outside of the qualified tender option bond entity that are limited to
the name and form of organization of the qualified tender option bond
entity, the identity of the issuer of the municipal securities, the
face value of the municipal securities deposited into the qualified
tender option bond entity, and the face value of the municipal
securities retained by the sponsor or its majority-owned affiliates and
subject to the hedging prohibition.
    Also, in response to commenters' requests for clarification of the
disclosure obligations of a sponsor of a tender option bond issuance,
the agencies believe that the sponsor of a tender option bond that
holds a residual interest that meets the requirements of section 10(c)
of the final rule should provide the disclosures required in section
4(c) of the final rule for both an eligible horizontal residual
interest and an eligible vertical interest.
    Under the final rule, the issuing entity of a qualified tender
option bond must have a legally binding commitment from a regulated
liquidity provider to provide 100 percent liquidity coverage with
respect to all of the issuing entity's

outstanding tender option bonds.\207\ In response to commenters'
requests for certain clarifications with respect to the required
liquidity coverage, the agencies recognize that the liquidity coverage
may not be enforceable against the regulated liquidity provider upon
the occurrence of a tender option termination event. Liquidity coverage
subject to this condition would nevertheless satisfy the liquidity
coverage requirement in the final rule.
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    \207\ The final rule does not require any specific form of
liquidity coverage. Provided that the liquidity coverage will cover
an amount sufficient to pay 100 percent of the principal outstanding
and interest payable on the tender option bonds, the final rule
permits liquidity coverage structured as a guarantee, credit
enhancement or credit support with respect to the underlying
securities or the floaters or an irrevocable put option.
---------------------------------------------------------------------------

    As commenters requested, the final rule also permits the sponsor of
a qualified tender option bond entity to combine the tender option bond
risk retention options with each other and the other risk retention
options under subpart B of the final rule. In any such case, the sum of
the percentages of risk retention held under each option and measured
in accordance with that option must total at least five. For example,
if a sponsor securitizes $100 million face value of bonds in a
qualified tender option bond entity and holds bonds outside the tender
option structure whose face value is $3 million or 3 percent of the
face value of the bonds in the qualified tender option bond entity, it
must hold a residual interest in the structure that has a fair value of
at least 2 percent of the fair value of all ABS interests issued by the
structure (the 3 percent plus the 2 percent when aggregated equal 5
percent of the fair value). The final rule does not require a minimum
amount of risk retention in any specific risk retention option, only
that the sum of the percentages of risk retention totals at least 5
percent of the fair value. The agencies believe that permitting this
flexibility better enables sponsors of tender option bonds to use the
options afforded under the final rule.
    The final rule requires the sponsor to calculate the fair value of
all ABS interests issued upon an issuance of tender option bonds that
increases the face amount of tender option bonds then outstanding. The
agencies believe that this approach appropriately balances the costs of
determining the fair value of the tender option bond residual interest
with the statutory requirement for risk retention. This means that a
sponsor of an issuance of tender option bonds that would like to
receive credit under the final rule for retaining a residual interest
in the qualifying tender option bond entity would calculate the fair
value of the residual interest in the qualifying tender option bond
entity in connection with the initial issuance of tender option bonds
in accordance with section 10 of the final rule and would not be
required to recalculate the fair value of such residual interest unless
either the face value of tender option bonds outstanding exceeds the
face value of bonds initially issued.

C. Allocation to the Originator

1. Overview of Proposal and Public Comment
    As a general matter, the original proposal and reproposal were
structured so that the sponsor of a securitization transaction would be
solely responsible for complying with the risk retention requirements
established under section 15G of the Exchange Act and the implementing
regulations, consistent with that statutory provision. However, subject
to a number of considerations, section 15G authorizes the agencies to
allow a sponsor to allocate at least a portion of the credit risk it is
required to retain to the originator(s) of securitized assets.\208\
Accordingly, subject to conditions and restrictions, the reproposal
(like the original proposal) would have permitted a sponsor to reduce
its required risk retention obligations in a securitization transaction
by the portion of risk retention obligations assumed by one or more of
the originators of the securitized assets.
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    \208\ As discussed above, 15 U.S.C. 78o-11(a)(4) defines the
term ``originator'' as a person who, through the extension of credit
or otherwise, creates a financial asset that collateralizes an
asset-backed security; and who sells an asset directly or indirectly
to a securitizer (i.e., a sponsor or depositor).
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    When determining how to allocate the risk retention requirements,
the agencies are directed to consider whether the assets sold to the
sponsor have terms, conditions, and characteristics that reflect low
credit risk; whether the form or volume of the transactions in
securitization markets creates incentives for imprudent origination of
the type of loan or asset to be sold to the sponsor; and the potential
impact of the risk retention obligations on the access of consumers and
businesses to credit on reasonable terms, which may not include the
transfer of credit risk to a third party.\209\
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    \209\ 15 U.S.C. 78o-11(d)(2). The agencies note that section
15G(d) appears to contain an erroneous cross-reference.
Specifically, the reference at the beginning of section 15G(d) to
``paragraph (c)(1)(E)(iv)'' is read to mean ``paragraph
(c)(1)(G)(iv)'', as the former paragraph does not pertain to
allocation, while the latter is the paragraph that permits the
agencies to provide for the allocation of risk retention obligations
between a securitizer and an originator in the case of a securitizer
that purchases assets from an originator.
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    In the reproposal, the agencies proposed a framework that would
have permitted a sponsor of a securitization to allocate a portion of
its risk retention obligation to an originator that contributed a
significant amount of assets to the underlying asset pool. The agencies
endeavored to create appropriate incentives for both the securitization
sponsor and the originator(s) to maintain and monitor appropriate
underwriting standards without creating undue complexity, which
potentially could mislead investors and confound supervisory efforts to
monitor compliance. Importantly, the reproposal would not have required
allocation to an originator. Therefore, it did not raise the types of
concerns about allocation of burden and credit availability that might
arise if certain originators, such as mortgage brokers or small
community banks (that may experience difficulty obtaining funding to
retain risk positions), were required to fulfill a sponsor's risk
retention requirement.
    The allocation to originator option in the reproposal was designed
to work in tandem with the standard risk retention option.
Additionally, the reproposal would have permitted a securitization
sponsor to allocate a portion of its risk retention obligation to any
originator of the underlying assets that originated at least 20 percent
of the underlying assets in the pool. The amount of the retention
interest held by each originator that was allocated credit risk in
accordance with the reproposal was required to be at least 20 percent,
but not in excess of the percentage of the securitized assets it
originated. The originator would have been required to hold its
allocated share of the risk retention obligation in the same manner as
would have been required of the sponsor, and subject to the same
restrictions on transferring, hedging, and financing the retained
interest. Thus, for example, if the sponsor satisfied its risk
retention requirements by acquiring an eligible horizontal residual
interest, an originator allocated risk would have been required to
acquire a portion of that interest, in an amount not exceeding the
percentage of securitized assets created by the originator. The
sponsor's risk retention requirements would have been reduced by the
amount allocated to the originator. The sponsor would have had to
provide, or cause to be provided, to potential investors (and the
appropriate regulators

upon request) the name and form of organization of any originator that
will acquire and retain (or has acquired and retained) an interest in
the transaction, including a description of the form, amount, and
nature of the interest (e.g., senior or subordinated), as well as the
method of payment for such interest. Finally, the reproposal would have
made the sponsor responsible for any failure of an originator to abide
by the transfer, hedging, and financing restrictions included in the
proposed rule.
    Comments on the allocation to originator proposal focused on the 20
percent threshold for allocation, the requirement that an originator to
which risk retention was allocated share pro rata in all of the losses
allocated to the type of interest (i.e., horizontal or vertical) it
holds rather than only the losses on assets that it originated, and the
definition of originator. Some of the commenters requested that the 20
percent minimum should be deleted and that it would hurt smaller
originators while one commenter supported the limit and asserted that
it protected smaller originators. Comments as to the required pro rata
sharing by the originator included an analysis that because
securitization tranches are developed so that tranche holders share
pari passu in losses, it would cause unnecessary complexity to limit an
originator's interests to the loans that it had originated. Finally, a
commenter asserted that the definition of ``originator'' ought to
include parties that purchase assets from entities that create the
assets.
2. Final Rule
    The agencies have carefully considered the concerns raised by
commenters with respect to the reproposal on allocation to originators.
For the reasons discussed below, the agencies have concluded that the
changes to the reproposal suggested by the commenters are not necessary
or appropriate. Therefore, the agencies are adopting the proposed
allocation to originator provision with minor drafting corrections and
changes, as discussed below.
    The only modifications to this option from that proposed in the
reproposal are a drafting correction and changes to the formulation in
section 11(a)(1)(ii) of the rule of the limit on how much of its risk
retention obligation a sponsor may allocate to an originator. These
changes to section 11(a)(1)(ii) of the rule reflect that no fair value
computation is required for a vertical interest (discussed above in
Part III.B.1 of this Supplementary Information) and, consequently, that
in certain circumstances the fair value of the retained interest as a
percentage of all ABS interests issued in the securitization
transaction may not be determined. This change to the text of section
11(a)(1)(ii) of the rule does not result in any substantive change to
the allocation to originator provisions contained in the reproposal.
    While section 11(a)(1)(iv) is unchanged from the reproposal, it
should be noted that the amount that is required to be paid by the
originator might need to be calculated differently from how this amount
would have been calculated under the reproposal. In the event that the
fair value of all ABS interests issued in a securitization transaction
is not calculated, which would be the case if the sponsor opted for all
of its required risk retention to be held as eligible vertical
interests and one or more classes of ABS interests were not sold to
investors, the amount by which the sponsor's risk retention is reduced
by the sale of a portion thereof to an originator will not be
determinable from the calculations required by section 4 of the rule.
In this circumstance, the agencies would expect that the value of the
retained portion of any unsold tranches for purposes of section 11 of
the rule will be determined on a reasonable basis by the sponsor and
the originator.
    The agencies note that the reference in section 11(a)(1)(ii) of the
rule to the interest retained by the sponsor refers to the amount of
the interest required to be retained by the sponsor before giving
effect to any sale to an originator. Similarly, the provision in
section 11(a)(2) of the rule that a sponsor disclose the percentage of
the interest sold to an originator is intended to require calculation
of such percentage based on the sponsor's risk retention amount before
any sale to an originator.
    The rule, like the proposal, requires that an originator to which a
portion of the sponsor's risk retention obligation is allocated acquire
and retain eligible vertical interests or eligible horizontal residual
interests in the same manner as would have been retained by the
sponsor. As under the reproposed rule, this condition will require an
originator to acquire horizontal and vertical interests in the
securitization transaction in the same proportion as the interests
originally to be retained by the sponsor. This requirement helps to
align the interests of originators and sponsors, as both will face the
same likelihood and degree of losses if the securitized assets begin to
default. In addition, if originators were permitted to retain their
share of the sponsor's risk retention obligation in a proportion that
is different from the sponsor's mix of the vertical and horizontal
interests, investor and regulatory monitoring of risk retention
compliance could become very complex.
    As under the reproposal, the rule requires a sponsor that uses an
eligible horizontal cash reserve account and desires to allocate a
portion of its risk retention obligations to an originator to allocate
a portion of the interest the sponsor holds in such account to the
originator. Such allocation may be effected by any method that results
in the sponsor and each originator to which any retention is allocated
sharing, directly or indirectly, on a pari passu basis in one or more
eligible horizontal residual accounts. For example, (1) the originator
may deposit into the sponsor-established account funds in the amount of
the originator's share of the sponsor's risk retention obligations, in
replacement of a like amount of the funds originally deposited by the
sponsor, or (2) the originator may create a separate horizontal reserve
account in the amount of its share of the sponsor's risk retention
obligations, in substitution for a like amount of funds in the
sponsor's reserve account. If an originator establishes a separate
account, such account must share pari passu with the sponsor's eligible
horizontal reserve account (and any other originator's eligible
horizontal reserve account) in amounts released to satisfy amounts due
on ABS interests.
    The rule does not modify the requirement that an originator to
which a sponsor may sell a portion of its required risk retention must
have originated at least 20 percent of the asset pool. As explained in
the reproposal, by limiting this option to originators that originate
at least 20 percent of the asset pool, the agencies seek to ensure that
the originator retains risk in an amount significant enough to function
as an actual incentive for the originator to monitor the quality of all
the securitized assets (and to which it would retain some credit risk
exposure). In addition, the 20 percent threshold serves to make the
allocation option available only for entities whose assets form a
significant portion of a pool and who, thus, ordinarily could be
expected to have some bargaining power with a sponsor.
    By restricting originators to holding no more than their
proportional share of the risk retention obligation, the rule seeks to
prevent sponsors from circumventing the purpose of the risk retention
obligation by transferring an outsized portion of the obligation to an
originator that may have been seeking to

