
VII regulations because the CFTC is targeting in the Product
Definitions rulemaking agreements, contracts and transactions that the
CFTC has determined, after considering comments received and
undertaking a qualitative analysis, are swaps or security-based swaps.
The CFTC anticipates that applying the full panoply of Title VII
regulation to only those agreements, contracts or transactions that the
CFTC has determined are swaps or security-based swaps will be most
effective in achieving the net benefits of Title VII regulation under
the Dodd-Frank Act.
(a) Costs
    The scope of the terms ``swap,'' ``security-based swap,''
``security-based swap agreement,'' and ``mixed swap'' is an important
factor in determining the range of activities and entities that will be
subject to various requirements set forth in the Dodd-Frank Act, such
as trade execution, clearing, reporting, registration, business
conduct, and capital requirements. Complying with these requirements,
which will be implemented in other rules by the CFTC, are programmatic
costs, which also have been or will be addressed in the CFTC's rules to
implement those requirements.\1107\
---------------------------------------------------------------------------

    \1107\ See Appendix, ``Rules Effectuated by Product
Definitions.''
---------------------------------------------------------------------------

    The CFTC believes that the rulemaking to further define the terms
``swap,'' ``security-based swap,'' ``security-based swap agreement,''
and ``mixed swap'' is consistent with how market participants
understand these products. The further definitions increase legal
certainty and thereby reduce assessment costs by clarifying that
certain products that meet the requirements of the applicable rules and
interpretations, such as traditional insurance products, are not swaps.
(b) Benefits
    Many of the benefits of Title VII and the CFTC's implementing
regulations, including risk reduction, increasing

transparency, and promoting market integrity are programmatic benefits
of the Products Definitions since they are effectuated by Product
Definitions. These programmatic benefits are difficult to quantify and
measure. Moreover, these benefits can be expected to manifest
themselves over the long run and be distributed over the market as a
whole.
    The CFTC believes that the final rules and interpretations can be
consistently applied by substantially all market participants to
determine which agreements, contracts, or transactions are, and which
are not, swaps, security-based swaps, security-based swap agreements,
or mixed swaps. The benefits of the individual rules and
interpretations are discussed in their respective sections below.
(c) Comments and Consideration of Alternatives
    The CFTC requested comment on the costs and benefits of the
proposed rules and interpretations regarding the definitions in general
for market participants, markets and the public. Further, the CFTC
requested comment as to whether there are any aspects of the proposed
rules and interpretive guidance regarding the definitions that are both
burdensome to apply and not helpful to achieving clarity as to the
scope of the defined terms, and whether there are less burdensome means
of providing clarity as to the scope of the defined terms.
    A commenter \1108\ argued that a proper cost-benefit analysis can
only be performed once an integrated and complete mosaic of rules is
available for analysis and doubted that the definitions impose no
independent costs. The CFTC has considered, qualitatively, the costs
and benefits of the entire mosaic of CFTC rules under the Dodd-Frank
Act in this rulemaking. Due to data limitations and other uncertainty,
the CFTC cannot perform a meaningful quantitative analysis, yet. The
CFTC considers in this rulemaking the costs and benefits of how the
Commissions are exercising their discretion in further defining the
Product Definitions because Congress included in the Dodd-Frank Act
statutory definitions of these terms, over which the CFTC has no
discretion. Moreover, the CFTC has considered the independent costs
(i.e. costs imposed through exercising its discretion) that the
Products Definitions may impose through its determinations as discussed
below.
---------------------------------------------------------------------------

    \1108\ See ETA Letter. See also IECA Letter II (requesting a
comprehensive costs benefits analysis on all of Title VII).
---------------------------------------------------------------------------

    Another commenter \1109\ contended that the costs and benefits
considerations in the Proposing Release were not based on any empirical
data and are not consistent with the expected costs of compliance
anticipated by market participants. However, the CFTC cannot do a
comprehensive empirical analysis regarding costs and benefits of the
Products Definitions before actual data is available when the swap
regulatory regime has been implemented in full. Moreover, the CFTC did
use some empirical estimates in its costs and benefits considerations
in the Proposing Release, namely in assessment costs for the process to
seek an interpretation of whether a product is a swap, security-based
swap, or mixed swap, as well as in the process to determine regulatory
treatment for mixed swaps.\1110\ Commenters did not submit data or
other information to support an argument that the CFTC's estimates were
inaccurate.
---------------------------------------------------------------------------

    \1109\ See WGCEF Letter.
    \1110\ See Proposing Release at 29874.
---------------------------------------------------------------------------

    Commenters \1111\ expressed concern about costs from regulatory
uncertainty imposed on swaps market participants resulting from other
Title VII rulemakings not yet being final. The consideration of
thousands of letters and the process of due deliberation and reasoned
decision-making by the CFTC has caused delays. Nevertheless, the CFTC
is working with deliberate speed to complete the rulemakings, and
eventually this particular type of legal uncertainty will be
eliminated.
---------------------------------------------------------------------------

    \1111\ See FIA Letter; IIB Letter; and ISDA Letter.
---------------------------------------------------------------------------

    A commenter \1112\ requested that inter-affiliate swaps be exempt
from the swap definition, arguing that regulating such swaps may
increase costs to consumers and undermine efficiencies from the use of
centralized hedging affiliates. The CFTC anticipates that it will
address inter-affiliate swaps in a subsequent rulemaking.
---------------------------------------------------------------------------

    \1112\ See Shell Trading Letter.
---------------------------------------------------------------------------

    Several commenters \1113\ argued that foreign central banks,
foreign sovereigns, international financial institutions, such as
multilateral development banks, and similar organizations should be
exempt from swap regulations, since regulations would impose costs on
these entities. Specifically, a commenter \1114\ asserted that
multilateral development banks should not have to register or be
subject to clearing and margin requirements and requested that
multilateral development banks' transactions be exempted from the
definition of a swap. As explained above, these transactions are swaps.
In addition, the proposed exclusion is overbroad because it would mean
that swaps and security-based swaps entered into by foreign central
banks, foreign sovereigns, international financial institutions, and
similar organizations would be completely excluded from Dodd-Frank
regulation. Their counterparties, who may be swap dealers and other
regulated entities, would have no regulatory obligations with respect
to such swaps, and could develop significant exposures without the
knowledge of the CFTC, other regulators and market participants. If
these transactions were not swaps, then no market participant would be
obligated to report them to a U.S.-registered swap data repository or
real-time report them. This lack of transparency might distort swap
pricing and impede proper risk management in as much as the market may
not be aware of the risk entailed in these opaque transactions and
might thwart price discovery.
---------------------------------------------------------------------------

    \1113\ See CEB Letter; EIB Letter; and World Bank Letter.
    \1114\ See World Bank Letter.
---------------------------------------------------------------------------

    The Commissions did not propose rules or interpretations on how to
distinguish futures from swaps. A commenter requested that the CFTC
clarify that nothing in the release was intended to limit a DCM's
ability to list for trading a futures contract regardless of whether it
could be viewed as a swap if traded over-the-counter or on a SEF, since
futures and swaps are ``indistinguishable in material economic
effects.'' \1115\ The commenter further recommended that the CFTC adopt
a final rule that amends the statutory definition of the term ``swap''
by adding to the futures contract exclusion in CEA Section 1a(47)(B)(i)
the following language after the word ``delivery'': ``Listed for
trading by a designated contract market.'' The same commenter believed
that such a rule would clarify the scope of Section 4(a) of the
CEA,\1116\ which makes it illegal to trade a futures contract except on
or subject to the rules of a DCM.\1117\
---------------------------------------------------------------------------

