Chapter 2 - Legal, Regulatory, and Tax Environment Flashcards
What is an example of something that may present a moral hazard as it relates to offerings from a financial institution?
Deposit insurance
Customers will likely not review the bank’s creditworthiness and the bank may take on more risk
BIS
Bank for International Settlements
Who oversees the Basel Accords?
Basel Committee on Banking Supervision
What are the core focuses of each of the three Basel Accords?
Basel I - minimum ratio of capital to risk-weighted assets
Basel II - capital requirements based on risk
Basel III - stress testing and capital adequacy
EPC
European Payments Council
Set standards and rules for SEPA
ESRB
European Systemic Risk Board
Includes others like EBA, EIOPA, ESMA
Who oversees the Single Rule Book for the European financial markets?
European Banking Authority
US Regulatory Entities for Chartered Banks
Office of the Comptroller of the Currency (OCC) - Regulates national banks and savings institutions
Board of Governors of the Federal Reserve - regulates state banks that are members
Federal Deposit Insurance Company (FDIC) - regulates state banks that are not part of the fed; also maintains FDIC insurance fund
What are the options a bank has for how to charter in the US?
National
State
Federal Reserve Act (1913)
Created and firmly established the Federal Reserve as the central bank for the US
Also created national check collection and settlement system
Glass-Steagall Act (1933)
Mostly repealed except for deposit insurance (FDIC)
Separated commercial banking from investment banking
Bank cannot underwrite and securities firms can’t take deposits; repealed by Gramm-Leach-Bliley Act (1999)
Anti-tying in Bank Holding Company Act (1970)
Prohibits tying in financial services, with exception for traditional bank products
Products must be available separately to the same consumer
Gramm-Leach-Bliley Act (1999)
Permits creation of financial holding companies, with Fed as primary regulator
Consolidated capital requirements for holding company
Implemented key consumer protections
Dodd-Frank Act (2010)
More transparency across the market, especially for derivatives
Federal Reserve must conduct annual stress tests on the largest and most complex FIs
Volcker rule
E-Sign Act (2000)
Digital signatures have the same legal effect as wet-ink signatures
Check 21 (2003)
Electronic checks are valid for clearing
Red Flag Rule
If the financial institution sees something different than the normal use of the account, they will reach out to the account owner
Regulation FD
If MNPI is known to certain entities, then disclose to public
SEC Rule 2a-7
Provides regulations on money market funds and floating NAVs
Allows MMFs to utilize floating NAV due to liquidity issues “breaking the buck”
Redemption fees and redemption gates can be employed to secure liquidity
Exception of government money market funds
UCC Article 3
Negotiable instruments
Inadvertent accord and satisfaction (90 days)
UCC Coverage Areas
Negotiable instruments
Deposit reconciliation
Funds transfers (security procedures and consequential damages)
Letters of Credit
Secured Transactions (collateral)
Where should escheated rebates or gift cards be sent to for a customer?
the state of the residence of the customer
BEPS & Methods
Base Erosion and Profit Shifting
Multinational corporation artificially books profits to related entities in low-tax jurisdictions, thereby avoiding or reducing its tax liability
Methods: Intercompany Loans & Thin Capitalization
What is double non-taxation?
Due to tax loopholes, a company may not pay tax in any jurisdiction
What is Thin Capitalization?
Taking on higher levels of debt to reduce taxable income
What are methods taxing authorities will use to determine if thin capitalization is being employed?
Arms Length Pricing
Debt to Equity Ratio
Interest Coverage Ratio
What is transfer pricing?
The determination of appropriate pricing for intercompany transactions
Chapter 11 Bankruptcy
Reorganization
Must adopt a reorganization plan
Two Options for Proceeding with Chapter 11 Bankruptcy
Unanimous Consent
*2/3 of each creditor category must approve
*Gives management more negotiating power (can threaten Chapter 7)
Cram-Down Procedure
*If at least own creditor group agrees, court can proceed so long as all parties are treated equitably
Chapter 7 Bankruptcy
Liquidation
Equitable distribution of assets among creditors
What is a claw-back as it relates to bankruptcy?
