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Treasury and IRS Release Final Tax Regulations for LIBOR Replacement Amendments

The lengthy saga of the transition to a post-LIBOR world reached a degree of finality on the tax side with the issuance by the Department of Treasury and Internal Revenue Service (IRS) of long-awaited final regulations (the “Final Regulations”) on December 30, 2021. The Final Regulations provide guidance on the tax consequences of amendments to debt instruments and/or certain associated interest rate swaps or other derivative contracts in order to replace LIBOR or other Interbank Offered Rates (“IBORs”) with other reference rates used in determining interest rates on the applicable debt and/or derivative (referred to herein as “Replacement Index Amendments”).

The Final Regulations maintain the fundamental principles of the Proposed Regulations released on October 8, 2019, discussed here, governing avoidance of tax realization events in connection with Replacement Index Amendments, but include several structural changes to the Proposed Regulations. These changes include, most notably, replacing the requirement that the modified debt instrument or derivative contract result in a substantially equivalent fair market value in order to avoid a tax realization event with descriptions of certain specific modifications that could trigger a tax realization event.


The planned phaseout of LIBOR was announced back in 2017. The ICE Benchmark Administration, which administers LIBOR, announced on March 5, 2021 that publication of overnight, one-month, three-month, six-month and 12-month USD LIBOR would cease immediately following publication of such interest rates on June 30, 2023 and that publication of all other currency and tenor variants would cease immediately following publication on December 31, 2021.

The Alternative Reference Rates Committee (ARRC) was convened by the Board of Governors of the Federal Reserve System and the Federal Reserve Bank of New York to identify alternative reference rates that would be more reliable than USD LIBOR and to develop a plan to facilitate the voluntary acceptance of the alternative reference rate or rates that were identified. The Secured Overnight Financing Rate (SOFR) was selected by ARRC as the preferred replacement for USD LIBOR and the Federal Reserve Bank of New York began publishing SOFR daily as of April 3, 2018.

On or before the date on which the applicable LIBOR rates cease to be published, most existing debt and derivative contracts that reference LIBOR in setting a variable interest rate will need to be amended to provide for alternative rate setting mechanisms, as the typical alternative rate-setting provisions in such contracts address temporary unavailability of a published LIBOR rate but not its permanent cessation. These necessary amendments may include the replacement of a LIBOR-based rate that is in effect with a substitute rate or rate setting mechanism, and may also include the addition or replacement of LIBOR-based fallback rates to rates currently in effect under the applicable contract.

Amendments to existing contracts that modify the interest rate or interest rate-setting mechanism may cause a deemed exchange, for tax purposes, of the pre-amendment debt for the post-amendment debt, also known as a reissuance. Such a deemed exchange or reissuance triggers a realization of gain or loss on the pre-amendment debt to the applicable holder, and, in the case of tax-exempt debt, may cause loss of tax-exemption of interest received on the amended debt unless the amended debt can be issued as tax-exempt debt and all necessary conditions to the issuance of such amended debt on a tax-exempt basis are satisfied. Without the Final Regulations, many Replacement Index Amendments would either trigger a reissuance or create uncertainty as to whether a reissuance has occurred, either of which could be costly and disruptive to holders and issuers of such debt and to the variable rate debt market in general.

Final Regulations

The preamble to the Final Regulations provides that they are intended to “help facilitate the economy’s adaptation to the cessation of LIBOR in a least-cost manner.” The Final Regulations simplify many of the rules in the Proposed Regulations through streamlined defined terms and elimination of the proposed fair market value rule. The Final Regulations should provide more clarity as to the types of Replacement Index Amendments that would and would not qualify for special treatment in determining whether a tax realization event has occurred.

Covered Modifications

Under the Final Regulations, a covered modification to a contract will not be treated as a modification resulting in the realization of income, deduction, gain, or loss for purposes of section 1001 of the Internal Revenue Code (the section that governs when a debt has been sufficiently modified to trigger a deemed exchange or reissuance for tax purposes.) This will be true regardless of the form that the covered modification takes, including express agreement (oral or written), conduct of the parties or otherwise.

A “covered modification” is a modification or portion of a modification that (a) replaces an operative rate that references a discontinued IBOR with a “qualified rate,” adds an obligation for one party to make a qualified one-time payment, if the parties so choose, and makes any associated modifications, and/or (b) in the case of an operative rate that references a discontinued IBOR, adds a “qualified rate” as a fallback to such discontinued IBOR, and makes any associated modifications, and/or (c) replaces a fallback rate that references a discontinued IBOR with a “qualified rate,” and makes any associated modifications.

A “discontinued IBOR” is any IBOR during the period beginning on the date the administrator of the IBOR or a regulator announces that the administrator has ceased or will cease to provide the IBOR permanently or indefinitely, and no successor administrator is expected to continue to provide the IBOR, and ending on the date that is one year after the date on which the administrator of the interbank offered rate ceases to provide the IBOR. Accordingly, the overnight, one-month, three-month, six-month and 12-month USD LIBOR tenors should be treated as discontinued IBORs from March 5, 2021 through June 30, 2024. The stated purpose of this time limit is to better tailor the relief to the problem the Final Regulations are intended to address – the facilitation of the transition away from discontinued IBORs without market disruption.

A “qualified rate” includes any qualified floating rate as defined in section 1.1275-5(b) of the Internal Revenue regulations (such as SOFR and certain rates of other jurisdictions associated with their respective currencies), but without regard to the limitations on multiples set forth therein, rates selected by certain regulatory authorities as replacement rates for a discontinued IBOR in their jurisdictions, a rate selected by ARRC (provided that the Federal Reserve Bank of New York is an ex officio member of ARRC at the time of selection), any rate that is determined by reference to a qualified rate (including a rate determined by adding or subtracting a specified number of basis points to or from the rate or by multiplying the rate by a specified number), or any other rate identified as a qualified rate in future guidance published in the Internal Revenue Bulletin. The replacement rate must be in the same currency as the discontinued IBOR or be otherwise reasonably expected to measure contemporaneous variations in the cost of newly borrowed funds in the same currency.

