# O

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| ## Comptroller of the Currency                                        |
|                                                                       |
| > Administrator of National Banks                                     |
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Washington, DC 20219

###### Interpretive Letter #1035

July 21, 2005 **August 2005**

###### 12 CFR 1

> Re: **\[ \]** ("Bank")

Dear **\[ \]**:

This letter responds to your request on behalf of the Bank concerning
the Bank's proposed guaranteed mortgage securitization of certain home
equity lines of credit ("HELOC Loans") it currently owns. As described
in your letters dated November 10, 2004, and January 25, 2005, the Bank
plans to engage in a series of simultaneous transactions that will have
the effect of the Bank transferring its own HELOC Loans through an
affiliated special purpose entity to a newly created qualified special
purpose entity designated as "Owner Trust." The Bank then will take back
the asset-backed ownership interests issued by Owner Trust through the
securitization process. You represent that the Bank's primary purpose
for the securitization transactions is to create liquidity for the Bank.
You have requested the views of OCC staff with respect to the
application of certain National Bank Act provisions and OCC regulations
to the proposed transactions.

**Background**

The Bank, an indirect wholly owned subsidiary of **\[ *Corporation*
\]**, originates, services, and sells home equity loans, and performs
loan-related activities with respect to interests in pools of those
loans, as part of its banking business. According to the Bank's
documentation, the proposed securitization structure involves various
entities to facilitate the sale by the Bank and the purchase by **\[
\]** ("**\[ *AInc.* \]**" or "SPE") of certain home equity loans the
Bank currently owns and the subsequent issuance of certain revolving
home equity asset-backed notes ("HELOC notes"). **\[ *AInc.* \]**, a
**\[ *State* \]** corporation, is an affiliated special purpose entity
of the Bank.[^1] **\[ *AInc.* \]** then will transfer the loans into a
qualified special purpose entity ("QSPE"), **\[ \]** 2004-H (also known
as "Owner Trust"), which will issue two forms of interests: the HELOC
notes and an Owners Trust Certificate ("OTC") (representing a
subordinated interest or a so-called "subordinated certificate").[^2]
The HELOC notes and OTC will be passed back through the SPE and returned
to the Bank in consideration for its sale[^3] of the original loans to
the SPE.[^4] The Bank also will own the mortgage servicing rights
stemming from the loans in the securitized pool.

As described by the Bank, the HELOC notes are expected to be floating
rate securities with a coupon of approximately LIBOR plus 25 basis
points. The underlying loans will generate the cash flows used to pay
the HELOC notes and the subordinated certificate. The
overcollateralization on the underlying loans combined with the
subordination of the excess spread that the OTC holder is entitled to
receive provide the HELOC notes with a BBB credit enhancement level. The
Bank plans to engage a triple-A rated monoline insurance company to
provide a deficiency guarantee or insurance "wrap" to take the notes
from the BBB to the AAA level. In consideration of a fee, the monoline
will guarantee to pay all principal and interest due on the notes. The
Bank represents this guarantee will be sufficient to obtain AAA ratings
on the HELOC notes from two nationally recognized statistical rating
organizations, Moody's and Standard & Poor's. The Bank asserts it is
undertaking the securitization primarily to create liquidity by
facilitating its ability to engage in repurchase transactions with the
AAA-rated HELOC notes.

For accounting treatment, the Bank represents the transactions qualify
as a "Guaranteed Mortgage Securitization" and that the Owner Trust
qualifies as a "QSPE" as described in FASB Statement of Standards No.
140 "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" ("FAS 140"). As defined, a guaranteed
mortgage securitization includes a substantive guarantee by a third
party. The Bank represents that the insurance wrap covers more than 90%
of the securitized assets, which fulfills the substantive guarantee
requirement. Also, the Bank represents that the Owner Trust meets the
requirements of a QSPE as defined in FAS 140 which includes conditions
to limit the permissible activities of the QSPE, what the QSPE can hold,
and when the QSPE can sell or dispose of non cash financial assets.
Accordingly, the accounting treatment would permit the Bank to record
the resulting interests as securities even though none of the beneficial
interests are being sold to a third party.[^5] However, the Bank would
not be able to record a gain or a loss on the transfer of the assets.

