Are You A Commodity Pool Operator? And, Is It Curable .

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NY2 715926Presented by:Jay G. BarisThomas M. DevaneyJerry R. MarlattJames E. Schwartz 2013 Morrison & Foerster LLP All Rights Reserved mofo.comAre You a Commodity PoolOperator? And, is it Curable?

Caveat This outline is for informational purposes only and does not constitutelegal advice or create an attorney-client relationship Consult your own attorney for legal advice on the issues discussed inthis outline IRS Circular 230 Disclosure To ensure compliance with the requirements imposed by the IRS, we inform youthat any tax advice contained in this communication was not intended or written tobe used, and cannot be used, for the purpose of (i) avoiding tax-related penaltiesunder the Internal Revenue Code or (ii) promoting, marketing, or recommendingto another party any matters addressed herein This outline may constitute attorney advertisingThis is MoFo. 2 2

Topics for Presentation Definitional changes Commodity Pool, Commodity Pool Operator, Commodity Trading Advisor Exclusions from definition of “Commodity Pool” – No-Action Relief Securitizations; Equity REITs Exemptions from CPO RegistrationExemptions from CTA RegistrationRule 4.5 ExclusionHarmonizationThis is MoFo. 3

Definitional Changes Dodd-Frank’s inclusion of swaps as commodity interests means thatpooled investment vehicles trading in swaps (and their operators oradvisors) must consider whether they may be subject to regulationas a Commodity Pool, a Commodity Pool Operator or a CommodityTrading AdvisorThis is MoFo. 4

Commodity Pool Definition As amended by Dodd-Frank, the Commodity Exchange Act (“CEA”)now defines the term “commodity pool” to include any investmenttrust, syndicate, or similar form of enterprise operated for the purposeof trading in commodity interests, including any— (i) commodity for future delivery, security futures product, or swap; (ii) agreement, contract, or transaction described in section 2(c)(2)(C)(i) of theCEA or section 2(c)(2)(D)(i) of the CEA; (iii) commodity option authorized under section 6c of the CEA; or (iv) leverage transaction authorized under section 23 of the CEA In addition, the CFTC, by rule or regulation, may include within, orexclude from, the term “commodity pool” any investment trust,syndicate, or similar form of enterprise if the CFTC determines thatthe rule or regulation will effectuate the purposes of the CEAThis is MoFo. 5 5

Commodity Pool Operator Definition As amended by Dodd-Frank, the CEA now defines the term“commodity pool operator” to include any person: (i) engaged in a business that is of the nature of a commodity pool, investmenttrust, syndicate, or similar form of enterprise, and who, in connection therewith,solicits, accepts, or receives from others, funds, securities, or property, eitherdirectly or through capital contributions, the sale of stock or other forms ofsecurities, or otherwise, for the purpose of trading in commodity interests,including any— (I) commodity for future delivery, security futures product, or swap; (II) agreement, contract, or transaction described in section 2(c)(2)(C)(i) of theCEA or section 2(c)(2)(D)(i) of the CEA; (III) commodity option authorized under section 6c of the CEA; or (IV) leverage transaction authorized under section 23 of the CEA; or (ii) who is registered with the CFTC as a commodity pool operator In addition, the CFTC has the authority to include within, or exclude from, the CPO definitionany person if such inclusion or exclusion will effectuate the purposes of the CEAThis is MoFo. 6 6

Commodity Trading Advisor Definition As amended by Dodd-Frank, the CEA now defines the term“commodity trading advisor” to include any person who: (i) for compensation or profit, engages in the business of advising others, either directlyor through publications, writings, or electronic media, as to the value of or theadvisability of trading in— (I) any contract of sale of a commodity for future delivery, security futures product,or swap; (II) any agreement, contract, or transaction described in section 2(c)(2)(C)(i) of theCEA or section 2(c)(2)(D)(i) of the CEA; (III) any commodity option authorized under section 6c of the CEA; or (IV) any leverage transaction authorized under section 23 of the CEA; (ii) for compensation or profit, and as part of a regular business, issues or promulgatesanalyses or reports concerning any of the activities referred to in clause (i) (iii) is registered with the CFTC as a commodity trading advisor; or (iv) the CFTC, by rule or regulation, may include if the CFTC determines that the rule orregulation will effectuate the purposes of the CEAThis is MoFo. 7 7

