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Federal Register / Vol. 86, No. 145 / Monday, August 2, 2021 / Notices
liquid assets are defined as: 1 Cash and cash equivalents; 2 collateralized agreements; 3 customer and other trading related receivables; 4 trading and financial assets; and 5 initial margin posted by the Covered Entity to a counterparty or third-party subject to certain conditions discussed below.255
These categories of liquid assets are designed to align with assets that are considered allowable assets for purposes of calculating net capital under Exchange Act rule 18a1.256
Further, the first four categories of liquid assets also are designed to align with how Covered Entities categorize liquid assets on their financial statements. 257 In addition, the commenter who has raised concerns about the potential capital conditions made similar comments with respect to proposed capital conditions that would apply to SBS Entities in the United Kingdom.258 The commenters letter to the Commission included a table summarizing categories of liquid assets on the balance sheets of six UK dealers the Balance Sheet Table that the commenter expects will register with the Commission as security-based swap dealers, and that do not have a prudential regulator and therefore would be subject to Exchange Act rule 18a1.259
The first category of liquid assets is cash and cash equivalents.260 These assets consist of cash and demand deposits at banks net of overdrafts and highly liquid investments with original maturities of three months or less that are readily convertible into known amounts of cash and subject to 255 See
para. c1iiiB of the Order.
notes 237 and 243, supra describing allowable assets under Exchange Act rule 18a1.
257 As part of the application process, the French Authorities have stated that the only nonbank i.e., non-prudentially regulated French dealers that will register with the Commission as security-based swap dealers are French investment firms will be re-authorized by the European Central Bank as credit institutions in 2021. See French Authorities Application Side Letter for Capital Requirements.
These large investment firms publish annual audited financial statements. See e.g., BofA
Securities Europe SA 2020 Annual Report, available at: https investor.bankofamerica.com/regulatoryand-other-filings/subsidiary-and-countrydisclosures.
258 See Letter from Kyle L. Brandon, Managing Director, Head of Derivatives Policy, SIFMA May 3, 2021 SIFMA UK Letter at 920. This comment letter may be found on the Commissions website at: https www.sec.gov/comments/s7-0421/s70421.htm.
259 The categories of liquid assets identified in the Balance Sheet Table are: 1 Cash/Cash Equivalents; 2 Collateralised Agreements; 3
Trade/Other Receivables; cash collateral pledged;
and 4 Trading/Financial Assets. See SIFMA UK
Letter, Appendix C.
260 See para. c1iiiB1 of the Order.

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256 See
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insignificant risk of change in value.261
The second category of liquid assets is collateralized agreements.262 These assets consist of secured financings where securities serve as collateral such as repurchase agreements and securities loaned transactions.263 The third category of liquid assets is customer and other trading related receivables.264
These assets consist of customer margin loans, receivables from broker-dealers, receivables related to fails to deliver, and receivables from clearing organizations.265 The fourth category of liquid assets is trading and financial assets.266 These assets consist of cash market securities positions and listed and over-the-counter derivatives positions.267
As discussed above, initial margin posted to a counterparty is treated differently under Exchange Act rule 18a1 and the Basel capital standard, and commenters highlighted this difference.268 The fifth category of liquid assets is initial margin posted by the Covered Entity to a counterparty or a third-party custodian, provided: 1
The initial margin requirement is funded by a fully executed written loan agreement with an affiliate of the Covered Entity; 2 the loan agreement provides that the lender waives repayment of the loan until the initial 261 See, e.g., International Financial Reporting Standards Foundation IFRS, IAS 7 Statement of Cash Flows defining cash as comprising cash on hand and demand deposits and cash equivalents as short-term, highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes in value. See also Books and Records Adopting Release, 84 FR at 6867374 the section of the amended Part II of the FOCUS Report setting forth the assets side of the balance sheet and identifying cash as an allowable asset in Box 200.
262 See para. c1iiiB2 of the Order.
263 See Books and Records Adopting Release, 84
FR at 6867374 the section of the amended Part II
of the FOCUS Report setting forth the assets side of the balance sheet and identifying securities borrowed as an allowable asset in Boxes 240 and 250 and securities purchased under agreements to resell as an allowable asset in Box 360.
264 See para. c1iiiB3 of the Order.
265 See Books and Records Adopting Release, 84
FR at 6867374 the section of the amended Part II
of the FOCUS Report setting forth the assets side of the balance sheet and identifying fails to deliver as allowable assets in Boxes 220 and 230, receivables from clearing organizations as allowable assets in Boxes 280 and 290, and receivables from customers as allowable assets in Boxes 310, 320, and 330.
266 See para. c1iiiB4 of the Order.
267 See Books and Records Adopting Release, 84
FR at 6867374 the section of the amended Part II
of the FOCUS Report setting forth the assets side of the balance sheet and identifying securities, commodities, and swaps positions as allowable assets in Box 12019.
268 See Better Markets Letter at 7; AFREF Letter at 2. See also Reopening Release, 86 FR at 18344
45 discussing the different treatment of initial margin posted to a counterparty.

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margin is returned to the Covered Entity; and 3 the liability of the Covered Entity to the lender can be fully satisfied by delivering the collateral serving as initial margin to the lender.269 As discussed above, one critical difference between Exchange Act rule 18a1 and the Basel capital standard is that an SBS Entity cannot count as capital the amount of initial margin posted to a counterparty or third-party custodian unless it enters into a special loan agreement with an affiliate.270 Under the Basel capital standard, a Covered Entity can count initial margin posted away as capital without the need to enter into a special loan arrangement with an affiliate.
Consequently, to count initial margin posted away as a liquid asset for purposes of the second additional capital condition, the Covered Entity must enter into the same type of special agreement that an SBS Entity must execute to count initial margin as an allowable asset for purposes of Exchange Act rule 18a1.271
If an asset does not fall within one of the five categories of liquid assets as defined in the Order,272 it will be considered non-liquid, and could not be treated as a liquid asset for purposes of the second additional capital condition in the Order. For example, one commenter listed the following categories of non-liquid assets on the Balance Sheet Table: 1 Investments;
2 Loans; and 3 Other Assets. 273
Assets that fall into these categories could not be treated as liquid assets.
The non-liquid investment category would include the Covered Entitys ownership interests in subsidiaries or other affiliates. The non-liquid loans category would include unsecured loans and advances. The non-liquid other assets category generally refers to assets that do not fall into any of the other categories of liquid or non-liquid assets.
These non-liquid other assets would include furniture, fixtures, equipment, real estate, property, leasehold improvements, deferred tax assets, prepayments, and intangible assets.
As discussed above, the first prong of the second additional capital condition will require the Covered Entity to subtract total liabilities from total liquid assets and then apply a deduction haircut to the difference.274 The amount remaining after the deduction 269 See
para. c1iiiB5 of the order.
Capital and Margin Adopting Release, 84
FR at 4388788.
271 Id.
272 See para. c1iiiB of the Order.
273 See SIFMA UK Letter, Appendix C.
274 See para. c1iiA1 of the order.
270 See
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