[Federal Register Volume 63, Number 95 (Monday, May 18, 1998)]
[Proposed Rules]
[Pages 27219-27227]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-12535]
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Proposed Rules
Federal Register
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This section of the FEDERAL REGISTER contains notices to the public of
the proposed issuance of rules and regulations. The purpose of these
notices is to give interested persons an opportunity to participate in
the rule making prior to the adoption of the final rules.
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Federal Register / Vol. 63, No. 95 / Monday, May 18, 1998 / Proposed
Rules
[[Page 27219]]
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SMALL BUSINESS ADMINISTRATION
13 CFR Part 120
Business Loan Programs
AGENCY: Small Business Administration.
ACTION: Notice of proposed rulemaking and public hearing.
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SUMMARY: The U.S. Small Business Administration (SBA) proposes a rule
to allow all participating Lenders to sell, securitize, sell a
participating interest in, or pledge the unguaranteed portion of 7(a)
loans. The proposal has two components: securitizations; and pledges,
sales of participations, and sales other than for the purpose of
securitizing. In the first component, SBA establishes a three level
unified approach to regulating securitization. This approach would
apply to all securitizers and is designed to help ensure the safety and
soundness of the 7(a) program. The approach focuses on the quality of
the securitizer's underwriting and servicing and the performance of the
securitizer's loans. In the second component, SBA sets forth the
requirements that Lenders must meet to pledge, sell a participating
interest in, or sell (other than for the purpose of securitizing) 7(a)
loans. If this proposal becomes final, it would replace the present
Interim Final Rule published on April 2, 1997, at 62 FR 15601 (the
``Interim Final Rule''). The proposed rule would amend 13 CFR
Sec. 120.420, add Secs. 110.421-120.429, renumber Secs. 120.430 and
120.431 as Secs. 120.414 and 120.415, and add Secs. 120.430-120.435. In
addition, SBA is providing notice of a public hearing set for 2:00 p.m.
on June 4, 1998. The hearing will provide the public an opportunity to
comment orally on the proposed rule.
DATES: Submit comments July 17, 1998. SBA will hold a public hearing to
receive oral comments on June 16, 1998, at 2:00 p.m. at the U.S. Small
Business Administration, 409 Third Street, S.W., Washington, D.C., 8th
Floor Eisenhower Conference Room.
ADDRESSES: Mail comments to Jane Palsgrove Butler, Acting Associate
Administrator for Financial Assistance, U.S. Small Business
Administration, 409 Third Street, S.W., Suite 8200, Washington, D.C.
20416.
FOR FURTHER INFORMATION CONTACT: James W. Hammersley, Director,
Secondary Market Sales, 202-205-6490.
SUPPLEMENTARY INFORMATION: SBA is proposing a new regulation governing
the securitization of the unguaranteed portion, sale, sale of a
participating interest in, or pledge of SBA 7(a) loans. The rule has
two components. The first component governs securitizations. For
purposes of this regulation, a securitization is the pooling and sale
of the unguaranteed portion of SBA loans, usually to a trust or special
purpose vehicle, and the issuance of securities backed by those loans
to investors in either a private placement or a public offering
(``securitization''). In the securitizations of SBA loans to date, each
investor has received an undivided ownership interest in the right to
receive the principal of the unguaranteed portion of the pooled SBA
loans, together with interest. As a credit enhancement, the securitizer
usually transfers to the trust or special purpose vehicle, for the
benefit of investors, a portion of the interest on each pooled loan
representing the difference between the interest paid by the SBA loan
borrower and the interest paid to the holder of the guaranteed
interest, the holder of the securitized interest and various
administrative fees (the ``Excess Spread'').
The second component of this proposed rule deals with pledges of,
sales of participating interests in, and sales other than for the
purpose of securitizing SBA loans.
I. Securitization Component
Regulatory History
Congress and SBA have examined whether and under what conditions
SBA should permit Lenders to securitize the unguaranteed portion of
7(a) loans. Recognizing that Small Business Lending Companies and
Business and Industrial Development Companies and other nondepository
institutions (''nondepository institutions'') do not have customer
deposits to fund 7(a) lending, SBA in 1992 began permitting
nondepository Lenders to securitize. In 1996, Congress and SBA
considered extending the authority to securitize to depository Lenders.
On September 29, 1996, Congress enacted legislation requiring SBA, by
March 31, 1997, either to promulgate a final rule allowing both
nondepository and depository Lenders to securitize or cease approving
securitizations.
In response to the legislative mandate, on November 29, 1996, SBA
published an Advance Notice of Proposed Rulemaking (61 FR 60649)
seeking public comments on securitizations in advance of its
publication of proposed regulations. On February 26, 1997, SBA
published a Proposed Rule (62 FR 8640) requiring a 5 percent retainage
for all securitizations. SBA received approximately 25 comments; the
commenters were divided almost equally in their response to SBA's
proposal.
On April 2, 1997, SBA promulgated the Interim Final Rule (62 FR
15601). This regulation allowed all SBA Lenders to securitize while SBA
continued its thorough review of securitization issues. Recognizing the
complexity of the subject, SBA decided to hold a public hearing and
consult bank regulators and other experts. While doing so, it has
reviewed each proposed transaction on a case-by-case basis under the
Interim Final Rule to protect the safety and soundness of the 7(a)
program.
