2.1.4.70.7 Linking multiple master agreements for netting purposes - Optional

Some market participants will want to maintain separate master agreements with the same counterparty in respect of different kinds of transactions. However (as described in the legal analysis of netting in 4.3 "Netting") the Payment Systems and Netting Act 1998 ("Netting Act") provides only for the enforceability of close out netting under a single "close out netting contract". It does not deal with netting of amounts due under several close out netting contracts.  For this reason, in order to ensure that the aggregation of net amounts payable under several master agreements is enforceable on the insolvency of a counterparty it is necessary to include a clause along the lines of that set out in "Linking clause" below. 

The master agreements involved need not all be ISDA Master Agreements and could include any master agreement which, on the occurrence of certain events, allows a party to terminate the transactions governed by it, calculate the termination values of those transactions and then net those values. Examples of master agreements falling into this category include IFEMA, ICOM, FEOMA, PSA/ISMA and AMSLA. However, because the wording suggested below is intended to be as concise as possible, master agreements which do not define the relevant events as "Events of Default" will not be able to be included without some amendment to the clause. 

It is critical that no other persons are parties to any of the master agreements included under this clause. The reason for this is explained below.

Prior to inclusion of the clause set out in this part, it is necessary to decide which master agreement is to be the "dominant" master agreement under which the netting of the net amounts payable under the other master agreements is to take place. The wording suggested below is drafted for inclusion in a dominant master agreement which is an ISDA Master Agreement but could easily be tailored for use in other master agreements.

The clause set out below needs to be included only in the dominant master agreement although it would be helpful to include a clause in the "linked" agreement as specified below.

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Explanation of the clause

The Netting Act permits the termination of obligations under a close out netting contract, the calculation of termination values in respect of those terminated obligations and then the netting of those termination values. It follows that, in order for the Netting Act to apply to the netting of amounts owing under different master agreements:

  • the net amounts owing under the various master agreements must become obligations owing under a single master agreement (which is the "dominant master agreement");
  • the obligations to pay those net amounts must be terminated under the terms of the dominant master agreement;
  • the termination value of those terminated obligations must be calculated under the dominant master agreement; and
  • those termination values must be netted under the dominant master agreement.

Importantly, using the clause set out below does not ensure that netting is effective in respect of each of the master agreements. For example the incorporation of a net amount payable under a master agreement under another master agreement may take place only if the netting under the first master agreement is effective. This may not be the case if the requirements of the Payment Systems and Netting Act (as described in 4.3 "Netting") are not satisfied with respect to the first master agreement.

Following is an explanation of the optional clause contained in this part:

  • Introductory wording: The introductory wording identifies the other master agreements. Before including a master agreement as a Linked Master Agreement it is important that the parties to each of the Linked Master Agreements are identical to those in the master agreement in which this clause is inserted ("Dominant Master Agreement").  This is because, as discussed below, part of the clause's operation is to terminate the obligations due under the Linked Master Agreements. This will not be effective if there is another party to the Linked Master Agreement who has not agreed to such termination. In addition, it is important to ensure that the terms of the Linked Master Agreements have defined "Events of Default". If not, some adjustment will be needed to the clause.
  • Paragraph (a). This provides that, for the purpose of Section 6 of the Dominant Master Agreement (ie, the close-out and netting provisions of an ISDA Master Agreement), the rights and obligations under a particular Linked Master Agreement constitute a Transaction governed by the Dominant Master Agreement and, if an Early Termination Date occurs in respect of all Transactions under the Dominant Master Agreement, a Terminated Transaction. This means that, upon the termination of the Linked Master Agreement following an Event of Default, the net amount payable under the Linked Master Agreement will also be an amount payable in relation to a Transaction under the Dominant Master Agreement. The Linked Master Agreement will not, however, be a Transaction for the other purposes of the ISDA Master Agreement (eg, the tax gross-up provisions in Section 2(d) of the Dominant Master Agreement will not apply to the Linked Master Agreement).

    The effect of paragraph (a) (ie making the Linked Master Agreement a "Transaction" for certain purposes under the Dominant Master Agreement) is in essence, the same as the effect of the opening paragraph of the Dominant Master Agreement under which individual transactions are incorporated into the Dominant Master Agreement as "Transactions" ie every Master Agreement needs to have associated "Transactions" - otherwise it is an empty shell. The opening paragraph of the Dominant Master Agreement identifies a process by which dealings become "Transactions". Paragraph (a) incorporates another type of "Transaction" namely a Linked Master Agreement.
  • Paragraphs (b) and (c). It is important to ensure that the obligations to pay net amounts under each agreement are terminated under the terms of the Dominant Master Agreement (along with the other outstanding transactions under the Dominant Master Agreement).

    It is also important to ensure that the terms of each master agreement will allow transactions to be closed out at the same time so that net amounts may be calculated. The effect of incorporating these paragraphs is that the occurrence of a particular event will be an Event of Default under all of the master agreements if it is an Event of Default under one. This is the case even if that event would not become an Event of Default under some of the master agreements until a further grace period runs out.  Participants should carefully consider whether this is acceptable. It may be appropriate to agree with the counterparty to harmonise the events of default under all the agreements. 

