LIBOR 101: When is it going away and why?

LIBOR stands for the London Inter-Bank Offered Rate. It's one of the most widely used benchmark interest rates in the world, helping banks determine what to charge for a short-term interest rate when they lend money. Other benchmarks in the U.S. include the federal funds rate and the prime rate.

Many banks, including Pinnacle, use LIBOR to establish interest rates on certain commercial loans, small business loans, some mortgages and a few consumer credit products. Starting in 2021, LIBOR will be phased out and replaced with a new benchmark.

What does that mean for you? Let’s take a look.

First a little LIBOR history.
LIBOR was created in the 1980s as a floating rate that fluctuates with the market and is based on the average projected estimates of what a London-based bank would charge other banks to borrow money. It’s based on a survey of 18 large London banks and used to help determine interest rates throughout the world for things like credit card loans, commercial loans, mortgages, derivatives and more.  

Why is LIBOR being phased out?
Since LIBOR is a survey rate rather than a traded market rate, it is subject to manipulation. In 2012, Britain’s Barclay’s bank and a handful of others were charged with attempting to manipulate the LIBOR for profit. The $453 million settlement was one of the largest of its kind in history. As it’s being phased out, the primary bank regulator in the U.K. has worked with the survey banks to ensure a smooth transition away from LIBOR.

How do I know if I have a loan tied to LIBOR?
Your promissory note or loan agreement will specify LIBOR as the benchmark interest rate that applies to your loan.

When will LIBOR end?
While the original deadline was Dec. 31, 2021, the Federal Financial Institutions Examination Council announced at the end of November that only the one-week and two-month USD LIBOR settings would end in 2021, and the remainder of LIBOR rates—including the most popular, the three-month rate—would continue to be published through June 30, 2023 to allow most contracts to mature before LIBOR ends.

The ICE Benchmark Administration (IBA) statement and the U.K. Financial Conduct Authority statement  provide more information on this topic.

What does this mean for me?
If you have a LIBOR-based loan and your loan matures ON OR BEFORE June 30, 2023, then the discontinuation of LIBOR will have no impact on you.

If you have a LIBOR-based loan and your loan matures AFTER June 30, 2023, then the discontinuation means that you will be assigned a new benchmark interest rate.

What should I do if I have a loan tied to LIBOR?
If it’s a Pinnacle loan, no action is needed right now. We are reviewing all agreements tied to LIBOR and will contact clients in 2022 about the appropriate action, whether it’s amending the language in your loan agreement to provide for the new benchmark rate or automatically shifting to a different benchmark rate based on the current language in your note or loan agreement. If you have questions, your financial advisor can help.

What will take its place?
Banks will look to replace LIBOR with a rate tied to actual transactions versus a survey. For example, many will choose the Secured Overnight Financing Rate (SOFR), which is based on transactions in the Treasury repurchase market. AMERIBOR, a market rate based on actual interbank lending activity, could also serve a role in replacing LIBOR.


Quick Links