During its review process, SBA convened a public hearing at which
interested parties publicly stated their views on securitization and
related safety and soundness issues. SBA engaged securitization and
accounting experts, and consulted representatives from bank and other
financial regulatory agencies, including the Federal Deposit Insurance
Corporation (FDIC), Office of the Comptroller of the Currency (OCC),
Department of the Treasury, the Federal Reserve Board, Office of
Federal Housing Enterprise Oversight and Office of Thrift Supervision
(OTS).
SBA has carefully considered all views and comments expressed by
these experts, bank regulators, and the industry, and has incorporated
many of the comments and recommendations into a unified regulatory
approach consisting of three levels. In January of 1998, SBA discussed
its three level approach with representatives of the bank regulatory
agencies.
SBA believes this proposal is an improvement over the Interim Final
[[Page 27220]]
Rule. The levels would apply uniformly, providing equal treatment to
depository and nondepository institutions and addressing the
possibility of increased risk to the SBA portfolio from securitization.
The rule provides incentives for Lenders to maintain high underwriting
and servicing standards to minimize delinquencies and defaults.
Appropriately, the financial impact of the proposal on a particular
securitizer would depend on the performance of the securitizer's loans.
If the securitizer's loan performance has been good historically and
remains consistent or improves during the period that a securitization
is outstanding, the financial impact on the securitizer would be
minimal. However, if a securitizer's loan performance has been below
average historically or declines during the period that the
securitization is outstanding, consequences to the securitizer would be
greater. The new approach ties securitizer risk retention to
securitizer long-term credit performance and considers the long-term
credit cycle of SBA loans.
This proposed rule considers historic SBA loan data and is
consistent with bank regulatory policy and marketplace risk management.
The rule would facilitate the use of securitizations by setting forth
clear and consistent standards. Compared to the Interim Final Rule, SBA
believes the proposed rule would be better for taxpayers, better for
Lenders, and better for small businesses.
Securitization Risks
SBA supports securitization because it encourages Lenders to make
more SBA-guaranteed loans to America's small businesses. While
securitization can provide enormous benefits, SBA has concerns that
under certain circumstances or economic conditions the securitization
process might encourage poor credit quality and increase SBA's losses
on the guaranteed portion of its loans.
Securitization provides a market for large volume sales of SBA
loans. Therefore, securitizers have an incentive to make loans quickly
and record the profits from the securitization. Furthermore, if Excess
Spread Income from previous securitizations declines, a securitizer
might use the profits from new issues to offset the decline. These
circumstances create a risk that securitizers might compromise credit
quality in order to make more loans more quickly to increase profits.
Also, the securitization of the unguaranteed portions of small
business loans is relatively new and has developed during the strong
part of a business cycle. It is not clear what effect a downturn in the
economy will have on the credit quality of individual securitizers and
on the performance of securitized loans.
Under Financial Accounting Standards Board Statement Number 125
(``FASB 125''), a securitizer's earnings and capital grow faster than
the earnings and capital of a non-securitizer making the same loans.
FASB 125 requires Lenders that securitize loans and retain the
servicing to recognize immediately the full amount of future income
attributable to the securitized loans. This ``gain-on-sale'' income is
calculated by discounting a stream of future income. The approach
assumes an average life of the underlying loans, future servicing
expenses, and loan losses. Securitization and FASB 125 have a direct
effect on a securitizer's bottom line. The more loans a securitizer
makes and the faster it makes them, the greater the securitizer's
profits. Some experts have expressed concerns that this can lead to
pressure for a securitizer to increase volume by potentially relaxing
underwriting standards or reducing resources devoted to servicing.
SBA's response to these concerns is to focus, through this proposed
rule, on credit quality.
To control risk, SBA historically has relied on a Lender's
retention of a significant economic interest in the unguaranteed
portion of 7(a) loans. Lender risk retention has been the cornerstone
of SBA's guarantee program. A Lender that sells the entire unguaranteed
interest in a loan might be less accountable for losses because the
unguaranteed portion is no longer available as a risk sharing
mechanism.
Therefore, in its review, SBA has sought meaningful risk retention
mechanisms that encourage securitizers to originate loans of
appropriate credit quality while not discouraging securitization. SBA
has analyzed a number of questions relating to such risk retention
including: How should SBA structure risk retention to ensure that each
Lender retains sufficient economic exposure to maintain high
underwriting and servicing standards? Should SBA require securitizers
to hold back a portion of their loans from securitization, retain
subordinated securities issued in the securitization (a ``subordinated
tranche''), or reserve cash? How much should the securitizer retain,
purchase, or reserve? Who should determine the retainage amount, SBA or
the rating agencies? What additional components should SBA require as a
complement to a retention? Are there credit quality or loan performance
standards which should trigger additional consequences? Supported by
expert advice, SBA has now developed the following unified approach to
regulating securitizations.