acquire a speculative investment. These requirements are also intended
to reduce the rule's potential complexity and facilitate investor and
regulatory monitoring.
    The rule does not incorporate the commenter suggestion that an
originator be allocated retention in only the loans that it originated.
The operational burden on both securitization sponsors and federal
supervisors to ensure that retention is held by originators on the
correct individual loans would, for many different asset classes, be
exceedingly high. Therefore, the rule requires that originators
allocated a portion of the risk retention requirement be allocated a
share of the entire securitization pool.
    The rule does not modify the definition of originator from that set
forth in the reproposal and does not include persons that acquire loans
and transfer them to a sponsor. The agencies continue to believe that
the definition of the term originator in section 15G \210\ should not
be interpreted to include such persons. Section 15G defines an
originator to a person that ``through the extension of credit or
otherwise, creates a financial asset.'' A person that acquires an asset
created by another person would not be the ``creator'' of such asset.
---------------------------------------------------------------------------

    \210\ 15 U.S.C. 78o-11(a)(4).
---------------------------------------------------------------------------

    Finally, while the final rule omits the proposed requirement that a
sponsor disclose the dollar amount of the interests sold to originators
because such amount may not always be calculated, the disclosure
requirements of the sponsor under section 4 of the final rule remain
applicable to the sponsor and should be construed to refer to the
required interest originally retained by the sponsor, even where the
sponsor sells some or all of its required retained interests to
originators.

D. Hedging, Transfer, and Financing Restrictions

1. Overview of the Reproposal and Public Comment
    Section 15G(c)(1)(A) provides that the risk retention regulations
shall prohibit a securitizer from directly or indirectly hedging or
otherwise transferring the credit risk that the securitizer is required
to retain with respect to an asset. Consistent with this statutory
directive, the reproposal would have prohibited a sponsor from (i)
transferring any interest or assets that it was required to retain
under the rule to any person other than a majority-owned affiliate of
the sponsor, (ii) hedging the credit risk the sponsor is required to
retain under the rule, unless the hedge positions are expressly
permitted or not materially related to the credit risk of the
particular ABS interests or exposures required to be retained by the
sponsor, or (iii) pledging as collateral for any obligation any
interest or asset that the sponsor is required to retain, unless the
pledge collateralizes an obligation with full recourse to the sponsor
or a consolidated affiliate.
    The agencies did not receive any comments directly addressing the
financing restrictions in the reproposal. Several commenters addressed
the hedging and transfer provisions.
    While some commenters supported the proposed restrictions on
hedging, others opposed the provisions as being overly restrictive, and
certain commenters requested clarification as to the scope of the
proposed restrictions. One commenter advocated a blanket exception from
the hedging restriction for pool and asset level credit insurance
reasoning that such insurance reduces credit risk for the benefit of
all holders of ABS interests, and does not eliminate the retaining
sponsor's exposure to credit risk or change the ``relative distribution
of risk among interest holders.'' Another commenter expressed the view
that issuers of securities collateralized by ``qualifying assets''
should be able to hold hedges, insurance policies and other forms of
credit enhancement as discussed in Items 1114 and 1115 of the
Commission's Regulation AB, and asserted that ``interest rate hedges,
bond insurance policies, pool insurance policies and other forms of
credit enhancement form an important component of many securitization
structures and provide clear benefits to investors.''
    Several commenters requested that the agencies clarify that the
term ``servicing assets'' (which are generally permitted to be held by
issuers) includes hedge instruments. One of these commenters asserted
that the preamble to the reproposal indicated that the term was
intended to be defined broadly and included ``interest rate and foreign
currency risk'' hedges, but the definition of the term in the proposed
regulation did not reflect that breadth. The commenter expressed
concern that, without clarification, issuers that used other types of
hedges would not be able to avail themselves of exemptions from risk
retention, with the result that costs would be borne by investors (in
the form of less credit enhancement) and borrowers (in the form of
higher interest rates). Another commenter requested that permitted
hedging activities include ``purchasing or selling a security or other
financial instrument to protect or mitigate credit risk in servicing
assets for the protection of all investors.'' This commenter requested
that hedges to mitigate risk with respect to amounts due for services
that are not financed as well as vehicle leases be allowed.
    One commenter suggested that the agencies consider whether the
restriction prohibiting the sponsor from transferring, selling, or
otherwise encumbering its interest for a period of time after
establishing the securitization entity may have the unintended
consequence of creating a de facto agency relationship between the
sponsor and the other investors in the securitization entity under
GAAP. The commenter asserted that a de facto agency relationship
between the sponsor and the other investors in a securitization entity
results in a higher likelihood that the sponsor would be required to
consolidate the securitization entity.
2. Final Rule
    The agencies have carefully considered the comments received with
respect to the reproposal's hedging, transfer, and financing
restrictions, and for the reasons discussed below, do not believe that
any significant changes to the reproposal's restrictions are necessary
or appropriate. Accordingly, the final rule contains hedging, transfer,
and financing restrictions that are substantially the same as those
contained in the reproposal.\211\
---------------------------------------------------------------------------

    \211\ The sunset on hedging and transfer restrictions is
discussed in Part III.F of this Supplementary Information.
---------------------------------------------------------------------------

    The final rule prohibits a sponsor or any affiliate from hedging
the credit risk the sponsor is required to retain under the rule or
from purchasing or selling a security or other financial instrument, or
entering into an agreement (including an insurance contract),
derivative or other position, with any other person if: (i) Payments on
the security or other financial instrument or under the agreement,
derivative, or position are materially related to the credit risk of
one or more particular ABS interests that the retaining sponsor is
required to retain, or one or more of the particular securitized assets
that collateralize the asset-backed securities; and (ii) the security,
instrument, agreement, derivative, or position in any way reduces or
limits the financial exposure of the sponsor to the credit risk of one
or more of the particular ABS interests or one or more of the
particular

securitized assets that collateralize the asset-backed securities.\212\
---------------------------------------------------------------------------

    \212\ The two-part test requires that a position be both
``materially related to the credit risk'' and actually offset credit
risk. These concepts are often interrelated and, if significant
amounts of credit risk are offset, this may indicate a material
relationship to the retained ABS interests.
---------------------------------------------------------------------------

    As in the reproposal, because the agencies believe it would not be
``materially related'' to the particular interests or assets that the
sponsor is required to retain, holding a security tied to the return of
an index (such as the subprime ABX.HE index) is not a prohibited hedge
so long as: (1) any class of ABS interests in the issuing entity that
were issued in connection with the securitization transaction and that
are included in the index represent no more than 10 percent of the
dollar-weighted average of all instruments included in the index, and
(2) all classes of ABS interests in all issuing entities that were
issued in connection with any securitization transaction in which the
sponsor was required to retain an interest pursuant to the rule and
that are included in the index represent, in the aggregate, no more
than 20 percent of the dollar weighted average of all instruments
included in the index. Such permitted positions include hedges related
to overall market movements, such as movements of market interest rates
(but not the specific interest rate risk, also known as spread risk,
associated with the ABS interest that is otherwise considered part of
the credit risk), currency exchange rates, home prices, or the overall
value of a particular broad category of asset-backed securities.
    In response to comments, the agencies also note that they do not
believe that the rule prohibits the retaining sponsor from benefiting
from credit enhancements or risk mitigation products that are designed
to benefit all investors in the securitization in which the sponsor is
required to retain risk. For example, the retaining sponsor may benefit
from private mortgage insurance provided that the proceeds of such
insurance are subject to the priority of payments for all investors.
    The agencies caution that a sponsor would not be in compliance with
the rule if it were to engage in, direct or control a series of
transactions designed to add credit enhancement to assets ultimately
securitized by it in a manner that indirectly achieved what the sponsor
is prohibited from doing directly. The agencies believe that the
hedging and transfer prohibitions in the statute are intended to ensure
that the sponsor retains meaningful credit exposure to the securitized
assets rather than credit exposure to a third party. As a result, the
agencies believe that the hedging prohibition would impose limits on a
sponsor benefitting from asset-level or pool-level insurance that
covered 100 percent of the credit risk of the securitized assets,
unless the sponsor's right to recover insurance proceeds from such
hedges is subordinated to the payment in full of all other investors.
    A different approach is applicable when risk reducing transactions
or instruments cover either the ABS interests required to be retained
by the sponsor, such as bond insurance, or 100 percent of the credit
risk of the securitized assets, such as municipal bond insurance. Under
this approach, the retaining sponsor would be precluded from receiving
distributions that, but for the proceeds from the insurance, would not
be available for distribution to that retaining sponsor unless, at the
time of distribution, all other amounts due at that time to be paid to
all other holders of outstanding ABS interests have been paid in full.
Accordingly, until all other holders of obligations issued as part of
the securitization transaction are paid all amounts then due to them, a
holder of an eligible vertical interest would not be permitted to
benefit from bond insurance on a senior class or tranche and, thus,
would be required to subordinate its interest in any bond insurance
proceeds to the payment of all amounts due to all other ABS interests.
Similarly, a sponsor would not be entitled to benefit from a pool
insurance policy that references amounts payable to a specific tranche
or class of ABS interest unless, at the time of distribution, all other
ABS interests had been paid all amounts due to them at the time.
    The agencies are clarifying that the liquidity support provided by
a regulated liquidity provider in satisfaction of the requirements set
forth in the tender option bond risk retention option described in
section 10 of the final rule or in satisfaction of the requirements set
forth in the ABCP risk retention option described in section 6 of the
final rule is not subject to the prohibition on hedging and
transfer.\213\ In both cases, the liquidity support is an important
aspect of the existing market practice and alignment of interests in
these transactions. The agencies note that, to the extent that a
sponsor of an ABCP conduit or tender option bond program is also the
liquidity provider, a liquidity agreement or credit guarantee would not
violate the prohibition on hedging because such an agreement would not
hedge the sponsor's credit risk retention. Additionally, with respect
to an eligible ABCP conduit, the originator-seller in its capacity as
sponsor of the intermediate SPV is subject to the hedging prohibition
and would remain exposed to the credit risk of the collateral
supporting the ABS interests issued by the intermediate SPV.
---------------------------------------------------------------------------

    \213\ Because a liquidity facility is required for the ABCP
option and the qualified tender option bond entity options, but does
not itself constitute required risk retention, it is not subject to
the transfer or hedging restrictions.
---------------------------------------------------------------------------

