12.01  Notwithstanding recent UK government and EU Commission efforts to agree a Withdrawal Agreement and Political Declaration (discussed in detail in Chapter Two), there remains considerable uncertainty over the final terms on which the UK will leave the EU (if at all). In the absence of certainty over the future legal relationship between the UK and the EU once the UK leaves the EU, this chapter assumes that the UK will, at that point, become a third country for the purposes of the BRRD and that the UK will treat EU Member States as third countries for the purposes of the UK’s recovery and resolution regime (the UK Regime). On that assumption, Brexit may have a profound impact on the tools available to UK and EU regulators and resolution authorities relating to the recovery and resolution of failing banks, building societies, and systemically important investment firms., under legislation made by the UK government under the European Union (Withdrawal) Act 2018 (as amended) (the Withdrawal Act),¹ once the UK leaves the EU the legal and regulatory framework that provides for the UK recovery and resolution regime will operate independently of the equivalent EEA framework.

12.02  Despite the UK government’s stated aim of ensuring that the UK Regime retains the policy aims of the current, pan-EEA recovery and resolution framework, inevitably, the post-Brexit UK Regime will look and may operate very differently as regards the recovery and resolution of institutions and groups that have an EEA presence. This is due in part to the fact that the UK will regard EEA member states as third countries for the purposes of its regime. It is also a consequence of the fact that UK regulatory authorities will no longer be required to participate in the operational and procedural mechanisms under EU law that ensure cooperation among EEA resolution authorities.

12.03  As a practical matter, the UK is expected to continue to engage with international counterparts, but the removal of legal requirements in this area will reduce legal certainty considerably. This chapter highlights this change and discusses its potential impact on the conduct of recovery and resolution activity by UK regulators and resolution authorities.

12.04  The UK Regime is set out primarily in the Banking Act 2009 (as amended, the Banking Act).

12.05  The preparatory work that led to the Banking Act began in 2007, in response to the 2007–9 global financial crisis, and was led by HM Treasury, the Bank of England (the BoE), and the Financial Services Authority, the predecessor regulator to the Prudential Regulation Authority (the PRA), and the Financial Conduct Authority (the FCA).² That crisis saw the failure of a number of financial institutions, including, in the UK, Northern Rock and Bradford & Bingley and the injection of public money into a number of others, including, most notably, the Royal Bank of Scotland and Lloyds/HBOS Groups. In common with their overseas counterparts, the UK authorities lacked the tools to resolve such institutions in an orderly fashion. As a result, the UK, among other EU Member States, was forced to bail out a number of these institutions at great cost to taxpayers.

12.06  In parallel with the development of the Banking Act in the UK, other states and international bodies began work on similar national and international measures. For example, at leaders’ summits in 2008 and 2009, the G20 identified a need to, ‘lay the foundation for reform to help ensure that a global crisis, such as [the GFC], does not happen again’,³ and to, ‘develop resolution tools and frameworks for effective resolution of financial groups to help mitigate the disruption of financial institution failures and reduce moral hazard in the future’.⁴ The Financial Stability Board (the FSB) published a paper entitled ‘Key Attributes of Effective Resolution Regimes for Financial Institutions’ (the Key Attributes) in October 2011, which were endorsed by the G20 leaders in November 2011.⁵

12.07  At an EU level, recovery and resolution tools are set out in the Bank Recovery and Resolution Directive (the BRRD)⁶ and its associated delegated acts, technical standards, and guidelines (the BRRD framework), a significant proportion of which is directly effective in the UK.

12.08  The BRRD entered into force on 2 July 2014. Member States were required to implement the BRRD by 31 December 2014, and to put into effect the majority of the provisions of the BRRD from 1 January 2015.

(p. 293) 12.09  On 9 February 2018, a decision⁷ was adopted by the EEA Joint Committee that will incorporate the BRRD into the EEA Agreement, subject to the decision being published in the EU Official Journal. The effect of incorporating the BRRD into the EEA Agreement will be to apply the BRRD to all non-EU EEA states.⁸ It is assumed that this will occur. This chapter therefore discusses the BRRD framework in terms of it being an EEA-level framework.

12.10  In broad terms, the tools and powers provided by the BRRD can be divided into three areas:

1. 1.  preparation and prevention: the preparation of recovery and resolution plans, resolvability, and intragroup financial support arrangements;

2. 2.  early intervention: the powers of prudential regulators to impose certain requirements on institutions experiencing severe financial difficulties, before resolution actions become necessary; and

3. 3.  resolution tools: the tools and powers of resolution authorities necessary to facilitate the resolution of a failing institution and its holding company, such as the powers to sell the institution or holding company or all or part of its business, and powers to ‘bail in’ creditors.

12.11  The BRRD provides for cooperation among EEA prudential regulators and resolution authorities in a number of areas within the BRRD framework. As we discuss in this chapter, UK government amendments to the UK Regime will remove UK requirements for UK regulators to cooperate with and consider the views of their EEA counterparts.

12.12  The BRRD empowers the European Commission to adopt delegated acts in certain areas. The delegated acts adopted by the European Commission in accordance with the BRRD are delegated regulations, which are directly effective in Member States, and do not therefore need to be implemented separately into domestic law.