The Unified Regulatory Approach
This proposed rule does not rely solely on retention to encourage
Lenders to maintain high credit quality and underwriting and servicing
standards. Instead, it contains several progressive levels. The levels
are:
(1) A consistent and enforceable capital requirement;
(2) A retention requirement (subordinated tranche); and
(3) Suspension of a securitizing PLP Lender's unilateral loan
approval privileges (``PLP approval privileges'') if the currency rate
(the percentage of loans that are less than 30 days past due) of the
loans in the securitizer's portfolio deteriorates over time.
SBA believes this approach is superior to SBA's February 1997
securitization proposal that suggested a 5% retention requirement on
all securitizers at the beginning of the securitization without regard
to the securitizer's credit quality history or the subsequent
performance of the securitized loans. The unified approach imposes a
smaller economic impact on the securitizer initially, but establishes
credit quality standards which, if not met during the life of a
securitization, trigger increased scrutiny of the securitizer's
underwriting. It provides securitizers with appropriate incentives tied
to actual credit performance, affords SBA the protection it seeks for
itself and taxpayers, and still facilitates securitization for all
originators. A more detailed discussion of each level follows.
The Capital Requirement
A capital requirement is a basic component of the regulation of any
financial institution. It is a common method for measuring a Lender's
financial strength.
SBA is in the process of considering capital requirements for all
its participating Lenders. Although maintenance of minimum capital is
important for all SBA participating Lenders at all times, SBA believes
the maintenance of minimum capital is especially important with respect
to securitizers. Requiring the securitizer to maintain a minimum level
of capital encourages prudent underwriting and servicing practices.
Credit quality is fundamental to the maintenance of capital. Loan
losses erode capital. As well as being a measure of reduced
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financial strength, eroding capital may signal weakening credit
quality.
To emphasize the significance SBA attaches to a securitizer's
compliance with capital requirements, SBA has designated the
maintenance of minimum capital as the first level of its unified
approach for regulating securitization. The proposed rule would require
all depository and nondepository securitizers to maintain minimum
capital consistent with the requirements imposed on depository
institutions by the Federal Reserve Board, the FDIC, the OCC, and the
OTS (the ``bank regulatory agencies'').
For depository Lenders, SBA's capital requirement would not add to
that which is already required by the bank regulatory agencies. Thus,
this proposed rule should have no independent effect on depository
institutions that already comply with capital requirements imposed by
the bank regulatory agencies.
This proposed rule would apply to all securitizing nondepository
institutions, including SBLCs, Business and Industrial Development
Companies (``BIDCOs''), and other institutions approved for
participation in SBA's loan programs. As the Federal agency with
primary responsibility for regulating SBLCs, SBA has had a capital
requirement for SBLCs in its regulations since 1975. SBA's capital
requirements for SBLCs have not always been consistent with the capital
requirements imposed by the bank regulatory agencies on depository
institutions. For example, SBA's current SBLC regulations include a 10%
capital requirement on the SBLC's share of all outstanding loans. At
present, the capital requirement for depository institutions imposed by
bank regulatory agencies applicable to comparable assets is 8%.
Further, SBA's present capital requirement regulation does not consider
the recourse issues associated with securitization already addressed by
the bank regulatory agencies. SBA believes that conforming its capital
requirements for securitizing SBLCs to general bank regulatory policy
known and understood by the lending community would eliminate confusion
and create a consistent and level playing field.
SBA currently requires SBLCs to maintain a minimum unencumbered
paid in capital and paid in surplus equal to at least $1 million. SBA
believes that a securitizing nondepository institution should have such
minimum capital. Therefore, in addition to the requirements of bank
regulatory agencies, SBA will require securitizing nondepository
institutions to maintain such minimal capital. SBA also currently
requires SBLCs to provide to SBA annual audited financial statements
demonstrating that SBA's present capital requirement is met. The
proposed rule would require all securitizing nondepository Lenders to
submit such audited financial statements.
The Retention of a Subordinated Tranche
As proposed, SBA would require securitizers to retain a
subordinated tranche equal to the greater of (a) twice the loss rate
(the SBA charge off rate) experienced on a securitizer's SBA loans,
originated or purchased, for a 10-year period or (b) 2% of the
unguaranteed portion of the securitized loans. These securities would
be subordinate to all other tranches issued. Based on historical data,
SBA expects that most securitizers' retention levels would be between
12 and 2%. The current average would be 5.4% for SBA's high volume
Lenders. (See the loss rates in Chart 1 below). It is a common practice
for retention percentages to be based on multiples of expected losses.
For example, rating agencies use a multiple of expected losses as part
of the formula to determine the minimum amount a securitizer must
deposit in the spread account. The 2% minimum approximates twice the
cumulative loss rate of the best performing SBA loan originators.
Currently, only four of the high volume Lenders referred to in Chart 1
would be below the 2% minimum threshold. Even for the best
securitizers, SBA believes the minimum subordinated tranche is
necessary to counter the potential risks of securitizing.
[[Page 27222]]
[GRAPHIC] [TIFF OMITTED] TP18MY98.016
SBA is aware that a downturn in regional economic conditions may
affect securitizers' loss rates adversely even though the securitizers'
underwriting and servicing standards remain high. Under those
circumstances, the rule would permit SBA to modify the formula for the
retention size, if its enforcement might exacerbate the adverse
economic conditions in the region.