    \1115\ See CME Letter.
    \1116\ 7 U.S.C. 6(a).
    \1117\ See CME Letter.
---------------------------------------------------------------------------

    Although it is potentially more costly to a DCM in terms of
providing additional analysis to support listing a futures contract on
its exchange, the CFTC is not adopting the distinction the commenter
advocates. Prior distinctions that the CFTC relied upon (such as the
presence or absence of clearing) to distinguish between futures and
swaps

may no longer be relevant.\1118\ As a result, it is difficult to
distinguish between futures and swaps on a blanket basis as the
commenter suggested. However, a case-by-case approach for
distinguishing these products may lead to more informed decision-making
by the CFTC.
---------------------------------------------------------------------------

    \1118\ See, e.g., Swap Policy Statement, supra note 214.
---------------------------------------------------------------------------

    The CFTC notes that a DCM may self-certify its contracts pursuant
to Part 40 of the CFTC's rules,\1119\ subject to the CFTC's oversight
authority. If a DCM has a view that a particular product is a futures
contract, it may self-certify the contract consistent with that view.
The DCM also has a number of other options, including seeking prior
approval from the CFTC, requesting an interpretation, or requesting a
rulemaking if it is in doubt about whether a particular agreement,
contract or transaction should be classified as a futures contract or a
swap.
---------------------------------------------------------------------------

    \1119\ 17 CFR Part 40.
---------------------------------------------------------------------------

3. Costs and Benefits of Rules and Interpretations Regarding Insurance
    Rule 1.3(xxx)(4)(i) under the CEA clarifies that agreements,
contracts or transactions that satisfy its provisions will not be swaps
or security-based swaps. Specifically, the term ``swap'' and
``security-based swap'' does not include an agreement, contract, or
transaction under rule 1.3(xxx)(4)(i)(A) that, by its terms or by law,
as a condition of performance on the agreement, contract, or
transaction: (i) Requires the beneficiary of the agreement, contract,
or transaction to have an insurable interest that is the subject of the
agreement, contract, or transaction and thereby carry the risk of loss
with respect to that interest continuously throughout the duration of
the agreement, contract, or transaction; (ii) requires that loss to
occur and be proved, and that any payment or indemnification therefor
be limited to the value of the insurable interest; (iii) is not traded,
separately from the insured interest, on an organized market or over-
the-counter; and (iv) with respect to financial guaranty insurance
only, in the event of payment default or insolvency of the obligor, any
acceleration of payments under the policy is at the sole discretion of
the insurer (the ``Product Test'').
    Rule 1.3(xxx)(4)(i)(B) under the CEA provides that for an
agreement, contract, or transaction that meets the Product Test to be
excluded from the swap and security-based swap definitions as
insurance, it must be provided: (i) By a person that is subject to
supervision by the insurance commissioner (or similar official or
agency) of any State or by the United States or an agency or
instrumentality thereof, and such agreement, contract, or transaction
is regulated as insurance applicable State law or the laws of the
United States (the ``first prong''); (ii) directly or indirectly by the
United States, any State, or any of their respective agencies or
instrumentalities, or pursuant to a statutorily authorized program
thereof (the ``second prong''); (iii) in the case of reinsurance only,
by a person to another person that satisfies the Provider Test,
provided that: such person is not prohibited by applicable State law or
the laws of the United States from offering such agreement, contract,
or transaction to such person that satisfies the Provider Test; the
agreement, contract, or transaction to be reinsured satisfies the
Product Test or is one of the Enumerated Products; and except as
otherwise permitted under applicable State law, the total amount
reimbursable by all reinsurers for such agreement, contract, or
transaction may not exceed the claims or losses paid by the cedant; or
(iv) in the case of non-admitted insurance by a person who: is located
outside of the United States and listed on the Quarterly Listing of
Alien Insurers as maintained by the International Insurers Department
of the National Association of Insurance Commissioners; or meets the
eligibility criteria for non-admitted insurers under applicable State
law (the ``Provider Test'').
    In response to commenters' requests that the Commissions codify the
proposed interpretation regarding certain enumerated types of insurance
products in the final rules, the interpretation is being codified in
paragraph (i)(C) of rule 1.3(xxx)(4) under the CEA. In addition, in
response to comments, the Commissions are expanding and revising the
list of traditional insurance products. As adopted, the rule provides
that the terms ``swap'' and ``security-based swap'' will not include an
agreement, contract, or transaction that is provided in accordance with
the conditions set forth in the Provider Test and is one of the
following types of products (collectively, ``Enumerated Products''):
surety bonds; fidelity bonds; life insurance; health insurance; long-
term care insurance; title insurance; property and casualty insurance;
annuities; disability insurance; insurance against default on
individual residential mortgages (commonly known as private mortgage
insurance, as distinguished from financial guaranty of mortgage pools);
and reinsurance (including retrocession) of any of the foregoing. Based
on comments received, the Commissions are adding three products to the
list of products as proposed, adding reinsurance (including
retrocession) of any of the traditional insurance products included in
the list, and deleting a requirement applicable to annuities that they
must be subject to tax treatment under section 72 of the Internal
Revenue Code.
    The Commissions are also clarifying that the Product Test, the
Provider Test and the Enumerated Products in the rules are a non-
exclusive safe harbor (the ``Insurance Safe Harbor''), such that if a
product fails the Insurance Safe Harbor, that does not necessarily mean
that the product is a swap or security-based swap--further analysis may
be required in order to make that determination.
    Rule 1.3(xxx)(4)(ii) provides a ``grandfather'' for insurance
transactions (as opposed to insurance products), pursuant to which
transactions that are entered into on or before the effective date of
the Product Definitions will not fall within the definition of swap or
security-based swap, provided that, at such time that it was entered
into, the transaction was provided in accordance with the Provider
Test.
    The CFTC is interpreting the term ``swap'' (that is not a security-
based swap or mixed swap) to include a guarantee of such swap, to the
extent that a counterparty to a swap position would have recourse to
the guarantor in connection with the position. The CFTC is persuaded
that when a swap has the benefit of a guarantee, the guarantee is an
integral part of that swap. The CFTC finds that a guarantee of a swap
(that is not a security-based swap or mixed swap) is a term of that
swap that affects the price or pricing attributes of that swap. When a
swap counterparty typically provides a guarantee as credit support for
its swap obligations, the market will not trade with that counterparty
at the same price, on the same terms, or at all without the guarantee.
The guarantor's resources are added to the analysis of the swap; if the
guarantor is financially more capable than the swap counterparty, the
analysis of the swap becomes more dependent on the creditworthiness of
the guarantor. The CFTC anticipates that a ``full recourse'' guarantee
would have a greater effect on the price of a swap than a ``limited''
or ``partial recourse'' guarantee; nevertheless, the CFTC is
determining that the presence of any guarantee with recourse, no matter
how robust, is price forming and an integral part of a guaranteed swap.
The CFTC's

interpretation of the term ``swap'' to include guarantees of swap does
not limit or otherwise affect in any way the relief provided by the
Insurance Grandfather. In a separate release, the CFTC will address the
practical implications of interpreting the term ``swap'' to include
guarantees of swaps (the ``separate CFTC release'').
(a) Costs
    A market participant will need to ascertain whether an agreement,
contract, or transaction satisfies the criteria set forth in rule
1.3(xxx)(4). This analysis will have to be performed prior to entering
into the agreement, contract, or transaction to ensure that the relief
provided by the Insurance Safe Harbor is available. The CFTC expects
that potential costs associated with any possible uncertainty cited by
commenters as to whether an agreement, contract, or transaction that
the participants consider to be insurance could instead be regulated as
a swap would be greater without the Insurance Safe Harbor than the cost
of the analysis under the final rule herein.
    Although the Insurance Safe Harbor is designed to mitigate costs
associated with legal uncertainty and misclassification of products, to
the extent that it inadvertently fails to exclude certain types of
insurance products from the definitions, these failures could lead to
costs for market participants entering into agreements, contracts, or
transactions. Some insurance products might inadvertently be subjection
to regulation as swaps. To the extent that the Insurance Safe Harbor
leads to the inadvertent misclassification of some swaps as insurance,
costs for market participants entering into agreements, contracts, or
transactions that are inadvertently regulated as insurance products,
and not as swaps, may increase.\1120\ Similarly, insurance products
inadvertently mischaracterized as swaps could impose additional costs
on market participants, who could be required to meet certain
regulatory requirements applicable to swaps.
---------------------------------------------------------------------------