12.13  The BRRD also requires the European Banking Authority (the EBA) to produce regulatory technical standards and implementing technical standards for adoption by the European Commission (together, BTS), and to issue guidelines and recommendations in certain areas. BTS have direct effect in Member States. Guidelines and recommendations are not binding, but competent authorities and institutions must make every effort to comply with them.

12.14  Where necessary, the UK government has implemented the BRRD framework into domestic UK legislation by way of a number of statutory instruments, including, by way of supplement and amendment to the Banking Act, the Bank Recovery and Resolution Order 2014 (as amended, the BRRO),⁹ and the Bank Recovery and Resolution (No. 2) Order 2014 (as amended, the BRRO2).¹⁰ Parts of the BRRD framework have also been implemented in PRA and FCA rules.

(p. 294) 12.15  The BRRO amended, among other things, the Banking Act, to align the UK Regime with the BRRD, and to extend the powers of the BoE to intervene in failing institutions before resolving them. It also amended the Financial Services and Markets Act 2000 (FSMA), to implement the requirements of the BRRD as regards the powers of the successors to the FSA, the PRA, and the FCA.

12.16  The BRRO2 sets out the powers of the BoE, the PRA, the FCA, and HM Treasury when performing their functions under the UK Regime, including in relation to cooperation with their counterparts in other EU Member States and with third countries.

12.17  The UK government has used powers granted to it under the Withdrawal Act to make a number of regulations seeking to address deficiencies in what will become retained EU law in the UK Regime.

12.18  The following paragraphs summarise measures that will amend the statutory and regulatory basis of the UK Regime. References in this chapter to statutory and regulatory provisions should be construed as those provisions as amended by those measures.

12.19  The Bank Recovery and Resolution and Miscellaneous Provisions (Amendment) (EU Exit) Regulations 2018 were made on 20 December 2018 (the BRR Brexit Regulations).¹¹ The BRR Brexit Regulations amend the Banking Act, among other pieces of primary UK legislation,¹² and certain pieces of secondary legislation, including the BRRO2. The BRR Brexit Regulations also revoke certain retained EU law¹³ and amend other retained EU law.¹⁴

12.20  The main aim of the BRR Brexit Regulations is to ensure that the UK Regime is ‘legally and practicably workable on a standalone basis’¹⁵ following Brexit. Therefore, the BRR Brexit Regulations propose a number of amendments to retained EU law to cure deficiencies that will arise as a result of the UK no longer being part of the EU. The UK Regime will, however, retain the policy aims of the BRRD and continue to be consistent with the FSB Key Attributes.¹⁶

12.21  Despite the UK government’s statement regarding continuity of policy under the post-Brexit UK Regime, two types of amendments made by the BRR Brexit Regulations will make fundamental changes to the way that the UK Regime operates in relation to the BRRD (p. 295) framework as implemented in the EU. One of those types of amendments is that the UK will treat EU Member States as third countries under the UK Regime. In turn, the UK will treat EU-led resolutions of banks as third country-led resolutions. This means, for example, that there will be no automatic recognition in the UK of the exercise of powers by resolution authorities in the EU.

12.22  Another crucial type of amendment in this regard is that the BRR Brexit Regulations revoke the UK implementation of BRRD requirements relating to operational and procedural mechanisms that EU Member State regulators must use to cooperate with each other. For example, the provisions in UK law that require the UK’s participation in the framework provided by the cross-border group resolution provisions in the BRRO2 will be removed.¹⁷ That framework comprises rules on cross-border coordination (e.g. participation in resolution colleges), cooperation (e.g. in accordance with framework agreements with third countries adopted by the EBA), and notification (e.g. to other EEA resolution authorities). The new third country status for EU Member States and the removal of the UK from aspects of the BRRD framework that relate to cross-border cooperation are discussed further below.

12.23  The Financial Regulators’ Powers (Technical Standards etc.) (Amendment etc.) (EU Exit) Regulations 2018 (the Regulators’ Powers Regulations),¹⁸ which were made on 25 October 2018, give the BoE, the PRA, the FCA, and the Payment Systems Regulator powers to address deficiencies arising from the UK’s withdrawal from the EU in specified EU regulations¹⁹ and in EU-derived provisions in the regulators’ respective rulebooks.²⁰ The Bank is the appropriate regulator for certain EU regulations,²¹ and both the PRA and the FCA are the appropriate regulators for certain other EU regulations.²² In each case, those EU regulations are BTS made in relation to the BRRD.

12.24  The Bank, the PRA, and the FCA have powers to give transitional directions waiving or modifying firms’ UK regulatory obligations where those obligations have changed as a result of the onshoring of EU legislation under the Withdrawal Act.²³ Those existing powers therefore go further than the regulators’ powers under section 138A of FSMA to modify or waive regulatory rules.

12.25  Guidelines and recommendations of European Supervisory Authorities such as those of the EBA are not incorporated into UK domestic law by the Withdrawal Act, and HM Treasury has stated that it intends to revoke the regulations requiring UK authorities and firms to make every effort to comply with them. However, the BoE and the PRA continue to expect firms to make every effort to comply with guidelines and recommendations which are relevant to regulatory requirements that will apply to them following Brexit.²⁴

12.26  On 20 May 2019, a directive containing a package of amendments to the BRRD was published in the Official Journal of the EU (BRRD II).²⁵ BRRD II came into force on 27 June 2019, and Member States are required to implement the majority of the provisions in the directive by 28 December 2020.