In addition, the Bank is creating two wholly-owned special purposes
entities, **\[ *SPE1* \]** and **\[ *SPE2* \]**, as bank operating
subsidiaries. The OTC/subordinated interest resulting from the
securitization will be held by **\[ *SPE1* \]**, and **\[ *SPE2* \]**
will hold 51% of the HELOC notes. The Bank itself will retain 49% of the
notes. Combined with the operating subsidiaries' ownership interests,
however, the Bank will in effect hold 100% of the interests created from
the securitization of its own loans.

#### Discussion

A.  **Legal Authority Applicable to Retaining the Securitized HELOC
    Notes**

> **under 12 U.S.C. § 24(Seventh)**

Citing broad authority granted by the national banking laws, the OCC has
long held that national banks may use asset securitization as a means of
selling or borrowing against their mortgage or other loan assets, and
engage in securitization activities.[^6] Securitization provides banks
an efficient tool for buying and selling loan assets and thereby
increasing a bank's liquidity, among other advantages. Securitizations
carve up the risk of credit losses from the underlying assets. Thus, the
"first dollar," or most subordinate, loss position is first to absorb
credit losses; the most "senior" investor position is last to absorb
losses; and there may be one or more loss positions in between.[^7]
Important accounting, capital, and tax implications often also arise
with respect to securitization activities.

The Bank's proposed securitization of its HELOCs and use of an owner
trust[^8] vehicle to facilitate those transactions is legally
permissible for national banks under well-established authority.[^9]
Retention of the Bank's own securitized loan assets in the form of the
HELOC notes also is legally permissible. In 12 C.F.R. Part 1, the OCC
has recognized a national bank's ability to purchase and hold
securitized assets as securities.[^10] In 1996, the OCC specifically
added "Type V" securities to its rule, to address separately investment
grade securities representing interests in assets a bank may invest in
directly.[^11] The rule defines a Type V security as a security rated
investment grade, marketable, not a Type IV,[^12] and fully secured by
interests in a pool of loans to numerous obligors and in which a
national bank could invest in directly.[^13] The OCC explained that this
definition reflects long-standing OCC interpretations providing that, in
addition to the investments described in 12 U.S.C. § 24(Seventh), a
national bank may hold securitized forms of assets in which it may
invest directly.[^14]

Here the interests designated as the HELOC notes created through the
Bank's securitization process satisfy the requirements for Type V
securities under 12 C.F.R. § 1.2(n). The HELOC notes are high quality
investment grade securities with a AAA rating by two NRSROs, as required
in section 1.2(d); the notes are marketable as set forth in
section 1.2(f); they are not Type IV securities as defined in section
1.2(m); and they are composed of underlying loans eligible for direct
investment by a national bank. Accordingly, the Bank has the legal
authority under part 1 to retain the HELOC notes as Type V securities.

Twelve C.F.R. § 1.3(f) ordinarily limits a national bank's purchase of
Type V securities from any one issuer (or certain related issuers) to 25
percent of the bank's capital and surplus.[^15] In adding Type V
securities to its investment securities rule, the OCC explained that the
25 percent of capital limit was a prudential limit to provide sufficient
protection against undue risk concentrations.[^16] Typically the
purchasing bank places significant reliance on the entity that
originates and services the pooled loans rather than evaluating the
individual obligors in the loan pool and the limit curtails exposure to
the entity to address safety and soundness concerns.[^17]