    As under the reproposal, because the agencies believe that they
would not be ``materially related'' to the particular interests or
assets that the sponsor is required to retain, hedges tied to
securities that are collateralized by similar assets originated and
securitized by other sponsors would not be prohibited. On the other
hand, a security, instrument, derivative or contract generally would be
``materially related'' to the particular interests or assets that the
sponsor is required to retain if the security, instrument, derivative
or contract refers to those particular interests or assets or requires
payment in circumstances where there is or could reasonably be expected
to be a loss due to the credit risk of such interests or assets (e.g.,
a credit default swap for which the particular interest or asset is the
reference asset).
    In response to comments requesting clarification as to whether
servicing assets could be hedged, the agencies are of the view that
cash equivalents that are servicing assets should be specifically
limited so that they do not create additional risk for a securitization
transaction and they should not require hedging.\214\ As for whether
servicing assets may include hedge instruments, the agencies note that
interest rate and foreign currency hedges are not prohibited hedges
under section 12 of the final rule. As noted earlier, the term
``servicing assets'' is similar to the definition of the term
``eligible assets'' under Rule 3a-7 of the Investment Company Act.
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    \214\ One notable exception might arise for cash held in a
currency different than the currency of obligation for the
securitization, where the amount of currency and time to payment
obligation are material from the standpoint of the securitization;
however this foreign exchange risk is more commonly hedged at the
securitized asset level.
---------------------------------------------------------------------------

    Regarding commenters' concerns that the rule's transfer and hedging
restrictions may create a de facto agency relationship between the
sponsor and the other investors in the securitization entity under
GAAP, the Commission notes, and the other agencies concur, that a de
facto agency relationship

under GAAP will not be created by the transfer, hedging, or financing
restrictions in the final rule, and note that the definition of a de
facto agency relationship in GAAP relates to an agreement between
variable interest holders in an entity that restricts one variable
interest holder from selling, transferring, or encumbering its interest
in the entity without the prior approval of other variable interest
holders. A de facto agency relationship does not exist solely as a
result of a regulatory restriction imposed on an investor that
prohibits its ability to transfer, sell, or otherwise encumber its
interest in an entity. As such, the Commission confirms, and the other
agencies concur, that the restriction in the final rule prohibiting the
sponsor from transferring, selling, or otherwise encumbering its
interest for a period of time after establishing the securitization
entity does not create under GAAP a de facto agency relationship
between the sponsor and the other investors in the securitization
entity.

E. Safe Harbor for Certain Foreign-Related Securitizations

    Like the original proposal, the reproposal included a ``safe
harbor'' provision for certain securitization transactions with limited
connections to the United States and U.S. investors.\215\ The safe
harbor was intended to exclude from the risk retention requirements
transactions in which the effects on U.S. interests are sufficiently
remote so as not to significantly impact underwriting standards and
risk management practices in the United States or the interests of U.S.
investors. Accordingly, reliance on the safe harbor is conditioned upon
limited involvement by persons in the United States with respect to
both securitized assets and the ABS interests sold in connection with
the transaction. The safe harbor would not have been available for any
transaction or series of transactions that, although in technical
compliance with the conditions of the safe harbor, is part of a plan or
scheme to evade the requirements of section 15G of the Exchange Act and
these rules.
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    \215\ As the agencies noted in the original proposal, the safe
harbor is intended solely to provide clarity that the agencies will
not apply the requirements of the final rule to transactions that
meet all of the conditions of the safe harbor. The safe harbor
should not be interpreted as reflecting the views of any agency as
to the potential scope of transactions or persons subject to section
15G or the final rule.
---------------------------------------------------------------------------

    Under the reproposal, the risk retention requirement would not have
applied to a securitization transaction if: (1) the securitization
transaction is not required to be and is not registered under the
Securities Act; (2) no more than 10 percent of the dollar value (or
equivalent if denominated in a foreign currency) of all classes of ABS
interests in the securitization transaction are sold or transferred to
U.S. persons or for the account or benefit of U.S. persons; \216\ (3)
neither the sponsor of the securitization transaction nor the issuing
entity is (i) chartered, incorporated, or organized under the laws of
the United States, or a U.S. state, the District of Columbia, Puerto
Rico, the Virgin Islands or any other possession of the United States
(any such state, other jurisdiction or possession, a ``U.S. state''),
(ii) an unincorporated branch or office (wherever located) of an entity
chartered, incorporated or organized under the laws of the United
States or any U.S. state, or (iii) an unincorporated branch or office
located in the United States or any U.S. state (an ``unincorporated
U.S.-located entity'') of an entity not chartered, incorporated, or
organized under the laws of the United States, or a U.S. state; and (4)
no more than 25 percent of the assets collateralizing the ABS interests
sold in the securitization transaction were acquired by the sponsor or
issuing entity, directly or indirectly, from (i) a majority-owned
affiliate of the sponsor or issuing entity that is chartered,
incorporated or organized under the laws of the United States or a U.S.
state, or (ii) an unincorporated U.S.-located entity of the sponsor or
issuing entity.
---------------------------------------------------------------------------

    \216\ The agencies note that the value of an ABS interest for
this purpose would be its fair value on the date of sale, determined
using the fair value measurement framework under GAAP.
---------------------------------------------------------------------------

    Commenters on the reproposal generally supported the existence of a
safe harbor for certain foreign securitizations. A few commenters
suggested increasing the 10 percent limit on the value of ABS interests
permitted to be sold to or for the account of U.S. persons. These
commenters also requested that the agencies clarify that the 10 percent
limit applies only at the time of initial issuance and does not include
secondary market transfers. Commenters also proposed to exclude from
the 10 percent limitation (A) securitization transactions with a
sponsor or issuing entity that is a U.S. person which makes no offers
to U.S. persons and (B) issuances of asset-backed securities that
comply with Regulation S of the Securities Act.
    Several commenters requested that the rule provide for coordination
of the rule's risk retention requirement with foreign risk retention
requirements, including by permitting a foreign issuer to comply with
home country or other applicable foreign risk retention rules. In this
regard, comment was made that U.S. risk retention rules may be
incompatible with foreign risk retention requirements, such as the
European Union risk retention requirements and, accordingly, that
sponsors required to comply with U.S. as well as foreign risk retention
regulations could be subject to conflicting rules. Commenters also
requested that the agencies clarify how the dollar value of ABS
interests should be determined and that satisfaction of conditions to
the safe harbor be tested as of the date of issuance only and not on an
ongoing basis.
    The final rule sets forth a foreign safe harbor that is
substantially similar to that included in the reproposal. The agencies
have retained the 10 percent limit on the value of ABS interests sold
to U.S. persons for safe harbor eligibility. The agencies continue to
believe that the 10 percent limit appropriately aligns the safe harbor
with the objective of the rule, which is to exclude only those
transactions with limited effect on U.S. interests, underwriting
standards, risk management practices, or U.S. investors.
    The agencies wish to make clear that, in general, the rule is
intended to include in the calculation of the 10 percent limit only ABS
interests sold in the initial distribution of ABS interests. Secondary
sales to U.S. persons would not normally be included in the
calculation. However, secondary sales into the U.S. under circumstances
that indicate that such sales were contemplated at the time of the
issuance (and not included for purposes of calculating the 10 percent
limit) might be viewed as part of a plan or scheme to evade the
requirements of the rule.
    The 10 percent limit as applied to the sale or transfer of any ABS
interest would need to be computed only on the date of initial
distribution of that ABS interest, not an ongoing basis following such
initial distribution. If different classes or portions of the same
class of ABS interests are distributed by or on behalf of the issuing
entity or a sponsor on different dates, the 10 percent limit would need
to be calculated on each such distribution date.
    Under the rule, interests retained by the sponsor may be included,
as part of the aggregate ABS interests in the securitization
transaction, in calculating the percentage of those ABS interests sold
to U.S. persons or for the account or benefit of U.S. persons.
    The agencies considered the comments requesting a mutual
recognition framework and observe that

such a framework has not been generally adopted in non-U.S.
jurisdictions with risk retention requirements. As explained in the
preamble to the proposed rule, given the many differences between
jurisdictions, such as securitization frameworks that place the
obligation to comply with risk retention requirements upon different
parties in the securitization transaction, different requirements for
hedging, risk transfer, or unfunded risk retention, and other material
differences, the agencies believe that it would likely not be
practicable to construct such a ``mutual recognition'' system that
would meet all the requirements of section 15G of the Exchange Act.
Moreover, in several such jurisdictions, the risk retention framework
recognizes unfunded forms of risk retention, such as standby letters of
credit, which the agencies do not believe provide sufficient alignment
of incentives and have rejected as eligible forms of risk retention
under the U.S. framework. Finally, the agencies believe that the rule
incorporates sufficient flexibility for sponsors with respect to forms
of eligible risk retention to permit foreign sponsors seeking a
significant U.S. investor base to retain risk in a format that
satisfies applicable foreign and U.S. regulatory requirements, even
though such dual compliance requirements might cause a sponsor to
structure a transaction differently than it would have chosen had it
not been subject to such multiple requirements.
    The agencies do not agree that securitizations with U.S. persons,
sponsors or issuing entities with no U.S. offerees, or that conduct all
sales pursuant to Regulation S of the Securities Act, should be exempt
from the 10 percent limit. If the rule excluded such securitizations or
sales from the 10 percent limit, a market for poorly underwritten
assets could evolve and negatively impact U.S. underwriting standards
and risk management practices.
    Improving underwriting standards is one of the goals of risk
retention and, for the rule to be effective, the rule should be applied
in a manner that maintains underwriting standards and risk management
practices in the United States. The agencies' adoption of the foreign
safe harbor incorporates the agencies' understanding of current
securitization markets and market trends, including the importance of
U.S. investors in global securitization markets. As securitization
markets evolve, the agencies will be alert to ensuring any such changes
do not undermine the effectiveness of the rule in achieving the
purposes of section 15G. Accordingly, the agencies will monitor
compliance with the safe harbor and the contexts in which the safe
harbor is relied upon. Should it become apparent that reliance on the
safe harbor has resulted in market shifts that are detrimental to
investors or securitization markets, for example where significant
amounts of securitizations collateralized by U.S. assets are conducted
in reliance on the safe harbor and such reliance undermines
underwriting standards and risk management practices in the United
States, the agencies will consider the applicability of the anti-
evasion provisions of the safe harbor or will consider modifications to
the safe harbor.

F. Sunset on Hedging and Transfer Restrictions

    As discussed in Part III.D of this Supplementary Information,
section 15G(c)(1)(A) of the Exchange Act provides that sponsors may not
hedge or transfer the risk retention interest they are required to
hold.\217\ However, the statute also provides that the agencies shall
specify the minimum duration of risk retention. As explained in the
reproposal, the agencies believe that the primary purpose of risk
retention--sound underwriting--is less likely to be effectively
promoted by risk retention requirements after a certain period of time
has passed and a peak number of delinquencies for an asset class has
occurred. Therefore, the agencies proposed two categories of duration
for the transfer and hedging restrictions--one for RMBS and one for
other types of ABS interests.
---------------------------------------------------------------------------

    \217\ 15 U.S.C. 78o-11(c)(1)(A). As with other provisions of
risk retention, the agencies could provide an exemption under
section 15G(e) of the Exchange Act if certain findings were met. See
id. at section 78o-11(e).
---------------------------------------------------------------------------

    For RMBS, the transfer and hedging restrictions under the proposed
rule would expire on or after the date that is (1) the later of (a)
five years after the date of the closing of the securitization or (b)
the date on which the total unpaid principal balance of the securitized
assets is reduced to 25 percent of the original unpaid principal
balance as of the date of the closing of the securitization, but (2) in
any event no later than seven years after the date of the closing of
the securitization.
    For all ABS interests other than RMBS, the transfer and hedging
restrictions under the reproposed rule would expire on or after the
date that is the latest of (1) the date on which the total unpaid
principal balance of the securitized assets that collateralize the
securitization is reduced to 33 percent of the original unpaid
principal balance as of the date of the closing of the securitization,
(2) the date on which the total unpaid principal obligations under the
ABS interests issued in the securitization is reduced to 33 percent of
the original unpaid principal obligations at the closing of the
securitization transaction, or (3) two years after the date of the
closing of the securitization transaction.\218\
---------------------------------------------------------------------------

