Navigating credit party structures in cross-border financings: Key differences between US and English approaches

As cross-border financing transactions continue to evolve in complexity, understanding the structural distinctions between United States and United Kingdom credit party frameworks is key for borrowers, lenders, and deal professionals.

These differences influence not only the timing and scope of deliverables, but also the enforceability of guarantees, tax implications, and covenant compliance.

This article outlines the key structural features and legal considerations that shape credit party arrangements in US- and English-style financings.

Subsidiary classifications and credit support structures

In English-style financings, credit support is typically organized around two tests: (1) a guarantor coverage test and (2) a material company test.

The guarantor coverage test requires that a certain number of entities within a group have provided guarantees (and, in a secured financing arrangement, transaction security), collectively referred to as “obligors.”

The relevant threshold is typically tested against consolidated earnings before interest, taxes, depreciation, and amortization (EBITDA), net or gross assets, and/or turnover (i.e., consolidated revenue) for the group, and the obligors must account for an agreed percentage of the applicable financial metric.

The threshold is commonly set at 85 percent, but can vary – as can whether it is tested against consolidated EBITDA, net or gross assets, and/or turnover of the group, all of which are largely dependent on the credit strength of the group.

The obligors can reach the relevant threshold by having any entities in the group party to the finance arrangements as guarantors. The English structure allows for flexibility in excluding certain subsidiaries from the credit group, subject to the material company test referenced below.

Often, particularly in respect of an acquisition finance where timing and integration considerations may delay full credit support, the guarantor coverage test will not be tested until post-closing when members of the target group have also formed part of the obligor net.

The material company test requires that certain members of the group grant guarantees (and transaction security, if relevant to the transaction structure), where the relevant material company contributes more than an agreed amount of consolidated EBITDA, net or gross assets, and/or turnover of the group.

The material company test is often set at five percent of such metrics of the group; however, as with the guarantor coverage test, this test and the threshold can be negotiated depending on the strength of the group.

The purpose of both the guarantor coverage test and the material company test is to ensure that the lenders have access to the valuable assets within a group in the event of an acceleration of any loans. These tests are typically measured quarterly, semiannually, or annually, concurrently with the delivery of relevant financial statements; the material company test is also typically tested following an acquisition to ascertain whether any member of the target group is a material company.

If the relevant thresholds are not met, the obligor group is typically afforded a grace period to accede members of the group to the guarantee (and transaction security, as applicable) before an Event of Default would arise.

By contrast, US financings rely on a framework of restricted versus unrestricted subsidiaries. Restricted subsidiaries are typically subject to the full scope of the credit agreement’s representations, warranties, and covenants and – subject to considerations described below – are generally required to provide collateral if the deal is secured and guarantees. Unrestricted subsidiaries are carved out of most obligations, though they may be picked up by sanctions, anti-corruption, and other provisions. Unrestricted subsidiaries sit outside of the credit group. To prevent leakage of value, US deals include ringfencing provisions that restrict the movement of assets from restricted subsidiaries into unrestricted subsidiaries.

A recent trend in the US market has been the use of liability management transactions that take advantage of loopholes in the unrestricted subsidiary provisions. Borrowers have increasingly used the flexibility afforded by these provisions to transfer valuable assets – sometimes including intellectual property or entire business lines – into unrestricted subsidiaries. Once outside the credit group, these assets can be used to secure new financing or support other obligations, often to the detriment of existing lenders.

These transactions, sometimes referred to as “trap door” or “J. Crew” transactions (after a high-profile example), exploit the fact that, while ringfencing provisions are intended to limit asset leakage, they may not always be sufficiently robust to prevent creative structuring. As a result, lenders have responded by tightening the definitions of unrestricted subsidiaries, imposing additional consent requirements, and enhancing asset transfer restrictions. Nevertheless, liability management transactions remain a significant area of focus in US financings, underscoring the importance of careful drafting and ongoing vigilance in credit documentation.

