The Board of Governors of the Federal Reserve System (“FRB”) has announced that it will commence operations under the Term Asset-Backed Securities Loan Facility (“TALF”) by accepting subscriptions on March 17 through March 19 and funding loans on March 25, 2009. The FRB first announced the program in November 2008. See Federal Reserve and Treasury Announce a New Facility to Provide Liquidity for Asset-Backed Securities, 21st Century Money, Banking & Commerce Alert® (Nov. 26, 2008). Secretary of the Treasury Tim Geithner included an expanded TALF program as a key element of the administration’s Financial Stability Plan. See Reading between the Lines of the Financial Stability Plan, 21st Century Money, Banking & Commerce Alert® (Feb. 12, 2009).
Under Phase I of TALF, the FRB will make available nonrecourse funding (subject to certain limited exceptions) to eligible borrowers for the purchase of certain AAA-rated asset-backed securities (“ABS”). The FRB will generally lend an amount equal to the lesser of the market value or par value of the ABS, subject to a haircut, collateralized by the ABS.
Under the FRB’s rules, an entity that qualifies as a “US company” as described below is eligible to participate in TALF. The following types of entities are eligible:
- An entity that is organized under US law and conducts significant operations in the US (even if it is a subsidiary of a foreign company);
- A US branch or agency of a foreign bank (other than a foreign central bank) that maintains reserves with a Federal Reserve Bank; and
- An investment fund that is organized under US law and managed by an investment manager with its principal place of business in the US.
Notwithstanding the foregoing, any entity that is deemed to be controlled by a foreign government will not qualify as an eligible borrower. The FRB’s TALF rules do not expressly define what constitutes control. In connection with TALF, the FRB has stated that, among other things, ownership of 25% or more of a class of voting securities of a company constitutes control. It also is possible that the FRB will consider control to exist under circumstances that would trigger a control determination under the Bank Holding Company Act and the FRB’s Regulation Y, such as acting as general partner of an entity.
A prospective borrower must participate in TALF through a primary dealer. A primary dealer is required to review an application, using its anti-money laundering and customer identification procedures and, in connection with presenting an application to the Federal Reserve Bank of New York (“FRBNY”), determine that a prospective borrower is eligible to participate in the program. The FRBNY reserves the right to reject a prospective borrower for any reason. If a borrower is found not to have been eligible at the time a loan was made to it, that loan will be converted to a recourse loan and the FRBNY may declare it to be immediately due and payable.
A TALF loan must be fully secured by dollar-denominated ABS that have received the highest long-term investment-grade credit rating from at least two of the major nationally recognized rating agencies and have no long-term credit rating below that level. The obligations underlying the ABS must be in one or more of the following four categories:
- Auto loans (including loans and leases for cars, light trucks, recreational vehicles, and motorcycles and dealer floorplan loans);
- Student loans (both private and federally guaranteed);
- Credit card loans (both consumer and corporate); and
- Loans to small businesses guaranteed by the Small Business Administration (“SBA”) and backed by the full faith and credit of the US government.
The loans underlying ABS must be recently issued, with varying eligible origination dates for the individual loan categories. ABS may not be backed by other ABS.
All ABS must be issued on or after January 1, 2009, except that SBA pool certificates or development company certificates may be issued as early as January 1, 2008. At least 95% by dollar amount of the extensions of credit underlying the ABS must be to U.S.-domiciled persons. Substitution of ABS is not permitted, except that ABS that is no longer TALF-eligible may be replaced by qualifying ABS. A borrower may invest simultaneously in TALF-eligible ABS and in other assets outside the program that are not TALFeligible and are not purchased with or used as collateral for its TALF loans.
The prospectus for eligible ABS must include a certification by the issuer that the ABS are TALF-eligible. In addition, an accounting firm acceptable to the FRBNY must certify that the ABS are TALF-eligible, and the sponsor (or the ultimate parent company of a sponsor that is a special purpose vehicle) must agree to indemnify the FRBNY for any losses it may suffer if the certification is untrue. A borrower is required to represent to the FRBNY that, to its knowledge based on its review of the ABS offering materials, all the collateral securing a TALF loan is TALF-eligible. If any such collateral is not TALF-eligible, and the borrower’s representation regarding the collateral is untrue, that loan will be converted to a recourse loan and the FRBNY may declare it to be immediately due and payable.
No eligible collateral for an individual borrower may be backed by loans originated or securitized by the borrower or an affiliate of the borrower. A party will be deemed to be an affiliate of a borrower if it controls, is controlled by, or is under common control with the borrower.
Relationship between Eligible Borrowers and Primary Dealers
A primary dealer may not provide any hedge or indemnification against, or otherwise offer to protect a prospective borrower that it presents to the FRBNY from, any loss arising from the borrower’s collateral. A primary dealer also must submit a plan to the FRBNY to identify and resolve any conflict of interest when (i) the primary dealer presents a prospective borrower that it or any of its affiliates controls or manages and (ii) the primary dealer or any of its affiliates also acted as underwriter of any ABS that the prospective borrower proposes to use as collateral.
The TALF is scheduled to be open to make loans through December 31, 2009. Loans under Phase I will be for three-year terms. The loan-to-value ratio for all TALF loans will be between 95% (for certain credit card ABS and SBA ABS) and 84% (for certain auto floorplan ABS). Interest will be either fixed or floating, to match the fixed or floating interest rate on the ABS securing the loan. Interest rates will generally be based on three-year LIBOR for fixed-rate loans and one-month LIBOR for floating-rate loans, plus a margin to be set by the FRBNY, generally 100 basis points. A nonrefundable administrative fee of 5 basis points will be charged for all applications. The minimum loan amount is $10 million, but there is no maximum loan amount and no limit on the number of loans for which an eligible borrower may apply or be approved.
Scope of TALF
In Phase I, the FRB will loan up to $200 billion to fund the purchase of ABS in the four underlying loan categories discussed above. The FRB and the Department of the Treasury have announced that they are considering expanding the TALF in Phase II to as much as $1 trillion in order to cover additional ABS categories, which may include non-agency residential mortgage-backed securities, commercial mortgage-backed securities, and investment-grade corporate debt.