    \1120\ Improperly characterizing swaps as insurance may
theoretically cause market participants that are not licensed
insurance companies to become licensed insurance companies, if
applicable, thus imposing costs of complying with state insurance
regulation.
---------------------------------------------------------------------------

    Assessment costs should be minimal or non-existent for traditional
insurance products,\1121\ but for a new and novel insurance product
that is more complex, the costs of analysis may be greater.
Nevertheless, it is anticipated that such cases will be infrequent.
Moreover, it may be difficult to assess whether products that do not
fall within the Insurance Safe Harbor are swaps or security-based swaps
rather than insurance. Market participants may need to request an
interpretation from the Commissions regarding such products, or obtain
an opinion of counsel, which will involve certain costs.\1122\ However,
the CFTC expects such cases will arise less frequently in light of the
increased clarity provided by the rule. An alternative to a safe harbor
approach under the rule--that failure to meet the rule and
interpretation would automatically mean that the product is a swap and
not insurance--would likely impose greater costs on market participants
and result in more frequent misclassification of products.
---------------------------------------------------------------------------

    \1121\ The CFTC anticipates that traditional insurance products
will either be easy to identify from the list of Enumerated Products
or will unambiguously satisfy the Products Test.
    \1122\ The CFTC believes that $27,000 represents a reasonable
estimate of the upper end of the range of the costs to undertake the
legal analysis of the status of an agreement, contract, or
transaction as a swap or security-based swap. The average cost
incurred by market participants in connection with assessing whether
an agreement, contract, or transaction is a swap or security-based
swap is based upon the estimated amount of time that staff believes
will be required for both in-house counsel and outside counsel to
apply the definition. Staff estimates that some agreements,
contracts, or transactions will clearly satisfy the Insurance Safe
Harbor, Insurance Grandfather and an in-house attorney, without the
assistance of outside counsel, will be able to make a determination
in less than one hour. Based upon data from SIFMA's Management &
Professional Earnings in the Securities Industry 2011 (modified by
SEC staff to account for an 1800-hour-work-year and multiplied by
5.35 to account for bonuses, firm size, employee benefits and
overhead), staff estimates that the average national hourly rate for
an in-house counsel is $378. If an agreement, contract, or
transaction is more complex, the CFTC estimates the analysis will
require approximately 30 hours of in-house counsel time and 40 hours
of outside counsel time. The CFTC estimates the costs for outside
legal services to be $400 per hour. This is based on an estimated
$400 per hour cost for outside legal services. This is the same
estimate used by the SEC for these services in the release involving
Exemptions for Security-Based Swaps Issued By Certain Clearing
Agencies, Release No. 33-9308 (Mar. 30, 2012), 77 FR 20536 (Apr. 5,
2012). Accordingly, on the high end of the range the CFTC estimates
the cost to be $27,340 ($11,340 (based on 30 hours of in-house
counsel time [multi] $378) + $16,000 (based on 40 hours of outside
counsel [multi] $400). The estimate is rounded to two significant
digits to avoid the impression of false precision of the estimate.
---------------------------------------------------------------------------

    The CFTC is interpreting the term ``swap'' (that is not a security-
based swap or mixed swap) to include a guarantee of such swap, to the
extent that a counterparty to a swap position would have recourse to
the guarantor in connection with the position. The CFTC anticipates
minimal or no assessment costs from the interpretation with respect to
guarantees of swaps.\1123\ The CFTC does, however, anticipate that
there will be some programmatic costs associated with the requirements
that it will propose for guarantees of swaps in the separate CFTC
release.\1124\ The CFTC will carefully consider those costs in that
rulemaking.
---------------------------------------------------------------------------

    \1123\ Because a guarantee is a common and well-understood
product, that has been used in commerce since long before the
existence of swaps markets, the CFTC anticipates that whether a
guarantee is present or not will be obvious.
    \1124\ As a result of interpreting the term ``swap'' (that is
not a security-based swap or mixed swap) to include a guarantee of
such swap, to the extent that a counterparty to a swap position
would have recourse to the guarantor in connection with the
position, and based on the reasoning set forth in the Entity
Definitions Release in connection with major swap participants, the
CFTC will not deem holding companies to be swap dealers as a result
of guarantees to certain U.S. entities that are already subject to
capital regulation. This interpretation mitigates the programmatic
costs imposed on potential swap dealers by not attributing to a
guarantor swap positions of a guaranteed entity that is already
subject to capital regulation.
---------------------------------------------------------------------------

(b) Benefits
    Subjecting traditional insurance products to Title VII could,
absent exception, prevent individuals who are not ECPs from obtaining
insurance to protect their properties or families against accidental
hazards or risks,\1125\ or require insurance sold to individuals who
are not ECPs to be traded on exchanges and be cleared. The Commissions
have found no evidence that Congress intended them to be regulated as
swaps or security-based swaps. In light of the above considerations,
the Commissions have determined to provide the Insurance Safe Harbor
and Insurance Grandfather in the final rules in order to assure market
participants that those agreements, contracts, or transactions that
meet their conditions will not fall within the swap or security-based
swap definitions. Limiting the number of unexpected product
classification outcomes for market participants provides the benefit of
predictability when entering into their transactions
---------------------------------------------------------------------------

    \1125\ An individual is considered an ECP if the individual
``has amounts invested on a discretionary basis, the aggregate of
which is in excess of--(i) $10,000,000; or (ii) $5,000,000 and who
enters into the agreement, contract, or transaction in order to
manage the risk associated with an asset owned or liability
incurred, or reasonable likely to be owned or incurred, by the
individual.'' Section 1a(18)(A)(xi) of the CEA, 7 U.S.C.
1a(18)(A)(xi).
---------------------------------------------------------------------------

    The business of insurance is already subject to established pre-
Dodd-Frank Act regulatory regimes. Requirements that may work well for
swaps and security-based swaps may not be appropriate for traditional
insurance products. To the extent that the final rules distinguish
insurance from swaps and security-based swaps, the CFTC should be able
to tailor rules for specific

products that are swaps or security-based swaps to achieve Title VII
regulatory objectives. In adopting the Insurance Safe Harbor, the CFTC
has sought to achieve those net benefits that may be obtained from not
supplanting existing insurance regulation that are consistent with the
regulatory objectives of Title VII.
    Without the Insurance Safe Harbor, market participants might be
more uncertain about whether an agreement, contract, or transaction is
an insurance product rather than a swap. Rule 1.3(xxx)(4) is intended
to reduce the potential uncertainty of what constitutes a swap by
setting forth clear and objective criteria for distinguishing an
agreement, contract, or transaction that is insurance from a swap.
Providing such an objective rule and explanation mitigates the
potential additional costs of petitioning the Commissions, or obtaining
an opinion of counsel, about whether an agreement, contract, or
transaction is insurance or a swap.
    The objective criteria provided by the rule also will aid sound
risk management practices because it will be easier for market
participants to decide whether a particular agreement, contract, or
transaction is insurance or a swap.
    Further, the CFTC anticipates that the interpretation of the term
``swap'' to include guarantees of swaps and the separate CFTC release
will provide programmatic benefits by enabling the CFTC and market
participants to receive more price-forming data about swaps, which may
help improve price discovery for swaps. The CFTC will carefully
consider these and other benefits in the separate CFTC release.
(c) Comments and Consideration of Alternatives
    The CFTC requested comment on the costs and benefits of proposed
rule 1.3(xxx)(4) and interpretive guidance to distinguish between
insurance products and swaps for market participants, markets, and the
public. Several commenters \1126\ argued that any additional
requirement beyond the requirement of the rules that a product is a
regulated insurance product creates legal uncertainty and imposes
costs. Specifically, a commenter \1127\ asserted that it is a burden to
introduce conditions that are neither universal nor fundamental, such
as showing a continuing risk of loss for some insurance contracts.
Another commenter \1128\ argued that legal uncertainty may result in
conflicting interpretations, which can be a significant burden for
financial guaranty transactions that typically require the delivery of
a legal opinion.
---------------------------------------------------------------------------