The Bank's situation differs in that the economic substance of the
resulting securitized interests simply represent a recharacterization of
the Bank's own loans.[^18] The continued holding of the HELOCs in a
securitized form as Type V securities does not by itself raise the usual
concerns of undue concentration. By originating all of the underlying
loans and continuing to service the securitized loans and retaining the
entire interest in the securitization, the Bank is uniquely able to
evaluate its risk exposure and maintain compliance with all applicable
safety and soundness requirements.[^19] Further, the Bank's purchase of
the insurance wrap guaranteeing all principal and interest on the HELOC
notes provides an additional risk diversification mitigant and,
significantly, is sufficient for the notes to receive a triple-A
securities rating. Accordingly, in this specific situation the 25
percent prudential limit in section 1.3(f), usually applicable to
purchases and holdings of Type V securities of one issuer, is not
intended to apply. This determination applies only to the particular set
of facts and the proposed securitization transactions described herein.
Any change in the facts and circumstances could lead to a different
conclusion.

#### B. Continued Holding of the Subordinated Interest

The Bank's retention of a subordinated interest, here the OTC, in the
securitization of its own HELOC Loans is simply part of, or incidental
to, the bank's general lending authority and its ability to securitize.
The Bank originally made the loans and, likewise, may continue to hold
the interests created from the loans in a different form under the same
general power.[^20] Various OCC letters and issuances relating to
securitization activities recognize a bank's authority to retain an
interest in its securitized assets.[^21]

##### C. Safety and Soundness Requirements 

The Bank must adhere to the prudential requirements as specifically set
forth in 12 C.F.R. § 1.5, and other supervisory guidance on safe and
sound banking practices, as appropriate.[^22] For example, section 1.5
identifies certain risks the Bank should consider as part of safe and
sound banking, including, among others, the interest rate, credit,
liquidity, price, transaction, strategic, and reputation risk presented
by the proposed securitization and related activities.

In addition, the Bank must establish to the OCC's satisfaction that the
Bank has an adequate and effective risk measurement and management
program for the described securitization transactions. Because the
securitized HELOC holdings are not subject to the diversification limits
in 12 C.F.R. § 1.3(f), the holdings require unique prudential
oversight.[^23] Accordingly, in order for the OCC to conclude that the
proposed activities are permissible for the Bank the Bank must
demonstrate to the satisfaction of the OCC that the Bank has established
an appropriate risk measurement and management process for this home
equity lending and securitization activity. An effective risk
measurement and management process includes board supervision,
managerial and staff expertise, comprehensive policies and operating
procedures, risk identification and measurement, and management
information systems, as well as an effective risk control function that
oversees and ensures the appropriateness of the risk management
process.[^24]

In addition to the risk management program, the Bank's process must
include an on-going compliance monitoring program to ensure compliance
with the specific commitments made by the Bank related to the described
securitization, such as the transactions qualifying as a Guaranteed
Mortgage Securitization and the Owner Trust qualifying as a QSPE. The
Bank must have an adequate and effective compliance monitoring program
that includes policies, training, independent surveillance and
well-defined exception approval and reporting procedures.

The OCC will make the determinations on risk measurement and management,
and on-going compliance monitoring through the Bank's Examiner-in-Charge
("EIC"), and the Bank may not commence the proposed securitization
activities unless and until its EIC has determined that there is no
supervisory objection to the securitization activities described in this
letter. The Bank also must consult with and receive EIC approval prior
to engaging in any subsequent securitizations of a similar nature to
those described in this letter.

##### D. Risk-Based Capital Treatment

Section 4 of 12 C.F.R. Part 3, appendix A sets forth the risk-based
capital treatment for exposures, both on- and off-balance sheet, related
to securitizations. The rule contemplates the capital treatment of rated
and unrated stratified risk positions acquired or retained by banks in
transactions involving third-party market participants. In contrast, in
this proposal, the Bank sells its own assets into a trust and retains
all of the risk positions associated with those assets. This
recharacterization of the Bank's loans does not affect the risk-based
capital requirements because the OCC's capital rules do not recognize
insurance companies as eligible guarantors. Thus, for purposes of the
risk-based capital rules, there is no transfer of risk recognized in
association with the insurance wrap.[^25] Accordingly, the OCC has
determined that the proposed transaction falls outside the scope of
risk-based capital treatment for securitizations. The risk-based capital
charge for the AAA-rated securities and the OTC would be the full
capital charge for the underlying HELOC Loans as if the loans were still
on the Bank's balance sheet.

