Consent solicitation to change the contractual ranking of an instrument to avoid so-called “infection risk“ posed by legacy instruments

Would a consent solicitation to amend the T&Cs of a legacy capital instrument (Tier 1 or Tier 2) in order to ‘promote’ an instrument in the subordination hierarchy entail the instrument to be deemed as a new issuance?

In the EBA Opinion to address possible infection risk stemming from legacy instruments dated 21 October 2020, the EBA proposes several options to address infection risk, including to amend the relevant Terms and Conditions, where possible. In particular, the EBA states institutions might attempt to address the infection risk arising from contractual provisions contradicting the subordination requirement by ‘promoting’ the instrument in the hierarchy of creditors, for example by amending a disqualified legacy Tier 1 instrument to rank senior to outstanding qualifying Additional Tier 1 instruments. In this context, issuers who have outstanding legacy capital instruments may consider (where possible) amending the T&Cs of their legacy instruments to ‘promote’ their ranking and thereby ensure they would not create infection risk regarding the criterion of subordination for instruments that qualify in the same original tier of own funds as per Regulation (EU) 2019/876 of the European Parliament and of the Council of 20 May 2019 amending Regulation (EU) No 575/2013 (“CRR2”). We note however that the EBA AT1 Monitoring Report of 2018 and the EBA Q&A 2013_16 state that “A material change in the terms and conditions of a pre-existing instrument shall be considered in the same way as the issuance of a new instrument, meaning that the changes shall aim at ensuring a full eligibility under the provisions of Regulation (EU) No 575/2013 (…). This reasoning holds true for all types of capital instruments.”. If we take the example of a legacy Tier 1 instrument with a rolling annual call option which would otherwise comply with all the CRR Tier 2 eligibility criteria, including the ranking rules under Article 63(d) – meaning all relevant provisions of the CRR and of regulatory technical standards, as supplemented by related guidance on the consistent and effective application of the regulatory framework provided by EBA Q&As and reports, an amendment to the Terms and Conditions done to ‘promote’ it, if deemed a “material change”, would render the instrument not eligible anymore for Tier 2 capital because of a next call date occurring before year 5. We therefore ask the EBA to confirm that a consent solicitation to amend the ranking of a legacy instrument in the T&Cs would not be deemed a “material change” and trigger a ‘reset’ of the life of the existing instrument.