    \1126\ See AFGI Letter; AIA Letter; and ISDA Letter.
    \1127\ See ISDA Letter.
    \1128\ See AFGI Letter.
---------------------------------------------------------------------------

    The Commissions have expanded the list of insurance products
excluded from the swap definition to cover certain traditional
insurance products that commenters have brought to their attention and
that the Commissions have determined are not swaps. The Commissions are
also clarifying that the Insurance Safe Harbor does not imply or
presume that an agreement, contract or transaction that does not meet
its requirements is a swap or security-based swap, but will require
further analysis of the applicable facts and circumstances, including
the form and substance of the agreement, contract, or transaction, to
determine whether it is insurance, and thus not a swap or security-
based swap. With regard to financial guaranty in particular, the
acceleration of payment criterion is designed to reflect market
practice and aid appropriate product classification. The Commissions
are stating that they intend to interpret concepts upon which the
Product Test relies that are derived from state law consistently with
the existing and developing laws of the relevant state(s) governing the
agreement, contract, or transaction in question. However, the
Commissions note their authority to diverge from state law if the
Commissions become aware of evasive conduct. While the CFTC cannot
anticipate under what circumstances or how often the Commissions might
diverge from state law, the CFTC believes that there will be more
consistent than inconsistent interpretations. Accordingly, the rules do
not present the increased burden or legal uncertainty that these
commenters suggested.
    Several commenters also requested that the Commissions codify the
proposed interpretive guidance regarding enumerated insurance products
in rule text on the basis that codification would enhance legal
certainty, and thereby reduce costs.\1129\ The Commissions have decided
to include a list of products in rule text in response to these
commenters concerns.
---------------------------------------------------------------------------

    \1129\ See ACLI Letter; NAIC Letter; and RAA Letter.
---------------------------------------------------------------------------

    A commenter proposed that the sole test for determining whether an
agreement, contract or transaction is insurance should be whether it is
subject to regulation as insurance by the insurance commissioner of the
applicable state(s).\1130\ While the commenter's test is potentially
easier and thus may be less costly to apply than the Commissions' test,
it would be inadequate because, as explained in section II.B.1.(d)
above, it would essentially delete the product prong of the insurance
safe harbor, and thus begging the question of how to distinguish
insurance from swaps and security-based swaps and allowing state
insurance regulators to supplant the Commissions' role in further
defining, or determining what is, a swap. Further, market participants
might misconstrue the commenter's test in close cases to mean that any
activity permitted by the insurance commissioner of the relevant
state(s) may not be regulated as swaps or security-based swaps.
However, insurance companies are in many circumstances permitted by
state insurance regulators to enter into swaps or security-based swaps,
illustrating that the fact that while an insurance company may enter
into an agreement, contract or transaction, it does not necessarily
mean that such agreement, contract or transaction is insurance.
Further, the domain of insurance regulation may change and then this
commenter's test would induce an evolving boundary between state and
CFTC regulation.
---------------------------------------------------------------------------

    \1130\ See MetLife Letter.
---------------------------------------------------------------------------

    Several commenters suggested an approach in which insurance
products that qualify for the exclusion contained in section 3(a)(8) of
the Securities Act of 1933 would be excluded from the swap
definition.\1131\ One commenter argued that ``Section 3(a)(8) has long
been recognized as the definitive provision as to where Congress
intends to separate securities products that are subject to SEC
regulation from `insurance' and `annuity' products that are to be left
to state insurance regulation'' and that the section 3(a)(8) criteria
are well understood and have a long history of interpretation by the
SEC and the courts.\1132\ Other commenters suggest that because section
3(a)(8) includes both a product and a provider requirement, if the
Commissions include it in their final rules, it should be a requirement
separate from the Product Test and the Provider Test, and should extend
to insurance products that are securities.\1133\
---------------------------------------------------------------------------

    \1131\ See supra note 162
    \1132\ See supra note 163.
    \1133\ See supra note 164.
---------------------------------------------------------------------------

    While the Commissions agree that the section 3(a)(8) criteria have
a long history of interpretations by the SEC and the courts, the
Commissions find that it is inappropriate to apply the section 3(a)(8)
criteria in this context. Although section 3(a)(8) contains some

conditions applicable to insurance providers that are similar to the
prongs of the Provider Test, it does not contain any conditions that
are similar to the prongs of the Product Test. Moreover, section
3(a)(8) provides an exclusion from the Securities Act and the CFTC has
no jurisdiction under the Federal securities laws. Congress directed
both agencies to further define the terms ``swap'' and ``security-based
swap.'' As such, the Commissions find that it is more appropriate to
have a standalone rule that incorporates features that distinguish
insurance products from swaps and security-based swaps and over which
both Commissions will have joint interpretative authority.
    Another commenter proposed the following test for an agreement,
contract, or transaction to be insurance:

    [It] [e]xists for a specified period of time;
    Where the one party to the contract promises to make one or more
payments such as money, goods or services;
    In exchange for another party's promise to provide a benefit of
pecuniary value for the loss, damage, injury, or impairment of an
identified interest of the insured as a result of the occurrence of
a specified event or contingency outside of the parties' control;
and
    Where such payment is related to a loss occurring as a result of
a contingency or specified event.\1134\
---------------------------------------------------------------------------

    \1134\ See NAIC Letter.

    This test may not represent a less costly alternative to the
Commissions' test in light of its complexity, and in any event would
not distinguish swaps and security-based swaps from insurance more
effectively than the Commissions' test for two reasons. The
requirements of a specified term and the payment of premiums are
present in both insurance products and in agreements, contracts, or
transactions that are swaps or security-based swaps, and therefore such
requirements do not help to distinguish between them. A test based
solely on these requirements, then, would be over-inclusive and exclude
from the Dodd-Frank regulatory regime agreements, contacts, and
transactions that have not traditionally been considered insurance.
Also, the third and fourth requirements of the commenter's test
collapse into the Product Prong's requirement that the loss must occur
and be proved, and any payment or indemnification therefor must be
limited to the value of the insurable interest.
    Another commenter offered a 3-part test\1135\ in lieu of the
Commissions' test:
---------------------------------------------------------------------------

    \1135\ See also CAI Letter and Nationwide Letter.
---------------------------------------------------------------------------

    (1) The insurance contract must be issued by an insurance company
and subject to state insurance regulation;
    (2) The insurance contract must be the type of contract issued by
insurance companies; and
    (3) The insurance contract must not be of a type that the CFTC and
SEC determine to regulate.\1136\
---------------------------------------------------------------------------

