Background
In October 2021, the European Commission issued proposed revisions to the Capital Requirements Directive (CRD) (to be amended by a further Directive, CRD VI) and to the Capital Requirements Regulation (CRR) (to be amended by a further Regulation, CRR3), known as the ‘2021 Banking Package’. The final legislation was published on 19 June 2024.
From 11 January 2027, CRD VI introduces a requirement for EU Member States to prohibit the provision of cross-border banking services (including lending) into the EU by a third country "institution" (in broad terms, a bank or a large broker-dealer) other than from a locally licensed branch. The prohibition appears as a new Article 21c of CRD.
Current positions
Existing EU law is silent on the regulation of cross-border banking services. Whether (and with what restrictions) third country institutions can provide services to clients in the EU is therefore dependent on the national law of the local client’s Member State. For example, third country institutions can currently lend to clients in certain Member States (e.g. the Netherlands) with no restrictions as compared with local institutions, and without the need to be licensed. Conversely, it is not possible to lend into certain Member States (e.g. France) from a third country institution. A number of Member States which do impose licensing requirements also provide for cross-border licenses for third country banks to permit them to provide cross-border services – examples include Germany and Spain.
The branch requirement
CRD VI will harmonise this position by requiring all Member States to impose a licensing requirement on certain cross-border services. This will require a branch license where:
(a) a third country institution
(b) provides core banking services
(c) in a Member State
(d) unless an exemption is available.
To whom does this apply? Third country institution
The requirement will apply to "an undertaking established in a third country" that:
(a) would qualify as a credit institution; or
(b) "would fulfill the criteria laid down in points (i) to (iii) of Article 4(1), point (b) of CRR, if it were established in the Union".
In practice the former would capture banks; the latter, investment firms (broker-dealers) which (i) deal on own account or underwrite financial instruments, and (ii) are large or part of a large group (having total consolidated assets or carrying out investment services in respect of amounts exceeding EUR 30 billion). The definition explicitly excludes insurance undertakings, commodity dealers and funds.
What services are captured? Core banking services
The requirement will apply to ‘core banking services’. This is defined to include:
(a) accepting deposits and other repayable funds;
(b) lending, including inter alia: consumer credit, credit agreements relating to immovable property, factoring with or without recourse, financing of commercial transactions (including forfeiting); and
(c) provision of guarantees and commitments.
"In" a Member State
The legislation does not define what amounts to the provision of a service "in" a Member State. The background materials make it clear that the European Commission anticipate that all activities with EU clients should be caught, other than consumption abroad (e.g. where an EU citizen is physically outside the EU at the point of receipt of services). We will have to wait and see how Member States interpret this and how those interpretations impact the scope of the restrictions in each Member State: some Member States may seek to adopt a narrower interpretation of what amounts to activity "in" their jurisdiction than others.
What are the exemptions?
The text confirms that there will be exemptions for:
(a) interbank services (i.e. services provided to another credit institution);
(b) intragroup services; and
(c) reverse solicitation.
Services provided which are ancillary to ‘core’ MiFID services and activities (i.e. deposit-taking, and granting credit or loans related to investment activities, as listed in Section A Annex I to MiFID) are also excluded from scope. The scope of this carve-out is not yet clear: it seems it will capture margin loans, and deposits taken as part of broker-dealer activities, but it is not clear how remote banking activities can be from core MiFID activities.
The EU authorities will conduct a review before implementation on whether the ‘interbank’ exemption should be extended to cover services provided to other financial sector clients. It is not clear what the scope of "financial sector entity" will be, though there is an existing definition for the term in CRR.
Timeline
CRD VI was published on 19 June 2024. EU Member States now have until 10 January 2026 to transpose CRD VI into national laws. The prohibition on the provision of cross-border banking services will apply from 11 January 2027.
CRD VI contains a ‘grandfathering’ provision, meaning that contracts entered into before a cut-off date that would otherwise contravene the prohibition will remain valid. The grandfathering cut-off date is 11 July 2026 i.e. 6 months before the prohibition goes live.