#### Conclusion

Based on the facts and circumstances presented, we conclude that the
Bank may hold the securitized loan assets in the form of the HELOC notes
as Type V securities under 12 C.F.R. Part 1. The usual 25% prudential
limitation under part 1 applicable to Type V securities is not intended
to apply in this particular situation based on the described facts.
Further, the deficiency guarantee or insurance "wrap," among other
factors as described in the letter, provides sufficient risk mitigation
for safety and soundness purposes. The Bank's retention of a
subordinated interest, here the OTC, in a securitization of its own
loans is permissible under the bank's general lending authority of
12 U.S.C. § 24(Seventh). These conclusions are subject to the condition
that the Bank will have an appropriate risk measurement and management
process, and on-going compliance monitoring program in place
satisfactory to the Bank's EIC. Accordingly, the Bank may not commence
the proposed securitization transactions unless and until its EIC has
determined that he has no supervisory objection to the Bank's proposed
securitization activities, as described herein. The appropriate
risk-based capital treatment is the risk-based capital charge for the
underlying HELOC Loans.

The OCC views expressed in this letter are based specifically on the
Bank's representations and written submissions describing the facts and
circumstances of the Bank's proposed guaranteed mortgage securitization
of its own HELOC Loans. Any change in the facts or circumstances could
result in different conclusions. If you have any questions concerning
this letter, please contact Suzette H. Greco, Special Counsel,
Securities & Corporate Practices Division at 202/874-5210.

Sincerely,

**signed**

Daniel P. Stipano

Acting Chief Counsel

[^1]: **\[ *AInc.* \]** is a subsidiary of **\[ *Corporation* \]**,
    which maintains a current shelf registration filed under the federal
    securities laws and under which the HELOC notes will be issued. The
    Bank has requested confidential treatment pursuant to 5 U.S.C. §
    552(b)(4) for its submissions related to the proposed
    securitization. The Bank represents that its letters and the
    appendices thereto contain confidential business information that if
    released would be detrimental to the Bank's business.

[^2]: The Bank refers to this subordinated interest as a "residual" in
    certain places. However, this piece technically does not represent a
    residual interest because there is no "sale" for purposes of
    generally accepted accounting principles ("GAAP"). "Residual
    interest" is defined in 12 C.F.R. Part 3's capital rules. *See*
    12 C.F.R. Part 3, appendix A § 4(a)(12).

[^3]: The Bank represents the HELOC Loans will be accorded "sale"
    treatment for legal purposes, but not for accounting purposes.

[^4]: This is a simplified description of the complex securitization
    structure proposed in connection with the issuance by **\[ *AInc.*
    \]** Revolving Home Equity Loan Trust, Series 2004-H (the "Trust")
    of the Revolving Home Equity Loan Asset-backed Notes, Series 2004-H,
    pursuant to an Indenture between the Trust and **\[ *Trustee Bank*
    \]**., as indenture trustee. The Trust will be created by a Trust
    Agreement between **\[ *AInc.* \]** and **\[ *Trust Co.* \]**. The
    Bank is obtaining several outside legal opinions addressing the
    legality and expected treatment of the securitization transactions
    for various purposes separate from the matters discussed in this
    letter. The Bank represents that the proposed structure of the
    securitization is in accordance with all applicable requirements.

[^5]: The only consideration being received by the Bank in the transfer
    of the HELOC Loans are the HELOC notes and the OTC, representing the
    entire beneficial ownership interest in the HELOC Loans transferred
    to the QSPE.

[^6]: *See, e.g.,* Interpretive Letter No. 540 (Dec. 12, 1990)
    (12 U.S.C. § 24(Seventh) grants express power to discount and
    negotiate evidences of debt, and engage in all such incidental
    powers as shall be necessary to carry on the business of banking);
    Interpretive Letter No. 378 (Mar. 24, 1987) (broad authority to
    borrow money and to pledge their assets as collateral for such
    borrowings); No Objection-Letter No. 87-9 (Dec. 16, 1987) (power to
    sell or transfer interests on one's lawfully acquired assets is an
    incident of ownership); Interpretive Letter No. 92 (Apr. 20, 1979)
    (authorizing securitization of bank mortgage assets in a
    senior/subordinate structure).