    \218\ As described in Part III.B.5 of this Supplementary
Information, the agencies also included in the reproposal, as an
exception to the transfer and hedging restrictions, the ability to
transfer the retained B-piece interest in a CMBS transaction
(whether held by the sponsor or a third-party purchaser) to a third-
party purchaser five years after the date of the closing of the
securitization transaction, provided that the transferee satisfies
each of the conditions applicable to an initial third-party
purchaser under the CMBS option.
---------------------------------------------------------------------------

    The reproposal also included a provision that the proposed rule's
restrictions on transfer and hedging would end if a conservator or
receiver of a sponsor or other holder of risk retention is appointed
pursuant to federal or state law.
    The agencies invited comment on the sunset provisions and asked
whether they were appropriately calibrated for RMBS and all other asset
classes, and whether it was appropriate to provide a sunset provision
for all RMBS. Several commenters expressed general support for the
sunset provisions but others requested shorter time period
restrictions. One commenter suggested longer time period restrictions
on certain asset classes, while others proposed shortening the time
periods and adding more flexibility. One commenter suggested that there
should be an outside time limit of no more than five years for asset
classes other than RMBS and CMBS, including student loans, aircraft
leases, shipping container leases, railcar leases, and structured
settlements of personal injury awards, lottery winnings, and other
assets. A few commenters requested clarification for transactions that
do not typically have a nominal ``principal balance'' and one commenter
requested that the test use the cut-off date instead of the closing
date for measurement.
    For RMBS, a few commenters requested that sunset occur three to
four years after closing, while another commenter requested a sunset of
two years after the security is issued. One commenter recommended that
the agencies adopt a flat five-year sunset for RMBS and eliminate the
25 percent remaining unpaid balance test. In support of a three-year
sunset after closing, some commenters requested that the RMBS sunset
provision be analogous to the FHFA framework for

representations and warranties whereby lenders are relieved of certain
repurchase obligations for loans after 36 months of on-time payments.
One commenter requested that the sunset provisions be calibrated
differently depending on the risk associated with the underlying RMBS.
    A few commenters recommended a two-year sunset provision for open
market CLOs, noting that anything longer would provide no relief given
the fact that these pools allow for reinvestment. Two commenters
requested alternative sunset provisions for student, vehicle, and
equipment loans where sunset would occur on the earlier of (i) two
years after the closing date, and (ii) the later of (A) the reduction
of the unpaid principal balance of the securitized assets to 33 percent
or less of the cut-of date balance and (B) the reduction of the unpaid
principal balance of the ABS interests sold to third parties to 33
percent or less of the closing date balance.
    The agencies have carefully considered the comments and are
adopting the sunset provisions as proposed. In reviewing the reproposal
and the comments, the agencies considered the duration for which the
rule should maintain the sponsor's exposure to the performance of the
assets, balancing the time it might take for weaker underwriting to
manifest itself against the competing consideration that, as that time
period extends, other factors may be more influential triggers of asset
default. Although the time periods proposed by the agencies are longer
than commenters generally asserted were necessary in striking this
balance, the agencies seek to establish a conservative approach. It is
expected that this approach will cause sponsors to focus on
underwriting criteria on the front end, at the time of securitization,
and the agencies believe that requiring them to be mindful of their
exposure for the periods the agencies proposed will improve the
sponsor's alignment of incentives and reinforce their focus on the
performance of their assets beyond their initial creation. Accordingly,
with respect to the proposed risk retention duration requirements for
RMBS and for non-residential mortgage ABS interests, the agencies are
concerned that reducing the risk retention periods further would weaken
the incentive for sponsors to ensure sound underwriting.
    With respect to the proposed risk retention duration requirement
for RMBS, as the agencies discussed in the reproposal, because
residential mortgages typically have a longer duration than other
assets, weaknesses in underwriting may manifest themselves later than
in other asset classes and can be masked by strong housing markets.
Moreover, residential mortgage pools are uniquely sensitive to adverse
selection through prepayments: if market interest rates fall, borrowers
refinance their mortgages and prepay their existing mortgages, but
refinancing is not available to borrowers whose credit has
deteriorated, so mortgages to less creditworthy borrowers become
concentrated in the RMBS pool in later years. Accordingly, the agencies
are maintaining a different sunset provision for RMBS collateralized by
residential mortgages that are subject to risk retention.
    In response to commenters who, in the context of assets other than
residential mortgage loans, asked for clarification as to how the
sunset provisions apply if the securitized assets do not have a
principal balance, the agencies have revised the rule to clarify that
the sunset criterion relating to principal balance would not apply to
securitized assets that do not have a principal balance, if applicable.
Thus, for such securitized assets, the rule provides that the transfer
and hedging restrictions may terminate upon the later of two years
after the date of the closing of the securitization transaction or the
date on which the total unpaid principal balance of the issued ABS
interests is reduced to 33 percent of their original balance.
    In addition, the agencies continue to believe the exemptions to the
prohibitions on transfer for CMBS eligible horizontal residual
interests proposed in the reproposal would help ensure high quality
underwriting standards for the securitizers and originators of non-
residential mortgage ABS interests and CMBS, would improve the access
of consumers and businesses to credit on reasonable terms, and are in
the public interest and for the protection of investors.\219\
---------------------------------------------------------------------------

    \219\ 15 U.S.C. 78o-11(e)(2).
---------------------------------------------------------------------------

IV. General Exemptions

    Sections 15G(c)(1)(G) and 15G(e) of the Exchange Act require the
agencies to provide a total or partial exemption from the risk
retention requirements for certain types of asset-backed securities or
securitization transactions.\220\
---------------------------------------------------------------------------

    \220\ See 15 U.S.C. 78o-11(c)(1)(G) and (e).
---------------------------------------------------------------------------

    In addition, section 15G(e)(1) permits the agencies jointly to
adopt or issue additional exemptions, exceptions, or adjustments to the
risk retention requirements of the rule, including exemptions,
exceptions, or adjustments for classes of institutions or assets, if
the exemption, exception, or adjustment would: (A) help ensure high
quality underwriting standards for the securitizers and originators of
assets that are securitized or available for securitization; and (B)
encourage appropriate risk management practices by the securitizers and
originators of assets, improve the access of consumers and businesses
to credit on reasonable terms, or otherwise be in the public interest
and for the protection of investors.
    Consistent with these provisions, the reproposal would have
exempted certain types of asset-backed securities or securitization
transactions from the credit risk retention requirements of the rule.
Each of these exemptions, along with the comments and the final rule
that the agencies are adopting, are discussed below. The agencies have
determined that each of the exemptions adopted pursuant to section
15G(e)(1), including for the reasons described below and in the
reproposal, satisfy the requirements described in the preceding
paragraph.

A. Exemption for Federally Insured or Guaranteed Residential,
Multifamily, and Health Care Mortgage Loan Assets

    Section 15G(e)(3)(B) of the Exchange Act provides that the
agencies, in implementing risk retention regulations, shall not apply
risk retention to any residential, multifamily, or health care facility
mortgage loan asset, or securitization based directly or indirectly on
such an asset, that is insured or guaranteed by the United States or an
agency of the United States.\221\ To implement this provision, the
reproposal would have exempted from the risk retention requirements any
securitization transaction collateralized solely by residential,
multifamily, or health care facility mortgage loan assets if the assets
are insured or guaranteed as to the payment of principal and interest
by the United States or an agency of the United States.\222\
---------------------------------------------------------------------------

    \221\ See id. at section 78o-11(e)(3)(B).
    \222\ See id. at section 78o-11(e)(3)(B).
---------------------------------------------------------------------------

    Several commenters expressed support for the exemption for
securitization transactions collateralized solely by assets that are
insured or guaranteed as to the payment of principal and interest by
the United States or its agencies. One commenter urged the agencies to
extend the government-backed exemptions to asset-backed securities
backed by foreign governments. Another commenter requested that the
agencies clarify that Enterprise securitizations of multifamily

loans are exempt from the risk retention requirements.
    After considering the comments received, the agencies are adopting
as proposed the exemption from the risk retention requirements for any
securitization transaction that is collateralized solely by
residential, multifamily, or health care facility mortgage loan assets
if the assets are insured or guaranteed in whole or in part as to the
payment of principal and interest by the United States or an agency of
the United States.
    The agencies are not adopting an exemption from risk retention for
securitizations of assets issued, guaranteed or insured by foreign
government entities. As the agencies noted in the reproposal, the
agencies continue to believe that it would not be appropriate to exempt
such transactions from risk retention if they were offered in the
United States to U.S. investors. Nor are the agencies expanding this
(or any other exemption) to include all securitizations of multifamily
loans by the Enterprises. Such securitizations require risk retention
under the rule unless they meet the requirements of section 8 of the
rule.

B. Exemption for Securitizations of Assets Issued, Insured, or
Guaranteed by the United States or any Agency of the United States and
Other Exemptions

    Section 15G(c)(1)(G)(ii) of the Exchange Act requires that the
agencies, in implementing risk retention regulations, provide for a
total or partial exemption from risk retention for securitizations of
assets that are issued or guaranteed by the United States or an agency
of the United States, as the agencies jointly determine appropriate in
the public interest and the protection of investors.\223\ The
reproposal would have provided full exemption from risk retention for
any securitization transaction in which the ABS interests issued in the
transaction were (1) collateralized solely by obligations issued by the
United States or an agency of the United States and servicing assets;
(2) collateralized solely by assets that are fully insured or
guaranteed as to the payment of principal and interest by the United
States or an agency of the United States (other than residential,
multifamily, or health care facility mortgage loan securitizations
discussed above) and servicing assets; or (3) fully guaranteed as to
the timely payment of principal and interest by the United States or
any agency of the United States.
---------------------------------------------------------------------------

    \223\ See id. at section 78o-11(c)(1)(G).
---------------------------------------------------------------------------

    Consistent with section 15G(e)(3)(A) of the Exchange Act, the
reproposal also would have provided an exemption from risk retention
for any securitization transaction collateralized solely by loans or
other assets made, insured, guaranteed, or purchased by any institution
that is subject to the supervision of the Farm Credit Administration,
including the Federal Agricultural Mortgage Corporation, and servicing
assets.\224\ Additionally, the reproposal would have provided an
exemption from risk retention, consistent with section
15G(c)(1)(G)(iii) of the Exchange Act,\225\ for securities (1) issued
or guaranteed by any state \226\ of the United States, or by any
political subdivision of a state, or by any public instrumentality of a
state that is exempt from the registration requirements of the
Securities Act by reason of section 3(a)(2) of the Securities Act, or
(2) defined as a qualified scholarship funding bond in section
150(d)(2) of the IRS Code.
---------------------------------------------------------------------------

    \224\ See 15 U.S.C. 78o-11(e)(3)(A).
    \225\ See id. at section 78o-11(c)(1)(G)(iii).
    \226\ Section 2 of the rule defines ``state'' as having the same
meaning as in section 3(a)(16) of the Securities Exchange Act of
1934 (15 U.S.C. 78c(a)(16)), which includes a state of the United
States, the District of Columbia, Puerto Rico, the Virgin Islands,
or any other possession of the United States.
---------------------------------------------------------------------------

    One commenter requested that the final rule retain the full
exemption for securities issued by a state (including a political
subdivision or public instrumentality of a state), and for securities
that meet the definition of a qualified scholarship funding bond. This
commenter requested clarification that the exemption for state and
municipal securitizations would apply to both securities issued on a
federally taxable basis and securities issued on a federal tax-exempt
basis. A few commenters urged that the agencies clarify that all
securities issued by housing finance agencies and other state
government agencies and collateralized by loans financed by housing
finance agencies are exempted.
    After considering the comments received, the agencies are adopting
as proposed the exemption from the risk retention requirements for any
securitization transaction that is (1) collateralized solely by
obligations issued by the United States or an agency of the United
States and servicing assets; (2) collateralized solely by assets that
are fully insured or guaranteed as to the payment of principal and
interest by the United States or an agency of the United States (other
than residential, multifamily, or health care facility mortgage loan
securitizations discussed above) and servicing assets; (3) insured or
guaranteed as to the payment of principal and interest by the United
States or an agency of the United States; (4) collateralized solely by
loans or other assets made, insured, guaranteed, or purchased by any
institution that is subject to the supervision of the Farm Credit
Administration, including the Federal Agricultural Mortgage
Corporation, and servicing assets; (5) issued or guaranteed by any
state of the United States, or by any political subdivision of a state,
or by any public instrumentality of a state that is exempt from the
registration requirements of the Securities Act by reason of section
3(a)(2) of the Securities Act; or (6) defined as a qualified
scholarship funding bond in section 150(d)(2) of the IRS Code.
    Regarding whether the exemption for state and municipal
securitizations would apply to both securities issued on a federally
taxable basis and securities issued on a federal tax-exempt basis, the
agencies note that the text of the exemption does not specifically make
a distinction between taxable and tax-exempt securities. To the extent
that a security otherwise satisfies the requirements of the state and
municipal securitizations exemption, such security is exempt from the
risk retention rule.
    The agencies are exempting loans that are exempt from the ability-
to-repay requirements (such as loans made through state housing finance
agency programs and certain community lending programs) that were not
separately included in the definition for QRM (which under the statute
cannot be broader than QM) and would only be QRMs if they otherwise met
the qualifying criteria for QMs. This exemption is discussed more fully
below.

C. Federal Family Education Loan Program and Other Student Loan
Securitizations

    The reproposal would have exempted any securitization transaction
that is collateralized solely (excluding servicing assets) by student
loans made under the Federal Family Education Loan Program (``FFELP'')
that are guaranteed as to 100 percent of defaulted principal and
accrued interest (i.e., FFELP loans with first disbursement prior to
October 1993, or pursuant to certain limited circumstances where a full
guarantee was required). A securitization transaction that is
collateralized solely (excluding servicing assets) by FFELP loans that
are guaranteed as to at least 98 percent (but less than 100 percent) of
defaulted principal and accrued interest

would have its risk retention requirement reduced to 2 percent. Any
other securitization transaction that is collateralized solely
(excluding servicing assets) by FFELP loans would have its risk
retention requirement reduced to 3 percent.
    Several commenters urged the agencies to expand the proposed
exemption for securitization transactions collateralized by FFELP loans
to a full exemption from risk retention requirements. These commenters
asserted that a risk retention requirement ranging from zero percent to
3 percent for FFELP loan securitizations that are subject to a guaranty
ranging from 97 percent to 100 percent means risk retention is required
in an amount greater than the loss exposure on the loans. These
commenters stated that other securitization products would receive a
full exemption under the reproposal even if they are only partially
insured or guaranteed. A few of these commenters also asserted that
risk retention would have no effect on the underwriting standards since
these loans have already been funded and the program is no longer
underwriting new loans. One of these commenters urged the agencies to
apply the risk retention requirement only to the portion of the FFELP
loans that are not guaranteed.\227\
---------------------------------------------------------------------------

    \227\ This commenter suggested, as an example, that if only 3
percent of a FFELP loan is uninsured, the 5 percent risk retention
requirement should only apply to the 3 percent uninsured portion,
resulting in a 0.15 percent risk retention requirement with respect
to such loan.
---------------------------------------------------------------------------

    Commenters also recommended that the agencies accept alternative
forms of risk retention for FFELP loan securitizations. The suggested
alternative forms of risk retention include a simplified representative
sample method, an exemption for on-balance sheet transactions where the
structure clearly demonstrates at least 5 percent risk retention,
initial equity contribution, overcollateralization, and unfunded forms
of risk retention. One of these commenters cited the European Union
risk retention regime which recognizes certain unfunded forms of risk
retention.
    One commenter asked that the agencies extend the FFELP loan
securitization exemption to include student loan-backed securities
issued by entities exempt from registration under section 3(a)(4) of
the Securities Act and by entities that have received tax-exempt
designations under section 501(c)(3) of the IRS Code. This commenter
asserted that these issuers are constrained in their ability to raise
sufficient capital to meet the risk retention requirements. One other
commenter requested that student loan revenue bonds issued by nonprofit
issuers that are supported by third-party credit enhancement be
exempted. This commenter asserted that investors in these bonds are not
making their investment decisions based on the credit risk and
performance of the asset pool, and that these bonds are assessed based
on the creditworthiness and structure of the third-party credit
enhancement. Another commenter requested that all nonprofit public
purpose student loan providers be fully exempted from risk retention
requirements. This commenter asserted that the structure of the
securitizations issued by these entities, and the history of investor
interest in security issuances by nonprofit organizations, reflect the
strong alignment of interests between the investors and sponsors of
these types of securitization transactions.
    Another commenter requested clarification that the exemption for
qualified scholarship funding bonds apply to both securities issued on
a federally taxable basis and securities issued on a federal tax-exempt
basis.
    After considering the comments received, the agencies are adopting
the reductions in the amount of required risk retention for FFELP loan
securitization as reproposed. The agencies do not believe that
providing a full exemption to partially insured or guaranteed FFELP
loans is warranted. The agencies believe that the reductions in risk
retention for FFELP loan securitizations described in the reproposal
reflect the appropriate level of ``skin in the game'' for these
transactions, encouraging high quality underwriting generally in the
selection of assets for securitization and appropriate risk management
practices in post-default servicing. The agencies also reiterate that
they have generally declined to recognize unfunded forms of risk
retention and continue to do so for purposes of the final rule.
    Consistent with the reproposal, the agencies are not expanding the
proposed exemptions to cover student loans other than FFELP student
loans, including student loan-backed securities issued by entities
exempt from registration under section 3(a)(4) of the Securities Act or
entities that have received tax exempt designations under section
501(c)(3) of the IRS Code, because comments received on the reproposal
did not provide a basis to allow the agencies to conclude that the
structures or underwriting practices of these securitizations align the
interests of securitizers with the interests of investors such that an
exemption would be appropriate under section 15G(c)(1)(G) or section
15G(e) of the Exchange Act. The agencies are concerned that an
exemption for sponsors of student loan-backed securities issued by
entities exempt from registration under section 3(a)(4) of the
Securities Act or entities that receive tax exempt designations under
section 501(c)(3) of the IRS Code would permit evasion of the rule
through the use of an entity that meets the requirements of such
exemption, but whose sole purpose is the issuance of ABS interests.
Regarding whether the exemption for qualified scholarship funding bonds
would apply to both securities issued on a federally taxable basis and
securities issued on a federal tax-exempt basis, the agencies note that
the text of the exemption does not specifically make a distinction
between taxable and tax-exempt securities. To the extent a security
satisfies the requirements of the qualified scholarship funding bond
exemption in the rule, such security is exempt from the risk retention
rule. The agencies believe that there is not sufficient justification
to provide an exemption for bonds that may have some similarities to a
qualified scholarship funding bond, but do not meet the statutory
definition.

D. Certain Public Utility Securitizations

    The reproposal would have provided an exemption from risk retention
for utility legislative securitizations. Specifically, the reproposal
would have exempted any securitization transaction where the ABS
interests are issued by an entity that is wholly owned, directly or
indirectly, by an investor-owned utility company that is subject to the
regulatory authority of a state public utility commission or other
appropriate state agency. Additionally, ABS interests issued in an
exempted utility legislative securitization transaction would have been
required to be secured by the intangible property right to collect
charges for the recovery of specified costs and such other assets of
the issuing entity. The reproposal would have defined ``specified
cost'' to mean any cost identified by a state legislature as
appropriate for recovery through securitization pursuant to ``specified
cost recovery legislation,'' which is legislation enacted by a state
that:
     Authorizes the investor-owned utility company to apply
for, and authorizes the public utility commission or other appropriate
state agency to issue, a financing order determining the amount of
specified costs the utility will be allowed to recover;
     Provides that pursuant to a financing order, the utility
acquires an

intangible property right to charge, collect, and receive amounts
necessary to provide for the full recovery of the specified costs
determined to be recoverable, and assures that the charges are non-
bypassable and will be paid by customers within the utility's historic
service territory who receive utility goods or services through the
utility's transmission and distribution system, even if those customers
elect to purchase these goods or services from a third party; and
     Guarantees that neither the state nor any of its agencies
has the authority to rescind or amend the financing order, to revise
the amount of specified costs, or in any way to reduce or impair the
value of the intangible property right, except as may be contemplated
by periodic adjustments authorized by the specified cost recovery
legislation.\228\
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    \228\ The eligibility standards for the exemption are similar to
certain requirements for these securitizations outlined in IRS
Revenue Procedure 2005-62, 2005-2 C.B. 507, that are relevant to
risk retention. This Revenue Procedure outlines the Internal Revenue
Service's requirements in order to treat the securities issued in
these securitizations as debt for tax purposes, which is the primary
motivation for states and public utilities to engage in such
securitizations.
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    The agencies received no comments on the utility legislative
securitization exemption, and are adopting the exemption as reproposed.

E. Seasoned Loan Securitizations

    In the reproposal, the agencies proposed to exempt from risk
retention any securitization transaction that is collateralized solely
by servicing assets and seasoned loans that (1) have not been modified
since origination and (2) have never been delinquent for 30 days or
more. With respect to residential mortgages, the reproposal would have
defined ``seasoned loan'' to mean a residential mortgage loan that
either (1) has been outstanding and performing for the longer of (i)
five years or (ii) the period until the outstanding principal balance
of the loan has been reduced to 25 percent of the original principal
balance; or (2) has been outstanding and performing for at least seven
years. For all other asset classes, the reproposal would have defined
``seasoned loan'' to mean a loan that has been outstanding and
performing for the longer of (1) two years, or (2) the period until the
outstanding principal balance of the loan has been reduced to 33
percent of the original principal balance.
    The agencies received a number of comments on the seasoned loan
exemption from financial entities and financial trade organizations.
Commenters generally favored expanding the seasoned loan exemption,
although they differed in how to expand the exemption. One commenter
proposed that ``seasoned loans'' be redefined to accommodate auto loans
that have been outstanding and performing for the shorter of (1) two
years, or (2) the period until the outstanding principal balance of the
loan has been reduced to 33 percent of the original principal balance.
Other commenters proposed that the exemption be expanded to accommodate
certain previously modified residential mortgage loans that have not
had past delinquency events.
    One commenter requested that loans with delinquencies up to 60 days
qualify, and another suggested that loans that have been delinquent and
then brought current qualify if they perform for 36 months after the
delinquency. Another commenter asked that the exception include loans
that had no more than three 30-day delinquencies if the loan is
otherwise performing for five years and not delinquent at the time of
securitization.
    Other commenters asked that the agencies permit blended
securitizations of seasoned loans with other loans that require risk
retention, with the amount of risk retention reduced accordingly. These
commenters expressed concern of potentially fragmenting the market for
these loans. However, the investor members of one commenter questioned
the need to blend pools of seasoned and ``non-seasoned'' loans because
ABS interests collateralized by these types of assets are unlikely to
appeal to the same types of investors.
    After considering the comments received, the agencies are adopting
the seasoned loan exemption as reproposed. The agencies believe that
there is insufficient data to justify expanding the seasoned loan
exemption and that the alignment of the seasoned loan exemption with
the sunset provisions on hedging and transfer enhances consistency
across the provisions of the rule and better aligns the incentives of
sponsors and investors. The agencies do not believe that the period of
time during which a loan is required to have been outstanding to
qualify as a seasoned loan should be different from the period after
which the transfer and hedging restrictions sunset. Nor do they believe
that loans that have at any time been more than 30 days delinquent
should qualify. And, while modifications of loans for reasons other
than loss mitigation might be well-underwritten loans, it would be
difficult if not impossible to verify the underlying reasons for a
modification. Commenters did not provide examples of securitization
transactions collateralized by newly originated and seasoned loans or
data or reasoned analysis to support the assertion that such
transactions would fill existing needs for financing. Because the
agencies are not persuaded that market fragmentation would result, the
agencies are not permitting blended pools of seasoned loans and loans
that would not satisfy the seasoned loan exemption.