12.27  Under the Financial Services (Implementation of Legislation) Bill, which fell when Parliament was dissolved in advance of the 2019 UK general election, HM Treasury would have been empowered to make corresponding or similar provisions in UK law to reflect forthcoming EU financial services legislation in the event that the UK leaves the European Union without a deal.²⁶ At the time of writing, it is not clear whether the Bill will be reintroduced in the next Parliament and HM Treasury has not made the regulations required to implement BRRD II in the UK. However, the following sections describe the key amendments to the BRRD that will be brought about by the BRRD II and assumes that those changes will ultimately be implemented in the UK Regime. We should note, however, that this might not happen.

12.28  The purpose of the UK Regime for banks is to address the situation where all or part of the business of a bank has encountered, or is likely to encounter, financial difficulties.²⁷ The UK Regime consists of the stabilisation options,²⁸ the bank insolvency procedure,²⁹ and the bank administration procedure.³⁰

(p. 297) 12.29  The UK Regime applies principally to undertakings with permission under Part 4A of FSMA to accept deposits,³¹ such as UK banks, excluding credit unions³² (absent an order from HM Treasury including them within the application of the UK Regime)³³ and other types of institution that are excluded by an order made by HM Treasury³⁴ (such as insurers that have permission under FSMA to accept deposits).³⁵

12.30  The UK Regime also applies in modified ways to: (1) building societies;³⁶ (2) systemically important investment firms;³⁷ (3) recognised central counterparties;³⁸ (4) banking group companies;³⁹ (5) banks not regulated by the PRA;⁴⁰ and (6) UK branches of third country institutions⁴¹ (together with UK banks and the undertakings in (1) to (5) (inclusive), Institutions).⁴²

12.31  The basic obligations in the UK Regime relating to the preparation, assessment and review⁴³ of recovery plans,⁴⁴ group recovery plans,⁴⁵ the relevant PRA, and the FCA (p. 298) rules⁴⁶ will be amended to apply solely to UK undertakings and UK supervisory and commercial activities. This will be achieved principally through the removal of references to the EEA and to EEA supervisory authorities. For instance, the term ‘group’, which is currently defined for these purposes as a ‘group constituted by an EEA parent undertaking and its subsidiaries’, will be amended to mean ‘a parent undertaking and its subsidiaries’.⁴⁷

12.32  As at present, Institutions will be required to draw up, maintain, and submit recovery plans,⁴⁸ and, if they are a UK parent undertaking of a group that is subject to consolidated group supervision, group recovery plans (if relevant),⁴⁹ to the PRA and/or the FCA (as appropriate). Subject to the PRA/FCA power to require the inclusion of additional information in those plans,⁵⁰ Institutions will be required to prepare recovery plans containing at least the information set out in section A1 of the BRRO2 and Commission Delegated Regulation 2016/1075 (the Delegated Regulation).⁵¹

12.33  Schedule A1 of the BRRO2 consolidates the information listed in Section A of the Annex to the BRRD (‘Information to be included in recovery plans’) and the other requirements relating to the content of recovery plans set out Articles 5 to 9 of the BRRD. There is no indication at the time of writing that those requirements will be amended as they apply in the UK in connection with Brexit.

12.34  The consolidation generally replicates the current BRRD requirements (as implemented), save that Schedule A1 will require Institutions to ensure that their recovery plans include the following additional information:

1. (1)  evidence that the management body of the Institution has assessed and approved the plan before the plan is submitted to the appropriate regulator—the BRRD and the relevant current PRA rules⁵² only require Institutions to ensure that their management bodies oversee, assess, and approve recovery plans prior to submission;

2. (2)  an appropriate framework of indicators established by the Institution which identifies the points at which the appropriate actions referred to in the plan may be taken—the BRR Brexit Regulations insert the word ‘appropriate’ before ‘framework’, which arguably sets a higher standard for Institutions to meet in this regard than under the pre-Brexit rules; and

3. (3)  details of appropriate arrangements which the Institution has put in place for the regular monitoring of the indicators referred to above—at present, Institutions are only required to have in place such arrangements, not provide the details of those arrangements in their recovery plans.⁵³

(p. 299) 12.35  Institutions will be required to base their recovery plans on certain assumptions, such as the assumption that the Institution or group concerned will not have access to or receipt of extraordinary public financial resources,⁵⁴ and to stress-test their recovery plans against a range of scenarios of severe macroeconomic and financial stress relevant to the firm’s or the group’s specific conditions.⁵⁵ EBA guidance on the range of those scenarios⁵⁶ will continue to be relevant to UK banks. Recovery plans and group recovery plans must also set out a framework of indicators which identify the points at which actions identified in the recovery plan may be taken.⁵⁷

12.36  The appropriate regulator will be required⁵⁸ to assess recovery plans against the criteria set out in:

1. (1)  Schedule A1 of the BRRO2, to determine whether such plans would be reasonably likely to be effective and implemented quickly and effectively in situations of financial stress and, as far as possible, without any material adverse impact on the financial system of the United Kingdom;⁵⁹ and

2. (2)  the Delegated Regulation.⁶⁰

12.37  Where an Institution is part of a consolidation group, the appropriate regulator will need to conduct its assessment of the group recovery plan in cooperation with the BoE and the PRA or the FCA where either is not the appropriate regulator but supervises a group entity that is an authorised person under FSMA.⁶¹ This cooperation will require the exchange of information (for instance, the duty to transmit a copy of the group recovery plan to the BoE and the PRA or FCA as appropriate).⁶²

12.38  Although consistent with the UK government’s stated aim of amending UK legislation to work independently of EU legislation post-Brexit, the fact is that the UK regulators will no longer be required to share recovery plans with their EEA counterparts or take into account their recommendations in relation to recovery plans—as is the case prior to Brexit—where groups contain relevant EEA regulated firms. Cross-border cooperation on the assessment of recovery plans is an important aspect of the EEA recovery planning regime in the BRRD. It seems logical that UK regulators would, in practice, engage in similar cross-border cooperation post-Brexit. However, in the absence of a legal requirement to do so, it is uncertain that such cooperation will continue and opportunities to deepen cooperation may not arise so readily.

