The New UK Securitisation Rules : A Practical Overview And Comparison

On 30 April 2024, the Financial Conduct Authority (the "FCA") published Policy Statement PS24/4 ("PS24/4") setting out the final FCA Securitisation Sourcebook ("SECN"). Subject to the repeal of the Securitisation Regulation and related technical standards currently in force in the UK (the "UK SecReg"), SECN now has an implementation date of 1 November 2024. At the same time, the Prudential Regulation Authority (the "PRA") published its policy statement PS7/24 – Securitisation: General requirements, including the new Securitisation Part of the PRA Rulebook which is also due, subject to the repeal of the UK SecReg, to come onstream on 1 November 2024.

Background and new legislative architecture

In August 2023's CP23/17 (see our note on this here), the FCA set out its proposals for firm-facing rules on securitisations to be effectively transferred into the FCA's rulebooks. PS24/4 is the result of that consultation process, and as before, the approach is largely to preserve the existing provisions of UK SecReg, but subject to "targeted policy changes" of a generally clarificatory nature. The PRA went through a parallel consultation exercise with CP 15/23 (see our note on this here).

The resulting 'lift and shift' of firm-facing rules is part of the exercise to repeal and replace retained EU law, with some of the balance of provisions from UK SecReg set out in domestic legislation. This means that the securitisation regulation in the UK (collectively, the "New UK Rules") will comprise (as applicable):

• the Securitisation Regulations 2024;
• the Securitisation (Amendment) Regulations 2024;
• SECN; and
• the Securitisation Part of the PRA Rulebook.

Scope

The New UK Rules continue to apply to relevant entities 'established in the United Kingdom', meaning entities constituted under UK law with a head or registered office in the UK. This is as set out in CP23/17, but PS24/4 has added text where necessary to clarify when the rules only apply to entities 'established in the United Kingdom'.

Approach to rules

On rule drafting, important points to note include a reiteration of CP23/17's confirmation that there will be no changes in this iteration of the New UK Rules to the way firms populate or submit templates. In addition, the FCA has acknowledged industry feedback about the potential unintended consequences of drafting divergences (compliance costs and regulatory uncertainty), and both aligned drafting and ordering of shared rules, and reduced discrepancies between FCA due diligence rules for authorised institutional investors and trustees and managers of Occupational Pension Schemes, for example.

EU Non-Legislative Materials and Existing EU Recitals

Market participants requested more clarity on the applicability of existing EU guidance and the original recitals set out in the EU Securitisation Regulation. In terms of existing EU guidance, the PRA and the FCA confirmed that pre-Brexit EU guidance can still be used, provided that it has not been withdrawn or superseded. While they declined to completely endorse the recitals set out in the EU Securitisation Regulation, they did, however, incorporate some of the recitals into the rules themselves.

Transitional and implementation periods

Both regulators have acknowledged industry feedback, and: (i) now allow a 6-month implementation period for the New UK Rules to 1 November 2024; and (ii) have added transitional provisions for securitisations set up before the application date of the New UK Rules (such that those securitisations will continue to be subject to the current rules after the New UK Rules apply). Note that the commencement order that will revoke the UK SecReg has not yet been laid before Parliament, and while His Majesty's Treasury anticipates making the commencement order later this year, the FCA will consider delaying or revoking SECN if that order is not made (with the same applying to the PRA in respect of the Securitisation Part of the PRA Rulebook).

Future Consultations

While CP23/17 did include discussion points on the definitions of public and private securitisation, feedback on that topic is not included in PS24/4 but will be used to inform a future consultation and relevant proposals for rule changes tabled for Q4 2024/Q1 2025. Also included in the upcoming Regulatory Initiatives Grid are policy changes for the associated template reporting regime, including enhancing ESG reporting. The FCA promises that "[a]ny potential changes would aim to make the reporting regime more proportionate".

New UK Rules at a glance

While the New UK Rules (and the revised EU Regulatory Technical Standards relating to the risk retention requirements of 7 July 2023 and the transparency requirements of 16 October 2019 (together, the "Current EU Rules")), to a large extent replicate previously published drafts, we set out below a summary of the key changes that have been introduced by the New UK Rules (relative to the rules that are currently in force in the UK) as well as a comparison, where relevant, against the corresponding Current EU Rules.

