The London Interbank Offered Rate (“LIBOR”) is an index reflecting interest rates at which banks borrow money from each other. LIBOR is used as the base interest rate in many bank loan and other financial transactions. LIBOR has been criticized because it is based on surveys of banks regarding only unsecured loans and it has been the subject of improper manipulation by European and United States banks.
In July 2017, the chief executive of the United Kingdom Financial Conduct Authority (“FCA”), announced that LIBOR will be replaced by alternative rates within four years. United States authorities similarly have supported replacement of LIBOR. Earlier this year the Federal Reserve Bank of New York, in cooperation with the United States Treasury Department, introduced the Secured Overnight Financing Rate as an interest rate benchmark. The Federal Reserve set up an alternative rate committee in 2014 which settled on a broad survey of financial institutions based on repurchase agreements collateralized by United States Treasury securities. The alternative rate committee has designated a plan to transition to that new overnight rate. Rate transition efforts are also being made in Europe.
Most loan documents referencing a LIBOR-based index already contain language similar to:
“If the [LIBOR] Index becomes unavailable during the term of this loan, Lender may designate a substitute index after notifying Borrower.”
To prepare for the phase out of LIBOR and in response to inquiries by borrowers, banks have been attempting to develop alternative rate language to insert into new loan documents and to modify existing loan documents. Those efforts have led to a variety of provisions, including, for example:
“If LIBOR is not capable of being determined and the circumstances are unlikely to be temporary, or LIBOR is discontinued, or there is a public statement by the relevant
that LIBOR shall no longer be used, the new rate shall be selected by the Bank
in consultation with the borrower
, and such new rate shall be selected and applied consistent with general market practice.”
Provisions such as these may pose a risk if the borrower is given too much input into selecting a new rate or “general market practice” becomes too difficult to determine. Other proposed alternatives have included a return to a prime rate-based rate but may be too complex for a middle market loan transaction.
The market is currently awaiting guidance from the Federal Reserve and other authorities in order to determine language which will identify an alternative base rate to LIBOR. The phase out could take more than two years. We expect complacency to eventually give way to focus by financial institutions fashioning more uniform responses to the impending end of the use of LIBOR in loan transactions.
For additional information on this topic, please contact Thomas Egan at