Regulation AB impacts mortgage loan salesMortgagePress.comSEC Regulation AB The impact of the U.S. Security and Exchange Commission's (SEC) Regulation AB (17 C.F.R. §§229.1100-229.1123) is beginning to be felt. The final version of Regulation AB was published on Dec. 22, 2004, and took effect on Jan. 1, 2006 for most offerings, although certain registration statements filed after Aug. 31, 2005 must conform to the new rules, as well. Issuers of asset-backed securities, such as mortgage-backed securities, are now subject to increased disclosures and reporting. The intent of Regulation AB is to unify and codify the SEC's regulations and guidances relating to asset-backed securities, to increase the transparency of transactions involving such securities and to provide investors with a clearer picture of the assets underlying the securities. The effect of the new reporting requirements for issuers of mortgage-backed securities is trickling down to the loan originator level. In order to provide the disclosures and transparency regarding the performance of the assets backing the securities, purchasers of loans who securitize such loans are seeking increased reporting from the originators who sold them the loans. The impact of these requirements is just starting to be understood by the mortgage industry; one potentially controversial interpretation of such requirements is evidenced by the recent release of the American Securitization Forum's (ASF) model provisions for residential mortgage loan purchase and servicing agreements. Such release is aimed at addressing the requirements of Regulation AB from the perspective of the loan purchasers and securitizers. Under the model provisions issued by the ASF, originators and servicers would be required (among other things) to provide reports on certain policies and procedures and on the performance of loan pools over a three-year period and to disclose any material litigation or financial condition that would have an effect on the loans in the pool or the originator's or servicer's ability to perform its obligations under a sale or servicing agreement. The intent of the ASF model provisions is to provide investors in mortgage-backed securities with better information regarding the risks associated the secured loans; loan sellers, however, may object to the many pages of additional representations, warranties and indemnifications that the model provisions attempt to require from the sellers. Changes involving mortgage-backed securities transactions will include: • Increased disclosures about the sponsors of such transactions, including a description of each sponsor's securitization program and historical information about other pools of similar assets. • Static pool data for the five years preceding the issuance. The data will include prepayment rates as well as delinquency and loss information. • Disclosures regarding the allocation of servicing responsibilities among the parties. • Increased disclosures regarding servicing policies, including the charge-off policy used for assets in the pool, and material changes in the servicer's servicing policies in the last three years. The extent of the disclosures required is determined by the percentage of the pool being serviced by a servicer. • Increased disclosures regarding the originators of the loans. The extent of the disclosures required is determined by the percentage of the pool that consists of an originator's loans. • Any affiliation between parties to the transactions must be disclosed. The most significant changes brought about by these new requirements will be in the areas of reporting and liability. Loan originators and servicers can expect investors to revisit existing loan purchase and servicing agreements seeking changes to accommodate the Regulation AB requirements. New agreements will contain Regulation AB language that many originators and servicers have not previously considered. It is important for those being asked to provide greater disclosure and assume additional liabilities for the accuracy of those disclosures to conduct a full assessment of the new risks associated with Regulation AB, as well as determine what changes will be needed in the data collection efforts to be able to deliver the company and loan performance data that may be required under Regulation AB. One significant area of uncertainty raised by Regulation AB is the absence of a definition of originator. In its comments to the final rule, the SEC expressed its view that a definition of the term is not necessary. The lack of a clear definition leaves open the possibility of making any mortgage lender originating loans and selling them on the secondary market subject to the rule's reporting requirements, even if the loans are not securitized until they have passed through several purchasers. Given the uncertainty of what constitutes an originator, mortgage lenders should anticipate the possibility of being subject to the disclosure requirements of Regulation AB if their loans constitute 20 percent or more of any securitized pool. Such lenders will be required to disclose how they are structured, as well as the size and composition of their origination portfolios, and information material to determining the performance of the pool's assets, such as underwriting criteria. Even lenders whose loans only consist of 10 percent or more of the loan pool will have to be identified. Such lenders, however, will be spared some of the disclosure requirements discussed above. Many loan originators who are not typically involved in transactions leading to securitizations or who do not sell directly to Wall Street firms may find the purchasers of their loans updating seller guides, amending loan purchase agreements or requesting additional reporting that the loan originator may not be currently equipped to provide. The new reporting requirements require sellers and purchasers of loans to negotiate new contract terms regarding the reporting responsibilities under Regulation AB, as well as the scope of the reports and the liabilities for reporting errors under the new law. Many sellers and servicers will be required to begin collecting data that they have previously not been required to report, particularly loan performance metrics for originators who do not engage in any loan servicing. The impact of Regulation AB will also most likely trickle down to various third party participants who support servicers and loan originators. Servicers and loan originators faced with potential liabilities if reports are inaccurate or not filed in a timely manner may feel pressured to exert greater control over the loan securitization process and demand greater accountability from the various participants in the process. Third-party servicer providers for originators and servicers will likely see new demands and requests to amend existing contractual relationships. Software vendors can expect customers to request reporting capabilities that meet Regulation AB requirements. The larger customers of software providers will likely seek to include in the applicable software license agreements representations and warranties regarding the accuracy of the reporting capabilities of software products used in tracking loan performance. In some instances, the need for increased control may result in some originators exploring the possibility of bringing servicing functions in-house; other originators may seek to outsource the reporting requirements to vendors with the proven capability to perform this function. For more information, visit www.sec.gov.
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