The retention requirement addresses SBA's concern that unusually
large losses may occur early in the life of loans originated by a
rapidly growing securitizer which may not be covered by Excess Spread
or reflected in a securitizer's historical performance. SBA believes
the proposed retention requirement is fair because there is a direct
relationship between the size of the subordinated interest that a
securitizer must retain and the securitizer's own historical
performance. The proposed approach should give securitizers an added
incentive to originate, purchase, and service high quality loans.
Under the proposed rule, securitizers would be able to sell the
subordinated tranche at market value after retaining the tranche for
six years. SBA's historical loss data indicates that its Lenders incur
most losses between years three and five of a twenty-five year loan
(see Charts 2 and 3). If the loans do not perform as expected, not only
may the securitizer suffer losses, but the tranche will have
significantly less value if the securitizer tries to sell it after the
holding period ends. For this reason, requiring securitizers to hold
the tranche for the six year period reinforces the incentive to
originate and service high quality loans.
Chart 2
[In percent]
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Defaults Total Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Year 11 Year 12 Year 13
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0-6 year maturity................................... 10.02 0.12 2.10 3.33 2.42 1.18 0.46 0.12 0.16 0.06 0.03 0.02 0.01 0.01
6-12 year maturity.................................. 17.02 0.09 2.56 4.92 4.00 2.38 1.42 0.89 0.35 0.18 0.10 0.06 0.04 0.03
12-18 year maturity................................. 14.67 0.05 1.43 3.42 3.20 2.28 1.45 1.00 0.68 0.37 0.34 0.19 0.20 0.05
Over 18 years....................................... 18.11 0.05 1.16 3.32 3.36 2.89 2.32 1.50 1.19 0.66 0.64 0.42 0.45 0.14
1998 Cohort......................................... 16.11 0.08 1.87 3.96 3.46 2.37 1.60 1.01 0.65 0.35 0.30 0.20 0.20 0.07
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[GRAPHIC] [TIFF OMITTED] TP18MY98.017
SBA selected a subordinated tranche as the retention level in its
unified approach to regulating securitizations for several reasons.
Unlike a retained pro-rata interest in the entire loan, or a cash
reserve dedicated to SBA, a retained subordinated interest is a
retained economic interest that benefits both SBA and investors.
Several commenters and experts have suggested to SBA that such an
interest is more sensitive to losses than other available options. The
use of a subordinated tranche also is widely accepted by rating
agencies and investors.
Unlike a menu of possible retainage options and combinations,
retention of a subordinated tranche is a single, simple and uniform
requirement. It introduces greater certainty to a developing market and
makes it easier to compare one issue of securities with another. A cash
reserve in SBA's control also would be less desirable to securitizers
because such a reserve would earn less due to required conservative
investing.
The size of the subordinated tranche is directly related to loan
experience. The three options in SBA's proposed rule (62 FR 8640) of
February 26, l997 established a set retention level equal to 5% of the
entire loan, which is equal to 20% of the unguaranteed portion of a
typical loan, without regard to credit quality or any measurable
economic impact. SBA believes an empirically-based retention percentage
is superior to a set 5% retention level because it reflects the credit
quality and historical loan performance of the securitizer.
SBA has always required Lenders to maintain a meaningful economic
interest in SBA guaranteed loans in order to protect the taxpayer. A
number of past comments have suggested that SBA need not impose any
retainage requirement because securitizers retained a sufficient
continuing economic interest in the Excess Spread. These commenters
argued that credit losses taken against the Excess Spread result in
meaningful economic consequences to a securitizer that has recognized
the present value of the future excess cash flow as income. SBA agrees
with much of this argument. It acknowledges that the discipline and
methodology imposed by, and the information generated by, the rating
agencies provide valuable protection to SBA. Nevertheless, SBA has
decided not to rely solely on rating agencies to set retention levels.
SBA believes that sole reliance on Excess Spread is not enough to
protect taxpayers in the event of deteriorating loan performance. The
market uses the Excess Spread to protect the investor, not the
taxpayer. Some commenters and experts have asserted that reliance on
securitization may change a securitizer's behavior and increase risk to
the taxpayer. Since taxpayers have a greater dollar exposure on each
loan than any investor, SBA believes it needs economic incentives in
addition to those the market provides to ensure the safety and
soundness of the 7(a) program.
Suspension of PLP Approval Privileges
For purposes of this proposed rule, if the currency rate of a PLP
securitizer declines, SBA would suspend that securitizer's PLP approval
privileges under two circumstances: (a) if the rate of decline is more
than 110% of the rate of decline of the currency rate of all loans
approved under the PLP program (PLP Program Loans) as calculated from
quarter to quarter or (b) if the decline is more than five percentage
points when the currency rate of the PLP Program Loans remains stable
or increases. If the securitizer's currency rate remains stable or
improves, the securitizer may continue to use PLP procedures for loan
approval. SBA plans to calculate and compare the currency rate for PLP
Program Loans and the currency rate for each securitizer's portfolio
each quarter.
[[Page 27224]]
By suspending PLP approval privileges and requiring a Lender to
submit all of its loans through SBA's field offices for approval, SBA
can monitor a securitizer's credit practices more closely. Ideally, SBA
will be able to identify declining loan performance before it can
threaten a securitizer's entire portfolio and financial condition. SBA
monitoring may assist the securitizer to improve credit practices while
protecting the safety and soundness of the program. SBA may reactivate
the securitizer's PLP approval privileges at any time.
