Key issues in structured finance and securitisation transactions in USA

Transactional issues

Which forms can special purpose vehicles take in a securitisation transaction?

Special purpose vehicles (SPVs) can take many forms, and determination as to the form of SPV to be used in a securitisation transaction is typically dependent on the desired tax treatment for the entity and the nature and identity of the originators of the securitised assets and the investors in the transaction. The most common forms of SPV used are trusts and limited liability companies. The SPV can either be owned by the originator or its subsidiary in the securitisation transaction; or if the SPV is an orphan, its equity (typically nominal in amount) is owned by an entity or charitable foundation or organisation unrelated to the originator. The owner of an orphan SPV has little or no economic involvement in the securitisation.

What is involved in forming the different types of SPVs in your jurisdiction?

SPV formation, timing and costs largely depend on the jurisdiction in which the SPV is formed. The costs of forming an SPV in the US are typically less than $300. In order to form the SPV, one would typically file a certificate of formation, partnership or trust, as applicable, with the related jurisdiction’s division of corporations. Most jurisdictions are able to process formation documents and register the entity within 48 hours.

Is it possible to stipulate which jurisdiction’s law applies to the assignment of receivables to the SPV?

The purchase and sale document relating to the assignment of the receivables to the SPV can and usually does stipulate the governing law of the assignment of the receivables. Perfection of the assignment cannot be stipulated, however, and is usually governed by the statutory regime governing the perfection of the related assets, such as a jurisdiction’s uniform commercial code, motor vehicle titling statutes or statutes governing the transfer and encumbrance of real property.

May an SPV acquire new assets or transfer its assets after issuance of its securities? Under what conditions?

While asset-backed securities (as defined under Regulation AB) generally must be backed by a discrete pool of assets, transactions with prefunding and revolving periods and involving master trusts are permissible exceptions to this requirement.

Transactions with prefunding periods

A prefunding period allows an issuer of a securitisation to close on a transaction with only part of the collateral that will back the securities issued in connection with the transaction. The balance of the collateral would typically be purchased by the issuer with proceeds of the securities offering that were deposited into a prefunding account at closing.

Under Regulation AB, the prefunding periods may not exceed one year and the amount of proceeds that may be used for prefunding may not exceed 25 per cent of the offering proceeds or, for master trusts, 25 per cent of the aggregate principal balance of the total asset pool whose cash flows support the securities.

Transactions with revolving periods

In a transaction with a revolving period, a limited amount of cash flow from the asset pool may be used for a specified period to acquire new assets instead of being applied to make payments on the asset-backed securities. This is provided that:

• such securities are not backed by receivables or other financial assets that arise under revolving accounts;
• the revolving period does not extend for more than three years from the date of issuance of the securities; and
• the additional pool assets are of the same general character as the original pool assets.

Transactions involving master trusts

In transactions involving master trusts, the transaction may contemplate:

• adding additional assets when future issuances of asset-backed securities are made by the master trust; and
• adding additional assets to maintain minimum pool balances prescribed by the transaction documentation for master trusts with revolving periods, or receivables or other financial assets that arise under revolving accounts.

What are the registration requirements for a securitisation?

In a public offering, a registration statement containing a prospectus must be filed with the SEC and declared effective by the SEC subject to limited exceptions before any offers and sales can be made.

As discussed in questions 6 and 8, the SEC may review the registration statement before declaring it to be effective. Before commencing marketing efforts relating to the public offering, the issuer generally clears all SEC comments to avoid any risk of having to amend the preliminary prospectus after it has been sent to potential investors. Prospectuses and other material agreements, documents and opinions relating to the securities offering are also filed on EDGAR after the registration statement has been declared effective.

For a public offering of securities pursuant to an effective shelf registration statement, the offering process is largely the same, except that there is no need to file a registration statement and wait for SEC comments, as that already has been done. The issuer and the underwriters use a preliminary prospectus to launch the offering. A final prospectus and other material agreements, documents and opinions relating to the securities offering are also filed on EDGAR in connection with a takedown from the shelf.