    \1136\ See ACLI ANPR Letter.
---------------------------------------------------------------------------

    The commenter stated that its approach does not contain a
definition of insurance, and for that reason believes that is
preferable to the Commissions' approach, which it believes creates
legal uncertainty because any attempted definition of insurance has the
potential to be over- or under-inclusive.\1137\
---------------------------------------------------------------------------

    \1137\ See ACLI Letter.
---------------------------------------------------------------------------

    While the commenter's test may appear simpler on its face, the CFTC
does not believe that it represents a less costly alternative. The
first two requirements of the commenter's test do not help to
distinguish swaps from insurance; the third provides no greater
certainty than the Commissions' facts and circumstances approach.
Moreover, as discussed in section II.B.1(d) above, the Commissions'
rules and related interpretations are not intended to define insurance.
Rather, they provide a safe harbor for certain types of traditional
insurance products by reference to factors that may be used to
distinguish insurance from swaps and security-based swaps. Agreements,
contracts, and transactions that do not qualify for the Insurance Safe
Harbor may or may not be swaps, depending upon the facts and
circumstances. Thus, the Commissions' test neither creates legal
uncertainty as suggested by the commenter, nor the costs associated
with such uncertainty.
    Another commenter proposed different approaches for existing
products and new products. According to the commenter, if an existing
type of agreement, contract or transaction is currently reportable as
insurance in the provider's regulatory and financial reports under a
state or foreign jurisdiction's insurance laws, then that agreement,
contract or transaction would be insurance rather than a swap or
security-based swap. On the other hand, for new products, if this
approach is inconclusive, the commenter recommended that the
Commissions use the product prong of the Commissions' test only.\1138\
---------------------------------------------------------------------------

    \1138\ See AIA Letter.
---------------------------------------------------------------------------

    The commenter's proposal may represent a less costly alternative
than the Commissions' test. However, rather than treating existing
products and new products differently, the Commissions as discussed
above are providing ``grandfather'' protection for agreements,
contracts, and transactions entered into on or before the effective
date of the Products Definitions. Moreover, the commenter's test would
eliminate the provider test for new products, which the Commissions
believe is important to help prevent products that are swaps or
security-based swaps from being characterized as insurance.
    In sum, the CFTC finds that, while some of the alternatives
proposed by commenters may appear less costly to apply than the
Commissions' test, in all cases they would sweep out of the Dodd-Frank
Act regulatory regime for swaps agreements, contracts, and transactions
that have not historically been considered insurance, and that should,
in appropriate circumstances, be regulated as swaps or security-based
swaps. Accordingly, the CFTC does not find these alternative tests
proposed by commenters to be better tools than the Insurance Safe
Harbor for limiting the scope of the statutory definitions of swap and
security-based swap. Excluding agreements, contracts, and transactions
that are, in fact, swaps from the further definition of the term
``swap'' is inconsistent with the CFTC's regulatory objectives and
could increase risk to the U.S. financial system.
    Three commenters provided comments regarding the treatment of
guarantees of swaps. Two commenters \1139\ opposed treating insurance
or guarantees of swaps as swaps. Suggesting that the products are not
economically similar, one commenter argued that insurance wraps of
swaps do not ``necessarily replicate the economics of the underlying
swap, and only following default could the wrap provider end up with
the same payment obligations as a wrapped defaulting swap
counterparty.'' \1140\ This commenter also stated that the non-
insurance guarantees are not swaps because the result of most
guarantees is that the guarantor is responsible for monetary claims
against the defaulting party, which in this commenter's view is a
different obligation than the arrangement provided by the underlying
swap itself.\1141\
---------------------------------------------------------------------------

    \1139\ See AFGI Letter, ISDA Letter.
    \1140\ ISDA Letter.
    \1141\ Id.
---------------------------------------------------------------------------

    One commenter supported treating financial guaranty insurance of a
swap or security-based swap as itself a swap or a security-based swap.
This commenter argued that financial guaranty insurance of a swap or
security-based swap transfers the risk of counterparty non-performance
to the guarantor, making it an embedded and essential feature of the
insured swap or

security-based swap. This commenter further argued that the value of
such swap or security-based swap is largely determined by the
likelihood that the proceeds from the financial guaranty insurance
policy will be available if the counterparty does not meet its
obligations.\1142\ This commenter maintained that financial guaranty
insurance of swaps and security-based swaps serves a similar function
to credit default swaps in hedging counterparty default risk.\1143\
---------------------------------------------------------------------------

    \1142\ See Better Markets Letter.
    \1143\ See Better Markets Letter.
---------------------------------------------------------------------------

    While the CFTC is not further defining guarantees of swaps to be
swaps, the CFTC is persuaded that when a swap (that is not a security-
based swap or mixed swap) has the benefit of a guarantee, the guarantee
and related guaranteed swap should be analyzed together. The events
surrounding the failure of AIG Financial Products (``AIGFP'') highlight
how guarantees can cause major risks to flow to the guarantor.\1144\
The CFTC finds that the regulation of swaps and the risk exposures
associated with them, which is an essential concern of the Dodd-Frank
Act, would be less effective if the CFTC did not interpret the term
``swap'' to include a guarantee of a swap.
---------------------------------------------------------------------------

    \1144\ ``AIGFP's obligations were guaranteed by its highly rated
parent company * * * an arrangement that facilitated easy money via
much lower interest rates from the public markets, but ultimately
made it difficult to isolate AIGFP from its parent, with disastrous
consequences.'' Congressional Oversight Panel, The AIG Rescue, Its
Impact on Markets, and the Government's Exit Strategy 20 (2010).
---------------------------------------------------------------------------

    Two commenters cautioned against unnecessary and duplicative
regulation. One commented that, because the underlying swap, and the
parties to it, will be regulated and reported to the extent required by
Title VII, there is no need for regulation of non-insurance
guarantees.\1145\ The other commented that an insurance policy on a
swap would be subject to state regulation; without addressing non-
insurance guarantees, this commenter stated that additional Federal
regulation would be duplicative.\1146\ The CFTC disagrees with these
arguments. As stated above, the CFTC is treating financial guaranty
insurance of swaps and all other guarantees of swaps in a similar
manner because they are functionally or economically similar products.
If a guarantee of a swap is not treated as an integral part of the
underlying swap, price forming terms of swaps and the risk exposures
associated with the guarantees may remain hidden from regulators and
may not be regulated appropriately. Moreover, treating guarantees of
swaps as part of the underlying swaps ensures that the CFTC will be
able to take appropriate action if, after evaluating information
collected with respect to the guarantees and the underlying swaps, such
guarantees of swaps are revealed to pose particular problems in
connection with the swaps markets. The separate CFTC release clarifies
the limited practical effects of the CFTC's interpretation, which
should address industry concerns regarding duplicative regulation.
---------------------------------------------------------------------------

    \1145\ See ISDA Letter.
    \1146\ See AFGI Letter.
---------------------------------------------------------------------------

    One commenter also argued that regulating financial guaranty of
swaps as swaps would cause monoline insurers to withdraw from the
market, which could adversely affect the U.S. and international public
finance, infrastructure and structured finance markets, given that
insuring a related swap often is integral to the insurance of municipal
bonds and other securities.\1147\ The CFTC finds this argument
unpersuasive. The CFTC understands that the 2008 global financial
crisis severely affected most monolines and only one remains active in
U.S. municipal markets. Thus, it appears that the monolines have, for
the most part, already exited these markets. In addition, as stated
above, the separate CFTC release clarifies the limited practical
effects of the CFTC's interpretation, which should address industry
concerns.
---------------------------------------------------------------------------