Based on an analysis of changes in the currency rate of the SBA
portfolio over the past 16 years, SBA estimates that few securitizing
PLP Lenders will be subject to the privilege suspension (see Charts 4
and 5). However, SBA recognizes that a downturn in the economy might
trigger suspension for a greater number of PLP Lenders. Consequently,
SBA has included in this rule a provision allowing SBA to waive
suspension of PLP approval privileges for securitizers in an area where
currency rates have been adversely affected by a downturn in regional
economic conditions, if enforcing this element might exacerbate the
adverse economic conditions in the area.
Chart 4
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Currency Absolute 110% of
Year ending rate value of Percentage percent
(percent) change change change
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1980........................................................ 80.20 ........... ........... ...........
1981........................................................ 77.70 0.0250 3.12 3.43
1982........................................................ 76.20 0.0150 1.93 2.12
1983........................................................ 75.50 0.0070 0.92 1.01
1984........................................................ 76.80 0.0130 1.72 1.89
1985........................................................ 78.00 0.0120 1.56 1.72
1986........................................................ 81.30 0.0330 4.23 4.65
1987........................................................ 80.90 0.0040 0.49 0.54
1988........................................................ 83.50 0.0260 3.21 3.54
1989........................................................ 84.70 0.0120 1.44 1.58
1990........................................................ 86.90 0.0220 2.60 2.86
1991........................................................ 86.20 0.0070 0.81 0.89
1992........................................................ 87.60 0.0140 1.62 1.79
1993........................................................ 88.80 0.0120 1.37 1.51
1994........................................................ 90.90 0.0210 2.36 2.60
1995........................................................ 90.60 0.0030 0.33 0.36
1996........................................................ 89.40 0.0120 1.32 1.46
Average Change.............................................. ........... 0.0149 ........... ...........
Standard Dev................................................ ........... 0.0084 ........... ...........
----------------------------------------------------------------------------------------------------------------
Cells in bold represent years when the currency rate increased, therefore the 5 percentage point test would
apply.
[GRAPHIC] [TIFF OMITTED] TP18MY98.018
SBA reviewed numerous methodologies to determine an equitable and
effective way to measure a securitizer's credit quality and to
establish a basis for comparison to overall portfolio behavior. SBA
believes that currency rate is a reliable predictor of future losses.
SBA also believes the thresholds it has selected are fair and would
trigger economic consequences to the securitizer only if loan
performance seriously declines.
Additional Levels
One of SBA's consultants proposed a fourth level to SBA's approach
to regulating securitization which level would be based on a
securitizer's loss rates and, therefore, be tied to long-term
[[Page 27225]]
performance. The consultant recommended that the fourth level be a
supplemental payment. SBA would impose a supplemental payment equal to
1 percent of the outstanding balance of the securitization based on the
performance of the loans in the securitization. If the securitization
loss rate (1) remained the same, (2) declined, (3) increased by no more
than 5 percent from year to year, or (4) was no more than 2 percent,
than a supplemental payment would not be due. If, however, a
securitization loss rate was over 2 percent and increased by more than
5 percent, the securitizer would be required to make a supplemental
payment with respect to that securitization, if (a) the percentage
change in the securitization loss rate was at least two times any
percentage increase in SBA's loan portfolio loss rate or (b) the
securitization loss rate is twice the loss rate of SBA's loan
portfolio, and the loss rate for the SBA loan portfolio remained stable
or declined. The provisions of this additional level would apply to a
securitization only during the period the subordinated tranche would be
required to be held. SBA would limit the supplemental payment to the
holding period because it is during this crucial period that Lenders
historically have experienced the highest loan losses.
Imposing an economic consequence if a securitizer's loan portfolio
begins to show significant increases in losses would give a securitizer
an additional direct financial incentive to maintain credit quality.
Others with whom SBA has consulted agree that this would be an
appropriate progression within SBA's regulatory approach. SBA is
predisposed to add a fourth level featuring a direct financial
incentive to its unified approach to securitization, but recognizes
that it lacks legislative authority to impose new direct fees on its
Lenders. SBA will be considering this matter further and welcomes
comment on the subject.
In addition to the levels proposed, the rule would: a) require that
SBA's Fiscal and Transfer Agent (``FTA'') hold all original promissory
notes; (b) prohibit Lenders from securitizing loans not yet closed and
fully disbursed; and (c) allow SBA to require all securitizers to use
SBA's model multi-party agreement and model pooling and servicing
agreement once developed. The use of the model agreements would
expedite processing.
Multi-Lender Securitizations
Although SBA has not yet approved a multi-Lender securitization, it
believes that low volume Lenders should have the same access to
securitization as high volume Lenders. SBA expects that the market will
develop the structures necessary to permit low volume Lenders to
securitize. Several ideas are in the early stages of development. As
part of this proposal, SBA is soliciting comments to assist it in
formulating multi-Lender securitization requirements. What criteria
should SBA use to review multi-Lender securitizations? Are there unique
risks inherent in a multi-Lender transaction? Should all Lenders be
eligible to participate in a multi-Lender transaction or should only
Preferred Lender Program (``PLP'') Lenders be able to participate?
