How To Meet The Mhp Requirement

Transcription

1 STRUCTURED FINANCE Rating Feature 7 ICRA RATING FEATURE May 2012 RBI FINAL GUIDELINES ON SECURITISATION AND DIRECT ASSIGNMENT TRANSACTIONS TO ADVERSELY IMPACT VOLUMES IN THE NEAR TERM Contacts Structured Finance Ratings Group Kalpesh Gada Head Structured Finance (91) kalpesh@icraindia.com Vibha Batra Co-head Financial Sector (91) vibha@icraindia.com Remika Agarwal Assistant Vice President (91) remikaa@icraindia.com Background The RBI, on 7 May 2012, has put out the final guidelines on securitisation and direct assignment of loan receivables. This is the first time the RBI has issued separate guidelines for Direct Assignment transactions. These guidelines are largely similar to the draft guidelines released in September 2011, other than some differences the key ones pertain to Minimum Holding Period (MHP) requirement and credit enhancement reset. Impact Summary The biggest impact of the Guidelines is expected to be on Direct Assignment transactions that formed about 75% of the market in FY2012 (as per ICRA s estimates)). Under the Guidelines, no credit enhancement is permitted for these transactions. Given the prohibition on credit enhancement, the investing banks will be exposed to the entire credit risk on the assigned portfolio, which most banks may not be comfortable with. Hence the volume of such assignment transactions is expected to be severely affected. One of the key objectives of the banks to acquire loan pools was to meet their Priority Sector Lending (PSL) targets, particularly post RBI s Master Circular of July 2011 on Priority Sector Lending as per which loans by banks to NBFCs no longer qualify as PSL. Given that the need to meet PSL targets would continue to be there, banks could shift at least partly to the securitisation route to meet these targets. However, the deterrents to such a shift to securitisation are two-fold high capital charge for Originators 1 and impact of mark-to-market for the Investing Banks. Further, the unresolved issue of the Income Tax authorities claim of taxing the Special Purpose Vehicle (SPV) involved in securitisation transactions as a separate entity is another factor likely to constrain a wide-spread move towards securitisation. Other key provisions of the Guidelines pertain to Minimum Holding Period (MHP) and Minimum Retention Requirement (MRR). These requirements are not expected to have any major impact on the securitisation or assignment of any underlying asset class, as these are relatively easy to comply with. Website Investing banks are expected to stress test their securitisation investments / acquired portfolio and continuously monitor the same. Further, banks acquiring loan pools directly are expected to meet strict own due diligence requirements and have skilled manpower and systems to carry out the process. However, some banks may not have adequate systems or processes in place to comply with these requirements. 1 Credit enhancement offered is to be reduced from capital as per Feb 2006 guidelines

2 Key Highlights of the Guidelines and their impact MHP and MRR Requirement more standardised pool compositions likely The final guidelines of May 2012 have essentially reviewed the Minimum Holding Period (MHP) and Minimum Retention Requirement (MRR) prescribed in April 2010 and subsequently in September 2011; while the MHP requirement has been reduced to an extent, the MRR remains largely unchanged. These guidelines are aimed at ensuring Originators do not compromise on due diligence of the assets generated for the purpose of securitisation or Assignment, curbing the originate-to-securitise business model, and bringing in greater alignment of interest between the Issuers of and Investors in securitised paper. The present MHP requirements and MRR are discussed below. Table 1: Minimum Holding Period (MHP) Requirement for Securitisation and Direct Assignment by banks Type of Loan Repayment Frequency Weekly Fortnightly Monthly Quarterly More than quarterly Original Maturity of less than 2 years Original Maturity of 2-5 years Original Maturity of more than 5 years In the final guidelines, MHP has been defined as minimum number of instalments to be paid prior to securitisation rather than minimum number of months on book of the Originator. For instance, for a loan with a monthly repayment frequency and an original maturity between 2-5 years, the MHP prescribed is 6 months. The MHP requirement will be a credit positive; a minimum payment track record establishes both ability and willingness to pay. If we were to hypothetically apply the MHP criterion on all ABS pools rated by ICRA in FY2012, about 57% of the underlying loans in the transactions would conform to the requirement. An asset wise analysis of the same is presented in the table below. Table 2: Portion of ICRA-rated pools of FY2012 meeting the MHP requirement Asset Class Share of compliant pool % Mortgage Loans 47% CV 50% Tractor 12% Microfinance 29% TWL/ SME 74% Although the extent of compliant portion of the pools is not found to be very high; by and large, Originators should be able to meet the MHP comfortably. Nevertheless, some of them might take time to build up compliant portfolio. May Page 2

