United States: Credit Risk Retention Rules Finalized

Six federal agencies have finalized long-anticipated joint rules imposing risk retention, or "skin-in-the-game," requirements for securitizations. The new rules, when they become effective over the next two years, will impose significant new costs and obligations on a wide range of securitization structures. The risk retention rules come on the heels of a number of other Dodd-Frank reforms that have hit the securitization markets in recent months, including the Volcker Rule, Regulation AB II, and Dodd-Frank derivatives reforms.

The risk retention rules are required by Section 941 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which added Section 15G of the Securities Exchange Act of 1934. The joint regulations were adopted by the US Securities and Exchange Commission ("SEC"), Office of the Comptroller of the Currency ("OCC"), Board of Governors of the Federal Reserve System ("Fed"), Federal Deposit Insurance Corporation ("FDIC"), Department of Housing and Urban Development ("HUD") and the Federal Housing Finance Agency ("FHFA"), together, the "Agencies."1

The rules were initially proposed in 2011 and re-proposed in 2013. The initial proposal in April 2011 was subject to comments from more than 10,500 groups and individuals, much of it negative. The re-proposal in September 2013 was also the subject of significant industry comment, especially as it related to cash flow restrictions on the eligible horizontal residual interest risk retention option and the treatment of collateralized loan obligations ("CLOs"). The final rules generally follow the re-proposal with some technical revisions. Significantly, the Agencies did not adopt the cash flow restrictions, but rejected industry requests for additional exemptions for certain categories of securitization transactions, most notably open-market CLO transactions.

Risk Retention Requirement

In general, the final rules require that a "sponsor" of an asset-backed securitization (ABS) transaction retain credit risk of the securitized assets in one of several permitted forms. The "sponsor" for this purpose is a person who organizes and initiates a securitization transaction by selling or transferring assets, either directly or indirectly, to the issuing vehicle. In certain cases, the risk may be retained instead by an "originator" of the relevant assets, which is defined as a person who originates the underlying asset and sells it directly or indirectly into the securitization.

The final rules allow sponsors to choose from the following alternative methods of retaining the required credit risk:

  • Retaining a 5% "eligible vertical interest" or "vertical strip of risk" (a proportionate 5% interest in every tranche of a securitization),
  • Retaining a "eligible horizontal residual interest" (a proportionate interest in the equity/first loss tranche of a securitization), with a market value at least equal to 5% of the market value of all the securities issued in the ABS transaction, or
  • Combined vertical and horizontal interests for which the sum of the percentage held as a vertical strip and the percentage of the market value of the eligible horizontal residual interest compared to all the issued ABS securities must be at least 5%.

As compared to the proposed rules, the final rules eliminate a proposed cash flow restriction on eligible horizontal residual interests. The rules also eliminate the need to perform a fair value calculation for purposes of determining an eligible vertical interest (but retain such requirement for a horizontal interest).

The final rules also lay out certain additional or modified risk retention methods for specific types of transactions, including asset-backed commercial paper conduits, commercial mortgage-backed securities, securitizations sponsored by Fannie Mae and Freddie Mac, open-market CLOs, and tender option bond transactions.

As under the proposed rules, retained risk cannot be hedged or transferred, in order to preserve the sponsor's economic exposure to the assets underlying the ABS and avoid weakening the sponsor's incentive to select assets with appropriate diligence.


Exemptions to the 5% risk retention requirements have been the subject of much controversy since the initial proposal in 2011. The final rules include the following exemptions:

  • Certain residential mortgage-backed transactions where the underlying loans meet specified underwriting criteria (referred to as "qualified residential mortgages" or QRMs).
  • Mortgages that qualify for sale to Fannie Mae and Freddie Mac, as long as they are operating with the capital support from the US government.
  • Securitizations of certain non-QRM residential mortgages, commercial loans, commercial mortgages, and auto loans that satisfy stringent underwriting criteria.
  • Certain types of community-focused residential mortgages that are not eligible for QRM status in the Regulation.

The final rules generally align the QRM definition with the Qualified Mortgage ("QM") definition as defined in rules of the Bureau of Consumer Financial Protection ("CFPB"). They also allow for multi-family homes with up to four units to be included within the definition of residential mortgages. The Agencies did not follow requests to exempt single-borrower or single-credit ("SBSC") transactions from the risk retention requirements. Despite requests by commentators, the Agencies also did not provide a broad exemption for so-called open-market CLOs, in which the underlying assets are generally acquired in the market rather than originated by a transaction sponsor.

In particular, the Agencies rejected the expressed concern that many CLO managers, who will be treated as sponsors for purposes of the rules, do not have sufficient assets to hold the required portion of the CLO securities to satisfy the risk retention requirements. The final rules retain a limited exception where the originators of the securitized loans themselves satisfy the risk retention requirements. It is not clear how readily this exemption can be used in the CLO market today. As a result, there are significant concerns about how the final rules will affect the CLO market.

Implementation and Timeline

The risk retention requirement will become effective one year following publication of the final rules in the Federal Register for securitization transactions collateralized by residential mortgages and two years following publication of the final rules for all other securitization transactions. The requirement will only apply to new securitizations created after the effective date.

The final rules authorize the Agencies to provide additional exemptions as they determine appropriate. The rules also contemplate a periodic review of the following components to consider whether modifications would be necessary:

  • Definition of QRM,
  • Exemptions for certain community-focused residential mortgages, and
  • Exemptions for certain residential mortgage loans.

International Considerations; US & EU Comparison

The final rules provide an exemption from the risk retention requirement for certain privately offered non-US securitization transactions where no more than 10% of the value of all classes of securities are sold to US persons and certain other conditions are satisfied. Market participants will need to evaluate the extent to which securitization structures can take advantage of this exemption. To the extent market participants do so, such an approach may lead to bifurcation or fragmentation of the relevant markets.

It also bears noting that the EU's credit risk retention rule has already come into effect in July 2014, in accordance with the final Regulatory Technical Standards (RTS) rulemaking.2 The EU standards contain different requirements and different exemptions as compared to the US final rules. Unless an exemption is available, a securitization sold in both the US and the EU may be subject to risk retention requirements under both rules. This possibility is likely to further complicate transaction structuring, and may also lead to market fragmentation.

We will continue to provide updates of developments in this area, including a more detailed analysis of the final risk retention rules.


1. The final rules have not yet been published in the Federal Register, but are available at: http://www.federalreserve.gov/aboutthefed/boardmeetings/bcreg20141022a1.pdf. The proposal was published at 76 Fed.Reg. 83 (April 29, 2011) and the re-proposal was published at 78 Fed.Reg. 183 (September 20, 2013).

2. The Final Regulation was published on the Official Journal of the European Union on June 13, 2014 and is available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=OJ:L:2014:174:FULL&from=EN (See page 16).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Barnabas W.B. Reynolds
In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement

    Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of www.mondaq.com

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at enquiries@mondaq.com.

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions