[Federal Register Volume 85, Number 247 (Wednesday, December 23, 2020)]
[Proposed Rules]
[Pages 83837-83839]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-28195]


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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. 85, No. 247 / Wednesday, December 23, 2020 / 
Proposed Rules  

[[Page 83837]]



SMALL BUSINESS ADMINISTRATION

13 CFR Part 120

RIN 3245-AH29


Secondary Market Program--Proposed Regulatory Changes

AGENCY: U.S. Small Business Administration.

ACTION: Advance notice of proposed rulemaking.

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SUMMARY: The U.S. Small Business Administration (SBA or Agency) is 
considering a change in the structure of its secondary market 7(a) loan 
pool security to better align the collateral and cash flows to support 
the long-term viability of the SBA secondary market 7(a) loan pooling 
program. Specifically, SBA seeks public comment on the alignment of 
cash flows between the collateral (the guaranteed portion of 7(a) 
loans) and the pool security (Pool Certificate), the timely payment of 
scheduled interest and actual principal, and the publication of 
additional loan-level disclosure. The Agency is also seeking public 
comment on registering such securities in book-entry form.

DATES: Comments must be received on or before February 22, 2021.

ADDRESSES: You may submit comments, identified by RIN 3245-AH29, by any 
of the following methods:
     Federal eRulemaking Portal: https://www.regulations.gov. 
Follow the instructions for submitting comments.
     Mail/Hand Delivery/Courier: Peter Meyers, Office of 
Capital Access, U.S. Small Business Administration, 409 Third Street 
SW, 8th Floor, Washington, DC 20416.
    All comments will be posted on https://www.regulations.gov. If you 
wish to submit confidential business information (CBI) as defined in 
the User Notice at https://www.regulations.gov, you must submit such 
information either by mail to Peter Meyers, Office of Capital Access, 
U.S. Small Business Administration, 409 Third Street SW, 8th Floor, 
Washington, DC 20416, or by email to [email protected]. Highlight 
the information that you consider to be CBI and explain why you believe 
SBA should hold this information as confidential. SBA will review your 
information and determine whether it will make the information public.

FOR FURTHER INFORMATION CONTACT: Peter Meyers, Office of Capital 
Access, U.S. Small Business Administration, 409 Third Street SW, 8th 
Floor, Washington, DC 20416; (202) 527-1253 or [email protected].

SUPPLEMENTARY INFORMATION:

I. Background

    The Secondary Markets Improvement Act of 1984 (Pub. L. 98-352) 
authorized SBA to establish a secondary market to facilitate the 
pooling of the guaranteed portion of 7(a) loans (underlying loans) into 
securities (referred to as Pool Certificates). The SBA secondary market 
allows SBA Lenders to expand their commitment to small businesses by 
establishing a process for the sale and pooling of SBA-guaranteed 7(a) 
loans into securities, which enables SBA Lenders to leverage their 
capital and make more 7(a) loans. SBA Lenders may sell SBA-guaranteed 
7(a) loans to SBA-approved Pool Assemblers, who aggregate loans into 
SBA pools (the underlying loans represent the collateral for the pool). 
SBA then issues Pool Certificates representing ownership of all or a 
fractional undivided interest in a part of those pools. SBA's guarantee 
on Pool Certificates is backed by the full faith and credit of the 
United States.
    Currently, investors receive a timely payment guarantee of 
principal and interest on Pool Certificates. However, certain 
structural limitations of the current pool security prevent the 
instrument from performing like a pure pass-through security. For 
example, mismatches in cashflows between the underlying loan collateral 
and the pool security may result in the accumulation of amortization 
excess in SBA's Master Reserve Fund (``MRF''). Historically, the 
program costs associated with amortization excess (and the additional 
coupon interest paid while the amortization excess remains in the MRF) 
has been absorbed by SBA.
    Other U.S. government-backed securities issued by government-
sponsored enterprises pass through all prepayments to the security 
holder, which keeps the cash flow from the underlying loan collateral 
aligned with the cash flow paid on the related securities. Government-
sponsored enterprises also disclose a significant amount of loan-level 
information which provides investors with a better understanding of 
underlying loan collateral performance and may enhance more accurate 
security pricing.

