On October 21, the federal bank regulatory agencies, SEC, FHFA, and HUD issued a joint final rule implementing the risk retention provisions of the 2010 Dodd-Frank Act. That Act generally required securitizers of asset-backed securities (ABS) to retain not less than five percent of the credit risk of assets collateralizing ABS.The Act also prohibits a securitizer from hedging or transferring that credit risk.

This requirement and prohibition are subject to a number of exemptions including one for ABS collateralized exclusively by residential mortgages that qualify under the final rule. The agencies adopted a definition of the term “qualified residential mortgage” (QRM) akin to the definition of the term “qualified mortgage” adopted earlier by the Consumer Financial Protection Bureau for purposes of its regulation requiring residential mortgage lenders to consider a borrower’s ability to repay except in the case of qualified mortgages. However, the adopting agencies expressed an intent to re-visit the definition of “QRM” in four years.

Another exemption is for non-residential mortgage loans that meet underwriting standards established by the federal banking agencies, and, thus the final risk retention regulation sets forth standards for qualifying commercial loans, qualifying commercial real estate loans, and qualifying automobile loans. Those standards prescribe mandatory financial ratios of the borrower; a requirement that, if the purpose of the loan is to acquire property, that property secure the loan; loan covenants; amounts of loan payments; source of repayments; and timing requirements. While these underwriting standards do not apply outside of the securitization area, one cannot help but wonder whether they may, as a practical matter, be adopted by bank examiners as best practices and, thus, ultimately reduce the availability of commercial, CRE, and auto credit that does not meet these standards.

Managers of collateralized mortgage obligations (CLOs) had argued for exemption, but the regulators declined to grant such an exemption.

The new rules will be effective, as to securitizations collateralized by residential mortgages, one year after the final rule is published in the Federal Register and, as to other securitizations, two years after that publication date.