Should each participant in the multi-Lender securitization be required
to comply with the levels contained in this proposed rule? Does SBA
need safeguards for multi-Lender securitizations in addition to those
in this proposed role to ensure credit quality and loan performance and
protect the safety and soundness of the 7(a) program?
II. Other Conveyances Component
The Other Conveyances component governs pledges and sales other
than sales for the purpose of securitizing. This proposed rule would
require SBA's prior written consent for the sale of a Lender's entire
interest in a loan to another participating Lender. It would permit,
with prior written notice to SBA, a sale after which the SBA Lender
would continue to own a portion of the unguaranteed interest equal to
at least 10% of the outstanding principal amount of the loan. This
proposed rule would permit a Lender to sell an even greater portion of
the loan as long as the sale received SBA's prior written consent,
which consent could be withheld in SBA's sole discretion. The rules for
sales of participating interests mirror those for sales. By allowing
Lenders to sell the unguaranteed portion of their SBA loans in this
manner, SBA encourages Lenders to make small business loans while
protecting the safety and soundness of the 7(a) program.
Like the Interim Final Rule (62 FR 15601), this proposal also would
require that a Lender obtain SBA's written consent prior to all pledges
of SBA loans except for certain types of pledges enumerated in 13 CFR
Sec. 120.435. Except for such enumerated pledges, the SBA Lender must
use proceeds of the loan secured by the SBA loans solely for the
purpose of financing additional SBA loans. The provisions for pledging
are almost unchanged from the Interim Final Rule.
Finally, this proposal incorporates several elements set forth in
the Interim Final Rule and requires that a Lender be in good standing
as determined by SBA. All documentation, including the multi-party
agreement, must be satisfactory to SBA. The proposed rule also would
require that a Lender or a third party acceptable to SBA hold the
original promissory notes.
SBA seeks comments on all aspects of the proposal. In particular,
SBA seeks comments suggesting any other level which it might
incorporate in its unified regulatory approach as an additional
incentive to securitizers to maintain high underwriting and servicing
standards. For example, should additional action (beyond suspension of
PLP approval privileges) be taken if a securitizer's loss rate declines
significantly?
While this proposed rule is pending, SBA will continue to review
proposed securitizations on a case by case basis under the Interim
Final Rule.
Compliance With Executive Orders 12612, 12778, and 12866, the
Regulatory Flexibility Act (5 U.S.C. 601, et seq.), and the
Paperwork Reduction Act (44 U.S.C. Ch. 35)
SBA certifies that this proposed rule would not constitute a
significant rule within the meaning of Executive Order 12866, since it
is not likely to have an annual effect on the economy of $100 million
or more, result in a major increase in costs or prices, or have a
significant adverse effect on competition or the United States economy.
SBA certifies that this proposed rule would not have a significant
economic impact on a substantial number of small entities within the
meaning of the Regulatory Flexibility Act, 5 U.S.C. 601 et seq. This
proposed rule is intended to replace SBA's Interim Final Rule published
on April 2, 1997. Like the Interim Final Rule, it would allow
depository Lenders to securitize loans (as nondepository Lenders have
done for the last six years). Since the publication of SBA's Interim
Final Rule almost one year ago, only one depository Lender has
securitized. Moreover, that Lender would not qualify as small under
SBA's size standards. 13 CFR Sec. 121.201. SBA will consider any
additional information from the public on its assessment of the impact
of this proposed rule on small banks, nondepository institutions or
other small businesses.
SBA certifies that this proposed rule would not impose any
additional reporting or recordkeeping requirements under the Paperwork
Reduction Act, 44 U.S.C. chapter 35.
For purposes of Executive Order 12612, SBA certifies that this
proposed
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rule would have no federalism implications warranting preparation of a
Federalism Assessment.
For purposes of Executive Order 12778, SBA certifies that this
proposed rule has been drafted, to the extent practicable, to accord
with the standards set forth in section 2 of that Order.
List of Subjects 13 CFR Part 120
Loan programs--business, Reporting and recordkeeping requirement,
Small businesses.
For the reasons set forth above, SBA proposes to amend 13 CFR part
120 as follows:
PART 120--[AMENDED]
1. The authority citation for 13 CFR Part 120 continues to read as
follows:
Authority: 15 U.S.C. 634(b)(6) and 636(a) and (h).
2. Revise Sec. 120.420 to read as follows:
Financings By Participating Lenders
Sec. 120.420 Definitions:
Bank regulatory agencies--The bank regulatory agencies are the
Federal Deposit Insurance Corporation, the Federal Reserve Board, the
Office of the Comptroller of the Currency, and the Office of Thrift
Supervision.
Currency rate--A securitizer's ``currency rate'' is the dollar
balance of its SBA guaranteed loans that are less than 30 days past due
divided by the dollar balance of its outstanding portfolio of SBA
guaranteed loans, as calculated by SBA.