F. Federal Deposit Insurance Corporation Securitizations

    In the reproposal, the agencies proposed an exemption from risk
retention for securitization transactions that are sponsored by the
FDIC, acting as conservator or receiver under any provision of the
Federal Deposit Insurance Act or Title II of the Dodd-Frank Act. For
the reasons discussed in the reproposal,\229\ the agencies continue to
believe that this exemption would help ensure high quality
underwriting, and is in the public interest and for the protection of
investors.\230\ These receivers and conservators perform a function
that benefits creditors in liquidating and maximizing the value of
assets of failed financial institutions for the benefit of creditors.
Accordingly, their actions are guided by sound underwriting practices,
and the quality of the assets will be carefully monitored in accordance
with the relevant statutory authority.
---------------------------------------------------------------------------

    \229\ See Revised Proposal, 78 FR at 57978.
    \230\ See 15 U.S.C. 78o-11(e).
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    One commenter expressly supported this exemption, noting, among
other things, that it would help the FDIC maximize the value of assets
in conservatorship and receivership. For the reasons noted above, the
agencies are adopting the FDIC securitization exemption as reproposed.

G. Exemption for Certain Resecuritization Transactions

    In the reproposal, the agencies proposed two different exemptions
from risk retention for certain ABS interests issued in
resecuritization transactions (resecuritization ABS interests).\231\
The first of these exemptions would have applied to resecuritizations
of asset backed securities that met certain specific conditions set
forth in proposed section 19(b)(5) (pass-through resecuritizations).
The second one would have applied only to resecuritizations of certain
first pay classes of mortgage backed securities that met the
requirements in proposed

section 19(b)(6) (first-pay-class resecuritization). Under the
reproposal, sponsors of resecuritizations that were not structured to
meet the terms of one of these two exemptions would have been required
to meet the credit risk retention requirements with respect to the
resecuritization transaction unless another exemption for the
transaction was available.
---------------------------------------------------------------------------

    \231\ See Revised Proposal, 78 FR at 57972-57974. In a
resecuritization transaction, the asset pool collateralizing the ABS
interests issued in the transaction comprises one or more asset-
backed securities.
---------------------------------------------------------------------------

    Under the section 19(b)(5) of the reproposal, the resecuritization
ABS interests would have to be collateralized solely by servicing
assets and existing ABS interests issued in a securitization
transaction for which credit risk was retained as required under the
original proposal, or which was otherwise exempted from credit risk
retention requirements (compliant ABS interests). Second, the
transaction would have to be structured so that it involved the
issuance of only a single class of ABS interests and provided for a
pass through of all principal and interest payments received on the
underlying asset-backed securities (net of expenses of the issuing
entity) to the holders of such class of ABS interests. The agencies
explained that because the holder of a resecuritization ABS interest
structured as a single-class pass-through security would have had a
fractional undivided interest in the pool of underlying asset-backed
securities and in the distributions of principal and interest
(including prepayments) from these underlying asset-backed securities,
a resecuritization ABS interest meeting these requirements would not
alter the level or allocation of credit and interest rate risk on the
underlying asset-backed securities. The agencies had proposed this
exemption in the original proposal and did not substantively alter it
in the reproposal.
    The agencies proposed to adopt this exemption under the general
exemption provisions of section 15G(e)(1) of the Exchange Act. The
agencies noted that a resecuritization transaction that created a
single-class pass-through would neither increase nor reallocate the
credit risk inherent in the underlying compliant ABS interests, and
that the transaction could allow for the combination of asset-backed
securities collateralized by smaller pools, and the creation of asset-
backed securities that may be collateralized by more geographically
diverse pools than those that can be achieved by the pooling of
individual assets.
    Under the first-pay-class resecuritization exemption in proposed
section 19(b)(6), the agencies proposed a limited resecuritization
exemption that would apply to certain resecuritizations of residential
mortgage-backed securities structured to address prepayment risk, but
that would not apply to a structure that re-allocated credit risk by
tranching and subordination. To qualify for this proposed exemption,
the transaction would have to have been a resecuritization of first-pay
classes of ABS interests, which were themselves collateralized by
first-lien residential mortgages on property located in a state,\232\
and which were issued in transactions that complied with the risk
retention rules or were exempt from the rule.\233\ The reproposal also
would have allowed a pool collateralizing the exempted first-pay-class
resecuritization to contain servicing assets.
---------------------------------------------------------------------------

    \232\ Section 2 of the reproposed rule defined ``state'' as
having the same meaning as in section 3(a)(16) of the Securities
Exchange Act of 1934 (15 U.S.C. 78c(a)(16)). Thus, the ABS interests
that would be resecuritized in a transaction exempted under this
provision would have been required to be collateralized by mortgages
on properties located in a state of the United States, the District
of Columbia, Puerto Rico, the Virgin Islands, or any other
possession of the United States. See Revised Proposal, 78 FR at
57973.
    \233\ The reproposal defined ``first-pay class'' as a class of
ABS interests for which all interests in the class were entitled to
the same priority of principal payments and that, at the time of
closing of the transaction, were entitled to repayments of principal
and payments of interest prior to or pro-rata, except for principal-
only and interest only tranches that are prior in payment, with all
other classes of securities collateralized by the same pool of
first-lien residential mortgages until such class has no principal
or notional balance remaining. A single class of pass-through ABS
interests under which an investor would have a fractional, undivided
interest in the pool of mortgages collateralizing the ABS interests
would have qualified as a ``first pay class'' under this definition.
---------------------------------------------------------------------------

    In addition, to qualify for the exemption, any ABS interest issued
in the resecuritization would have had to share pro rata in any
realized principal losses with all other ABS interests issued in the
resecuritization based on the unpaid principal balance of such interest
at the time the loss was realized. The transaction would have had to be
structured to reallocate prepayment risk, and the proposed exemption
specifically would have prohibited any structure which re-allocated
credit risk (other than credit risk reallocated only as a consequence
of reallocating prepayment risk). The reproposal also would have
prohibited the issuance of an inverse floater or any similarly
structured class of ABS interest as part of the exempt resecuritization
transaction.\234\
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    \234\ The reproposal defined ``inverse floater'' as an ABS
interest issued as part of a securitization transaction for which
interest or other income is payable to the holder based on a rate or
formula that varies inversely to a reference rate of interest. The
exclusion from the proposed exemption of transactions involving the
issuance of an inverse floater class addressed concerns with the
high risk of loss that has been associated with these instruments.
See Id. at 57974.
---------------------------------------------------------------------------

    The agencies proposed the first-pay-class resecuritization
exemption in response to comments on the original proposal about
liquidity in underlying markets and access to credit on reasonable
terms.\235\ The agencies noted that residential mortgage-backed
securities tend to have longer maturities than other types of asset-
backed securities and to have high prepayment risk. The agencies
reasoned that the exemption would help provide investors with
protection against prepayment risk and greater certainty as to expected
life. The proposed exemption, however, did not divide the credit risk
of the underlying asset-backed securities and therefore did not give
rise to the same concerns as CDOs and other resecuritizations that
involved tranching of credit risk.\236\
---------------------------------------------------------------------------

    \235\ Id. at 57973.
    \236\ Id.
---------------------------------------------------------------------------

    The agencies proposed the first-pay-class resecuritization
exemption under the general exemption provisions of section 15G(e)(1)
of the Exchange Act. The agencies determined that the provision was
consistent with the requirements of this section, given the conditions
established for the exemption. In particular, the agencies noted that
the provision limited the exemption to resecuritizations of first-pay
classes of residential mortgage-backed securities, and that it applied
specific prohibitions on structures that re-allocate credit risk, so it
minimized credit risk associated with the resecuritized residential
mortgage-backed securities and prevented the transaction from
reallocating existing credit risk while addressing some of the
commenters' concerns with regard to liquidity and access to
credit.\237\
---------------------------------------------------------------------------

    \237\ Id.
---------------------------------------------------------------------------

    The agencies received a number of comments on the proposed
resecuritization exemptions. The comments did not raise specific
objections or concerns with either of the two proposed exemptions, but
generally urged regulators to expand the exemptions to other types of
structures including those that re-tranche credit risk. Commenters
asserted that applying risk retention to resecuritization of asset-
backed securities that are already in the market, especially where the
interests are compliant ABS interests, cannot alter the incentives for
the original sponsor of asset-backed securities to ensure high-quality
assets. Other commenters stated that the lack of a broad
resecuritization exemption would negatively affect markets by

making it harder for investors to re-structure and sell existing asset-
backed securities. A number of commenters stated that the agencies
should provide an exemption for resecuritizations of asset-backed
securities that were issued prior to the applicable effective date of
the rule. Still others expressed the view that the agencies could
develop an exemption that would allow credit tranching in resecuritized
asset-backed securities while limiting the scope of such exemption,
such as by excluding actively managed pools, to address agencies'
concerns regarding CDOs and similar structures. The comments were
generally similar to comments received on the original proposal.
    The agencies have carefully considered the comments received in
conjunction with the purposes and requirements of the statute. As the
agencies noted in the reproposal, sponsors of resecuritization
transactions have considerable flexibility in choosing what ABS
interests to include in the underlying pool of securitized assets as
well as in creating the specific structures. This choice of securities
is a type of underwriting choice with respect to those securities for
inclusion in the underlying pool of securitized assets. The agencies
continue to consider it appropriate, therefore, to adopt rules that
will provide sponsors with sufficient incentive to choose ABS interests
that have lower levels of credit risk and to not use a resecuritization
to obscure what might have been sub-par credit performance of certain
ABS interests. The agencies also continue to consider it appropriate to
apply the risk retention requirements to resecuritization transactions
generally because resecuritization transactions can result in a re-
allocation of the credit risk of the underlying ABS interest. Such
considerations are present whether or not the original underlying
asset-backed securities were issued prior to the applicable effective
date of these risk retention rules or are compliant with the rule.\238\
The agencies also note that section 15G of the Exchange Act
specifically contemplates applying risk retention to
resecuritizations.\239\
---------------------------------------------------------------------------

    \238\ Section 15G of the Exchange Act would not apply to asset-
backed securities issued before the applicable effective date of the
agencies' final rule, and that as a practical matter, private-label
asset-backed securities issued before the applicable effective date
of the final rule would typically not be compliant ABS interests.
Asset-backed securities issued before the applicable effective date
that meet the terms of an exemption from the rule or that are
guaranteed by the Enterprises, however, could qualify as compliant
ABS interests.
    \239\ See 15 U.S.C. 78o-11(a).
---------------------------------------------------------------------------

    Taking into account these considerations, the agencies continue to
believe that requiring additional risk retention as the standard for
most resecuritization transactions is consistent with the intent of
section 15G of the Exchange Act, both in light of recent history and
the specific statutory requirement that the agencies adopt risk
retention standards for CDOs, and similar instruments collateralized by
asset-backed securities.\240\ The comments received in response to the
reproposal did not raise any issues to cause the agencies to expand the
scope of the exemptions for resecuritizations. In particular, the
agencies do not believe that suggestions for distinguishing ``typical''
resecuritizations from CDOs or other higher risk transactions could be
applied consistently across transactions.
---------------------------------------------------------------------------

    \240\ See 15 U.S.C. 78o-11(c)(1)(F).
---------------------------------------------------------------------------

    As a consequence, the agencies are adopting the pass-through
resecuritization exemption in section 19(b)(5), as proposed in the
reproposal. This exemption will apply only if the resulting
resecuritization ABS interests consist of only a single class of
interests and provides for a pass through of all principal and interest
payments received on the underlying ABS interests (net of expenses of
the issuing entity). The new ABS interests have to be collateralized
solely by servicing assets and existing ABS interests issued in a
securitization transaction for which credit risk was retained as
required under the rule, or which are otherwise exempted from credit
risk retention requirements in the rule.
    The agencies are also adopting as proposed the exemption in section
19(b)(6). Thus, to qualify for this exemption, the ABS interests issued
in the resecuritization must share pro rata in any realized principal
losses with all other holders of ABS interests issued in the
resecuritization based on the unpaid principal balance of such interest
at the time the loss is realized. The transaction must be structured to
reallocate prepayment risk, and cannot re-allocate credit risk (other
than credit risk reallocated as a collateral consequence of
reallocating prepayment risk). While the agencies specifically invited
comment on whether the issuance of an inverse floater as part of a
first-pay class resecuritization exemption would be necessary to
provide adequate prepayment protection for investors, the agencies
received no specific response to this question or comments on the
prohibition proposed on the issuance of an inverse floater or any
similarly structured class of ABS interests as part of an exempt
transaction under section 19(b)(6), and are adopting this prohibition
as part of the final rule.