12.39  As with recovery planning, the substance of the current provisions relating to resolution planning⁶³ are retained save to the extent they require cross-border cooperation with EEA counterpart regulation and resolution authorities. For instance, the BoE will still be required to draw up⁶⁴ and review⁶⁵ resolution plans⁶⁶ and group resolution plans⁶⁷ on the basis of information provided for that purpose by the relevant Institution (as required by the relevant PRA⁶⁸ or FCA rules)⁶⁹ or the appropriate regulator.⁷⁰

12.40  The Bank must also ensure that resolution plans cover the information requirements set out in Schedules 2 and 2A of the BRRO2 and any additional information covered by Schedule 2B of the BRRO2 that it determines is required.⁷¹ In so doing, the BoE must also assess the resolvability⁷² of the Institution or group concerned, with particular regard to ensuring the continuity of the Institution’s or the group’s critical functions⁷³ and the potential impact of such a resolution on the UK economy and financial system.

12.41  Although consistent with the UK government’s stated aim of ensuring that the UK Regime functions effectively without relying on EU legislation or regulatory arrangements, and despite there being no obvious policy intent to avoid cross-border cooperation, inevitably, removing the relevant requirements for such cooperation creates a risk that international coordination in this area will diminish or be lacking. For instance, the fact that the BoE will not be required specifically⁷⁴ to consider the potential impact of a resolution plan on the economies or financial systems of EEA states could mean that potential adverse effects of UK resolution plans on the EEA go unconsidered. It is of course also the case that reciprocal (p. 301) binding cooperation obligations under which EEA resolution authorities provide information to the BoE will, absent specific agreement to the contrary, also cease to have effect when the UK leaves the EU.

12.42  The Bank will also not be required to consult EEA resolution authorities where the resolution plan relates to an Institution with a significant branch located in an EEA state or to a group with one or more subsidiary undertakings located in an EEA state. Instead, as at present, the BoE may consult the relevant EEA resolution authorities as it may any other third country authorities in relation to the drawing up of resolution plans.⁷⁵ However, in the event of a dispute, the BoE will not be obliged to refer the matter to a higher authority, as it currently is in relation to referrals of disputes to the EBA. Although it seems likely that the BoE would continue to bear in mind the potential impact of faulty or inadequate resolution plans on overseas financial systems, there will be no requirement in the BRRO2 for the BoE to do so.

12.43  Under the post-Brexit UK Regime, cross-border groups will continue to be permitted to provide intragroup financial support, albeit that the relevant rules⁷⁶ will be significantly broadened to include agreements between a relevant parent undertaking⁷⁷ and one or more group subsidiaries⁷⁸ established in any country other than UK (rather than any country other than an EEA state as is the case under the current UK Regime) (Support Agreements).

12.44  Under the post-Brexit rules, a group may not enter into a Support Agreement unless the terms of the agreement meet certain conditions⁷⁹ and the consolidating supervisor has approved the agreement.⁸⁰ The consolidating supervisor will be the competent authority responsible for the exercise of supervision on a consolidated basis of: (a) a UK parent institution; or (b) an institution controlled by a UK parent financial holding company or a UK parent mixed financial holding company.⁸¹ The competent authority for these purposes will be:

1. (1)  the PRA, in respect of PRA-authorised persons;

2. (2)  in relation to a MiFID investment firm, the authority designated before exit day (as defined in the Withdrawal Act) by the UK in accordance with Article 67 of MiFID II (i.e. the FCA or the PRA); or

3. (3)  the FCA, in respect of any other person.⁸²

(p. 302) 12.45  This means that only UK regulators, as opposed to relevant EEA regulators as at present, will be able to approve Support Agreements in relation to UK banks after Brexit. Similarly, an Institution intending to provide financial support will be required to notify: (a) the PRA; and (b) the FCA where it is the consolidating supervisor, rather than: (i) the PRA; (ii) where different, its EEA consolidating supervisor; (iii) where different to the PRA and the EEA consolidating supervisor, the competent authority of the group member receiving the financial support; and (iv) the EBA before providing that support.⁸³

12.46  In line with the approach of creating a standalone UK Regime, the BRR Brexit Regulations also remove obligations on UK competent authorities to cooperate with their EEA counterparts when reviewing Support Agreements.⁸⁴

12.47  In keeping with the approach taken in other areas, the BRR Brexit Regulations retain in an amended form the early intervention powers⁸⁵ that the PRA and the FCA have as consolidating supervisors in respect of UK group entities,⁸⁶ while removing obligations and powers of the PRA and the FCA in relation to EEA regulators and non-UK firms.⁸⁷ Those are powers to intervene where an Institution breaches, or is likely in the near future to breach, its regulatory capital requirements, by taking one or more measures for early intervention.⁸⁸

12.48  The PRA and the BoE must be satisfied that certain general conditions set out in the Banking Act are met before making use of the stabilisation options (described in paragraphs 12.4.7–12.4.13 below).⁸⁹ In summary, those conditions relate to whether the Institution may continue to carry on its business, either because it is failing, or is likely to fail, to satisfy the threshold conditions in FSMA,⁹⁰ or because it is, or in the near future will be, insolvent, in each case without the application of one or more stabilisation options.