Good standing--A securitizer is in ``good standing'' with SBA if it
is in compliance with all applicable laws and regulations, policies and
procedures, is in good financial condition as determined by SBA, and is
not under investigation, indictment for, has not been convicted for or
had a judgment entered against it or have any officers or employees who
have been convicted, indicted, under investigation or the subject of a
civil judgment for a felony or charges relating to a breach of trust or
violation of a law or regulations protecting the integrity of business
transactions or relationships.
Loss rate--A securitizer's ``loss rate'', as calculated by SBA, is
the aggregate principal amount of the securitizer's SBA guaranteed
loans determined uncollectable by SBA for the most recent ten year
period, excluding current fiscal year activity, divided by the
aggregate original principal amount of SBA guaranteed loans disbursed
by the securitizer during that period.
Nondepository institution--A ``nondepository institution'' is a
Small Business Lending Company regulated by SBA (''SBLC'') or a
Business and Industrial Development Company (``BIDCO'') or other
nondepository institution participating in SBA's 7(a) program.
Securitization--A ``securitization'' is the pooling and sale of the
unguaranteed portion of SBA guaranteed loans to a trust, special
purpose vehicle, or other mechanism, and the issuance of securities
backed by those loans to investors in either a private placement or
public offering.
3. Add Sec. 120.421 through 120.428 to read as follows:
Sec. 120.421 Which Lenders may securitize?
All SBA participating Lenders may securitize.
Sec. 120.422 Are all securitizations subject to these regulations?
All securitizations are subject to the regulations in this part.
SBA will consider securitizations involving multiple Lenders on a case
by case basis. SBA will use the conditions in Sec. 120.425 as a
starting point for reviewing multiple Lender securitizations.
Securitizations by affiliates are considered single Lender
securitizations for purposes of the regulations in this part.
Sec. 120.423 Which SBA loans may a Lender securitize?
Notwithstanding the provisions of Sec. 120.453(c), a Lender may
only securitize guaranteed loans that are fully disbursed by the
closing date of the securitization. If the amount of a fully disbursed
loan increases after a securitization settles, the Lender must retain
the increased amount.
Sec. 120.424 What are the basic conditions a Lender must meet to
securitize?
To securitize, a Lender must:
(a) Be in good standing as determined by the Associate
Administrator for Financial Assistance (AA/FA);
(b) Use a securitization structure which is satisfactory to SBA;
(c) Use documents acceptable to SBA, including SBA's model multi-
party agreement;
(d) Obtain SBA's written consent, which it may withhold in its sole
discretion, prior to executing a commitment to securitize; and
(e) Cause the original notes to be stored at the FTA, as defined in
Sec. 120.600, and other loan documents to be stored with a third party
approved by SBA.
Sec. 120.425 What are the minimum elements that SBA will require
before consenting to a securitization?
A securitizer must comply with the following three conditions:
(a) Capital requirement.--All securitizers must maintain minimum
capital consistent with the requirements imposed on depository Lenders
by the bank regulatory agencies. For depository institutions, SBA will
consider compliance with the capital requirements of the bank
regulatory agencies as compliance with this section. SBA's capital
requirement does not change that which these banking agencies already
require. In addition to meeting the capital requirements of the bank
regulatory agencies, securitizing nondepository institutions also must
maintain a minimum unencumbered paid in capital and paid in surplus
equal to at least $1 million. Each nondepository institution must
submit annually audited financial statements demonstrating that it has
met SBA's capital requirement.
(b) Subordinated tranche.--A securitizer must retain a tranche of
the securities issued in the securitization (subordinated tranche)
equal to the greater of two times the securitizer's loss rate on the
securitizer's SBA loans, original and purchased, for a 10 year period
or 2 percent of the outstanding principal balance at the time of
securitization of the unguaranteed portions of the loans in the
securitization. This tranche must be subordinate to all other
securities issued in the securitization including other subordinated
tranches. The securitizer may not sell, pledge, transfer, assign, sell
participations in, or otherwise convey the subordinated tranche during
the first 6 years after the date of closing of the securitization. The
securities evidencing the subordinated tranche must bear a legend
stating that the securities may not be sold until 6 years after the
issue date. SBA may modify the formula for determining the tranche size
for a securitizer in a region affected by a severe economic downturn if
it concludes that enforcing this section might exacerbate the adverse
economic conditions in the region.
(c) PLP privilege suspension.--(1) If a PLP securitizer's currency
rate declines, SBA may suspend the securitizer's PLP unilateral loan
approval privileges (PLP approval privileges) under either of the
following circumstances:
(i) If the decline is more than 110% of the rate of the decline of
the currency rate of all loans approved under the PLP program (PLP
Program Loans) as calculated from quarter to quarter or
[[Page 27227]]
(ii) If the decline is more than five percentage points and the
currency rate of the PLP Program Loans remains stable or increases.
(2) SBA will calculate and compare the currency rate for PLP
Program Loans and the currency rate for each securitizer's portfolio
each quarter. Loans approved in the current fiscal year will not be
included in the calculation of the currency rate. In the event of a
severe downturn in a regional economy, a securitizer's currency rate is
adversely affected, SBA may waive privilege suspension for all
securitizers in the region, if it concludes that enforcing this section
might exacerbate the adverse economic conditions in the region.