    The Transaction referred to in the previous bullet point above, is terminated, along with all the other Transactions under the Dominant Master Agreement following the designation of an Early Termination Date in accordance with Section 6 of that agreement. This is separate from the termination of the Linked Master Agreement.
  • Paragraph (d) and (e). It is important to ensure that the termination value of the terminated obligations are calculated under the Dominant Master Agreement.

    As explained above, the net amount owing following the termination of the Linked Master Agreement is also an amount owing in relation to a Transaction under the Dominant Master Agreement. However, although the actual amount payable in relation to this Transaction is to be calculated using the mechanism in the close out provisions of the Linked Master Agreement, from the perspective of the Dominant Master Agreement as a close-out netting contract, this calculation is actually taking place in accordance with sub-paragraph (d) of the additional clause set out below.

    This means that the provisions of Section 6(e) of the Dominant Master Agreement will apply to calculate the Termination Currency Amount of the obligation in the same way as the Termination Currency Amounts of other Transactions under the Dominant Master Agreement are calculated following the termination of the Dominant Master Agreement. Accordingly, the termination value of all the amounts to be netted are calculated under the same close-out netting contract.

    It is important that those termination values are netted under the Dominant Master Agreement.

    This involves the Termination Currency Amount for the Transaction constituted by the Linked Master Agreement being netted against all the Termination Currency Amounts for all the other Transactions under the Dominant Master Agreement in accordance with Section 6(e)(i) of the Dominant Master Agreement. This is achieved through the combined wording of paragraphs (d) and (e) which identifies how the Close Amount for all Transactions is to be calculated.
  • Paragraph (f). This provides that the parties also agree that the inclusion of the net amount payable under the Linked Master Agreement in the calculation of the net amount payable on the termination of the Dominant Master Agreement has the effect of terminating the obligation under the Linked Master Agreement to pay that amount.

    The result of this is that all the amounts payable between the parties in relation to both agreements are payable under the Dominant Master Agreement (ie, a single close-out netting contract).

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Care!

The following clause is intended to give guidance on the drafting of a linking clause.  Particular care needs to be taken to ensure that it is amended appropriately to take account of the particular circumstances.

Also, the linking clause only covers the linkage of agreements following an Event of Default. It does not apply to a termination following a Termination Event (as defined in the ISDA Master Agreement).

The clause assumes that automatic early termination does not apply under any of the agreements.

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Linking clause

"The parties agree that each of the following master agreements between them is a "Linked Master Agreement" for the purpose of this Master Agreement:

  • [date] [description eg. other ISDA Master Agreement]
  • [date] [description eg. IFEMA]

    [etc.]

The parties further agree that:

(a) for the purpose of Section 6 of this Master Agreement, the rights and obligations under a particular Linked Master Agreement constitute a Transaction governed by this Master Agreement and, if an Early Termination Date occurs in respect of all Transactions, a Terminated Transaction;

(b) if an "Event of Default" as defined in this Master Agreement occurs and the Non-defaulting Party gives a notice designating an Early Termination Date under Section 6(a) of this Master Agreement, then:

(i) the event also constitutes an "Event of Default" under the Linked Master Agreement (in addition to any other event that constitutes an Event of Default under the Linked Master Agreement); and

(ii) the non-defaulting party under the Linked Master Agreement (however that party is described) in relation to that Event of Default is to be the same as the Non-defaulting Party under this Master Agreement;

(c) if an "Event of Default" as defined in the Linked Master Agreement occurs:

(i) that event constitutes an Event of Default under this Master Agreement;

(ii) the giving of the notice that results in the designation of an Early Termination Date under the Linked Master Agreement constitutes the giving of a notice designating an Early Termination Date under Section 6(a) of this Master Agreement; and

(iii) the Non-defaulting Party under this Master Agreement in relation to that Event of Default is to be the same as the non-defaulting party (however that party is described) under the Linked Master Agreement;

(d) if an event described in sub-paragraph (b) or (c) occurs, then for the purpose of calculating the amount payable in respect of the Early Termination Date under Section 6(e)(i) of this Master Agreement, the Close-out Amount for each Transaction referred to in sub-paragraph (a) is to be the amount calculated in accordance with:

(i) for the Linked Master Agreement [describe the Agreement], Section [insert reference to close out calculation provision in that Linked Master Agreement] of that agreement;

(ii) [repeat for each Linked Master Agreement],

and whether the Close-out Amount is expressed as a positive or negative number is to be determined as described in the definition of "Close-Out Amount" in this Master Agreement;

(e) the Close-out Amount for all Transactions other than those referred to in sub-paragraph (d) is to be calculated in accordance with Section 6 of this Master Agreement; and

(f) the obligation of a party to pay an amount referred to in sub-paragraph (d) under the Linked Master Agreement and under this Master Agreement is terminated on the inclusion of the amount in the calculation of the net amount payable between the parties under Section 6(e) of this Master Agreement."

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Additional recommended clause for Linked Master Agreements

It is recommended that the following additional clause be inserted in each Linked Master Agreement:

"The parties agree that:

(a) this agreement constitutes a "Linked Master Agreement" for the purpose of the ISDA Master Agreement entered into between the parties on [or about the date of this agreement] ("ISDA Master Agreement"); and

(b) this agreement is to be read subject to Part 5([insert cross reference to additional clause in ISDA Master Agreement]) of the Schedule to the ISDA Master Agreement."


Last Update Date 29 Jun 2011