Return of funds previously distributed for distribution under bankruptcy proceedings
Three Main Objectives for Chapter 7 Bankruptcy
Safeguards against owner withdrawals
Equitable distribution of assets among creditors
Allow insolvent debtors to discharge all of their obligations and start over
Chapter 9 Bankruptcy
Financially distressed municipalities
Chapter 13 Bankruptcy
Adjustment of debt for individuals with regular income
Chapter 15 Bankruptcy
Establishment of bankruptcy trustees for things in more than one country
Three Formal Bankruptcy Procedures
Free-Fall: no structured plan
Prearranged: discussions with some creditors
Prepackaged: files plan with SEC that all creditors have voted on and accepted
Informal Bankruptcy
Working directly with creditors to renegotiate amounts due
What type of bankruptcy is informal bankruptcy more common for?
Chapter 11
Chapter 7 Bankruptcy Priority or “Absolute Rule”
Specific property pledged (secured creditors)
Trustee’s costs
Pre-trustee involuntary liquidation expense
Wages earned (3 months)
Unpaid benefit contributions (6 months)
Unsecured claims for customer deposits
Taxes
Unfunded pension liability (30% book value of equity)
General unsecured creditors
Preferred stockholders
Common stockholders
Three Primary Focus Areas of Financial Regulation
Safety & Soundness of the Financial System
Market Confidence
Consumer Protection
Risk of Contagion
A collapse of one bank will result in the collapse of another
FinCEN
US financial intelligence unit and primarily oversees criminal or money laundering legislation
OECD
Organization of Economic Co-Operation and Development
Primary Goals of OECD
Develop world trade and international cooperation
Developed framework to avoid base erosion and profit shifting (BEPS)
OFAC
Office of Foreign Assets Control
Administers and enforces sanctions
Secret Service Charge & Responsibilities
“Integrity of US currency and investigate crimes against the US financial system”
Counterfeit currency
Credit card fraud
Check fraud
Identity theft
FINRA
Financial Industry Regulatory Authority
Regulates securities forms and registered securities representatives
FSOC
Financial Stability Oversight Council
Created post Dodd-Frank Act of 2010
Strong systemic oversight role over the Board of Governors of the Federal Reserve System to prevent systemic risk, but has limited enforcement power
ESMA
European Securities and Markets Authority
EMIR responsibility
EBA
European Banking Authority
Setting standards for supervision of banks
Implementation of Basel III standards
ECB
European Central Bank
Price stability via the operation of monetary policy
Oversees EU payment systems
Examples of regulations most likely to differ across different countries
Bank account opening
Availability of physical and notional cash pooling
Tax rules
Securities registrations requirements (e.g. commercial paper)
Is a worldwide tax system common?
No, but US is one of the countries that does
What is a hybrid tax system?
Territorial system, with additional taxation for local country requirements
Common in Europe
Double Taxation Treaty
Reduces withholding liability for taxes
May require reclamation of tax paid
MLI Treaty Modification (Tax)
modifies provisions of bilateral income tax treaties for all of the signatories
the principal purpose test (PPT) applies to all signatories, but the other items are elective
What are the two common triggers for the bankruptcy or insolvency process?
Missed scheduled debt payment
Short-term cash flow projections show inability to meet debt obligations
Who makes the initial choice on the type of bankruptcy to file?
The firm’s management
What did the Financial Stability Board (FSB) publish proposals for in October 2021?
Enhance money market fund resilience
Involuntary Bankruptcy
When creditors initiate bankruptcy proceedings
In the US, three or more creditors can petition the federal bankruptcy court
Rare due to unjustified proceedings and fines
Informal liquidation can be an alternative to what?
Chapter 7 bankruptcy
Assignee or trustee will liquidate assets
May not fully discharge debts
Five potential courses of action for an insolvent company in the UK
- Administration
- Company Voluntary Arrangement (CVA)
- Administrative Receivership
- Compulsory Liquidation
- Creditor’s Voluntary Liquidation
Administration
Company Voluntary Arrangement (CVA)- renegotiate
Administrative Receivership – floating charge
Compulsory Liquidation
Creditors’ Voluntary Liquidation
FOMC
Federal Open Market Committee
Committee of the US Federal Reserve that runs the open market operations to implement monetary policy
If the solvency problem for a company is temporary, what impact should be considered by management?
The impact to the long-term value of the company
BCBS
Basel Committee on Banking Supervision
Dodd-Frank (2010) created which two entities?
Consumer Financial Protection Board (CFPB)
Financial Stability Oversight Council (FSOC)
PPT (Taxes)
Principal Purpose Test