Sec. 120.426 What action will SBA take if a securitizer transfers the
subordinated tranche prior to the termination of the holding period?
If a securitizer transfers the subordinated tranche prior to the
termination of the holding period, SBA immediately will suspend the
securitizer's ability to make new SBA loans. The securitizer will have
30 calendar days to submit an explanation to SBA. SBA will have 30
calendar days to review the explanation and determine whether or not to
lift the suspension. If an explanation is not received within 30
calendar days or the explanation is not satisfactory to SBA, SBA may
transfer the servicing of the applicable securitized loans, including
the securitizers' servicing fee on the guaranteed and unguaranteed
portions and the premium protection fee on the guaranteed portion, to
another SBA participating Lender.
Sec. 120.427 Will SBA approve a securitization application from a
capital impaired Lender?
If a Lender does not maintain the level of capital required by
Sec. 120.425(a), SBA will not approve a securitization application from
that Lender.
Sec. 120.428 What happens if SBA suspends a securitizer's PLP approval
privileges?
If SBA suspends a securitizer's PLP approval privileges:
(a) the securitizer must continue to service and liquidate loans
according to its PLP Supplemental Agreement.
(b) SBA may reinstate the securitizer's PLP approval privileges if
the securitizer demonstrates to SBA's satisfaction that the change in
currency rate was caused by factors beyond the securitizer's control.
4. Redesignate current Sec. 120.430 as Sec. 120.414.
5. Redesignate current Sec. 120.431 as Sec. 120.415.
6. Add Secs. 120.430 through 120.435 to read as follows:
Other Conveyances
Sec. 120.430 What conveyances are covered by Secs. 120-430 through
120.435?
Sections 120.430 through 120.435 cover all other transactions in
which a Lender sells, sells a participating interests in, or pledges an
SBA guaranteed loan other than for the purpose of securitizing and
other than conveyances covered under subpart F of this part.
Sec. 120.431 Which Lenders may sell, sell participations in, or pledge
SBA loans?
Notwithstanding the provisions of Section 120.453(c), all Lenders
may sell, sell participations in, or pledge SBA loans in accordance
with this subpart.
Sec. 120.432 Under what circumstances does this rule permit sales of,
or sales of participating interests in, SBA loans?
(a) A Lender may sell all of its interest in an SBA loan to another
Lender operating under a current Loan Guarantee Agreement (SBA Form
750) with SBA's prior written consent, which SBA may withhold in its
sole discretion. The purchasing Lender must take possession of the
promissory note and other loan documents and service the sold SBA loan.
The purchasing Lender must sign an agreement satisfactory to SBA
acknowledging that it is purchasing the loan subject to SBA's right to
deny liability on its guarantee.
(b) A Lender may sell, or sell a participating interest in, a part
of an SBA loan. If the Lender retains ownership of a part of the
unguaranteed portion of the loan equal to at least 10% of the
outstanding principal balance of the loan, the Lender must give SBA
prior written notice of the transaction, and the Lender must continue
to hold the note and service the loan. If a Lender retains ownership of
a portion of the unguaranteed interest of the loan equal to less than
10% of the outstanding principal balance of the loan, the Lender must
obtain SBA's prior written consent to the transaction, which consent
SBA may withhold in its sole discretion. The Lender must continue to
hold the note and service the loan unless otherwise agreed by SBA.
(c) For purposes of this section SBA will not consider a Lender to
be the owner of any portion of a loan in which it has sold a
participating interest.
Sec. 120.433 What are SBA's other requirements for sales and sales of
participating interests?
SBA requires the following:
(a) The Lender must be in good standing as determined by the AA/FA;
(b) In transactions requiring SBA's consent, all documentation must
be satisfactory to SBA, including, if SBA determines it to be
necessary, a multi-party agreement or other agreements satisfactory to
SBA; and
(c) The servicer of the loan or FTA must retain possession of the
original promissory notes. The servicer must retain possession of all
other original loan documents for all loans.
Sec. 120.434 What are SBA's requirements for loan pledges?
(a) Except as set forth in Section 120.435, SBA must give its prior
written consent to all pledges of any portion of an SBA loan, which
consent SBA may withhold in its sole discretion;
(b) The Lender must be in good standing as determined by the AA/FA;
(c) All loan documents must be satisfactory to SBA and must include
a multi-party agreement among SBA, Lender, the pledgee, FTA and such
other parties as SBA determines are necessary;
(d) The Lender must use the proceeds of the loan secured by the SBA
loans only for financing SBA loans;
(e) The Lender must remain the servicer of the loans and retain
possession of all loan documents other than the original promissory
notes; and
(f) The Lender must transfer the original promissory notes to FTA.
Sec. 120.435 Which loan pledges do not require notice to or consent by
SBA?
The following pledges of SBA loans do not require notice to or
consent by SBA:
(a) Treasury tax and loan accounts;
(b) The deposit of public funds;
(c) Uninvested trust funds;
(d) Discount borrowings at a Federal Reserve Bank; or
(e) Pledges to the Federal Home Loan Bank Board.
Dated: May 5, 1998.
Aida Alvarez,
Administrator.
[FR Doc. 98-12535 Filed 5-15-98; 8:45 am]
BILLING CODE 8025-01-P