Rebuttal to the Risk Retention Re-Proposal Trade Letter

As of late October, 2014, the finance and real estate industries’ inclusion of the National Association of Realtors (NAR) submitted a joint-trade, re-proposal letter to the agencies responsible for Qualified Residential Mortgage (QRM) and risk retention policy. In a letter aimed at the FHFA, FDIC, SEC, HUD, Department of Treasury and the Federal Reserve, the groups called attention to over a handful of significant changes despite clearly outlined benefits to Commercial Mortgage-Backed Securities.


Qualified Residential Mortgage and Risk Retention Policy


A QRM demonstrates that a mortgage lender has diligently assessed a borrower’s ability to repay their debt, thereby decreasing risk. Risk retention, created through the Federal Liability Risk Retention Act established a form of liability through planned losses as “insurance” and an ultimate transfer of risk in adverse situations.


Problems and Recommendations


The joint-trade letter outlines concerns for horizontal risk retention interests, Qualified Commercial Real Estate Loans (QCRE), Single Borrower, Single Credit (SBSC) losses and third-party purchaser deals.  The letter addresses changes and challenges benefits to Commercial Mortgage-Backed Security (CMBS) and pinpoints solutions for crucial issues.


Flat risk retention holders voice concern for limited cash flow and recommend that in addition to equal risk retention, there needs to be a designation between subordinate and senior positions.


Furthermore, less than 8% of current QCRE loans qualify for zero-risk retention. This fact rightly questions the fairness of the underwriting process from the start. A proposed recommendation is to reconsider the underwriting measures for CMBS.


SBSC mortgages result in lower cumulative losses compared to conduit CMBS. The responsible agencies must review qualifications and reconsider eligibility for more equivocal QCRE loan status for SBSC.


Third party purchasers prohibited from affiliating with a lender who contributes greater than 10% of loans is at the least, unprecedented. B-piece buyers traditionally take on a 5% risk. However, ultimate financial risk retention rules are now required as outlined in the Dodd-Frank Act of 2010. B-piece investments will require further clarification, yet remain to be a crucial component of the system.


Finally, if a 5% quorum replaced special servicers rather than the standard existing market requirements, the outcome will give bondholders an advantageous 2.51% control of the outstanding principal on CMBS.


The purpose of the proposal trade letter is two-fold. The responsible agencies are compelled to reexamine the economic impact of  the deemed re-proposal, and to assess the economic impact of a cost-benefit study before implementing changes.


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