Risk Retention

Resecuritisation—contiguous tranches not a resecuritisation

• The Current UK Rules include a helpful statement confirming that the re-tranching of a tranche issued in a securitisation will not, in and of itself, constitute a resecuritisation, and although included in the section on risk retention in the New UK Rules, the accompanying guidance in the FCA Policy Statement makes it clear that such structures should not be considered resecuritisations for the purposes of the general prohibition on resecuritisations.
• The Current EU Rules include a similar statement, also contained within their risk retention provisions (and although no corresponding interpretive guidance exists, we would expect this statement to be construed in the same way as under the New UK Rules).

NPE securitisation—purchase price not nominal amount

• The New UK Rules confirm (consistent with the Current EU Rules), that for the purposes of calculating the required retention when applying the 5% test to the relevant securitised portfolio, it is permissible to use purchase prices rather than nominal values for non-performing exposures.
• Importantly, whilst "non-performing" is helpfully defined widely so as to include, for example, both defaults and impairments, the ability to use purchase prices for the above calculation is limited to such exposures as are contained in "NPE securitisations". These are limited to securitisations where the applicable securitised portfolio comprises at least 90% non-performing exposures at commencement and at the time of any reinvestment.

Change of retainer—can change upon insolvency

• The New UK Rules confirm that it is permissible to change the entity holding the risk retention in the case of such entity's insolvency.
• Notably, the New UK Rules do not include the additional reference made in the Current EU Rules to situations where the risk retainer is unable to continue to act as retainer due to "legal reasons beyond its control". We would not regard the absence of this reference from the New UK Rules to be a material limitation in practice, however, it being limited to the very narrow circumstance of illegality in respect of the continued ability of the retention holder to hold and retain.
• More significantly, neither the New UK Rules nor the Current EU Rules offer any exception to the obligation to hold and retain where, for example, a transfer would facilitate a corporate reorganisation or business sale, or in cases where the risk retainer also performs the role of sponsor or manager of the transaction and either resigns from such role or is removed "for cause" under the terms of the securitisation documentation. Securitisation participants subject to either set of rules should therefore continue to assume that a change of retainer would not be permitted in these circumstances (and will therefore need to continue to analyse the potential impact on retention compliance).

Requirements to be an originator—sole purpose test

• Consistent with the position in earlier drafts, the New UK Rules reference certain factors that must be taken into account when assessing whether an originator has been established and is operating for the "sole purpose" of securitising exposures (and is therefore deemed not to be an eligible risk retainer).
• The above factors include the extent to which the originator has material other assets and business beyond securitisation and related risk retention, as well as the adequacy of its decision-making and corporate governance arrangements.
• By contrast, the Current EU Rules, while broadly following the above, focus instead on whether the securitisation (and related risk retention assets) and business comprise the originator's "predominant source of revenue". This is potentially a greater hurdle for some originators to overcome, particularly when an originator has significant leverage and will, as a result, have material payment obligations which would need to be met predominantly from other sources of revenue in order to pass the test.
• On the other hand, unlike the New UK Rules, the Current EU Rules reference the above factors not as considerations to be taken into account, but as facts which, if all are present, would mean that the originator is not a sole purpose originator. In that sense, the Current EU Rules offer more flexibility than the New UK Rules, since all (or any) of the above factors do not, strictly speaking, need to be present in order to pass the test.
• That said, it has been our experience that originators are typically able to satisfy either of the formulations mentioned above, and therefore we do not consider it likely that this apparent divergence between the New UK Rules and the Current EU Rules will be meaningful in practice.

Contingent/synthetic retention—ability to retain

• The New UK Rules (like the Current EU Rules) helpfully extend the ability to hold retention on an unfunded basis, i.e., synthetically or on a contingent basis such as in the form of a guarantee – and without having to cash collateralise the exposure – beyond credit institutions to certain investment firms subject to prudential regulation (and also insurers and reinsurers).
• Such widening of this permission is to be welcomed, particularly in relation to those investment firms within scope for whom synthetic or contingent risk retention will now become a possibility, potentially on an entirely unfunded basis.