II. Current SBA Secondary Market 7(a) Loan Pool Security

    SBA's current secondary market 7(a) loan pool security provides for 
the timely payment of principal and interest each month. Full 
prepayments from the underlying loans are passed through to the Pool 
Certificate holders. Partial prepayments greater than 20% of the 
outstanding principal balance of the loan at the time of prepayment are 
also passed through to the Pool Certificate holders. However, partial 
prepayments that are 20% or less than the outstanding principal balance 
of the loan at the time of prepayment are held in the MRF for future 
distribution. While this current structure may protect the Pool 
Certificate holder from some prepayment risk, it can create imbalances 
between the underlying loans in the pool and the balance outstanding on 
the related Pool Certificates. SBA is seeking to eliminate this 
imbalance through the creation of a new SBA secondary market 7(a) loan 
pool security that better aligns payments in with payments out. SBA 
anticipates that the proposed solution will reduce the risk assumed by 
SBA for administering the 7(a) loan pooling program.
    SBA believes that offering a 7(a) loan pool security that is more 
similar to those of other government-backed enterprises will provide 
more consistent long-term stability for pool security payments, which 
will attract more institutional investors. SBA also believes that these 
changes will promote a continued source of liquidity for SBA Lenders 
that make 7(a) loans to small businesses.

III. Proposed New SBA Secondary Market 7(a) Loan Pool Security

A. Alignment of Cash Flows

    SBA is considering the issuance of a new modified pass-through pool 
security that would better align the actual monthly cash flows of the

[[Page 83838]]

underlying loans with the pool security. The underlying loans are 
structured as simple interest term loans that are amortized over their 
respective loan maturities. The allocation of principal and interest on 
any given installment payment is dependent on when the payment is 
received relative to when it is due. Accrued interest is paid up to the 
date of receipt of payment, with all remaining amounts applied to 
principal. When the underlying loans are paid as agreed according to 
their loan terms, the scheduled principal received from borrowers 
aligns with their respective loan amortization schedules. However, when 
borrower payments are late or missed, the payment of all accrued 
interest must be satisfied first before any remaining amount is applied 
to the principal outstanding. This can result in reduced loan principal 
paid by the borrower and, in some instances, no payment of principal at 
all. SBA does not require SBA Lenders, as loan servicers, to advance 
principal payments to make up for these differences. Under this current 
structure, the risk to SBA of supporting a scheduled principal payment 
to Pool Certificate holders is not sustainable over the long-term.
    The current SBA secondary market 7(a) loan pool security is further 
complicated by underlying loan prepayments. Scheduled pool principal is 
paid to Pool Certificate holders based on the outstanding pool 
principal balance and the remaining months to maturity of the pool. 
This can create a difference between the remaining pool principal 
balance outstanding and the principal balance outstanding on the 
underlying loans. Full prepayments (which include voluntary prepayments 
by borrowers and involuntary prepayments resulting from SBA's payment 
on its guarantee on defaulted 7(a) loans) require a reconciliation of 
the allocated principal paid to the pool compared with the actual loan 
principal received from the underlying loans. This reconciliation may 
result in a reduced amount of prepayment principal paid to Pool 
Certificate holders because portions of prepayment principal may be 
needed to cover a shortfall of principal collected on a specific loan. 
Conversely, this reconciliation may result in an additional amount of 
prepayment principal paid to Pool Certificate holders due to actual 
loan principal previously collected on a specific loan but not yet 
distributed.

