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Summary of Federal Reserve’s Term Asset-Backed Securities Loan Facility Mortgage Bankers Association Legal Issues/Regulatory Compliance Conference May 5, 2009 J. Michael Brown, Partner Reed Smith LLP Scope of TALF

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summary of federal reserve s term asset backed securities loan facility

Summary of Federal Reserve’s Term Asset-Backed Securities Loan Facility

Mortgage Bankers Association

Legal Issues/Regulatory Compliance Conference

May 5, 2009

J. Michael Brown, Partner

Reed Smith LLP

scope of talf
Scope of TALF
  • TALF is a program under which the New York Federal Reserve Bank provides non-recourse, secured loans to investors that purchase certain types of consumer, small business and commercial mortgage asset-backed securities.
  • TALF has been designed to stimulate investor demand in secondary markets for ABS in order to increase availability and reduce costs of credit for consumers, small businesses and commercial real estate investors.
  • Currently a $200 billion program with the potential to increase to $1 trillion.
  • Treasury will allocate up to $100 billion of TARP funds to support TALF (currently $20 billion).
  • TALF program will make loans until December 31, 2009 unless extended.
terms and conditions
Terms and Conditions
  • Eligibility of Collateral
    • Types of Eligible ABS: can be new issuance or purchased in secondary market (subject to origination cutoffs)
      • automobile loans
      • credit card receivables
      • student loans
      • Small business loans guaranteed by U.S. Small Business Administration
      • business equipment loans
      • dealer floorplan loans
      • insurance premium finance loans (starts in June)
      • residential mortgage servicing advances
      • commercial mortgage backed securities (starts in June)
terms and conditions cont
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • Other assets being considered for inclusion in TALF:
      • “private label mortgages” that are not guaranteed by government sponsored entities such as Fannie MAE and Freddie MAC
      • assets collateralized by corporate debt
      • other assets
terms and conditions cont5
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • Rating Requirement: eligible ABS must have a long-term or short-term credit rating in the highest investment-grade rating category from 2 or more nationally recognized rating agencies and cannot have a long-term or short-term credit rating of below the highest investment-grade rating category from any such rating agencies.
      • credit ratings cannot be based on the benefit of a third party guaranty.
      • cannot be on review or watch for a ratings downgrade.
      • CMBS: NYFRB will publish a list of TALF CMBS eligible rating agencies and the required number of ratings CMBS must obtain to be TALF eligible.
terms and conditions cont6
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • Time of origination or issuance of ABS and underlying assets
      • credit card ABS and automobile dealer floorplan ABS: must be issued to refinance existing ABS maturing in 2009.
      • All or substantially all mortgage servicing advances must have been originated on or after January 1, 2007
      • CMBS: all mortgage loans must have been originated on or after July 1, 2008
      • All other ABS (including CMBS) must be issued on or after January 1, 2009
terms and conditions cont7
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • Certification of Borrower and Asset Eligibility
      • issuer and sponsor of ABS must certify in prospectus or offering document that ABS is TALF eligible
      • sponsor’s auditor must certify that ABS is TALF eligible
      • borrower will be required to represent and warrant as to borrower and asset eligibility in Master Loan and Security Agreement
      • primary dealer required to apply “know your customer” program and anti-money laundering due diligence procedures and certify in Master Loan and Security Agreement that each borrower is TALF eligible and collateral is TALF eligible
      • CMBS: FRBNY will publish certification requirements in future
    • Executive Compensation Rules: do not apply to TALF sponsors, underwriters and borrowers
terms and conditions cont8
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • Average Life of ABS: cannot be greater than 5 years for credit card, auto, equipment, floorplan or mortgage servicing advance receivables ABS.
    • Domicile of Obligors of Underlying Assets: all or “substantially all” of the obligors must be U.S. domiciled obligors.
    • Origination of Underlying Assets: assets that collateralize ABS must be originated and securitized by a third party unaffiliated with the borrower.
      • “Affiliate”: means “any company that controls, is controlled by, or is under common control with the borrower. For this purpose, a person or company controls a company if it (i) owns, controls or holds securities with power to vote 25 percent or more of a class of voting securities of the company; or (ii) consolidates the company for financial purposes.”
terms and conditions cont9
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • CMBS Specific Criteria:
      • Entitle holders to principal and interest payments
      • Not junior to other securities with claims on the pool of mortgages
      • Issuer must not be an agency or instrumentality of U.S. government or a government-sponsored entity
      • Pool of fully-funded, first priority mortgage loans that are current in payment at the time of securitization
      • Underlying mortgage loans must be fixed rate loans
      • Mortgage on a fee or leasehold interest in one or more income generating properties located in the U.S. or one of its territories
terms and conditions cont10
Terms and Conditions (cont.)
  • Eligibility of Collateral
    • CMBS Specific Criteria:
      • In-place underwriting
      • Pooling and Servicing Agreement requirements
      • Diversified collateral pools (FRBNY will make case by case exceptions)
      • Average life may not exceed 10 years
terms and conditions cont11
Terms and Conditions (cont.)
  • Eligibility of Borrower
    • Criteria:
      • U.S. company
      • owns eligible ABS
      • maintains account relationship with a primary dealer (must appoint primary dealer as agent to participate in TALF)
terms and conditions cont12
Terms and Conditions (cont.)
  • Eligibility of Borrower
    • Definition of “U.S. Company”
      • Category 1: a business or entity or institution that is:
        • organized under the laws of the United States or a political subdivision or territory thereto (U.S.-organized); and
        • conducts significant operations or activities in the United States, including any U.S.-organized subsidiary of such an entity.
      • Category 2: a U.S. branch or agency of a foreign bank (other than a foreign central bank) that maintains reserves with a Federal Reserve Bank.
terms and conditions cont13
Terms and Conditions (cont.)
  • Eligibility of Borrower
    • Definition of “U.S. Company”
      • Category 3: a U.S. insured depository institution
      • Category 4: an investment fund (including hedge funds, private equity funds, mutual funds or any vehicle that primarily invests in eligible collateral and borrows from TALF) that is:
        • organized under the laws of the United States or a political subdivision or territory thereto; and
        • managed by an investment manager that has its principal place of business in the United States.
    • An entity that satisfies any one of the categories above is a U.S. company even if it its controlled by, or managed by, a company that is not U.S. organized.
terms and conditions cont14
Terms and Conditions (cont.)
  • Structure of TALF Loans
    • Generally, 3 year term with monthly interest (Federal Reserve recently decided to also offer 1 and 2 year fixed rate loan options)
      • 5 year term available for up to $100 billion of CMBS, ABS backed by student loans and ABS backed by loans guaranteed by SBA
    • Secured by pledge of ABS
    • Non-recourse to the borrower (unless the borrower is found to be ineligible or knowingly breached a representation related to the eligibility of the collateral)
    • Not subject to mark-to-market or re-margining requirements
    • Borrower may request multiple TALF loans each month (minimum $10 million per loan)
    • TALF loans may be prepaid without penalty
      • CMBS: a portion of interest must be used to pay down principal balance of 5 year TALF loans
    • CMBS: TALF borrower may not exercise voting rights without consent of NYFRB
slide15

