SEC adopts final rule on credit risk retention

Published on: 24 Oct 2014

This week, the SEC and five other federal agencies1 adopted a final rule2 that requires securitizers, under certain conditions, to retain a portion of the credit risk associated with the assets collateralizing an asset-based security (ABS).3

The final rule addresses what some believed to be a critical weakness in the securitization market that led to the financial crisis — namely, that certain meaningful risks need to be retained to ensure that securitizers are incentivized to monitor the quality of the assets that underlie ABSs in an offering. Therefore, under the final rule, securitizers would be:

  • Required to retain no less than 5 percent of the credit risk of assets within an ABS offering.
  • Prohibited from hedging or transferring the credit risk they are required to retain.

Like the proposed rule, the final rule permits securitizers to select a form of risk retention obligation from a menu of specified options. These options include (1) an eligible vertical interest, (2) an eligible horizontal residual interest, or (3) a combination of both when the combined interest is no less than 5 percent of the fair value of all ABSs issued.

ABSs that are collateralized solely by “qualified residential mortgages” (QRMs) are exempt from the risk retention requirements. The final rule alters the definition of a QRM to align it with the Consumer Financial Protection Bureau’s definition of a “qualified mortgage.” In addition, the final rule requires that the definition of QRM be periodically reviewed beginning no later than four years after the effective date of the rule and then every five years thereafter. However, each agency may request a review of the definition at any time.

The final rule will become effective one year after publication in the Federal Register for residential mortgage-backed securitizations and two years after publication for all other securitization types.


1 These include the Office of the Comptroller of the Currency in the Department of the Treasury, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Federal Housing Finance Agency, and the Department of Housing and Urban Development.

2 SEC Final Rule Release No. 34-73407, Credit Risk Retention.

3 The final rule was issued in response to a mandate of Section 941 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which added new credit risk retention requirements to Section 15G of the Securities Exchange Act of 1934.

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