In the US, restricted subsidiaries are further divided into loan parties and non-loan parties. Loan parties are borrowers and guarantors that are direct parties to the loan documents. Non-loan party restricted subsidiaries are subject to certain limitations despite not being obligors. A common example is immaterial subsidiaries, which are excluded from guarantee and collateral requirements based on size thresholds – for example, 2.5 percent or 5 percent of consolidated EBITDA or assets on an individual basis, and 5 percent or 10 percent in the aggregate.

Another example is a non-US subsidiary that, if it provided a guaranty of a loan to a US borrower, would trigger adverse tax consequences to the US entity. While non-loan parties are not party to the loan documents, they remain subject to representations, warranties, and covenants, including restrictions on intercompany transactions, asset transfers, and equity sales.

Timing

Another key distinction is timing: US deals generally require all guarantees and security to be in place at closing, with limited tolerance for post-closing deliverables. This rigidity stems from concerns around consideration and the risk that post-closing guarantees may be challenged in a bankruptcy scenario if no additional funding is provided.

English deals, by contrast, are more accommodating of post-closing credit support and whilst valid consideration and corporate benefit for the obligors does need to be demonstrated in English law transactions, it is generally possible to demonstrate this whilst still allowing for guarantees and security to be granted post-closing, particularly in acquisition contexts or where there are entities incorporated outside England and Wales that are to grant guarantees and security.

US-specific limitations: Tax and regulatory considerations

US tax rules introduce additional complexity when foreign entities are involved. Controlled Foreign Corporations (CFCs) and their holding companies are typically excluded from guarantor obligations due to adverse tax consequences.

Historically, pledges of equity in CFCs have been limited to 65 percent or 66 2/3 percent of voting interests to avoid triggering US tax liabilities. While recent changes to the US tax code have narrowed the circumstances under which these liabilities arise, many credit agreements retain these limitations for simplicity and consistency.

Regulatory considerations also play a role. Under the Commodity Exchange Act, only an eligible contract participant (ECP) may enter into a swap. A guarantee of a swap obligation is itself considered a swap, meaning that non-ECP entities cannot guarantee swap obligations. In such cases, the guarantee is typically structured to exclude swap obligations, ensuring compliance with regulatory requirements.

Intercompany transactions and structural protections

Both US and English financings impose restrictions on transactions between loan parties and non-loan parties, but US structures tend to be more granular and prescriptive. Common limitations across both US and English financings include:

• Intercompany debt owed by a loan party to a non-loan party must be unsecured and subordinated, typically documented via an intercompany note.
  
  
• Mergers between loan parties and non-loan parties must result in the loan party surviving. A common workaround is to designate the non-loan party as a loan party prior to the merger.
  
  
• Equity sales by subsidiary loan parties are generally restricted to other loan parties.
  
  
• Asset disposals from loan parties to non-loan parties are tightly controlled, with no general basket available.
  
  
• Transfers of material intellectual property to non-loan parties are typically prohibited.

These provisions are designed to preserve the integrity of the credit group and prevent value from migrating to entities outside the lender’s enforcement reach.

Key structural distinctions

Several core differences distinguish US and England approaches to credit party structuring:

• Flexibility: English structures allow for more dynamic inclusion of entities post-closing, while US structures require careful upfront designation and are less flexible due to bankruptcy and consideration concerns.
  
  
• Covenant compliance: US restricted subsidiaries must comply with all covenants, whereas English structures focus on obligor groups and the wider "group" – and there must be sufficient obligors to satisfy the guarantor coverage test and material company test.
  
  
• Asset movement: Both US and English deals impose strict limitations on transfers to unrestricted subsidiaries or non-obligors.

Conclusion

Understanding the jurisdictional nuances in credit party structuring is key to ensuring enforceability, tax efficiency, and covenant compliance in cross-border financings.

English deals offer greater flexibility in timing and entity inclusion, while US structures emphasize upfront certainty and legal robustness.

To avoid execution delays and mitigate legal risk, deal teams can assess subsidiary classifications, guarantor thresholds, and tax implications early in the transaction process.

For more information, please contact the authors.