Hedging the retention—when permitted

• The New UK Rules provide a helpful addition on this topic, since the old UK rules (and the Current EU Rules) refer only to the requirement that permitted hedging not hedge the credit risk of the retained interest or securitisation exposures.
• The New UK Rules now expressly permit hedging – including of credit risk – so long as such hedging was initiated as a "prudent element of credit-granting or risk management" prior to the commencement of the relevant securitisation, and the hedging doesn't differentiate between the originator's securitised and non-securitised credit risk.
• This is a welcome clarification for risk retainers such as banks and investment firms who may continue to employ their pre-existing credit risk management strategies which may extend to include the originator's exposures to assets that it subsequently securitises (including through its holding of a securitisation retention position).

Fee arrangements—whether retention is affected

• Unlike the Current EU Rules, the New UK Rules do not expressly contemplate how fees may be obtained by the risk retainer in connection with a securitisation without impacting (for example, by being required to be netted against and thereby effectively reducing) the originator's retained net economic interest.
• While the Current EU Rules provide a helpful clarification – in particular by referring to arms' length fees that are comparable to those paid in similar transactions being disregarded – market participants have, in our experience, already been operating on this basis (for example, in relation to fee sharing arrangements in respect of collateral management fees on CLOs) and we would not therefore regard the absence of a similar statement from the New UK Rules as being material.

Due Diligence/Transparency Requirements

Template requirements—when required

• Under the New UK Rules, institutional investors subject to the rules' due diligence requirements will no longer need to verify compliance by sponsors, originators and securitisation issuers with transparency obligations to the extent of the requirement to produce disclosure templates.
• Instead, investors will now only need to ensure that certain prescribed information is provided – regardless of format – and that the information provided is sufficient for them to independently assess the risks of holding the securitisation position.
• As a result, the expectation would be that the investor reporting required to be provided under the relevant securitisation's transaction documentation should in most cases be sufficient for compliance with the due diligence requirements by investors subject to the New UK Rules.
• Were there to be a UK sponsor, originator or SSPE, however, the disclosure templates would still need to be provided under the New UK Rules (due to such entities being separately subject to those rules' transparency requirements).
• By contrast, the Current EU Rules require investors subject to the due diligence obligations under those rules to ensure that the responsible entity prepares disclosure templates (even when those entities are located outside the EU and therefore would not be under an obligation to provide those templates themselves).
• A comparison of the information requirements for investor due diligence referred to above, as well as the relevant transparency obligations between the New UK Rules and the Current EU Rules, including the applicability of the relevant templates in various scenarios, is set out in the annexes to this note.

Provision of initial information—when required

• The New UK Rules clarify that the initial information prescribed by the rules' transparency requirements is to be provided "at pricing" in the case of public transactions, and at the time of the "[original] commitment to invest" in the case of private transactions. This is useful in that it clarifies the position as regards private transactions where there is no acknowledged pricing date (and is in any case consistent with current market practice).
• The above clarification should also assist in the case of investors acquiring securitisation positions in the secondary market, as there will now be no doubt under the New UK Rules that verification by such investors of the transaction's compliance prior to the date of their commitment to invest will not be required.
• A further useful clarification has been included in the New UK Rules to the effect that only a "draft or initial form" of the required transaction documentation is required to be made available before pricing, with final documentation to follow within 15 days after closing (and which is also consistent with current market practice).

Due diligence obligations—permitted delegation

• The New UK Rules confirm that whilst a delegation of due diligence obligations can be made by an investor subject to the rules to a person who is not so subject (such as, for example, delegation by a UK AIFM to a non-UK AIFM), the investor so delegating will not be relieved of responsibility for compliance under the rules (unless the entity to whom the duties are delegated is itself an institutional investor also subject to the rules).

Importantly, the grandfathering period mentioned above will not apply to this change, meaning that the new rule will apply even with respect to transactions (and therefore any related delegation arrangements) entered into before the go-live date for the New UK Rules.

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