12.49  The BoE must also be satisfied that certain other conditions are met. In summary, those conditions are that: (a) it is not reasonably likely that the Institution will take action to correct its position; (b) the exercise of the power is necessary; and (c) one or more of the BoE’s special resolution objectives would not be met to the same extent by the winding up of (p. 303) the Institution (whether under the bank insolvency procedure provided by Part 2 of the Banking Act or otherwise).⁹¹

12.50  The Bank may also exercise certain stabilisation powers in respect of a banking group company⁹² if certain conditions are met.⁹³ Post-Brexit, satisfaction of those conditions will no longer depend (in part) on determinations made by EU resolution authorities.

12.51  The five stabilisation options, which are not expected to change substantively in connection with Brexit, are transfer to a private sector purchaser,⁹⁴ transfer to a bridge bank,⁹⁵ transfer to an asset management vehicle,⁹⁶ the bail-in option;⁹⁷ and transfer to temporary public ownership.⁹⁸

12.52  Those stabilisation options may be achieved through the exercise of one or more of the ‘stabilisation powers’ by the BoE, which are the resolution instrument powers,⁹⁹ the share transfer powers,¹⁰⁰ and the property transfer powers.¹⁰¹

12.53  The Bank also has the power to recognise or refuse all or part of third country resolution action in respect of a third country institution or third country parent undertaking.¹⁰² Post-Brexit, institutions and parent undertakings established in the EEA will be third country institutions and parent undertakings for the purposes of those powers. Consistent with the approach to amendments made to other aspects of the UK Regime, the BoE will no longer be required to consider the potential impact of recognising third country resolution actions on the EEA.¹⁰³

12.54  The Banking Act gives the BoE broad powers to bring about the absorption of the losses of, and to recapitalise, a failing Institution (i.e. to bail in its creditors) using the firm’s own resources. This would be achieved by cancelling, transferring, or diluting the firm’s capital (p. 304) instruments.¹⁰⁴ The Bank may also cancel or modify any liability owed by the Institution save for liabilities that are excluded in accordance with the Banking Act (e.g. covered deposits).¹⁰⁵

12.55  Institutions and qualifying parent undertakings¹⁰⁶ of those Institutions are required to include in agreements for liabilities (except excluded liabilities) governed by the law of a third country, a contractual term by which the creditor or party to the agreement creating the liability recognises that liability may be subject to the exercise of a bail-in power by the BoE and agrees to be bound by any reduction of the principal or outstanding amount due, conversion or cancellation that is effected by the exercise of those powers by the BoE (the Article 55 Requirement).¹⁰⁷ As noted above, in many respects, EEA states will be treated as third countries under UK law after the UK has ceased to be a member of the EU. However, a transitional provision in the relevant PRA and FCA rules provides that the Article 55 Requirement will not apply to contracts made before exit day that are governed by the law of an EEA State unless and until their terms are materially amended.¹⁰⁸

12.56  The Article 55 Requirement does not apply where an EEA resolution authority determines that the relevant liabilities or instruments can be subject to write down and conversion powers by EEA resolution authorities pursuant to the law of a third country or to a binding agreement with that third country.¹⁰⁹ In light of the post-Brexit UK process for recognising EEA resolution actions which, post-Brexit, will be treated in the same way as all third country resolution actions are treated under section 89H of the Banking Act, there is a risk that the Single Resolution Board and/or other resolution authorities in the EEA could take the view that this exemption cannot reliably be used by EEA banks (or their subsidiaries) which are party to contracts governed by English law. This will be a particular problem for contracts and securities issued by EEA banks existing at the time when the UK withdraws from the EU because the terms of such contracts generally cannot be amended without counterparty consent, which in the context of securities issues may be impossible to obtain, and may in any event be costly to seek. More generally, however, the Article 55 Requirement could ultimately discourage some EEA banks from contracting and issuing securities under English law post-Brexit.

12.57  Given the volume of issuance of securities under English law, in the long term, this could threaten an important stream of work for the legal services sector in the UK, although at the time of writing, this is not yet happening. A provision which makes clear that the UK will recognise EEA resolution actions would be an important step in avoiding this, again, (p. 305) although at the time of writing, this does not appear likely. In addition, without action EEA resolution authorities could require banking groups which, as part of their Brexit planning, are novating existing English law contracts to EEA banking subsidiaries, where applicable, to include terms recognising bail-in within these contracts; this would impose a significant burden on those groups and may not be attractive to the relevant contractual counterparties. From the reverse perspective, it should be considered how the relevant PRA and FCA rules could be modified to ease compliance of UK Institutions and qualifying parent undertakings with Article 55 of the BRRD (as transposed into UK law) in respect of contracts they make with counterparties under EEA law.

