Key Milestones & Considerations to Ready Your Business
Strategy & Communication
Modeling & Interest Calculation
Like any project, an effective transition from LIBOR will be best implemented with a detailed plan that incorporates finance, technology and governance functions. This starts with assigning a steering committee to lead, delegate responsibilities and maintain consistent communication both internally and externally. There should be a clear roadmap that defines roles and accountability, but it should also be flexible given uncertainties and challenges that are likely to arise.
Strategy & Communication
Taking inventory to develop a comprehensive list of contracts, particularly related to technology and intercompany relationships, is another important step given the upcoming LIBOR transition. Amendments to contracts will likely have to be negotiated, and a lack of homogeneity between contracts may create additional challenges. Other considerations include: counterparty concentration risk associated with securitized products likely requires additional negotiation; legacy securities may lose certain features due to a change in interest rate basis; dealers may hold larger derivatives books than usual; and books will include both LIBOR and Risk Free Rate (RFR)-indexed instruments used for hedging.
While the Secured Overnight Financing Rate (SOFR) has been recommended by the Alternative Reference Rates Committee (ARRC) as the preferred ARR for USD denominated instruments, several technical challenges related to the valuation of complex financial instruments remain. These challenges are expected to result in operational headaches for companies during the transitional stage. It is important for businesses to take steps now to identify the technical challenges and key modeling and valuation considerations related to specific financial instrument types.
Valuation, Modeling & Interest Calculation
LIBOR reform poses a unique set of challenges to tax organizations across the globe as they work with their colleagues in Finance, Accounting, Legal, and Treasury to identify the areas of the impact and appropriate remediation. Although the effect of this disruption will vary by industry and company, all tax professionals should be aware of potential issues related to significant modification rules (Treasury Regulations Section 1.1001) and arm’s length pricing for related party loans (Section 1.482). Tax professionals who take the right preventative steps now can mitigate potential obstacles down the road.
Tax, Financial Reporting & Transfer Pricing
The transition from LIBOR brings along with it a degree of risk potential which can include elements of contractual, liquidity and/or basis risk. It is therefore important for organizations that utilize or have a connection to LIBOR to conduct a LIBOR impact assessment and identify potential risk areas, taking into consideration overall exposure, compliance components and ongoing regulatory developments. This includes taking an inventory of LIBOR products and identifying the affected instruments. Given the possible extent of risk exposure, it is important to have a mitigation plan in place that considers clients, contracts and balance sheet items, scenario analyses and systems/technology.
AN EFFECTIVE LIBOR TRANSITION PLAN