A single qualified rate may be comprised of one or more fallback rates, provided that the rate is a qualified rate only if each individual fallback rate separately satisfies the requirements to be a qualified rate. If it is not possible to determine at the time of the modification being tested as a covered modification whether a fallback rate is a qualified rate (for example, the fallback rate will not be determined until the fallback rate is triggered based on factors that are not guaranteed to result in a qualified rate), the fallback rate is treated as not satisfying the requirements to be a qualified rate unless the likelihood that any value will ever be determined under the contract by reference to such fallback rate is remote.

An “associated modification” is the modification of any technical, administrative or operational term of a contract that is reasonably necessary to adopt or to implement a covered modification. Examples include a change to the definition of interest period and a change to the timing and frequency of determining rates and making payments of interest.

A “qualified one-time payment” is a single cash payment that is intended to compensate the payee for all or part of the basis difference between the discontinued IBOR and the interest rate benchmark to which the qualified rate refers. The Treasury Department and the IRS are still considering how to address questions with respect to the treatment of a one-time payment for purposes of the arbitrage investment restrictions and private use restrictions applicable to tax-advantaged bonds. Until additional guidance is published, the Final Regulations allow for reliance on the Proposed Regulations, which provided that the character and source of a one-time payment made by a given payor is the same as the source and character of a payment under the contract by that payor. Presumably, this means that a one-time payment received by a holder of tax-exempt bonds will generally be treated as additional tax-exempt interest and, arguably, a one-time payment received by an issuer of bonds would be treated as reducing the interest paid, or to be paid, by the issuer, rather than as additional proceeds.

As stated in the definition, the qualified one-time payment can compensate for “all or part” of the basis difference between the discontinued index and the replacement index. The definition of “qualified rate” includes a rate determined by adding or subtracting a specified number of basis points to or from the rate or by multiplying the rate by a specified number. Accordingly, the regulations give the parties to a debt or derivative instrument with a LIBOR-based rate mechanism (which may include basis point add-ons to the specified LIBOR rate and/or a percentage multiplier to the specified LIBOR rate) the option, in connection with a change to a permitted new reference rate, to adjust the prior basis point add-on and/or percentage multiplier, to make a qualified one-time payment, and/or to use a combination of such techniques for the purpose of achieving rough equivalence in the financing cost under the replaced and replacement rate mechanisms.

Noncovered Modifications

A “noncovered modification” is any modification or portion of a modification of a contract that is not a covered modification.

Noncovered modifications include modifications or portions of modifications that change the amount or timing of contractual cash flows and (a) the change is intended to induce one or more parties to perform any act necessary to consent to a covered modification, and/or (b) the change is intended to compensate one or more parties for a noncovered modification, and/or (c) the change is either a concession granted to a party to the contract because that party is experiencing financial difficulty or a concession secured by a party to the contract to account for the credit deterioration of another party to the contract, and/or (d) the change is intended to compensate one or more parties for a change in rights or obligations that are not derived from the contract being modified, and/or (e) the change is identified in future guidance published in the Internal Revenue Bulletin as having a principal purpose of achieving an unreasonable result. Noncovered modifications do not benefit from the special treatment afforded to covered modifications and would need to be tested under the rules of section 1001 to determine whether the noncovered modification results in a deemed exchange or reissuance.

If a covered modification and a noncovered modification are made at the same time, the noncovered modification is tested under the rules of section 1001 and the contemporaneous covered modification is treated as if it were part of the terms of the contract prior to the noncovered modification.

Effect on Integrated Hedges of Tax-Advantaged Bonds

A covered modification of an integrated hedge or of the tax-advantaged hedged bonds will not affect the tax treatment of either the underlying bonds or the hedge, provided that not later than 90 days after the date of the first covered modification of either the hedge or the bonds, the modified hedge qualifies for integration under the applicable regulations, including new timely identification of the hedge to the bonds. Solely for purposes of determining whether the modified hedge qualifies for integration with the hedged bonds, a qualified one-time payment with respect to the hedge or the hedged bonds or both is allocated in a manner consistent with the allocation of a termination payment on a variable yield issue and is treated as a series of periodic payments in order to meet the integration requirements of no significant investment element and payments that closely correspond to payments on the hedged bonds. This paragraph does not apply to so called “super-integrated” hedges, under which the bonds are treated as fixed yield bonds. Accordingly, any modifications of super integrated hedges will not benefit from the Final Regulations.


The Final Regulations are effective on March 7, 2022. They may be applied to alterations of contracts that occur before that date, provided that the taxpayer and all related parties apply the Final Regulations consistently to all modifications of the terms of their contracts that occur prior to March 7, 2022.


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Christie L. Martin leads the Public Finance Tax Practice at Mintz and often acts as bond counsel, underwriter’s counsel and purchaser’s counsel in connection with the issuance of tax-advantaged bonds. Christie’s clients include issuers, conduit borrowers and purchasers in the health care, government, education, financial services and nonprofit sectors.
Matthew O. Page focuses his practice exclusively on governmental and nonprofit debt finance. Matt serves as counsel to issuers, underwriters and conduit borrowers to finance affordable housing, healthcare, higher education, transportation and other public infrastructure projects.
Leonard Weiser-Varon serves as bond counsel, purchasers’ counsel, bondholders’ counsel and trustee’s counsel on municipal bond issues, workouts and restructurings. Len also represents state sponsors and private program managers of Section 529 and 529A savings programs.