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Federal Register / Vol. 86, No. 145 / Monday, August 2, 2021 / Notices
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liquiditydoes not produce this regulatory outcome.244 Therefore, an additional condition is needed to bridge the gap between these two capital standards and thereby achieve more comparable regulatory outcomes in terms of promoting liquid balance sheets for SBS Entities and Covered Entities.
However, in seeking to bridge this regulatory gap, the additional condition should take into account that Covered Entities are or will be subject to French and EU laws and measures designed to promote liquidity. As a commenter stated, Covered Entities are or will be subject to: 1 Requirements to hold an amount of HQLA to meet expected payment obligations under stressed conditions for thirty days the LCR
requirement; 245 2 requirements to hold a diversity of stable funding instruments sufficient to meet long-term obligations under both normal and stressed conditions the NSFR
requirements; 246 3 requirements to perform liquidity stress tests and manage liquidity risk the internal liquidity assessment requirements; 247
and 4 regular reviews of a Covered Entitys liquidity risk management processes by the French Authorities the French Authority liquidity review process.248 These French and EU laws and measures will require Covered Entities to hold significant levels of liquid assets. However, the laws and measures on their own, do not impose a net liquid assets test. Therefore, an additional condition is necessary to supplement these requirements.
The Commission has taken into account the French and EU liquidity laws and measures discussed above in making a substituted compliance determination with respect to Exchange Act rule 18a1, and in tailoring additional capital conditions designed to achieve comparable regulatory outcomes. The LCR, NSFR, and internal liquidity assessment requirements collectively will require Covered 244 The Basel capital standard does not preclude a firm from having more than a dollar of highly liquid assets for each dollar of unsubordinated liabilities. Thus, a firm operating pursuant to the standard may structure its assets and liabilities in a manner that achieves this result. However, the standard does not mandate this result. Rather, it will accommodate a firm that seeks to maintain this level of liquidity on its own accord.
245 See CRR, Article 4121, Regulation EU 2015/
61.
246 See CRR, Article 413 and Articles 428a to 428az introduced by Regulation EU 2019/876
CRR II, Article 1116.
247 See CRD, Article 86, MFC Articles L. 51141
1 B for credit institutions and L. 53322 for investment firms; and Articles 148 to 186 of the Decree of 3 November 2014 on internal control.
248 See SIFMA Letter II at 912.

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Entities to maintain pools of unencumbered HQLA to cover potential cash outflows during a 30-day stress period, to fund long-term obligations with stable funding instruments, and to manage liquidity risk. These requirementscoupled with the French Authorities supervisory reviews of the liquidity risk management practices of Covered Entitieswill require Covered Entities to hold significant levels of liquid assets. These requirements and measures in combination with the other capital requirements applicable to Covered Entities provide a starting foundation for making a positive substituted compliance determination with respect to the capital requirements of Exchange Act section 15Fe and Exchange Act rule 18a1.249 However, more is needed to achieve a comparable regulatory outcome to the net liquid assets test of Exchange Act rule 18a1.
For these reasons, the Order includes an additional capital condition that will impose a simplified net liquid assets test.250 This simplified test will require the Covered Entity to hold more than one dollar of liquid assets for each dollar of liabilities. The simplified net liquid assets testwhen coupled with the French and EU capital requirements,251 LCR requirements, NSFR requirements, internal liquidity assessment requirements, and French Authority liquidity review processis designed to produce a regulatory outcome that is comparable to the net liquid assets test of Exchange Act rule 18a1 i.e., sufficient liquidity to cover liabilities and to promote the maintenance of highly liquid balance sheets.
In response to comments, the Commission has modified the first three prongs of the additional capital condition, as discussed below.252 In particular, the first and third prongs are 249 See Better Markets Letter at 8 recommending that the Commission consider denying substituted compliance with respect to these Exchange Act capital requirements.
250 See AFREF Letter at 1 The Commission should require that SBS entities who want to operate in the U.S. comply with the Net Liquid Assets test under the Exchange Act rule 18a1
rather than the Basel capital standards.
251 See, e.g., CRR, Part 1 Own Funds, including Tier 1 capital and Part 2 Capital Requirements.
252 See AFREF Letter at 1 The Commission should require that SBS entities who want to operate in the U.S. comply with the Net Liquid Assets test under the Exchange Act rule 18a1
rather than the Basel capital standards; SIFMA
Letter at 17 raising concerns that the use of the concept of allowable assets under Exchange Act rule 18a1 in the first condition would require Covered Entities to re-categorize every asset on their balance sheets, which also pertains to the second condition, and seeking clarification on to how to calculate equity capital and allocate it to highly liquid assets equal to or greater than $100 million.

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being combined into a single prong of the second additional capital condition.253 Under this prong, the Covered Entity must maintain liquid assets as defined in the capital condition that have an aggregate market value that exceeds the amount of the Covered Entitys total liabilities by at least: 1 $100 Million before applying a deduction specified in the capital condition; and 2 $20 million after applying the deduction.254 Thus, the condition increases the scope of the liquid assets requirement so that it must cover all liabilities rather than those maturing in 365 days as was contemplated by the Commissions questions in the Reopening Release.
These modifications align the first prong more closely to the $100 million tentative net capital requirement of Exchange Act rule 18a1 applicable to SBS Entities approved to use models. As discussed above, Exchange Act rule 18a1 requires SBS Entities that have been approved to use models to maintain at least $100 million in tentative net capital. And, tentative net capital is the amount that an SBS
Entitys liquid assets exceed its total unsubordinated liabilities before applying haircuts. The first prong will require the Covered Entity to subtract total liabilities from total liquid assets.
The amount remaining will need to equal or exceed $100 million. The modifications also align the condition more closely to the $20 million fixeddollar minimum net capital requirement of Exchange Act rule 18a1. As discussed above, net capital is calculated by applying haircuts deductions to tentative net capital and the fixed-dollar minimum requires that net capital must equal or exceed $20
million. The first prong will require the Covered Entity to subtract total liabilities from total liquid assets and then apply the deduction to the difference. The amount remaining after the deduction will need to equal or exceed $20 million.
For the purposes of the first prong of the second additional capital condition, 253 The first prong of the proposed capital condition would have required a Covered Entity to maintain an amount of assets that are allowable under Exchange Act rule 18a1, after applying applicable haircuts under the Basel capital standard, that equals or exceeds the Covered Entitys current liabilities coming due in the next 365 days. The second prong would have required the Covered Entity to make a quarterly record related to the first prong. The third prong would have required the Covered Entity to maintain at least $100 million of equity capital composed of highly liquid assets as defined in the Basel capital standard. See Reopening Release, 86 FR at 18345.
254 See para. c1iiiA1 of the Order. The definition of liquid assets and the method of calculating the deductions are discussed below.

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