    \1147\ See AFGI Letter. Of the members of AFGI, only Assured
Guaranty (or its affiliates) is currently writing financial guaranty
insurance policies on U.S. municipal obligations.
---------------------------------------------------------------------------

4. Costs and Benefits of the Withdrawing the Energy Exemption and
Interpretation Regarding the Forward Contract Exclusion From the Swap
Definition
    The CFTC is clarifying that the forward contract exclusion from the
swap definition for nonfinancial commodities should be read
consistently with the forward contract exclusion from the CEA
definition of the term ``future delivery.'' In that regard, the CFTC is
retaining the Brent Interpretation and extending it to apply to all
nonfinancial commodities, and withdrawing the Energy Exemption, which
had extended the Brent Interpretation regarding the forward contract
exclusion from the term ``future delivery'' to energy commodities other
than oil, as it is no longer necessary. Although the CFTC is
withdrawing the Energy Exemption, the CFTC is providing that certain
alternative delivery procedures, such as physical netting agreements,
that are mentioned in the Energy Exemption, are consistent with the
intent of the book out provision in the Brent Interpretation--provided
that the parties had a bona fide intent, when entering into the
transactions, to make or take (as applicable) delivery of the commodity
covered by those transactions. The CFTC also is providing an
interpretation regarding documentation of orally booked-out
transactions.
    In addition, the CFTC is clarifying that its prior guidance
regarding commodity options embedded in forward contracts should be
applied as well to the treatment of forward contracts in nonfinancial
commodities that contain embedded options under the Dodd-Frank Act. The
final interpretation also explains the CFTC's position with regard to
forwards with embedded volumetric optionality, including an explanation
of how it would treat some of the specific contracts described by
commenters, such as full requirements contracts. It also explains the
CFTC's view with respect to certain contractual provisions, such as
liquidated damages and renewable/evergreen provisions that do not
disqualify the transactions in which they are contained from the
forward exclusions. The CFTC has also provided an interpretation
regarding nonfinancial commodities, including environmental
commodities, and interpretations concerning physical exchange
transactions, fuel delivery agreements, certain physical commercial
agreements, and energy management agreements.
(a) Costs
    The CFTC's statement that it will construe the forward contract
exclusion consistently with respect to the definitions of the terms
``swap'' and ``future delivery,'' as discussed herein, will not impose
any new material costs on market participants. It also will establish a
uniform interpretation of the forward contract exclusion from the
definitions of both statutory terms, which will avoid the significant
costs that some commenters state would result if the forward contract
exclusion were construed differently in these two contexts.\1148\ In
addition, the CFTC's

clarification regarding the continued viability of the alternative
delivery procedures in the Energy Exemption should reduce costs to the
industry by conferring legal certainty that their transactions may
continue to have these procedures without losing their eligibility for
the forward exclusions.
---------------------------------------------------------------------------

    \1148\ See EEI Letter (``Without legal certainty as to the
regulatory treatment of their forward contracts, EEI's members and
other end users who rely on the forward contract exclusion likely
will face higher transaction costs due to greater uncertainty. These
increased transaction costs may include: (i) More volatile or higher
commodity prices; and (ii) increased credit costs, in each case
caused by changes in market liquidity as end users change the way
they transact in the commodity markets. A single regulatory approach
that uses the same criteria to confirm that a forward contract is
excluded from the Commission's jurisdiction over swaps and futures
will reduce this uncertainty and the associated costs to end
users.'' (footnote omitted)).
---------------------------------------------------------------------------

    As noted in section II.B.2.(a)(ii) above, the CFTC has explained
its position regarding nonfinancial commodities. This should help the
industry to determine whether their transactions are eligible for the
forward exclusions, and consequently reduce costs to the industry for
transactions involving non-financial commodities such as renewable
energy credits that may be eligible for the forward exclusions. The
final interpretation regarding forwards with embedded volumetric
optionality should reduce costs to the industry, because these
transactions may qualify for the forward exclusions from the swap and
``future delivery'' definitions. The explanation of how the CFTC will
view specific contracts mentioned by commenters under this
interpretation should enhance legal certainty and thereby reduce costs.
    The clarification that certain contractual provisions do not
disqualify transactions from the forward exclusion also should reduce
costs to the industry by providing increased legal certainty that these
provisions will not render their transactions subject to Dodd-Frank Act
regulation. Similar cost reductions should be achieved through enhanced
legal certainty provided by the CFTC's interpretations of physical
exchange transactions, fuel delivery agreements, and certain physical
commercial agreements, all of which may qualify for the forward
exclusions under these interpretations. The interpretation regarding
energy management agreements, which provides that the fact that a
particular transaction is done under the auspices of such agreements
does not alter the nature of that transaction, should likewise enhance
legal certainty and reduce costs. While the CFTC's interpretation
regarding documentation of oral book-outs--that an oral book-out be
followed by a confirmation in a commercially reasonable time in written
or electronic form--may impose costs for industries that do not
document their orally booked out transactions, the CFTC believes that
this requirement is consistent with prudent business practices and is
necessary to prevent abuse of the Brent safe harbor.
    Market participants will need to assess whether products are
forward contracts that qualify for the forward exclusions from the swap
and future delivery definitions, and may need to request an
interpretation regarding such products, or obtain an opinion of
counsel, which will involve certain costs. \1149\
---------------------------------------------------------------------------

    \1149\ The CFTC believes that $20,000 represents a reasonable
estimate of the upper end of the range of the costs to undertake the
legal analysis of the status of an agreement, contract, or
transaction as a forward contract that qualifies for the forward
exclusions. The average cost incurred by market participants in
connection with assessing whether an agreement, contract, or
transaction is a forward contract is based upon the estimated amount
of time that staff believes will be required for both in-house
counsel and outside counsel to apply the definition. The staff
estimates that costs associated with determining whether an
agreement, contract, or transaction is a forward contract will range
up to $20,000 after rounding to two significant digits. Staff
estimates that some agreements, contracts, or transactions will
clearly fall within the Brent safe harbor, and an internal attorney,
without the assistance of outside counsel, will be able to make a
determination in less than one hour. Based upon data from SIFMA's
Management & Professional Earnings in the Securities Industry 2011
(modified by CFTC staff to account for an 1800-hour-work-year and
multiplied by 5.35 to account for bonuses, firm size, employee
benefits and overhead), staff estimates that the average national
hourly rate for an internal attorney is $378. If an agreement,
contract, or transaction is more complex, the CFTC estimates the
analysis will require approximately 20 hours of in-house counsel
time and 30 hours of outside counsel time. The CFTC estimates the
costs for outside legal services to be $400 per hour. Accordingly,
on the high end of the range the CFTC estimates the cost to be
$19,560 ($7,560 (based on 20 hours of in-house counsel time x $378)
+ $12,000 (based on 30 hours of outside counsel x $400) which is
then rounded to two significant digits to $20,000.
---------------------------------------------------------------------------

(b) Benefits
    The CFTC's interpretations regarding the forward exclusions should
provide market participants with greater legal certainty regarding
whether their transactions qualify for the forward exclusion from the
swap definition, which should facilitate commercial merchandising
activity. For example, the interpretation regarding forwards with
embedded volumetric options should facilitate commercial merchandising
activity of the electricity, natural gas, and other industries that
employ these contracts where delivery quantities are flexible, while
the conditions in the interpretations should help to assure that these
contracts are bona fide forwards.
    In addition, the interpretation should result in the appropriate
classification of transactions as commercial merchandising transactions
(and thus forward contracts) that are not subject to Title VII
regulation. This will enhance market participants' efficient use of the
swaps markets and, as described above, reduce costs on industry.
Documenting oral book-outs should promote good business practices and
aid the CFTC in preventing evasion through abuse of the forward
exclusion. Finally, the CFTC's interpretation regarding commercial
market participants should ensure that the forward exclusions may only
be used for commercial merchandising activity and not for speculative
purposes. \1150\
---------------------------------------------------------------------------