B. Timely Payment of Scheduled Interest and Actual Principal

    As a solution to the misalignment of cash flows noted above, SBA is 
proposing to restructure its 7(a) loan pool security to provide for the 
timely payment of scheduled interest and actual principal received. SBA 
believes that this form of a modified pass-through security would 
remove differences arising from scheduled principal paid and actual 
principal received and eliminate the reconciliation and adjustment 
exercise occurring on all principal prepayments. Scheduled interest 
will be calculated using a 30/360 accrual method (i.e., interest will 
be calculated on the basis of a 360-day year consisting of twelve 30-
day months). It is a much simpler form of security and allows investors 
to monitor pool prepayment speeds based on the actual prepayment 
activity of the underlying loans. SBA believes that this will provide 
greater transparency to market participants.
    This structural change in the pool security will bring SBA Pool 
Certificates more in line with other U.S. government-backed securities 
and may be more marketable to potential investors. SBA believes that 
passing all prepayments through to the Pool Certificate holder will 
promote greater predictability of monthly cash flows. This will keep 
the underlying loan balances in sync with the related Pool Certificate 
balances and will no longer require the MRF to retain amortization 
excess or make advances of pool principal.
    Implementing a more standardized set of pool characteristics, such 
as requiring the same underlying loan payment due date and requiring 
ACH debits on underlying loan payments will also simplify the pooling 
process and create a more viable program for the long-term.

C. Loan-Level Disclosure

    In addition to the new features described above, SBA is considering 
a robust set of loan-level disclosures to accompany the launch of a new 
pass-through security. This data will provide investors with greater 
insight on the underlying loans and may help inform more accurate 
pricing decisions. A new disclosure portal could be launched to provide 
historical and current loan-level data as well as customizable reports.

D. Book Entry Registration

    To further align a new pool security with other U.S. government-
backed securities, SBA is proposing a book-entry form of registration. 
This electronic record of ownership will allow the pool security to be 
traded or transferred with greater ease than a physical certificate.

IV. Request for Comment

    SBA requests comments from the public on the questions listed 
below. The list of questions is meant to assist in the formulation of 
public comments and is not intended to restrict the issues that may be 
addressed. Responders are invited to comment on any or all portions of 
this ANPRM.

A. Questions About the Alignment of Cash Flows

    1. What are the advantages or disadvantages to SBA revising the 
current method of administering loan prepayments and other unscheduled 
principal payments?
    2. Are there benefits of knowing that a pool's underlying loan 
collateral balance will be in sync with that pool's outstanding 
security balance?
    3. What impact would this proposed new security have on the SBA 
secondary market 7(a) loan pooling program?
    4. What effect would the alignment of cash flows have on the 
pricing of a security?

B. Questions About the Timely Payment of Scheduled Interest and Actual 
Principal

    1. What payment features are most important when considering a new 
pool security? Are there certain payment features of the current Pool 
Certificate that SBA should consider changing?
    2. What effect would the timely payment of scheduled interest and 
actual principal have on the pricing of a pool security?

C. Questions About Loan-Level Disclosures

    1. Will providing loan level disclosures make the proposed pool 
security more attractive to a larger market?
    2. Which loan-level attributes could SBA provide that would be the 
most beneficial?
    3. What types of disclosures or reports would be preferable with a 
new pool security?
    4. What is the preferred method of receiving loan-level data and 
security-level data? Would using a disclosure portal to generate 
reports and download data files be a helpful resource?
    5. What features of a customer-facing disclosure tool might 
increase participation in the SBA secondary market 7(a) loan pooling 
program?
    6. What effect would the publication of robust loan-level 
disclosures have on

[[Page 83839]]

the pricing of the proposed pool security?

D. Questions About Book-Entry Registration

    1. Currently, Pool Certificates are registered in physical 
certificate form. Would there be a benefit to the new pool security 
being registered in book-entry form? If so, what would those benefits 
be?
    2. What additional process or technology changes would be needed to 
support a book-entry security?
    3. What effect would book-entry registration have on the pricing of 
the proposed pool security?

E. New SBA Secondary Market 7(a) Loan Pool Security General Comments

    SBA is seeking comments and recommendations on changes to the 
current pool security for the 7(a) loan program to better align 
underlying loan collateral and pool cash flows and to sustain the long-
term viability of the 7(a) loan pooling program. SBA also requests 
comments on the proposed cash flow alignment, the timely payment of 
scheduled interest and actual principal, loan-level disclosures, and 
book-entry registration.
    We value your comments and ask that you provide a rationale for any 
suggested changes or recommendations.

Jovita Carranza,
Administrator.
[FR Doc. 2020-28195 Filed 12-22-20; 8:45 am]
BILLING CODE P