Terms and Conditions (cont.)

  • Pricing:
    • Interest Rates: borrower may select:
      • Fixed: generally 100 basis points over 1,2, 3 or 5 year LIBOR swap rate (depending on weighted average life of eligible ABS collateral)
      • Floating: 100 basis points over 1 month LIBOR rate
    • Administrative Fee:
      • 5 basis points of the principal balance of each TALF loan
slide16

Terms and Conditions (cont.)

  • Pricing:
    • Haircuts:
      • size depends on the type of ABS and underlying assets and the expected life of the eligible collateral pledged to secure a TALF loan
      • range varies from 5% to 16% (CMBS will be 15% if expected life < 5 years)
      • generally add 100 basis points for each year the expected life of ABS extends beyond 5 years (also applies to CMBS)
      • TALF borrower is required to pay haircut to Custodian, which in turn will pay full purchase price to ABS issuer
  • Assignments of TALF loans: permitted with prior consent of FRBNY prior to December 31, 2009
slide17

Potential Concerns

  • Low issuer supply of ABS and low investor demand
    • 4 deals in March (autos and credit card)
    • 5 deals in April (autos, credit cards and small business loans)
  • Allocation of risks between primary dealers and investors
    • administrative burdens of paper work, due diligence and “know your customer” requirements
    • negotiation of customer agreement
    • Potential solution: primary dealer creates eligible TALF fund that sells participations to customers
  • Risk of legislative interference (executive compensation and taxes)
  • Curbs on hiring foreign workers (Employ American Workers Act applies to all TALF borrowers and any entity that owns or controls 25% or more of the total equity of a TALF investment fund)
slide18

Potential Concerns (cont.)

  • Concern that it creates different trading demand for pre-2009 and 2009 deals
  • Stronger issuers may not want to be subject to TALF restrictions
  • Creating demand for ABS may not result in more consumer demand for credit
  • Not available to finance toxic legacy ABS
  • Federal Reserve inspection rights (ability to examine investor records)
  • Higher costs of funding for issuers than alternatives (many banks can fund at a lower costs under other government programs so won’t use TALF for credit card ABS issuances)
    • demand for subordinated tranches
    • higher overcollateralization requirements