[^7]: *See* 66 Fed. Reg. 59614, 59616 (Nov. 29, 2001) (capital treatment
    rule issued by the federal banking agencies)*.* Each loss position
    functions as a credit enhancement for the more senior position in
    the structure. *See generally* OCC Bulletin 99-46, *Interagency
    Guidance on Asset Securitization Activities* (Dec. 1999);
    *Comptroller's Handbook for Asset Securitization* (Nov. 1997).

[^8]: In an owner trust securitization structure, the assets are usually
    subject to a lien of indenture through which notes are issued. The
    beneficial ownership of the owner trust's assets is represented by
    the certificates, which may be sold or retained by the bank. *See
    Securitization of Financial Assets* § 4.02(E) (Jason H.P. Kravitt
    ed., 2d ed. 2003); *Comptroller's Handbook on Asset Securitization*
    15 (Nov. 1997). The OCC has approved the use of an owner trust
    structure. *See, e.g.,* Interpretive Letter No. 514 (May 5, 1990).

[^9]: *See, e.g.,*12 C.F.R. § 1.3(g) (bank may securitize and sell
    assets); Interpretive Letter No. 540 (Dec. 12, 1990) (credit card
    securitization); Interpretive Letter No. 92 (Apr. 20, 1979)
    (securitized assets in a senior/subordinate structure). *See also
    Securities Industry Ass'n v. Clarke,* 885 F.2d 1034 (2d Cir. 1989),
    *cert. denied*, 493 U.S. 1070 (1990) (certificates representing
    undivided interests in pooled bank assets are legally transparent
    for purposes of the Glass-Steagall Act (upholding Interpretive
    Letter No. 388)). The OCC does not opine on the strict legality of
    the Bank's securitization process itself, but finds under the
    general authorities that the activities are permissible for a
    national bank. The OCC assumes compliance by the Bank with all
    applicable legal requirements related to the securitization.

[^10]: Part 1 prescribes standards for national banks engaged in
    purchasing, selling, dealing in, underwriting, and holding
    securities, consistent with the authority contained in 12 U.S.C.
    § 24(Seventh) and safe and sound banking practices. *See* 12 C.F.R.
    § 1.1; 61 Fed. Reg. 63972 (Dec. 2, 1996) (the OCC's so-called
    "investment securities" rule).

[^11]: *See* 61 Fed. Reg. at 63976. The rule defines the term
    "investment grade" to mean a security that is rated in one of the
    four highest rating categories by either (1) two or more nationally
    recognized statistical rating organization ("NRSROs"); or (2) one
    NRSRO if the security has been rated by only one NRSRO. 12 C.F.R.
    § 1.2(d). By definition, an "investment security" is a marketable
    debt obligation that is not predominantly speculative in nature. A
    security is not predominantly speculative in nature if it is rated
    investment grade. 12 C.F.R. § 1.2(e).

[^12]: The 1996 rule also created a new category of Type IV securities
    that national banks may purchase implementing amendments to
    12 U.S.C. § 24(Seventh) in the Secondary Mortgage Market Enhancement
    Act of 1984 ("SMMEA) and the Riegle Community Development and
    Regulatory Improvement Act ("CDRI") concerning certain
    mortgage-related and small business-related securities. *See*
    12 C.F.R. §§ 1.2(m) and 1.3(e).

[^13]: 12 C.F.R. § 1.2(n). In this context, "obligor" means the
    borrowers on the underlying loans backing the security.

[^14]: ^?^ *See* 61 Fed. Reg. at 63976.

[^15]: *See* 12 C.F.R. § 1.3(f); *see also* 1.4(d).