H. Other Exemptions From Risk Retention Requirements

1. Legacy Loan Securitizations
    Some commenters on the original proposal recommended an exemption
from risk retention for securitizations and resecuritizations of loans
made before the applicable effective date of the final rule, or
``legacy loans,'' asserting that risk retention would not affect the
underwriting standards used to create those loans. After considering
the comments received on the original proposal, the agencies did not
propose to provide an exemption from risk retention for legacy loan
securitizations in the reproposal. The agencies did not believe that
such securitizations should be exempt from risk retention, because risk
retention requirements are designed to incentivize securitizers to
select well-underwritten loans, regardless of when those loans were
underwritten. Furthermore, the agencies did not believe that exempting
securitizations of legacy loans from risk retention would satisfy the
statutory criteria for an exemption under section 15G(e) of the
Exchange Act.\241\
---------------------------------------------------------------------------

    \241\ See 15 U.S.C. 78o-11(e).
---------------------------------------------------------------------------

    On the reproposal, the agencies received comments from one
financial trade organization that again recommended exempting
securitizations of legacy loans. This commenter requested that the
agencies provide a legacy loan exemption, because in the case of loans
that were originated prior to the adoption of the final risk retention
rules, it would not have been possible to create those assets in
compliance with a regulatory scheme whose precise terms were unknown at
the time of origination.
    As the agencies stated in the reproposal, the agencies do not
believe it is appropriate to exempt legacy loans because the risk
retention requirements affect the quality of loans that are selected
for a securitization transaction. Therefore, the agencies are not
adopting an exemption from risk retention for legacy loan
securitizations in the final rule.
2. Corporate Debt Repackagings
    Some commenters on the reproposal urged the agencies to adopt an
exemption from risk retention for ``corporate debt repackagings.''
\242\ One

of these commenters recommended that, as an alternative, the agencies
create a limited exemption for corporate debt repackaging transactions
that repackage securities that could be sold directly to investors
without risk retention, and that do not involve credit tranching. This
commenter also proposed additional means of satisfying the risk
retention requirements in corporate debt repackaging transactions,
including the retention of 5 percent of the underlying securities in
the repackaging transaction, or the retention of 5 percent of any class
of securities issued in the repackaging that is pari passu with the
securities being issued to the investors in the transaction.
---------------------------------------------------------------------------

    \242\ According to commenters, corporate debt repackagings are
created by the deposit of corporate debt securities purchased by the
sponsoring institution in the secondary market into a trust which
issues certificates collateralized by cash flows on the underlying
corporate debt securities.
---------------------------------------------------------------------------

    Consistent with the reproposal and for the reasons discussed
therein,\243\ the agencies are not adopting an exemption for corporate
debt repackagings. As stated in the reproposal, the agencies do not
believe an exemption is warranted because the underlying assets (the
corporate bonds) are not asset-backed securities. As the agencies
stated in the reproposal, regardless of the level of credit risk a
corporate debt issuer believes it holds on its underlying corporate
bonds, the risk retention requirement would apply at the securitization
level, and the sponsor of the securitization should be required to hold
5 percent of the credit risk of the securitization transaction. The
agencies continue to believe that risk retention at the securitization
level for corporate debt repackagings is necessary in order to align
the interest of the sponsor in selecting the bonds in the pool and
structuring the terms of the ABS interests with the interests of the
investors in the securitization.
---------------------------------------------------------------------------

    \243\ See Revised Proposal, 78 FR at 57975.
---------------------------------------------------------------------------

    One commenter requested a general exemption for securitization
transactions in which collateral consists primarily of unsecured direct
obligations of the sponsor or its affiliates. The agencies are not
adopting any such exemption as this commenter did not provide
sufficient detail on which to base such exemption.
3. Securitizations of Servicer Advance Receivables
    Some commenters requested that the agencies provide an exemption
for servicer advance receivables.\244\ According to these commenters,
the servicer advance facilities (``SAFs'') pursuant to which these
servicer advance receivables are securitized create the requisite
levels of credit enhancement through over-collateralization in the form
of an equity interest in the issuing entity, that is subordinated to
all other classes of ABS interests issued by the issuing entity. These
commenters indicated that securitizations of servicer advance
receivables should be exempted from the risk retention requirements
because servicer advances are payments that a servicer is required to
make under the terms of the servicing agreements, and are not
originated for purposes of distribution in a securitization
transaction. These commenters also said that the fundamental goal of
risk retention--the alignment of interests in order to produce higher
quality underwriting standards--is not relevant in these servicer
advance receivable securitizations, because these servicer advance
receivables do not represent an extension of credit by a lender to a
borrower, and that there is no underwriting criteria.
---------------------------------------------------------------------------

    \244\ According to this commenter, servicer advance receivables
are contractual rights that entitle a servicer to reimbursement for
advances that it is required, under the terms of the servicing
agreements, to make for purposes of liquidity enhancement.
---------------------------------------------------------------------------

    If the agencies declined to provide an exemption, these commenters
requested that the agencies allow the equity interests held by
servicer-sponsors of the SAFs to satisfy the risk retention
requirement, and to allow the equity interest (in an SAF structured as
a revolving master trust) that supports all series of ABS interests to
qualify as a risk retention option for revolving master trusts.
    The agencies are not adopting an exemption from risk retention for
SAFs. The agencies believe that there is insufficient data to justify
granting this specific exemption. Furthermore, the agencies do not
believe that there are particular features of this type of
securitization that would warrant an exemption under the factors that
the agencies must consider in section 15G(e) of the Exchange Act.
However, as discussed in Part III.B.2 of this Supplementary
Information, an SAF that meets the final rule's eligibility
requirements for the seller's interest option for revolving pool
securitizations may avail itself of that option. Alternately, the
sponsor of an SAF may structure its equity interest in the trust as an
eligible horizontal residual interest.

V. Reduced Risk Retention Requirements and Underwriting Standards for
ABS Interests Collateralized by Qualifying Commercial, Commercial Real
Estate, or Automobile Loans

    As contemplated by section 15G of the Exchange Act, the reproposal
included a zero risk retention requirement, or exemption, for
securitizations consisting solely of commercial loans, commercial real
estate (CRE) loans, and automobile loans that met specific proposed
underwriting standards (qualifying assets). The reproposal also would
have allowed sponsors to commingle qualifying and non-qualifying assets
of a similar type to receive up to a 50 percent reduction in the
minimum required risk retention amount.
    While many commenters supported the ability to blend pools of
qualifying and non-qualifying assets to obtain a reduced risk retention
amount, commenters also requested that the agencies reduce or remove
the 50 percent limit on the reduction for blended pools of commercial,
CRE, or automobile loans. Some commenters claimed that the limit would
be a disincentive for sponsors to include more qualifying assets in
blended pools (and thereby improve the overall quality of the pool)
once the 50 percent threshold had been reached. In addition, a comment
was made that, because the agencies would be imposing a risk retention
requirement on qualifying assets if they exceeded 50 percent of the
pool, this would be contrary to the overall proposed exemption for
qualifying assets. Other commenters supported the limit on blended
pools or generally opposed allowing blended pools of qualifying and
non-qualifying assets because of the concern that a blended pool could
facilitate the ability of sponsors to obscure the credit quality of the
non-qualifying assets.
    Under the reproposal, a sponsor of a transaction with a blended
pool would have to provide disclosures to investors, its primary
Federal regulator, and the Commission the manner in which the sponsor
determined the aggregate risk retention requirement for the pool after
including qualifying assets, a description of the qualifying and non-
qualifying assets, and material difference between them. Furthermore,
the reproposal would have required a sponsor to either repurchase out
of the pool any qualifying asset found not to meet the proposed
underwriting criteria after securitization or to cure the defects to
bring the loan into conformity with the criteria. A few commenters

expressed concerns about the repurchase and certification requirements
in the reproposal with respect to pools containing qualifying assets. A
few commenters suggested that, because of liability concerns, sponsors
should not be required to make the proposed disclosures about
qualifying assets to investors. One of these commenters also claimed
that the statutory language was drafted such that such certifications
should only be applied to residential mortgages. The commenter further
asserted that investors already receive sufficient information about
underlying collateral in the other asset classes, such that the
proposed disclosures and certifications would be an unnecessary burden,
and that investors were additionally protected by the proposed buy back
or cure requirement for assets found to be non-qualifying post
securitization. The commenter also asked for clarification about how
long a sponsor must maintain records related to the proposed disclosure
and certification requirements. A commenter also requested that with
respect to automobile loan securitizations that the proposed internal
control certification requirements be allowed to be performed less
frequently to reduce burden.
    The final rule retains the 50 percent limit for blended pools for
these three asset classes. The agencies are concerned that reducing the
minimum risk retention for blended pools to less than 2.5 percent of
the value of the ABS interests would significantly weaken the economic
incentive for the sponsor to ensure that the non-qualifying loans in
the pool are appropriately underwritten. However, the agencies are
allowing a limited amount of blending, as proposed, to increase the
liquidity of both qualifying and non-qualifying assets by allowing
these assets to be securitized in the same pool.
    The agencies are also adopting the disclosure and certification
requirements with regard to securitizations including qualifying assets
as proposed in the revised proposal. As discussed in the revised
proposal,\245\ the agencies believe that the disclosure and
certification requirements are important to facilitating investors'
ability to evaluate and monitor the overall credit quality of
securitized collateral, especially where qualifying and non-qualifying
assets are combined. The agencies believe that these transparency goals
are essential to the integrity of the exemption from risk retention for
qualifying assets. The agencies note that the record retention
requirement for certification and disclosure in other parts of the rule
is three years after all ABS interests are no longer outstanding.\246\
The agencies are adopting the same standard for certification and
disclosures with respect to the qualifying commercial, CRE, and
automobile loan exemptions to remain consistent throughout the rule.
The agencies believe this timeframe will allow for a sufficient period
for review by the Commission or the sponsor's Federal banking agency,
as appropriate.
---------------------------------------------------------------------------

    \245\ Revised Proposal, 78 FR at 57986.
    \246\ Sections 4(d) and 5(j) of the final rule.
---------------------------------------------------------------------------

