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Banking and Finance

FDIC Issues Final Safe Harbor Rule

by Calvin Z. Cheng, Melissa D. Beck, Kenneth E. Kohler and Jerry R. Marlatt

Recent weeks have seen a number of legal, regulatory and political developments in the realm of asset securitization, culminating for the moment on September 27 with the issuance by the FDIC of a long-awaited "safe harbor" rule specifying the conditions under which U.S. banks and thrifts may issue mortgage-backed and other asset-backed securities without the threat that the FDIC will attempt to unwind the transaction in the event of the issuer's seizure by the FDIC.

Below we offer a summary of the FDIC's final safe harbor rule. We leave it to the reader to reach her or his own assessment of where the securitization market is, where it is headed, and at what speed.


What Now? FDIC's Final Safe Harbor Restrains Bank Securitization

They said they were going to do it-and now, some critics say, "they've really done it."

On September 27, 2010, the Board of Directors of the Federal Deposit Insurance Corporation ("FDIC") resolved by a four-to-one vote to issue a final rule amending 12 C.F.R. § 360.6 (the "Securitization Rule") relating to the FDIC's treatment, as conservator or receiver, of financial assets transferred by an insured depository institution ("IDI") in connection with a securitization or participation.[1] Although initially prompted by the need to address changes to accounting standards on which the original Securitization Rule, adopted in 2000, was premised, the FDIC capitalized on the opportunity to address at the same time perceived structural failures inherent in the "originate to sell" securitization model widely believed to have contributed to the recent financial meltdown. As adopted, the Final Rule contains a number of reform-oriented qualitative conditions that securitizations must satisfy in order to be afforded safe harbor protections under the rule.

The Final Rule was issued a little more than two months after the enactment of the landmark Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act"). The Dodd-Frank Act mandates a host of securitization "reforms," including requirements relating to risk retention, asset class differentiation, disclosure, conflicts of interest and due diligence, which are to be "fleshed out" and implemented through an interagency rulemaking process.[2] Truly ahead of the game with the issuance of the Final Rule, the FDIC adopted securitization reforms before the Office of the Comptroller of the Currency ("OCC"), the Board of Governors of the Federal Reserve System, and the Securities and Exchange Commission (the "SEC"), the other regulatory agencies charged with adopting regulations to implement the securitization reforms prescribed by the Dodd-Frank Act. Notably, the Final Rule was issued prior to the SEC's issuance of final rules ("Regulation AB II") that would significantly modify Regulation AB, the SEC's rule governing registration of and disclosures regarding asset-backed securities, by imposing qualitative standards and additional disclosure requirements on asset-backed securitizations.


The FDIC originally adopted the Securitization Rule in 2000 to provide comfort that loans or other financial assets transferred by an IDI into a securitization trust or participation would be "legally isolated" from an FDIC conservatorship or receivership if, among other requirements, the transfer met all conditions for sale accounting treatment under generally accepted accounting principles ("GAAP").

The Securitization Rule fulfilled two important functions. First, it satisfied a technical requirement of Statement of Financial Accounting Standards No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities ("FAS 140"), not uncoincidentally adopted by the Financial Accounting Standards Board (the "FASB") at the same time the original Securitization Rule was adopted by the FDIC, that accountants have a reasonable basis for concluding that securitized assets have been legally isolated from the sponsor. Second, quite apart from the technical accounting purpose, the Securitization Rule has provided investors and credit rating agencies with substantive comfort that securitized assets will not be reclaimed by the FDIC in conservatorship or receivership of an IDI sponsor. Securitization participants have thus relied for a decade on the Securitization Rule as a safe harbor for assurance that investors could satisfy payment obligations from securitized assets without fear that the FDIC might interfere as conservator or receiver.

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Calvin Z. Cheng is a Corporate Group associate based in Morrison & Foerster's Los Angeles office. Mr. Cheng has advised U.S. and China-based companies, venture capital funds, investment banks, and REITs on a wide variety of matters, including private equity and debt financings, mergers and acquisitions, public offerings, periodic reporting under the Securities Exchange Act of 1934, compliance with SEC, NYSE, and NASDAQ rules and regulations, general corporate law matters, and real estate transactions. Mr. Cheng practiced in the firm's Beijing office from 2006 to 2007 and continues to work closely with the firm's China offices on cross-border transactional matters. Mr. Cheng received his B.A. with Academic Honors and General Distinction from the University of California at Berkeley and his J.D. from the University of California, Los Angeles (UCLA) School of Law, where he served as Articles Editor for the Asian Pacific American Law Journal.

Melissa D. Beck is an associate in the Capital Markets Group of the New York office of Morrison & Foerster. Ms. Beck's practice is focused on the insurance industry, where she specializes in the life settlement sector. She has advised clients on the establishment of proprietary programs, the drafting of transaction documents, the development of policies and procedures, and the oversight of ongoing operations, including state licensing filings, and has performed audits on third-party providers for clients. Ms. Beck has experience in catastrophe bonds, sidecars, and CDO and CLO transactions. She has used her insurance regulatory knowledge to assist in M&A and litigation projects.

Kenneth E. Kohler is senior of counsel at Morrison & Foerster LLP. Mr. Kohler's practice involves a broad range of corporate and capital markets work, including public offerings and private placements of equity and debt securities, mergers and acquisitions of public and private companies, and disclosure and reporting matters under the federal securities laws.

Jerry R. Marlatt is senior of counsel at Morrison & Foerster LLP. Mr. Marlatt specializes in corporate finance with a focus on structured capital markets. He represents issuers, underwriters and placement agents in covered bonds, surplus notes, structuring investment and specialized operating vehicles, insolvency restructuring of such vehicles, securities repackagings and public offerings and private placements of asset-backed securities in domestic and foreign capital markets. Representative transactions involve the first covered bond by a US financial institution, the first covered bond program for a Canadian bank, surplus notes and common stock for a US monoline insurance company, eurobond offerings by US issuers and a variety of structured vehicles, including CBOs, SIVs, CDOs, derivative product companies, ABCP conduits and credit-linked investments.