Commodity Trading Advisor (cont.) The CTA definition specifically excludes the following if thecommodity advice is “solely incidental to the conduct of their businessor profession”: (i) any bank or trust company or any person acting as an employee thereof; (ii) any news reporter, news columnist, or news editor of the print or electronicmedia, or any lawyer, accountant, or teacher; (iii) any floor broker or futures commission merchant; (iv) the publisher or producer of any print or electronic data of general and regulardissemination, including its employees; (v) the fiduciary of any defined benefit plan that is subject to the EmployeeRetirement Income Security Act of 1974 (29 U.S.C. 1001 et seq.); (vi) any contract market or derivatives transaction execution facility; and (vii) such other persons not within the intent of this paragraph as the CFTC mayspecify by rule, regulation, or orderThis is MoFo. 8 8

Why should you avoid CPO status? A CPO: Is de facto a “financial entity” and not able to avail itself of the end-user exemption Must register itself, and register its principals and associated persons, asmembers of the NFA Requires filing of a Form 7-R for the entity, and an 8-R for each AP/principal A principal will be understood to include a director, officer, or anyone withdecision-making authority A holder of 10% or more of the equity of the entity also is considered a principal An AP must take a Series 3 exam, required ethics training, and subject itselfto fingerprinting and other registration obligations Is subject to ongoing compliance obligationsThis is MoFo. 9 9

Compliance obligations of CPO/CTAs A CPO will be subject to oversight and examinations by the NFA A CPO must be prepared to comply with various initial and ongoingreporting, recordkeeping and other requirements, including: The requirement to appoint a CCO The obligation to file with, and have approved by, the NFA a disclosure document,and comply with regulations relating to information disclosures A requirement to maintain compliance policies and procedures toprovide for appropriate custody of client assets; secure privacy ofclient information; comply with anti-money laundering requirements;prevent manipulative or disruptive trading practices, ensure businesscontinuity, maintain accurate records, etc. File certain annual and other reports, such as Forms CPO-PQR andCTA-PRThis is MoFo. 1010

Exclusions from Definition of“Commodity Pool” – No-Action Relief The CFTC has issued no-action relief to the effect that certainvehicles that trade in swaps need not be considered as a “commoditypool” In no-action letters relating to securitization vehicles (each, an “SV”)and equity real estate investment trusts (each, an “equity REIT”), theCFTC has applied a fact-intensive analysis to determine whether ornot an SV or equity REIT constitutes a commodity pool A primary inquiry is the extent to which such a vehicle’s entering intoswaps actually drives (or could actually drive) the investment returnsof investors in the vehicles, as opposed to being used for certainlimited permitted uses (e.g. credit enhancement and altering rates orcurrency flows from underlying assets)This is MoFo. 1111

Securitizations – No-Action Relief CFTC No-Action Letter 12-14 (October 11, 2012) provides that asecuritization vehicle will not constitute a commodity pool if itconforms to the following criteria: the issuer of the asset-backed securities is operated consistent with the conditions set forthin Regulation AB, or Rule 3a-7, whether or not the issuer’s security offerings are in factregulated pursuant to either regulation; the entity’s activities are limited to passively owning or holding a pool of receivables or otherfinancial assets (either fixed or revolving) that by their terms convert to cash within a finitetime period plus any rights or other assets designed to assure the servicing or timelydistributions of proceeds to security holders; the entity’s use of derivatives is limited to the uses of derivatives permitted under the termsof Regulation AB, which include credit enhancement and the use of derivatives such asinterest rate and currency swap agreements to alter the payment characteristics of the cashflows from the issuing entity; the issuer makes payments to securities holders only from cash flow generated by its poolassets and other permitted rights and assets, and not from or otherwise based uponchanges in the value of the entity’s assets; and the issuer is not permitted to acquire additional assets or dispose of assets for the primarypurpose of realizing gain or minimizing loss due to changes in market value of the vehicle’sassets.This is MoFo. 12