Impact on cross-border lending
Primary Lending
Once the cross-border services restriction goes live, lending business into the EU will be restricted for in-scope undertakings i.e. banks and large investment firms. This would apply from the point at which an in-scope undertaking ‘lends’ or commits to lend into an EU Member State, whether as solo lender of record or as part of a syndicate.
‘Lending’ under CRD VI will include consumer credit, credit agreements relating to immovable property, factoring, with or without recourse, and financing of commercial transactions (including forfeiting).
EU law does not prescribe a trigger for when ‘lending’ occurs. For the most part, this will be a question for domestic law and Member States’ implementation of CRD VI; however, in a typical loan lifecycle we would expect the first activity to fall within scope of Article 21c to be the provision of a commitment letter, legally obliging the in-scope undertaking to provide funds. This would be prohibited by virtue of being a commitment, which is a core banking service under Article 21c. We would then expect that entry into the facility documentation and each drawdown thereafter would also constitute lending, which is also a core banking service.
Due to the interbank exemption, the provision of guarantees, commitments and extension of credit to EU credit institutions will be not fall within scope of the restriction. Interbank lending and correspondent banking arrangements should therefore be largely unaffected.
Secondary Lending
CRD VI will likely also affect secondary loan markets: we expect the purchase of RCFs or term loans with un-utilised drawdowns available will most likely fall foul of the Article 21c commitment/lending restrictions (even if these in fact remain undrawn), although this position may vary from Member State to Member State.
While there is no relevant guidance to date, it is likely that the purchase of term loans by in-scope undertakings where there is no possibility of further extension of credit would fall outside the scope of Article 21c, although again this position may vary from Member State to Member State.
Participation: LMA vs LSTA
The status of participation and sub-participation is currently unclear.
LMA sub-participation: between grantor and sub-participant, it is likely that an LMA sub-participation will be characterized as a species of guarantee (where unfunded) or loan (where funded) to the grantor, and therefore both in-scope grantors and sub-participants would fall within scope of Article 21c. However, sub-participations granted by in-scope undertakings to one of their EU affiliates or banks will benefit from the intragroup or interbank exemptions.
Between the sub-participant and the borrower, given the LMA sub-participation agreement does not transfer lending obligations under the terms of the underlying loan to the sub-participant, we consider that an in-scope entity granting a sub-participation to another in-scope entity in this format should avoid triggering Article 21c restrictions viz. the underlying borrower.
LSTA participation: between grantor and participant, it is not clear whether an LSTA participation will be characterized as a species of guarantee (where unfunded) or loan (where funded) to the grantor, but we would expect the analysis to follow that of the sale/purchase of loans (see sections 5.5 and 5.6 above). However, participations granted by in-scope undertakings to one of their EU affiliates or banks will benefit from the intragroup or interbank exemptions.
As between the participant and the borrower, given the true sale treatment under the LSTA participation agreement, where the borrower is in the EU we consider that a participation from a grantor to an in-scope undertaking as participant in this format risks triggering Article 21c restrictions, since this would purport to confer lending obligations into an EU Member State for that participant.
In practice some jurisdictions do not treat LSTA participation agreements as transferring lending obligations under law. Whilst our analysis here is restricted to EU level law, if under local law the entry into an LSTA participation would not confer lending obligations on an in-scope undertaking, it is possible that this would avoid triggering Article 21c restrictions for both in-scope grantors and participants (on the same grounds discussed in respect of LMA sub-participation). This will require jurisdiction-specific analysis to confirm.
Existing facilities at ‘go-live’
The grandfathering provision protects rights acquired under contracts that are entered into before 11 July 2026 which would otherwise be unlawful (provided they do not become re-characterized as a ‘new’ contract).