    The agencies note the concern expressed by some commenters with
respect to all three of these asset classes that, for the residential
mortgage asset class and QRM, a significant portion of the existing
market would qualify for an exemption from risk retention, whereas in
proposing the underwriting standards for qualifying commercial loans,
commercial real estate loans, and automobile loans, the agencies
proposed conservative underwriting criteria that would not capture an
equivalent portion of the respective markets. The agencies observe that
there is a homogeneity in the securitized residential mortgage loan
market that does not exist for commercial loan or commercial real
estate loan asset classes. Commercial loans and commercial real estate
loans typically focus on a common set of borrower and collateral
metrics, but they are individually underwritten and tailored to a
specific borrower or property, and often contain terms developed in
view not only of the borrower's financial position but also the general
business cycle, industry business cycle, and standards for appropriate
leverage in that industry sub-sector. The agencies believe the
additional complexity needed to create underwriting standards for every
major type of business in every economic cycle would be so great that
originators would almost certainly be dissuaded from attempting to
implement them or attempting to stay abreast of the numerous regulatory
revisions the agencies would need to issue from time to time to keep up
with the changing economic cycles or industries.
    The reproposed underwriting standards established a single set of
requirements, which are necessary to enable originators, sponsors, and
investors to be certain as to whether any particular loan meets the
rule's requirements for an exemption. For the agencies to expand the
underwriting criteria in the fashion suggested by some commenters, the
rule would need to accommodate numerous relative standards. The
resulting uncertainty of market participants as to whether any
particular loan was qualified for an exemption could undermine the
market's willingness to rely on the exemption.
    While there may be more homogeneity in the securitized automobile
loan class, the agencies are concerned that attempting to accommodate a
significantly large share of the current automobile loan securitization
market would require weakening the underwriting standards to the point
where the agencies are concerned that they would permit the inclusion
of low quality loans. For example, the agencies note that current
automobile lending practices often involves no or small down payments,
financing in excess of the value of the automobile (which is itself an
asset of quickly declining value) to accommodate taxes and fees, and a
credit score in lieu of an analysis of the borrower's ability to repay.
These concerns as to credit quality are evidenced by the high levels of
credit support automobile securitization sponsors build into their
securitization transactions, even for so-called ``prime'' automobile
loans. Moreover, securitizers from the automobile sector who commented
on the original proposal and reproposal expressed no interest in using
any underwriting-based exemptive approach that did not incorporate the
industry's current model, which relies almost exclusively on matrices
of consumer credit scores, loan-to-value (LTV) ratios, and ``on the
spot'' borrower approval. One commenter stated that the entire
underwriting process must occur while the customer is at the
dealership. As was discussed in the reproposal, the agencies are not
persuaded that it would be appropriate for the underwriting-based
exemptions under the rule to incorporate a credit score metric.\247\
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    \247\ Revised Proposal, 78 FR 57985.
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    Finally, commenters requested that the agencies clarify that the
requirement that a depositor certify as to the effectiveness of its
internal supervisory controls with respect to the process for ensuring
that assets that collateralize the asset-backed securities are eligible
for an exemption does not impose an obligation on sponsors to guarantee
that all assets meet all of the requirements to be eligible for 0
percent risk retention. As is indicated by the final rule's provision
of a buyback option for non-compliant assets, the agencies do not view
the requirement as requiring that the controls guarantee compliance.

Rather, the process must be robust and sufficient to enable the sponsor
to carefully evaluate eligibility.

A. Qualifying Commercial Loans

    The reproposal included definitions and underwriting standards for
qualifying commercial loans (QCLs), that, when securitized, would be
exempt from the risk retention requirements. The proposed definition of
commercial loan generally would have included any loan for business
purposes that was not a commercial real estate loan or one-to-four
family residential real estate loan.
    The proposed criteria for a QCL included determining compliance
with the following financial tests based on two years of past data and
two years of projections: a total liabilities ratio less than or equal
to 50 percent; a leverage ratio \248\ of less than or equal to 3.0x; a
debt service coverage (DSC) ratio of greater than or equal to 1.5x. A
QCL would need to base loan payments on a straight-line amortization
schedule over no more than a 5-year term. Additional standards were
proposed for QCLs that are collateralized, including lien perfection
and collateral inspection standards.\249\
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    \248\ Under the reproposal, the leverage ratio would have been
defined as the borrower's total debt divided by the borrower's
annual income of a business before expenses for interest, taxes,
depreciation and amortization are deducted, as determined in
accordance with GAAP. See section 14 of the revised proposal
(definition of ``leverage ratio'').
    \249\ See Revised Proposal, 78 FR at 57979.
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    Commenters generally asserted the proposed criteria were too strict
in one or more areas. One commenter claimed that the QCL exemption
would have no relevance for securitizations of commercial loans because
loans that would satisfy the proposed QCL criteria typically would not
be securitized and that the agencies did not seriously attempt to
consider the historical performance of the asset class. Some commenters
also supported the submission by other commenters to allow syndicated
loans meeting certain criteria, when held by CLOs meeting certain other
structural criteria, to be exempt from risk retention, as discussed
above in Part III.B.7 of this Supplementary Information.
    Some commenters requested that the agencies create multiple types
of QCL underwriting criteria to address different industries or
different types of commercial loans, for example, establishing separate
criteria for vehicle fleet loans or equipment loans in order to exempt
loans meeting such criteria from risk retention. These commenters
asserted that the securitizations of equipment loans have performed
well before, during, and after the financial crisis and that such loans
should therefore have their own asset class and underwriting criteria
to qualify for an exemption.
    Commenters also suggested that the agencies relax the proposed QCL
standards in various ways, including by: Removing the straight-line
amortization criterion; increasing the maximum amortization period
beyond 5 years (up to 15 or 20 years); allowing payment-in-kind loans;
reducing retention for debtor-in-possession situations and loans
resulting from Chapter 11 exit financings; increasing the leverage
ratio to 4.5 or less; and replacing the leverage ratio with a 60
percent or 50 percent debt-to-capitalization ratio. One commenter also
urged the agencies to require a valuation such as a qualified appraisal
for all collateralized QCLs, noting that other proposed criteria--such
as requiring a perfected security interest for secured commercial
loans--would be of limited utility without a valuation requirement.
    For the subsequently discussed reasons, the agencies are adopting
the QCL standards as proposed. While the agencies recognize that there
are many types of commercial loans to serve many types of industries
and companies, it would be impracticable to accommodate each category
of loan and industry with a unique set of underwriting criteria. Even
applying a different set of criteria to a broader category within
commercial loans, such as equipment loans, would be under- and over-
inclusive and could have unintended consequences for the alignment of
interests of sponsors and investors. Furthermore, as the different
industries and economic conditions in which they operate change over
time, such regulatory underwriting criteria could influence
originations in unintended ways. In developing the underwriting
standards for the reproposal, the agencies intended for the standards
to be reflective of very high quality loan characteristics for most
commercial borrowers. To the extent that a commercial loan is
securitized, the agencies believe that risk retention provides an
appropriate incentive to sponsors to carefully consider the
underwriting quality of the loans being securitized; therefore, only
those commercial loans that are of very high quality should be exempt
from risk retention. The agencies have concluded that the proposed high
quality underwriting standards are appropriate for QCLs generally, even
if the standards do not correspond to the profile of loans generally
securitized in CLOs. While some commercial loans are structured as
bullet or interest-only loans, the agencies determined that such loans
are not appropriate for QCL given the deferral of principal repayment
until maturity, which can overstate the borrower's repayment capacity
as measured by the DSC ratio (due to a lack of principal payments) and
increase default risk related to having to refinance a larger principal
amount at maturity.
    While commercial loans do exist with longer terms than the maximum
permitted under the underwriting criteria, the agencies do not believe
such long-term commercial loans are common, and they involve more
uncertainty about continued repayment ability, particularly when loans
are made without collateral. With respect to payment-in-kind loans, the
agencies observe that these loans are generally riskier loans, as
borrowers may not be paying any interest in cash over part or all of
the loan term. Therefore, the agencies do not believe it is appropriate
to incorporate the changes requested by commenters with respect to term
and payment-in-kind in the QCL underwriting criteria.
    The agencies also continue to favor the reproposed earnings-based
leverage ratio, as opposed to a capitalization ratio, to measure the
ability of a borrower to service the debt and thus help determine the
consequent riskiness of a loan. Finally, while a commercial lender
should consider the accuracy of valuation of collateral to the extent
it is a factor in the repayment of the obligation, the agencies are
declining to impose a requirement of a qualifying appraisal or other
particular valuation for collateral securing a QCL. The agencies
observe that many types of collateral could be pledged to secure a
commercial loan and, therefore, mandating particular valuation methods
could be very complex and unintentionally exclusive, thereby
discouraging secured loans, which are frequently safer as credits than
unsecured loans and therefore provide additional avenues for funding
for many borrowers. Additionally, a valuation requirement would
increase the burden associated with underwriting a QCL.
    In addition to the underwriting criteria discussed above, in the
reproposal, the agencies proposed that all QCLs must be funded prior to
the securitization and that the securitization not allow for any
reinvestment periods. In addition, if a loan was subsequently found not
to have met the QCL criteria, the sponsor would have been required to
effect a cure or buyback of the loan.

    One commenter requested that the agencies allow QCL loans to be
funded up to six months after the issuance of the securitization. Some
commenters also requested that the agencies allow QCL securitizations
to have reinvestment periods, so long as the new loans added to the
pool would either be QCLs or not reduce the QCL/non-QCL blended pool
ratio below 50 percent. Finally, some commenters opposed the buyback
provision, noting that open market CLO managers designated as sponsors
under the rule are thinly capitalized and generally would not have
significant financial resources available to buy back loans in the
pools they manage.
    The agencies are not adopting these commenter suggestions in the
final rule. The agencies believe that only funded loans should be
recognized as QCLs for purposes of exemption from risk retention, as
there could be an adverse change in circumstances between the closing
date of the securitization and a subsequent funding date for the loan
that could disadvantage investors. Furthermore, changes in
circumstances could mean the loan may not meet the quantitative QCL
requirements upon funding. The agencies also decline to allow
reinvestment periods for securitizations including QCLs. As discussed
herein and in the revised proposal, there are increased concerns about
transparency when qualifying and non-qualifying assets are mixed in a
pool and an exemption from risk retention applies to the qualifying
assets. Allowing reinvestment in addition to allowing blending of
qualified and non-qualified assets could exacerbate these concerns and
could allow sponsors to increase the risk of an initial pool that had a
significant portion of QCLs in ways that would be difficult for
investors to discern post-closing. Finally, the agencies are not
removing the buyback requirement where QCLs are subsequently found not
to have met the underwriting criteria at origination. The agencies do
not believe that lack of financial resources of the sponsor should
excuse the sponsor from meeting its obligations to ensure a loan
labelled a QCL at origination met the QCL requirements. In addition,
the rule allows certain underwriting errors to be addressed through
cure, which would not require repurchase of the entire loan out of the
pool and thus could be less financially burdensome for the sponsor.

B. Qualifying Commercial Real Estate Loans

    Both the original and the revised proposals included underwriting
standards for CRE loans that would be exempt from risk retention if the
loans met those standards (qualifying CRE loans, or QCRE loans). As
discussed in the revised proposal, the agencies made a number of
changes to the QCRE standard in the reproposal to address concerns
raised by commenters with respect to the original proposal. The
proposed standards focused predominantly on the following criteria: The
borrower's capacity to repay the loan; the value of, and the
originator's security interest in, the collateral; the LTV ratio; and,
whether the loan documentation includes the appropriate covenants to
protect the value of the collateral.
1. Definition of Commercial Real Estate Loan
    In the reproposal, a CRE loan would have been defined as any loan
secured by a property of five or more residential units or by non-
residential real property, where the primary source of repayment would
come from the proceeds of sale or refinancing of the property or
underlying rental income from entities not affiliated with the
borrower. The definition would have specifically excluded land loans.
    Some commenters questioned the exclusion of certain land loans from
the definition of CRE in the original and revised proposals.
Specifically, these commenters stated that numerous CMBS
securitizations include loans to owners of a fee interest in land that
is ground leased to a third party who owns the improvements and whose
ground lease payments are a source of income for debt service payments
on the loan. These commenters suggested that the agencies clarify that
the exclusion did not apply to such loans, because these loans are
included in many existing CMBS securitizations and the entire
securitization would be unable to use CMBS risk retention option due to
these loans being excluded from the CRE definition.
    As explained in the revised proposal, the agencies did not take
commenters suggestion to include some land loans in the definition of
commercial real estate because of concerns, among other things, that