12.58  Under BRRD II,¹¹⁰ the Article 55 Requirement will be amended to address instances where it is impracticable for an institution¹¹¹ (a BRRD Institution) or one of the entities referred to in point (b), (c), or (d) of Article 1(1) of the BRRD¹¹² (together with BRRD Institutions, BRRD Undertakings) to include those contractual terms in agreements or liabilities (excluding unsecured liabilities in certain capital and debt instruments) that would otherwise be covered by the requirement. If a BRRD Undertaking makes such a determination, it will be required to notify its resolution authority of that determination, at which point the Article 55 Requirement will be suspended in respect of the relevant contracts and liabilities.¹¹³ BRRD II mandates the EBA to develop draft regulatory technical standards (RTS) further specifying the conditions under which it would be legally or otherwise impracticable for a BRRD Institution to include the relevant contractual term. It is assumed that the UK will onshore those RTS or otherwise adopt rules reflecting the RTS.

12.59  The UK already operates a similar exclusion to the Article 55 Requirement, which provides that the requirement does not apply in respect of an unsecured debt liability where it would be impracticable for the Institution to comply with it in respect of that liability.¹¹⁴ It is possible that the UK will expand this exclusion to be consistent with the BRRD II exclusion from the Article 55 Requirement.

12.60  BRRD II will make a number of changes in relation to the requirement of BRRD Undertakings to maintain a minimum requirement for own funds and eligible liabilities expressed as a percentage of the total liabilities and own funds of the institution (MREL)¹¹⁵ and determined by the BoE in accordance with certain eligibility requirements.¹¹⁶ (p. 306) The purpose of MREL is to provide adequate loss-absorbing capital and eligible liabilities for the bail-in tool to be applied effectively. Currently, the term ‘own funds’ is defined in the BRRO2¹¹⁷ by reference to the Capital Requirements Regulation (the CRR),¹¹⁸ which defines own funds as being the sum of Tier 1 capital¹¹⁹ and Tier 2 capital.¹²⁰ The term ‘eligible liabilities’ means the liabilities and capital instruments that do not qualify as Common Equity Tier 1 (CET1) or Additional Tier 1 (AT1) or Tier 2 capital instruments, and are not excluded from the scope of the bail-in tool.¹²¹

12.61  One such change is that calculation of MREL will be aligned with the new external total loss-absorbing capacity (TLAC) requirement that will be introduced by a parallel package of reforms to the CRR (CRR II).¹²²

12.62  As the first recital to BRRD II explains, on 9 November 2015, the FSB published the TLAC Term Sheet (the TLAC Standard), which was endorsed by the G20 in November 2015. The objective of the TLAC Standard is to ensure that global systemically important banks, referred to in BRRD II as global systemically important institutions (G-SIIs),¹²³ more commonly known as banks that are ‘too big to fail’, have the loss-absorbing and recapitalisation capacity necessary to help ensure that, in, and immediately following, a resolution, those institutions can continue to perform critical functions without putting public funds or financial stability at risk.

12.63  The TLAC Standard contemplates ‘internal’ and ‘external’ TLAC. Institutions to which the new external TLAC requirements apply (see below), will be required from 27 June 2019 to 31 December 2021¹²⁴ to satisfy the following requirement for own funds and eligible liabilities:

1. (1)  a risk-based ratio of 16%, representing the own funds and eligible liabilities of the institution expressed as a percentage of the total risk exposure amount; and

2. (2)  a non-risk-based ratio of 6%, representing the own funds and eligible liabilities of the institution expressed as a percentage of the total exposure measure,¹²⁵

provided that, from 1 January 2022, those ratios will increase to 18% and 6.75%, respectively (the External TLAC Standard).¹²⁶

12.64  The External TLAC Standard will apply to each resolution entity within a G-SII. A ‘resolution entity’ is an entity to which resolution tools will be applied in accordance with the (p. 307) resolution strategy for the G-SII, or in the case of a BRRD Institution that is not subject to consolidated supervision, that BRRD Institution for the purposes of its solo resolution plan.¹²⁷ Depending on the resolution strategy, a resolution entity may be a parent company, an intermediate or ultimate holding company, or an operating subsidiary. A G-SII may have one or more resolution entities.

12.65  Under BRRD II, resolution authorities will also be required to identify resolution groups when drawing up group resolution plans. A ‘resolution group’ is defined as a resolution entity and its subsidiaries that are not resolution entities themselves, subsidiaries of other resolution entities, or entities that are established in a third country that are not included in the resolution group in accordance with the resolution plan and their subsidiaries. A resolution group may also comprise credit institutions permanently affiliated to a central body (an arrangement that is not used in the UK and that involves credit institutions being affiliated to a central body which supervises them) and the central body itself when at least one of those credit institutions or the central body itself is a resolution entity, and their respective subsidiaries.¹²⁸

12.66  BRRD II will also amend the MREL requirement to align it with the External TLAC Standard insofar as it will be expressed as a percentage of the total risk exposure amount of the entity and of the total exposure measure of the relevant entity (Standard MREL).¹²⁹ Standard MREL for a resolution entity that is a G-SII or part of a G-SII will consist of the external TLAC requirement that applies to it and any institution-specific additional requirement for own funds and eligible liabilities determined by the resolution authority in accordance with the BRRD.¹³⁰ Resolution entities will be required to comply with Standard MREL from 1 January 2024.¹³¹

