Liability (for withholding) - ISDA Provision

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2002 ISDA Master Agreement
A Jolly Contrarian owner’s manual

Section 2(d)(ii) in a Nutshell
Use at your own risk, campers!

2(d)(ii) Liability. If the payer :—
(1) is required by law to withhold a non-Indemnifiable Tax;
(2) nonetheless does not do so; and
(3) suffers by direct assessment a liability for that Tax,
then, unless the recipient has satisfied the Tax liability directly, it must reimburse the payer for that liability (plus interest, but not penalties unless it failed to provide tax information required under Section 4(a), or breached any Payee Tax Representations.

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Section 2(d)(ii) in full

2(d)(ii) Liability. If:―
(1) X is required by any applicable law, as modified by the practice of any relevant governmental revenue authority, to make any deduction or withholding in respect of which X would not be required to pay an additional amount to Y under Section 2(d)(i)(4);
(2) X does not so deduct or withhold; and
(3) a liability resulting from such Tax is assessed directly against X,
then, except to the extent Y has satisfied or then satisfies the liability resulting from such Tax, Y will promptly pay to X the amount of such liability (including any related liability for interest, but including any related liability for penalties only if Y has failed to comply with or perform any agreement contained in Section 4(a)(i), 4(a)(iii) or 4(d)).

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Related agreements and comparisons

Related Agreements
Click here for the text of Section 2(d)(ii) in the 1992 ISDA
Comparisons
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Resources and navigation

Resources Wikitext | Nutshell wikitext | 1992 ISDA wikitext | 2002 vs 1992 Showdown | 2006 ISDA Definitions | 2008 ISDA | JC’s ISDA code project
Navigation Preamble | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 | 10 | 11 | 12 | 13 | 14
Events of Default: 5(a)(i) Failure to Pay or Deliver5(a)(ii) Breach of Agreement5(a)(iii) Credit Support Default5(a)(iv) Misrepresentation5(a)(v) Default Under Specified Transaction5(a)(vi) Cross Default5(a)(vii) Bankruptcy5(a)(viii) Merger without Assumption
Termination Events: 5(b)(i) Illegality5(b)(ii) Force Majeure Event5(b)(iii) Tax Event5(b)(iv) Tax Event Upon Merger5(b)(v) Credit Event Upon Merger5(b)(vi) Additional Termination Event

Index — Click ᐅ to expand:

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Content and comparisons

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Summary

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General discussion

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See also

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References

It is hard to peer into the fevered mind of an ISDA ninja who came up with this provision to work out just what it is meant to do, and why.

The best guess we’ve seen comes from our old friend, the tiresome FT book about derivatives, whose learned author contends that it addresses the time where a Payer makes a payment gross, relying in good faith on a Payee Tax Representation that that turned out to be false, only to then find that the Taxing authority in question requires the Payer to make that payment net, and account to it for the Tax, after all. In this case the Payer can require the Payee to indemnify it for the payment, interest and penalties.

This seems a stretch (though probably one they cribbed from 2002 ISDA User Guide[1]) — the usually fulsome[2] prose of the ISDA Master Agreement neglects in this case to say anything about Payee Tax Representations, right or wrong, much less the Payer’s legitimate reliance on them or Change in Tax Law — all of that is in the previous section (2(d)(i)) about the liability to withhold and gross-up in the first place.

It seems to say if the Payer, whether through blameless inadvertence, stupidity or the falsity of a Payee Tax Representation, neglects to account for a Tax it was obliged to account for, the poor old Payee has to cover.

But on the other hand, it is hard to think of a better explanation than the one nicked from the 2002 ISDA User Guide. So, go Paul C. Harding!!!

Importing into other master agreements

You may well be asked to wire this concept into other master agreements, like the 2010 GMSLA. Good luck explaining that!

See also

References

  1. the 2002 ISDA User Guide says “... no gross-up is required if the payee has made a Payee Tax Representation that was false when made or later becomes false (unless it becomes false as a result of a Change in Tax Law or similar legal development”
  2. Did I say fulsome? Tiresome.