Must obligors be informed of the securitisation? How is notification effected?

As a general matter, obligor notification is not required in connection with asset ownership transfers made in connection with a securitisation. However, the general rule under the Uniform Commercial Code is that only once the obligor receives notice that the receivable has been sold:

• can the purchaser enforce the payment obligation directly against the obligor; and
• must the obligor pay the purchaser in order to be relieved of its payment obligation.

If, alternatively, the receivables are evidenced by a ‘negotiable instrument’, a purchaser who becomes a holder in due course may enforce directly against the obligor and takes free and clear of defences arising from the seller’s conduct, subject to a few exceptions under consumer protection laws. Similar rights are available to protected purchasers of securities. Generally, a seller or obligor insolvency will not limit the ability of the purchaser of receivables to give notice to the obligors of the assignment of those receivables because the main purpose of the notification requirement is to avoid the obligor being required to pay twice. If notice is given, the notice is typically delivered by the originator or servicer of the related asset in accordance with terms of the underlying documentation relating to the origination of such asset.

What confidentiality and data protection measures are required to protect obligors in a securitisation? Is waiver of confidentiality possible?

Confidential consumer information that can identify a consumer cannot generally be disclosed to third parties and can only be used for the purposes for which such information was provided, and as such is generally excluded from disclosure materials. Identifying information is generally removed from all materials provided to investors, and entities possessing consumer information are generally obligated to safeguard such information from unauthorised access and disclosure.

Are there any rules regulating the relationship between credit rating agencies and issuers? What factors do ratings agencies focus on when rating securitised issuances?

The SEC has promulgated rules under the Securities Act and the Exchange Act that govern the relationship between nationally recognised statistical ratings organisations (NRSROs) and securitisation issuers. Rules governing this relationship primarily relate to issues of conflict of interest arising out of the NRSROs being paid service providers to the securitisation sponsor and issuer. The ratings methodology employed in connection with rating a transaction varies between rating agencies and the underlying assets backing the securities to be rated. As a general matter, however, rating agencies will review:

• the quality of the management and financial condition of the sponsoring entity;
• originations and underwriting practices;
• the quality of the transaction servicers’ capabilities;
• collateral credit quality and the historical performance of the issuer or originator’s portfolio; and
• the creditworthiness of credit enhancement providers, the transaction capital structure and credit enhancement.

They will also conduct a cash flow analysis and review the legal structure and opinions to be issued in making ratings determinations.

What are the chief duties of directors and officers of SPVs? Must they be independent of the originator and owner of the SPV?

Given that the SPV is a limited purpose entity, which is often formed for the sole purpose of serving as the issuer in relation to the securitisation, the chief duties of the directors and officers of the SPV are to operate the SPV in accordance with its organisational documents (including the related bankruptcy-remoteness provisions) and to perform its obligations under the securitisation transaction documents (to the extent not delegated to an agent of the SPV, such as an administrator or a servicer). The duties of the directors and officers of the SPV, and more generally the activities of the originator and the owner of the SPV, should be carried out independently of the SPV in order to maximise the treatment of the SPV as a bankruptcy-remote entity (see questions 32-34).

Are there regulations requiring originators and arrangers to retain some exposure to risk in a securitisation?

The SEC, the Federal Deposit Insurance Corporation, the Federal Reserve System, the Department of Housing and Urban Development, the Department of the Treasury and the Federal Housing Finance Authority jointly released a rule on 24 December 2014 that requires credit risk retention for asset-backed securities. Asset-backed securities collateralised by residential mortgages were required to comply as of 24 December 2015, and all other classes of asset-backed securities were required to comply starting from 24 December 2016. Subject to some exceptions, the credit risk retention rules generally require a securitiser to retain not less than 5 per cent of the credit risk of any asset that the securitiser, through the issuance of an asset-backed security, transfers, sells or conveys to a third party, and prohibit the securitiser from directly or indirectly hedging or otherwise transferring the credit risk that the securitiser is required to retain.