The end of the Libor rate and the impacts on financial operations

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Libor is the acronym for London Interbank Offered Rate, which was hitherto the interbank rate of the London (England) market, an interest rate that has always been used for large loans between international banks that operate in the London market, reflecting an international market reference rate commonly accepted, used and known worldwide.

For international credit transactions, the Libor rate added to a spread was always the parameter for the compensation of creditors.

However, in 2017, the Financial Conduct Authority (“FCA”), regulatory body of the United Kingdom, announced the end of the overnight Libor rate for several currencies in December 2021, and the end of the Libor on the dollar on June 30, 2023.

For understanding purposes only, the term overnight refers to the average of loans mutually granted with a duration of 1 day in a specific currency. The overnight American dollar Libor, for instance, represents such loans granted in American dollars.

It so happens that the Brazilian legislation currently provides for the use of the Libor rate for certain transactions, particularly for international loans between companies or individuals deemed bound to one another, an operation that must observe the Brazilian rules on transfer price (Law no. 9.430/96 and Normative Instruction – “IN” – no. 1.312/12)

Considering that the Brazilian standards on transfer price for interests expressly provide for the use of the Libor rate in certain transactions, there is a need to change the legislation that address this matter, so there is no discrepancy in the calculation of transfer prices by taxpayers.

The Financial Conduct Authority (FCA) announced the end of the Libor rate in 2021

Financial experts conducted studies and indicated potential rates as alternatives to the Libor the rate published by the Federal Reserve of New York, that is, the Secured Overnight Financing Rate (“SOFR”), and the Bloomberg Short-Term Bank Yield Index (“BSBY”). 

Depending on the duration of the credit operation to be carried out, an alternative is to use the dollar Libor, whose extinction will only take place in 2023, considering that Law no. 9.430/96, in article 22, paragraph 8, states that in operations in currencies for which a specific Libor is not disclosed, the value of the Libor for deposit in American dollars must be used.

Under this prospect, there is a need to change financial and legal instruments so they reflect a new rate, be it the SOFR, BSBY or another applicable, as well as the payment method and the calculation of compensatory interests, and also guarantees, when the reference to interest rate in the contract is required by law (for instance, the secured fiduciary sale of real properties, mentioned in item III, article 24, of Law no. 9.514/97).

Certain instruments, such as derivatives, for instance, may require approval by the other party and/or other holders of securities for amendment. The same may be applied to loans using floating rate and swaps.

It is important to observe and compare the differences between the new alternative rates provided by the market (SOFR, BSBY and other) with regard to the spread resulting from each of them, as well as general costs, since that will have a direct impact in the final result of the financial operation.

The is still no formal statement from the Brazilian Federal Revenue Service regarding the end of the Libor rate and its replacement by another.

Written by Camila Cabral, Tax Consultant at Drummond Advisors