Manufactured payments in respect of Loaned Securities - GMSLA Provision
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GMSLA Anatomy™
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Crosscheck: Manufactured payments in respect of Loaned Securities in a Nutshell™
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Comparisons
Redlines
2010 ⇒ 2018: Redline of the 2010 GMSLA vs. the 2018 Pledge GMSLA: comparison (and in reverse)
Discussion
The 2018 Pledge GMSLA adds the tell-tale:
...or an Income Record Date in respect of any such Securities occurs after the end of the term of the relevant Loan but before Equivalent Securities have been delivered to Lender...
After Loaned Securities the first time it appears, and the mealy-mouthed:
(after any applicable withholding or deduction for or on account of Tax)
just before “in respect of such Loaned Securities” the last time it appears.
Which is nice.
Basics
In other words, the Borrower pays what the Lender would have received net, by reference to the Lender’s own situation.
This means Lender need not worry about different rates of tax or withholding applying to the Borrower. The Borrower, being the person who wanted to borrow the securities, takes the risk of untoward taxes on its own position. But if the tax is one the Lender would have suffered anyway, the Borrower need not account for it.
Makes sense, really.
Witholding rates
Notwithstanding the starting point — the Borrower takes the risk of whatever withholding may be imposed on the taxes — in practice dealers may commit to general levels with WHT country-by-country — say 85% — and generally stick with these even though the specific rates applied for individual dividends may be marginally more or less. This is largely an operational convenience: no one wants to be forensically tracing precise withholdings actually applied on every dividend, as that may vary on all kinds of factors (e.g. whether the dividend was paid out of capital reserves, whether it was a special dividend or a regular one and so on), and to commit to that is not only expensive and resource intensive, but opens the dealer up to all kinds of remediation claims should the amount turn out to be even fractionally wrong.
Here, the customer is always right and the dealer is short an option: commercially, it will never be able to recover from its customers after the fact where it has overpaid —usually for good reasons: “I’ve cut my NAV! I’ve closed my book! I’ve suffered subscriptions and redemptions and I have no way to pass on the loss”.
On the other hand regulators and officious compliance officers will insist the dealer accounts to customers for any downside even though the customers may have as little interest in receiving the extra money as the dealers do doing the work to calculate and pay it. This is for exactly the same reasons: “I’ve cut my NAV! I’ve closed my book! I’ve suffered subscriptions and redemptions and I have no way to pass on the gain”.
So setting a fixed rate, which is a good approximation of the expected dividend, and which you can adjust should withholding rates change or circumstances differ, is basically sound business management. The dealer takes some “overs-and-unders” risk, but it will be minimal in the context of its overall business, and would be drowned out by the cost of employing battalions of officious compliance officers and school-leavers from Bucharest contractors in an offshore centre to do the work of reconciling to the penny in any case.
Now the odd thing here is that none of these accommodations will typically be set out in the legal agreement. Why is that? Because noone in operations reads the legal agreement, so it would be a waste of time.
Isn’t that — doesn’t that —
Yes, it does. Don’t get me started.
Income paid on Loaned Securities
Another example of that loose prepositional phrase “in relation to” being used carelessly in the 2010 GMSLA.
The preposition in question here really ought to be “under” or, if you really must, “pursuant to”.
This is Income paid by the issuer under the terms of the contract comprising the Loaned Securities or Collateral. “In relation to” might be misread to imply something a little looser. For example, moneys paid by someone else “in relation to” the securities — a derivative counterparty or credit default insurance provider, or even a payment made by the issuer that relates to the shares, but is not a distribution under them: for example, a liability under a private suit to a shareholder as a result of misstatement to the market.
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