    \1150\ If contracts are being used for speculative purposes they
are probably swaps and should be subject regulation under Title VII.
---------------------------------------------------------------------------

    The CFTC's position regarding nonfinancial commodities should help
the industry to determine whether their transactions are eligible for
the forward exclusions, which should facilitate commercial
merchandising activity for transactions involving non-financial
commodities such as renewable energy credits that may be eligible for
the forward exclusions.
(c) Comments and Consideration of Alternatives
    The CFTC requested comment in the Proposing Release on the costs
and benefits of the proposed interpretive guidance regarding the
forward contract exclusion and the withdrawal of the Energy Exemption
for market participants, markets and the public.
    Several commenters requested that the CFTC codify its proposed
guidance regarding the forward contract exclusion in rule text to
provide greater legal certainty, which they argued may mitigate
costs.\1151\ However, upon consideration, the CFTC is not codifying its
interpretation in rule text. As discussed in section II.B.2.(a)(i),
above, the CFTC has never codified its prior interpretations of the
forward contract exclusion with respect to the future delivery
definition as a rule or regulation. Publishing an interpretation in
this release is consistent with the manner in which the CFTC has
interpreted the forward exclusion in the past. The additional research
costs associated with an interpretation as opposed to codification in
the Code of Federal Regulations will be small, because the CFTC has
placed this interpretation, and all other product interpretations, in
this adopting release for the convenience of practitioners. Moreover,
courts may rely upon agency interpretations; thus, the CFTC believes
that codification would not mitigate costs much.
---------------------------------------------------------------------------

    \1151\ See BGA Letter; COPE Letter; ETA Letter; FERC Staff
Letter; and Just Energy Letter.

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    Some commenters\1152\ argued that physical options should be
considered forward contracts excluded from the definition of a swap,
because increased regulation would cause harm to physical commodity
markets without providing significant benefits. The statutory
definition of ``swap'' provides that options--including physical
options--are swaps. Accordingly, the CFTC may not exclude such options
from the swap definition. Further, treating physical options as forward
contracts would be inconsistent with longstanding CFTC precedent.
Nonetheless, the CFTC has provided relief using its plenary authority
under CEA Section 4c(b)\1153\ over commodity options through the trade
option exemption. While certain capacity contracts on RTOs and ISOs and
certain contracts entered into by section 201(f) entities may be
considered options and therefore would be swaps, regulation of these
contracts may be addressed through the public interest waiver process
in CEA section 4(c)(6).
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    \1152\ See Just Energy Letter; NEMA Letter; NGSA/NCGA Letter;
ONEOK Letter; and WGCEF Letter.
    \1153\ 7 U.S.C. 6c(b).
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    Several commenters\1154\ argued that renewable energy credits
should not be swaps; rather, renewable energy credits should be
considered nonfinancial commodities eligible for the forward exclusion
from the swap definition. They asserted that swap regulations would
raise transaction costs making it more difficult and expensive to
support renewable energy. The CFTC is clarifying that renewable energy
credits are nonfinancial commodities and that transactions therein are
eligible for the forward exclusion if they satisfy the terms thereof.
So if these transactions meet the forward exclusion, they will bear no
increased costs.
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    \1154\ See 3Degrees Letter; AWEA Letter; CERP Letter; EMA
Letter; GreenX Letter; PMAA/NEFI Letter; REMA Letter; and WGCEF
Letter.
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    A commenter\1155\ requested that tolling contracts be considered
forwards and not swaps, seeking to avoid unnecessary cost of regulatory
uncertainty and unintended conflict between the CFTC and other
regulators. The CFTC has not provided blanket interpretations regarding
particular products in the rulemaking, but has provided an
interpretation regarding the forward contract exclusions provided above
in section II.B.2. To the extent a commenter still is uncertain about
the treatment of a specific type of transaction, the commenter may
request an interpretation from the CFTC.
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    \1155\ See California Utilities Letter.
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    Another commenter argued more generally that any embedded option
(for example, price, quantity, delivery point, delivery date, contract
term) that does not permit a unilateral election of financial
settlement based upon the value change in an underlying cash market
should not render the contract a swap.\1156\ While the commenter's
approach with respect to ``any'' embedded option may result in lower
costs for market participants because more contracts likely would be
excluded as forwards from the swap definition and thus not be subject
to regulation under the Dodd-Frank Act, such an expansive approach may
inappropriately classify contracts as forwards. The CFTC is providing
an interpretation with respect to forwards with embedded volumetric
options to address commenters' concerns. The CFTC is also explaining
its position above regarding price optionality, optionality with
respect to delivery points and delivery dates specifically in response
to the commenter's letter, and optionality as to certain contract terms
(such as evergreen and renewal provisions) to address particular
concerns raised by commenters.
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    \1156\ See COPE Letter, Appendix.
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    Another commenter suggested that an option to purchase or sell a
physical commodity, whether embedded in a forward contract or stand
alone, should either (i) fall within the statutory forward exclusion
from the swap definition, or (ii) alternatively, if deemed by the CFTC
to be a swap, should be exempt from the swap definition pursuant to a
modified trade option exemption pursuant to CEA Section 4c(b).\1157\
Although this proposal may on its face appear to be simpler than the
CFTC's, it is substantively similar to the one the CFTC is adopting.
The CFTC has modified the proposed interpretive guidance regarding
forwards with embedded options as discussed in section II.B.2.(b)(ii)
above; contracts with embedded options that are swaps under the final
interpretation may nevertheless qualify for the modified trade option
exemption recently adopted by the CFTC.\1158\ The CFTC is not adopting
an approach that forwards with any type of embedded option should fall
within the statutory forward exclusion from the swap definition. Such
an approach would be overbroad because it would exclude contracts that
are not appropriately classified as forwards. The commenter also
requested that trade option exemptions be granted for physical
commodities. The costs and benefits of the trade option exemption are
addressed in that rulemaking.
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    \1157\ See WGCEF Letter; 7 U.S.C. 6c(b).
    \1158\ See Commodity Options, 77 FR 25320, April 27, 2012. 17
CFR 32.3. Encana Marketing (USA) Inc. (``Encana'') believes that the
guidance on forwards with embedded options should include embedded
physical delivery options because it asserts that many of the
contracts currently used by participants in the wholesale natural
gas market contain an option for the physical delivery of natural
gas. See Encana Letter. To the extent that Encana's comment goes
beyond volumetric optionality, commodity options are discussed above
in section II.B.2.(b)(i).
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    Another commenter urged the CFTC to broadly exempt commercial
forward contracting from swap regulation by generally excluding from
the swap definition any forward contract with embedded optionality
between end users ``whose primary purpose is consistent with that of an
`end user', and in which any embedded option is directly related to
`end use.' ''\1159\
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    \1159\ See NMPF Letter.
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    While this alternative may appear to be less costly than the CFTC's
interpretation, its vagueness may create significant legal uncertainty
about the scope of the forward exclusion, which may increase costs on
market participants. Even if this approach does represent a lower cost
alternative, however, it is overbroad and likely would result in the
inappropriate classification of transactions as forward contracts, and
thus would not achieve the CFTC's objective of appropriately
classifying transactions that should qualify for the forward
exclusions.
    Another commenter believed that the CFTC's ``facts and
circumstances'' approach to forwards with embedded options does not
provide the legal certainty required by nonfinancial entities engaging
in commercial contracts in the normal course of business.\1160\ The
commenter further argued that many option-like contract terms could be
determined to ``target the delivery term'' under a facts and
circumstances analysis. Accordingly, the commenter believed that the
CFTC should provide in its rules that an embedded option or embedded
optionality will not result in a nonfinancial forward being a swap

