xThe U.S. Regulators are likely going to drop from their risk-based capital guidelines the 25% cap on retained interest applied toward tier-one capital, Washington sources told ASR last week.

Beyond the obvious benefits to banking entities participating in securitization - both as investors and as issuers - this will allow other aspects of the risk-based capital rules to stimulate developing niches, including synthetic-risk-transfer securitizations and net interest margins.

"The transfer of risk that would get you relief from the capital charge would not get you any relief from the 25% sublimit, because the 25% sublimit is a tier-one capital limit," said attorney David Katz, of Orrick, Herrington & Sutcliff. "There's no mechanism in there for transfer of risk to have any impact. It's purely adding up your assets."

The guidelines were originally issued last September by the agencies, including the Office of the Comptroller of the Currency (OCC), Board of Governors of the Federal Reserve System (Board); Federal Deposit Insurance Corporation (FDIC); and Office of Thrift Supervision (OTS).

In addition to the sublimit, which would prohibit banks from including more than 25% of certain intangible, residual and servicing assets as tier-one capital, the banks would incur a dollar-for-dollar capital charge on these assets.

The comment letters, which were released in December, were uniformly against the 25% sublimit.

"One argument is that they're making us hold dollar-for-dollar capital against it for risk-based purposes, why do we also have to deduct it,'" one source said. "I think the regulators are somewhat sympathetic to that argument."

However, Washington sources said there is also pressure to align the risk-based guidelines with those from the Bank of International Settlements (BIS), in which there is no such 25% sublimit.

"I was told that the 25% limitation is not going to go through, because it's not consistent with the BIS," a source said. "The dollar-for-dollar capital can be easily reconciled with Basel, because with Basel, you simply deduct the amount of residuals from capital, which is effectively the same thing."

One reason why the Basel guidelines do not include capital limits is that many countries outside the U.S. do not use leverage ratio tests, so a 25% limit would not apply.

With or without


Traditionally, following a commentary period, the regulators will either issue a revised proposal, requesting further commentary, or issue a final rule. In some cases, the regulators have issued a rule and requested commentary, indicating that they plan to eventually tweak the guidelines again.

In this instance, some sources are anticipating a final ruling similar to the current proposal, with the 25% capital limit etched out, among other changes.

"I don't think they'll repropose," said one attorney. "The regulators feel that there's a lot of this stuff floating around people's books, and a lot of institutions don't realize the true risk and don't value it properly. They would be hard pressed to kind of drag their feet on this. They feel very strongly that they need a rule."

The push for guidelines on residuals interests followed a few notable bank failures, including fraud-laden failure First National Bank of Keystone, and other incidents that the agencies, particularly the FDIC, associated with securitization residuals and valuations.

Although there is pressure to put a rule in place, other sources feel that residual guidelines, as an isolated issue, will be integrated into a larger set of more general securitization issues, including the treatment of securitizations, position recourse arrangements and direct credit substitutes.

"At this point, there is probably a fair amount of speculation about what the FFIEC is going to do on individual aspects of those proposals, but it is our understanding that, at minimum, what they are going to do is reissue for comment a combined set of proposals," said George Miller, general counsel for the Bond Market Association.

"I don't have any information that they're going to take action separately or sooner on [any] set of proposals," he added.

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