12.67  A specific MREL regime will be introduced in relation to resolution entities that are not G-SIIs and that are part of a resolution group with assets exceeding €100 billion (the Top-Tier Bank MREL). These entities are referred to as ‘top tier’ banks.¹³² Top-tier banks will be subject to a risk-based MREL ratio of 13.5% and a non-risk-based ratio of 5% when implemented.¹³³ Resolution authorities will also have the discretion to apply the Top-Tier Bank MREL to resolution entities that are not top tier banks where they determine that those entities are reasonably likely to pose a systemic risk in the event of their failure.¹³⁴

12.68  BRRD II also provides powers for resolution authorities to impose additional institution-specific requirements for own funds and eligible liabilities for resolution entities of G-SIIs and EU material subsidiaries of non-EU G-SIIs (the G-SII Add-on), which will of course mean that EU resolution authorities may, post-Brexit, apply the G-SII Add-on to institutions that are material subsidiaries of UK G-SIIs. This would be in addition to the TLAC minimum requirement. That power may only be exercised where a G-SII’s TLAC requirement is insufficient to ensure that the G-SII is able to absorb losses and be recapitalised (p. 308) under the relevant resolution strategy.¹³⁵ It is presumed that the BoE will be given the power to impose the G-SII Add-on in respect of UK G-SIIs and UK material subsidiaries of non-UK G-SIIs.

12.69  Resolution entities will be required to ensure that the resolution group complies with aggregate Top-Tier Banks MREL and the G-SII Add-on (if applicable) requirements imposed on the group (i.e. on a consolidated basis)¹³⁶ from 1 January 2022.¹³⁷

12.70  BRRD II will also replace the current BRRD definition of ‘eligible liabilities’¹³⁸ (the UK implementation of which is discussed in paragraph 12.60) with a more tightly defined definition of eligible liabilities¹³⁹ that is aligned with the definition of that term for the purpose of calculating TLAC requirements.¹⁴⁰ In summary, eligible liabilities will include, subject to certain exceptions:

1. (1)  instruments that:

   1. (a)  do not quality as CET1, AT1, or Tier 2 items; and

   2. (b)  are fully paid-up, unsecured instruments with a residual maturity of at least one year, that are not owned by the institution that issues the instrument or an entity in the issuer’s group or funded by a resolution entity, and that are not subject to set-off or netting arrangements that would undermine their capacity to absorb losses, among other characteristics; and

2. (2)  Tier 2 instruments with a residual maturity of at least one year, to the extent that they do not qualify as Tier 2 items.¹⁴¹

12.71  CRR II will also amend the CRR to introduce an internal TLAC requirement for BRRD Institutions that are material subsidiaries of non-EU G-SIIs and that are not resolution entities, which will require them to hold at all times own funds and eligible liabilities equal to 90% of the External TLAC Requirement (the Internal TLAC Requirement).¹⁴² Post-Brexit, from a UK perspective, Institutions that are not resolution entities and that are material subsidiaries of non-UK G-SIIs will be subject to the Internal TLAC Requirement.

12.72  BRRD II will introduce a corresponding requirement for BRRD Institutions that are subsidiaries of a resolution entity or a third country resolution entity, but are not themselves resolution entities, to meet the MREL requirement by issuing certain types of eligible (p. 309) debt instruments and equity to entities in the same resolution group (Internal MREL).¹⁴³ Resolution authorities will have discretion, after having consulted the competent authority, to apply Internal MREL to BRRD Entities. Resolution authorities will also be given powers to write down or convert Internal MREL into CET1 capital instruments (or both) if the issuer reaches the point of non-viability.¹⁴⁴ It is anticipated that the UK will implement this power by adding to the bail-in powers in the Banking Act. It is important to note in this regard that Internal MREL instruments must be issued to group entities, whereas instruments issued to meet the External TLAC Standard may not be held by group entities. Internal MREL therefore requires the creation a level of loss-absorbing capacity within groups, the aim of which is to enable the recapitalisation of BRRD Institutions that have issued Internal MREL through realising intragroup losses (i.e. at the level of the resolution entity). Institutions will be required to comply with Internal MREL from 1 January 2024.¹⁴⁵

12.73  BRRD II will also give EEA resolution authorities the power if certain conditions are satisfied and they have consulted the relevant competent authorities, to impose a moratorium on the payment and delivery obligations of any entity that is subject to the BRRD framework.¹⁴⁶ The conditions include that the exercise of the power is necessary to determine whether to take a resolution action in respect of the resolution entity or to choose which resolution action to take. As with other areas of the BRRD framework, the use of this power will be likely to involve cross-border cooperation. Based on the currently anticipated amended form of the UK Regime following Brexit, it seems unlikely that the BoE will be required to consult with EEA competent authorities before applying the moratorium power.

12.74  The UK government has powers under the Banking Act in extraordinary circumstances to provide funding to resolve failing Institutions. This may be achieved by taking an Institution into temporary public ownership or by participating in the recapitalisation of the Institution in exchange for CET1, AT1, or Tier 2 instruments.¹⁴⁷ It is not anticipated that these powers will change in connection with Brexit.