unless: (1) Delivery is optional; (2) financial settlement is allowed;
and (3) transfer and trading of the option separately from the forward
is permitted.\1161\
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    \1160\ See ETA Letter at 19 n. 47. Similarly, COPE comments that
a nonfinancial commodity forward contract that, ``by its terms,'' is
intended to settle physically should be permitted to contain
optionality without being transformed into a swap unless such
optionality negates the physical settlement element of the contract.
That is, if one party can exercise an option to settle the contract
financially based upon the value change in an underlying cash
market, then the intent for physical settlement is not contained in
``the four corners of the contract'' and may render the contract a
swap. COPE Letter. While COPE's approach may impose less costs on
market participants (as more transactions likely would qualify for
the forward exclusion, as discussed in section II.B.2.(b)(ii),
above, the CFTC has eschewed approaches to the forward exclusion
that rely on the ``four corners of the contract,'' which can provide
a roadmap to evasion of statutory requirements.
    \1161\ See ETA Letter.
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    The CFTC has long applied a facts and circumstances approach to the
forward exclusion, including with respect to forwards with embedded
options, an approach with which market participants are familiar. That
approach balances the need for legal certainty against protecting
market participants, market integrity and the risk of providing
opportunities for evasion.\1162\ By contrast, the commenter's bright-
line approach may be simpler to apply, but could undermine market
integrity and creates greater evasion opportunities. Moreover, the
CFTC's additional interpretation noted above, including clarification
about the meaning of the phrase ``target the delivery term,'' and
forwards with embedded volumetric optionality, provides enhanced legal
certainty in response to the commenter's concerns, which should
mitigate the costs of the CFTC's approach to market participants.\1163\
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    \1162\ See also NCFC Letter (supporting the CFTC's guidance
because it provides legal certainty).
    \1163\ See also Commodity Options, 77 FR 25320, 25324 n. 25,
April 27, 2012 (discussing the CFTC's conclusion that an ``option[]
to redeem'' under the USDA Commodity Credit Corporation's marketing
loan program constitutes a cotton producer's contractual right to
repay its marketing loan and ``redeem'' the collateral (cotton) to
sell in the open market).
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    Another commenter \1164\ stated its view that the full costs of
applying the Dodd-Frank regulatory apparatus to physical energy
transactions, or of energy companies being forced to abandon full-
requirements bilateral contracting will significantly increase the
costs to be paid by U.S. consumers. The CFTC is sensitive to these
concerns. The CFTC is providing relief for full-requirements contracts
so long as they satisfy the conditions set forth in the interpretation.
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    \1164\ See IECA II Letter.
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    The CFTC is also providing relief for other types of physical
energy contracts that may qualify for the forward exclusions.
Separately, the CFTC has provided relief for trade options in another
rulemaking.\1165\
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    \1165\ See Commodity Options, 77 FR 25320, April 27, 2012.
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5. Loan Participations
    In the Proposing Release, the Commissions proposed guidance that
they do not interpret the swap and security-based swap definitions to
include loan participations in which: (i) The purchaser is acquiring a
current or future direct or indirect ownership interest in the related
loan; and (ii) the loan participations are ``true participations'' (the
participant acquires a beneficial ownership interest in the underlying
loans). One commenter expressed concern with the second prong of the
proposed guidance. Specifically, the commenter said that the ``true
participation'' requirement may result in the improper classification
of loan participations as swaps, because LMA-style loan participations
may not qualify. Moreover, because of legal uncertainty associated with
the ``true participation'' terminology derived from U.S. bankruptcy
law, LSTA-style loan participations may be subject to improper
classification as well. The commenter proposed an alternative test
described in section II.B.3., above.
    The Commissions largely are adopting the recommendation from the
commenter regarding the Commissions' proposed guidance concerning loan
participations as not swaps or security-based swaps, with certain
modifications. This reduces costs for market participants because the
Commissions' test for loan participations from the proposal included a
``true participation'' requirement that commenters suggested is subject
to legal uncertainty. Benefits of the rule include enhanced legal
certainty that loan participations that meet the requirements of the
interpretation are not swaps, which should facilitate loan
participation market activity.
6. Interpretation Regarding Commercial/Consumer Transactions
    The Commissions are stating that certain customary consumer and
commercial transactions that have not previously been considered swaps
or security-based swaps do not fall within the statutory definitions of
those terms. Specifically with regard to consumer transactions, the
Commissions are adopting as proposed the interpretation that certain
transactions entered into by consumers (natural persons) as principals
or their agents primarily for personal, family or household purposes
would not be considered swaps or security-based swaps. The Commissions
have added to the list of consumer transactions certain residential
fuel storage contracts; service contracts; consumer options to buy,
sell or lease real or personal property; and certain consumer
guarantees of loans (credit cards, automobile, and mortgage). The
Commissions have also clarified that consumer transactions used to
purchase nonfinancial energy commodities are not swaps or security-
based swaps. With respect to commercial transactions, the Commissions
are adopting as proposed the interpretation that certain commercial
transactions involving customary business arrangements (whether or not
involving a for-profit entity) would not be considered swaps or
security-based swaps. The Commissions also are clarifying that
commercial loans by the Federal Home Loan Banks and Farm Credit
Institutions are not swaps. Finally, the Commissions are explaining the
factors characteristic of consumer and commercial transactions that the
Commissions will consider in determining whether other consumer and
commercial transactions that are not specifically listed in the
interpretation should be considered swaps or security-based swaps.
(a) Costs
    The CFTC believes that the forgoing interpretation should mitigate
costs because it increases legal certainty that specific customary
consumer and commercial transactions are not swaps or security-based
swaps subject to Dodd-Frank regulation. As a result of this
interpretation, consumers and industry participants will not have to
seek legal advice regarding whether these transactions are swaps or
security-based swaps. The interpretation regarding commercial loans
made by the Federal Home Loan Banks and Farm Credit Institutions also
reduces costs by not subjecting these transactions to additional Dodd-
Frank Act regulation. To the extent a customary consumer or commercial
transaction is not included in the interpretation, consumers and market
participants may incur costs in seeking an interpretation from the
Commissions regarding the status of their transactions or an opinion of
counsel. However, the CFTC has emphasized that the lists are not
exclusive, and has provided the factors it will consider for
determining whether other consumer and commercial transactions that are
not specifically listed in the interpretation should be considered
swaps or security-based swaps, which should assist consumers and market
participants in deciding whether to seek an interpretation and thus
mitigate these costs.
(b) Benefits
    The foregoing interpretation provides increased legal certainty
benefits for market participants and should ensure that customary
consumer and commercial transactions, which have never been considered
swaps or security-based swaps, will not be subject to Dodd-Frank Act
regulation, and may facilitate consumer and

commercial activity. As discussed above, the interpretation regarding
the factors that the Commissions will consider in determining whether
transactions that are not listed in the interpretation are swaps or
security-based swaps should assist market participants in determining
whether to seek an interpretation regarding such transactions.
Therefore, this interpretation helps to mitigate costs of legal
uncertainty.
(c) Comments and Consideration of Alternatives
    Several commenters believed that the proposed interpretive guidance
regarding consumer/commercial transactions does not provide sufficient
legal certainty and request that the Commissions codify such guidance
in regulations in order to provide greater legal certainty, which may
mitigate costs.\1166\ The Commissions decline to codify the
interpretation into rule text. The interpretation is intended to
provide guidance to assist consumers and commercial and non-profit
entities in evaluating whether certain arrangements that they enter