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Regulators target ABS

August 29, 2013

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Yesterday, six federal regulators (the SEC, Federal Reserve Board, Department of Housing and Urban Development, FDIC, Federal Housing Finance Agency, and OCC), published for comment new proposed risk retention rules for asset-backed securitizations. The newly proposed rules revise those proposed in 2011 and would implement the credit risk retention requirements added by Section 941 of the Dodd-Frank Act to Section 15G of the Securities Exchange Act of 1934.

Risk Retention

As in the original proposal, the revised proposal generally requires a sponsor retain an economic interest equal to at least 5 percent of the aggregate credit risk of the assets collateralizing an issuance of ABS (the base risk retention requirement). The base risk retention requirement would apply to all securitization transactions within the scope of Section 15G regardless of whether the sponsor is an insured depository institution, a bank holding company, a registered broker-dealer, or other type of entity.

However, the revised proposal differs from the original in that it significantly increases the degree of flexibility that sponsors would have in meeting the risk retention requirements of Section 15G. For example, the revised proposal would permit a sponsor to satisfy its obligation by retaining any combination of an “eligible vertical interest” and an “eligible horizontal residual interest” to meet the 5 percent minimum requirement. The agencies are also proposing that horizontal risk retention be measured by fair value, and are proposing a more flexible treatment for payments to a horizontal risk retention interest than that provided in the original proposal. The agencies have also incorporated proposed standards for the expiration of the hedging and transfer restrictions and proposed new exemptions from risk retention for certain resecuritizations, seasoned loans, and certain types of securitization transactions with low credit risk. In addition, the agencies propose a new risk retention option for collateralized loan obligations that is similar to the allocation to originator concept proposed for sponsors generally. Furthermore, the agencies are proposing revised standards with respect to risk retention by a third-party purchaser in commercial mortgage-backed securities (“CMBS”) transactions and an exemption that would permit transfer (by a third-party purchaser or sponsor) of a horizontal interest in a CMBS transaction after five years, subject to certain restrictions.


The proposed risk retention rules would not apply to securitizations of commercial loans, commercial mortgages, or automobile loans of low credit risk. They also would not apply to “qualified residential mortgages” (“QRM”).

Qualified Residential Mortgage

The revised rule broadens and simplifies the definition of QRM. First, it would harmonize QRM to mean “qualified mortgage” (“QM”) as used by the Consumer Financial Protection Bureau’s Regulation Z. Under the original proposal, a QRM was limited to closed-end, first-lien mortgages used to purchase or refinance a one-to-four family property, at least one unit of which is the principal dwelling of the borrower. By proposing to align the QRM definition to the QM definition, the scope of loans eligible to qualify as a QRM would be expanded to include any closed-end loan secured by any dwelling (e.g., home purchase, refinances, home equity lines, and second or vacation homes). Accordingly, the proposed scope of the QRM definition would differ from the original proposal because it would include loans secured by any dwelling (consistent with the definition of QM), not only loans secured by principal dwellings. In addition, if a subordinate lien meets the definition of a QM, then it would also be eligible to qualify as a QRM, whereas under the original proposal QRM-eligibility was limited to first-liens.

This revised definition specifically excludes loan-to value ratios and borrower credit standards from the QRM definition. However, a proposed alternative definition of QRM would include certain underwriting standards in addition to the qualified mortgage criteria.

If adopted, the risk retention requirements would become effective, for securitization transactions collateralized by residential mortgages, one year after the date on which final rules are published in the Federal Register, and two years after that date for any other securitization transaction.

Comments should be submitted on or before October 30, 2013. View the revised proposed rules here.

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