12.75  Aside from the UK’s automatic participation in EEA cross-border cooperation measures (such as EBA resolution colleges)¹⁴⁸ falling away at the point of Brexit, the BoE, PRA and (p. 310) FCA will no longer be required under UK law to participate in the cross-border group resolution procedures and mechanism in the BRRD. The UK will also lose the benefit of non-binding cooperation arrangements with third countries that the EBA has entered into under Article 97 of the BRRD. The Bank, the PRA, and the FCA will also no longer be required under UK law to consider entering into arrangements with equivalent third country authorities in order to implement those framework agreements.¹⁴⁹

12.76  The potential impact of this loss of cross-border cooperation arrangements has been noted as an area of particular legal and practical uncertainty.¹⁵⁰ HM Treasury has stated, however, that the BoE will continue to be able to cooperate with its EEA counterparts on the basis that FSMA and the Banking Act will continue to provide for this.¹⁵¹ This cooperation is called for by the FSB Key Attributes, which as HM Treasury notes in its Banking Act 2009: Special Resolution Code of Practice (the Code), ‘promote co-operation between resolution authorities through mutual recognition of resolution action, subject to certain conditions such as considering the impact on financial stability in other jurisdictions and that resolution authorities are strongly encouraged to achieve a cooperative solution, helping to ensure third country resolution is successful’.¹⁵² The Code also provides that, for significant UK subsidiaries and branches of non-EEA banks, ‘if the banking group in question is a Globally Systemically Important Financial Institution (G-SIFI), the BoE will be a member of the Crisis Management Group (CMG) for that banking group’.¹⁵³ The Treasury has confirmed that, consistent with the UK’s current approach to third country headquartered G-SIFIs, UK authorities will continue to participate in CMGs for EU-headquartered G-SIFIs, and that the UK authorities will continue to be permitted to share information with their CMG counterparts.¹⁵⁴

12.77  In addition, the Banking Act provisions that relate to the recognition of third country resolution actions¹⁵⁵ will not apply in relation to the application of resolution tools, the exercise of a resolution power or the enforcement of crisis management or prevention measures by EEA States prior to Brexit. This provision is described as a transitional measure; the import of which would be that without that provision, such actions would not be recognised automatically in the UK under the EU cross-border recognition regime that is in place prior to Brexit.

12.78  It is unclear whether this approach is appropriate given the interconnectedness of the UK and EU financial services sectors. In particular, the loss of automatic recognition of EEA state-led resolution actions could undermine effective cross-border cooperation on (p. 311) resolution as the process of recognising EEA state-led resolution actions in this way could become overly cumbersome.

12.79  One way that the cross-border resolution of institutions and groups could be hampered is in the deletion of provisions in the BRRO2 relating to the BoE’s participation in resolution colleges established under the BRRD. It would be helpful for the UK to be able to continue to participate in those colleges in addition to the BoE’s current role on CMGs. However, irrespective of what is provided for in UK legislation, following Brexit, the BoE would not be able to continue to participate resolution colleges as it currently does; it may only participate as an observer. In order for the BoE to continue to participate in the relevant resolution colleges as an observer, it must: (1) make a request to observe; and (2) then receive an invitation to do so.¹⁵⁶ Based on the current proposed amendments to the BRRO2, it is not clear how the BoE would have the power to request to observe at EU resolution colleges. Nevertheless, in relation to G-SIFIs, in many respects it is the CMGs which have proved to be the most important forum in which resolution authorities have discussed cooperation and resolution planning matters.

12.80  The UK’s departure from the EU will affect the position of depositors in EEA branches of UK banks in the creditor hierarchy on insolvency. These deposits will no longer qualify for protection under the Financial Services Compensation Scheme, will no longer rank pari passu with deposits at UK branches of the same UK bank and will cease to be exempt from the BoE’s application of the bail-in tool.¹⁵⁷ Similarly, deposits at UK branches of EEA banks are likely to rank behind deposits booked in EEA branches of those banks on insolvency, albeit that this will depend on the precise detail of how relevant EEA member states continue to implement the BRRD in their national laws.

12.81  The UK’s departure from the EU is a watershed moment in cross-border regulatory cooperation and leaves many questions unanswered about how UK and EU resolution authorities will work together to help prevent, and mitigate the effects of, banking crises in the future. While some of the infrastructure of cooperation in the BRRD can be replicated informally, for example through the continued involvement of the BoE in CMGs, other aspects of the BRRD regime, including most notably the automatic cross-border recognition of certain decisions and resolution actions, will come to an end.

12.82  The consequences of this decoupling will evolve according to how many banks and banking groups straddle the UK and the EU. The more UK–EU and EU–UK cross-border banking (p. 312) groups there are, the greater will be the need for sound regulatory cooperation and certainty about recognition of resolution actions. One effect of the UK’s departure from the EU has been the need for global and UK-based banks to ensure that they have appropriately regulated entities in the EU from which to carry on business that is regulated in EU Member States. As a result, there are now more such entities than previously, many of them designed to carry on business that would previously have been conducted on a cross-border services basis from the UK in reliance on EU passporting. In addition, some such entities that existed prior to the UK referendum on EU membership have become much more substantial, heavily capitalised subsidiaries than before in order to accommodate the additional EU business they will be carrying on.

12.83  It follows, somewhat ironically, that the case for deeper cooperation between UK and EU resolution authorities is now greater than ever before, and at a time when the UK is disconnecting from the BRRD regime which, for all its imperfections, mandates a level of cooperation and mutual recognition of resolution actions that has not been achieved elsewhere in the world.