Securitizations – More No-Action Relief CFTC No-Action Letter 12-45 (December 7, 2012) provides furtherdetail with regard to securitization vehicles that may or may notconstitute commodity pools: “certain securitization vehicles that do not satisfy the operating or trading limitations contained in Regulation ABor Rule 3a-7 may be properly excluded from the definition of commodity pool, provided that the criterion withrespect to the ownership of financial assets continues to be satisfied and the use of swaps is no greater than thatcontemplated by Regulation AB and Rule 3a-7, and such swaps are not used in any way to create an investmentexposure”Examples: A “standard asset-backed commercial paper conduit” Even if not falling within the letter of the 12-14 letter, “an investment in this securitization is not unlikean investment in a traditional securitization that satisfies Regulation AB or Rule 3a-7 in that theinvestment is essentially in the financial assets in the vehicle and not in the swaps” A CDO using swaps to convert fixed rate assets into floating rate assets and FX swaps to convert a foreigncurrency into dollars Similarly, such an investment “is not unlike an investment in a traditional securitization that satisfiesRegulation AB or Rule 3a-7 in that the investment is essentially in the financial assets in the vehicleand not in the swaps” A covered bond transaction The collateral pool (and any special purpose vehicle) “would not be a commodity pool if it contains nocommodity interests other than any swaps which are used only for purposes permitted by RegulationAB, and covered bond holders are only entitled to receive payments of accrued interest and repaymentof principal of their covered bonds, without any condition to payment based upon any derivativeexposure”This is MoFo. 13

Securitizations (further cont.) However, if investors in an SV have exposure to swaps which are used to createinvestment exposure (e.g., the payment to investors is affected by swaps in a way otherthan to enhance credit (within reason) or to swap interest rates or currencies, each aspermitted by Regulation AB), then the securitization vehicle may be a commodity pool Examples: CDO holding a 5% bucket for synthetic assets consisting of swaps rather thanhaving 100% of its holdings in financial assets Repackaging vehicle that issues credit-linked or equity-linked notes where therepackaging vehicle owns high quality financial assets, but sells credit protectionon a broad based index or obtains exposure to a broad based stock indexthrough a swap (SV may be a commodity pool because investors in the SV areobtaining a significant component of their investment upside or downside fromthe related swaps) Repackaging vehicle that acquires a three-year bond, issues a tranche of notes,and uses swaps to extend investment experience of the bond (and notes) to fouryears “Commercially unreasonable” use of swaps as credit support in a securitization(e.g., to raise “CCC” rated underlying assets to “AA” rating level, thereby makingthe swap “a significant aspect of the investment”)This is MoFo. 14

Legacy Securitizations CFTC No-Action Letter 12-45 also contains no-action relief for certainlegacy securitization issuers of fixed-income securities The relief applies if: the issuer issued fixed income securities before October 12, 2012 that are backedby and structured to be paid from payments on or proceeds received in respect of,and whose creditworthiness primarily depends upon, cash or synthetic assetsowned by the issuer; the issuer has not issued and will not issue new securities on or after October 12,2012; and issuer agrees, upon request, to provide disclosure documents and other informationThis is MoFo. 15

Equity REITs – No-Action Relief CFTC No-Action Letter 12-13 (October 11, 2012) provides no-action relief forequity REITS, whose primary source of income is not derived from mortgageinterest or fees (typically they derive income from acquiring and developing theirown properties) An equity REIT does not constitute a commodity pool if the REIT: primarily derives its income from the ownership and management of realestate and uses derivatives for the limited purpose of mitigating exposure tointerest rate or currency fluctuation risk; is operated so as to comply with all of the requirements of a REIT electionunder the Internal Revenue Code, including the requirements that at least 75 percent of the equity REIT’s annual gross income must bederived from qualifying real estate related sources