With regards to continuing facilities, it will be necessary to diligence the effect of any incidental or complementary activities on the reliance on grandfathering, since this provision will only protect rights acquired under "existing contracts". Variation of existing contracts risks the creation of a new contract such that grandfathering may not apply. For example, particularly in the context of loan restructuring, the amendment and restatement of loan documentation, transfer/assignment/novation, or increase of credit under a facility could create a new contract under law superseding the "existing" (grandfathered) contract if the amended terms were not sufficiently within the contemplation of the parties from the outset. This risks losing the benefit of any grandfathered contracts. By contrast, drawings made under pre-existing commitments should be permissible (noting that this position will need ultimately to be assessed against implementing legislation in each Member State, and any relevant guidance).
Whether incidental or complementary activities do result in the loss of this benefit will most likely be a matter for i) the implementation of the grandfathering provisions by the relevant Member State and ii) local regulators’ views on the delineation between amendment and new contract creation. This will be a matter for institutions to monitor during the implementation period, however we expect the emphasis from a policy perspective will be the retention of / prevention of prejudice to the rights of the recipients of banking services in the EU customers.
Options for continuing lending business
For the loan market, the effect of the changes will be to deprive in-scope non-EU firms of the ability to provide loans, guarantees and commitments into those EU Member States where those activities are currently unregulated, or a cross-border license is currently available, except where an exemption is available. In those jurisdictions in which a license is already required, the impact will be more limited (although reauthorization may still be required and firms will need to comply with minimum prudential, governance and reporting requirements, which may be new, depending on the EU Member State). Affected firms will therefore face the following options:
Relying on exemptions
Depending on the business line, it might be possible to continue cross-border activities in reliance on one or more of the exemptions.
Interbank lending will remain permitted. In respect of cross border lending activity not in scope of the interbank or intergroup exemptions, the main avenue will be reliance on reverse solicitation. In the context of syndicated lending, this may be feasible - particularly where an institution only acts as part of a syndicate and does not play any role in soliciting the loan. This would require implementing guardrails regarding marketing to potential EU borrowers and participations from EU lenders. It remains to be seen how the EU authorities react to this type of approach: the reporting framework under CRDVI includes requirements to report on reverse solicitation business, and it may be that reliance on the approach results in additional scrutiny and potential narrowing of the exemption.
Establish a TCB in relevant jurisdictions
The purported aim of Article 21c is to require establishment of licensed branches. In practice this will be the least desirable option for most firms. Under CRD VI branch authorization will not give rise to any cross-border rights. It would therefore be necessary to establish a branch in each jurisdiction into which core banking services are being provided (if this option alone were used). The costs of licensing alone would be punitive.
Migrate relevant business lines into an EU subsidiary
A further alternative would be to migrate business to an EU bank subsidiary. Article 21c only captures third country institutions. A locally authorized EU entity can provide core banking services, and unlike a branch can operate across the EU via passporting rights. Migrating business to an EU subsidiary would carry a variety of other costs and constraints though - aside from the operational considerations, there will likely be an impact for the EU subsidiary with regards to large exposures, regulatory capital and liquidity requirements, risk management and governance to account for the extra business.
De-scoping activities – migration to non-institutions
Article 21c only applies to in-scope firms. It does not apply to providers which are neither a bank or large investment firm. On the face of the Directive it is therefore open to third country institutions to continue to provide services from an unregulated entity within a banking group into those Member States in which lending is currently unregulated.
There are extensive reporting obligations under the regime which could be used to collect data about the use of this approach, and it is possible (though not provided for under current law) that this avenue could be cut off in future. Member States may also choose to apply the restrictions to a broader set of legal entities.
Portfolio sales
Some entities may decide to withdraw from the affected markets and in so doing, may look to sell their existing loan book business.
What should firms be doing?
Non-EU banks will need to assess their cross-border services undertaken into the EU to identify
(a) which entities are third country institutions within the scope of the regime;
(b) which of their business lines within those entities identified under (a) involve the provision of core banking services into the EU; and
(c) how far those business lines can benefit from exemptions under the regime
to enable a quantitative assessment of the impact of the regime. They will then need to conduct an analysis of the available options describe above and move towards implementation in 2026, whether by scaling back activity or restructuring it into EU branches or subsidiaries. Should structural reform and/or new licenses be required, or significant changes to the activities of EU subsidiaries, there is likely to be a considerable lead time.