[^16]: 61 Fed. Reg. at 63977.

[^17]: *See, e.g.,* 61 Fed. Reg. at 63979; Interpretive Letter No. 579,
    *supra*.

[^18]: However, from a general capital markets perspective, other
    investors will view the securitized assets in the form of the HELOC
    notes differently from the unsecuritized loan assets.

[^19]: This is in contrast to usual Type V scenarios involving the
    purchase of securitized interests from third party issuers.

[^20]: As oft recognized by the courts, legal classification for one
    purpose does not necessitate the same treatment for other purposes.
    *See, e.g., Securities Industry Ass'n v. Clarke,* 885 F.2d 1034,
    1052 (2d Cir. 1989), *cert. denied*, 493 U.S. 1070 (1990)
    (requirement that certificates be registered under the securities
    laws does not make them "securities" for purposes of the Glass
    Steagall Act prohibitions).

[^21]: *See, e.g.,* 66 Fed. Reg. at 59616 (banks have long provided
    "recourse," or retained some ownership interest, in connection with
    sales of whole loans or loan participations); OCC Bulletin 99-46,
    *supra* (seller typically retains one or more interests in the
    assets sold); Interpretive Letter No. 585 (June 8, 1992) (bank
    retains Class B certificates in a senior/subordinated structure);
    Interpretive Letter No. 514, *supra* (subsidiaries may sell residual
    interest); Interpretive Letter No. 378, *supra* (reversionary
    interest in assets likely to be substantial); Interpretive Letter
    No. 92, *supra* (bank to retain Class B certificates); Letter from
    Robert Bloom, First Deputy Comptroller for Policy (July 1, 1976)
    ("the creation of the Trust, the sale of loans to the Trust, and
    retention of a residual interest in the Trust are permissible under
    the general powers conferred on national banks").

[^22]: *See e.g.*, OCC Bulletin 2004-20, *Risk Management of New,
    Expanded, or Modified Bank Products and Services* (May 10, 2004);
    OCC Bulletin 2002-19, *Unsafe and Unsound Investment Portfolio
    Practices* (May 22, 2002); OCC Bulletin 99-46, *Interagency Guidance
    on Asset Securitization Activities* (Dec. 13, 1999); Comptroller's
    Handbook for Asset Securitization (Nov. 1997). In addition, with
    respect to safe and sound banking practices related to the
    underlying HELOCs, see OCC Bulletin 2005-22, *Home Equity Lending*
    (May 16, 2005).  

[^23]: The OCC has long considered safety and soundness as part of
    determining whether an activity is permissible under 12 U.S.C.
    § 24(Seventh). *See e.g.*, Interpretive Letter No. 1018 (Feb. 10,
    2005) (affiliate hedging activities must be conducted in safe and
    sound manner to be permissible); Interpretive Letter No. 949 (Sept.
    19, 2002) (proposed activity cannot be part of the "business of
    banking" if the bank in question lacks the capacity to conduct the
    activity on a safe and sound basis); Interpretive Letter 892 (Sept.
    13, 2000) (national bank may engage in equity hedging activities
    only if it has an appropriate risk management process in place);
    Interpretive Letter No. 684 (Aug. 4, 1995) (commodity hedging is a
    permissible banking activity provided the activity is conducted in
    accordance with safe and sound banking practices); Interpretive
    Letter No. 274 (Dec. 2, 1983) (a national bank's authority to lease
    its office space provides the authority for it to establish
    appropriate lease terms if consistent with safe and sound banking
    practices).

[^24]: Further detailing the risk measurement and management process,
    see the Comptroller's Handbook, *Risk Management of Financial
    Derivatives* (Jan. 1997) and BC-277, *Risk Management of Financial
    Derivatives* (Oct. 23, 1993).

[^25]: The current rules recognize credit enhancements provided by other
    Organization for Economic Cooperation and Development ("OECD")
    banks, highly-rated securities companies, and OECD government and
    government-related guarantees. *See* 12 C.F.R. part 3, appendix A §
    3(a)(2).