3 Table 3: Minimum Retention Requirement (MRR) for Securitisation Type of Loan MRR Description of MRR Original Maturity of 24 months or less Original Maturity of more than 24 months Bullet Repayment Loans/ Receivables 5% of book value of loans securitised 10% of book value of loans securitised 10% of book value of loans securitised For transactions with no credit enhancement and no tranching, the MRR would be met by way of investing in 5% of the securities issued. For transactions with no credit enhancement, the MRR would be met by way of investing in 5% of the equity tranche. For transactions with credit enhancement, the MRR would be met by way of investing in 5% of any of the first-loss credit enhancements. For other transactions, the MRR would be met through Originator taking an exposure to equity stake, first-loss credit enhancements and pari passu tranche of 5% all taken together. For transactions with no credit enhancement and no tranching, the MRR would be met by way of investing in 10% of the securities issued. For transactions with credit enhancement, the MRR would be met by way of investing in 10% of the first-loss credit enhancements. For transactions having no credit enhancement, the MRR would be met by taking up exposure to equity stake or to the extent of 5%, and the balance 5% in the form of pari passu investment in all the tranches of the securities For other transactions, the MRR would be met through Originator taking up a minimum equity stake or any of the first-loss credit enhancements of 5%, and the balance in the form of pari passu investment in all the tranches of the securities. Similar to loans with Original Maturity of more than 24 months for transactions with no credit enhancement and no tranching and for transactions with credit enhancement. For transactions having no credit enhancement, the MRR would be met by taking up exposure to equity stake or to the extent of 10% For other transactions, the MRR would be met through Originator taking an exposure to equity stake, first-loss credit enhancements and pari passu tranche of 10% all taken together. The MRR continues to be largely in line with the draft guidelines. Importantly, from RBI guidelines perspective, Originator s share in the transaction, through MRR, is envisaged to be pari passu and not subordinated; although in the case of securitisation transactions where credit enhancement is provided by Originator, the same would qualify as MRR, and to the extent the credit enhancement in lower than the MRR, the balance would need to me met by investing in all the tranches issued. In the case of Direct Assignment transactions, the amount to be retained is in line with those laid down for securitisation transactions for 24 month or less and more than 24 months maturity loans; however, the same can be retained on a pari- passu basis with the assigned cashflows only. Overall, the MRR is not likely to be a big constraint for the Originators. In addition to this, the total exposure of banks to loans securitised should not exceed more than 20% of total securitised instruments issued that includes meeting MRR, all cash collateral and over-collateralisation but excludes EIS. Any excess exposure initially will attract higher risk weight of 1111%. Higher recognition of cash profits positive for securitisation transactions As per RBI guidelines of February-2006, the originators (Banks/FIs/NBFCs) in a securitisation transaction were required to amortise any profit/premium arising on securitisation transaction over the life of the securities issued. While these guidelines were applicable to securitisation transactions, there were no specific guidelines for income arising on direct assignment transactions. As a result many NBFCs were up-fronting the income on premium direct assignment transactions. RBI, in its final guidelines on securitisation and direct assignment of May-2012 has for the first time introduced a specific formula for amortization of cash profits for both types of transactions- securitisation as well as assignment. The new guidelines allow higher recognition of cash profits vis-à-vis February-2006 guidelines. According to the new guidelines, unrecognised cash profits of securitisation/assignment transactions can be drawn down to cover up marked to market losses and any specific provision/ write-off to the transaction during a year. Further, higher profit can also be recognised in case of higher than expected amortization of principal during the year. Release of residual EIS a positive but final view on reset of credit enhancement critical The guidelines clarify that periodic release of residual unutilised Excess Interest Spread (EIS) to the Originator is permissible, which is a positive. However, the issue of reset of credit enhancement for securitisation transactions is expected to be covered through a separate circular subsequently. The draft guidelines had provided for reset of credit enhancement subject to various conditions. The RBI s final position on this issue would also be one of the important factors determining Originator s motivation to securitise its assets. The credit enhancement provided by the Originator for securitisation transactions needs to be reduced from May Page 3

4 its capital. Over the tenure of the pool, the underlying pool would amortise, and in the absence of downward reset, the credit enhancement, in % terms, would keep increasing. Thus, the annual cost of capital associated with the transaction would rise significantly in the subsequent years, which is one of the deterrents to securitisation. Direct Assignment transactions likely to be severely affected While the MHP requirement and the broad stipulation under MRR and monitoring by investing banks is similar for Direct Assignment and securitisation transactions, some key areas of difference from the provisions for securitisation are summarised below- The guidelines prohibit any credit enhancement for direct assignment transactions, based on the premise that the investors in such cases are generally institutional investors who should have the necessary expertise to appraise and assume the exposure based on their own due diligence. Thus, although the commercial nature of both transaction structures is similar barring the fact that tradable instruments are issued in securitisation, but not in the case of bilateral assignment the RBI guidelines view the two differently. o In the absence of credit enhancement, in bilateral assignment transactions, the acquiring bank will be exposed to an open-ended credit risk on the Originator s portfolio. In such a case, either the yield expected by the Assignee would be higher (this would affect one of the key motives from Originator s perspective, viz. finer funding cost relative to normal borrowing) or the Originator may have to sell the pool at a discount (this would mean booking a loss up-front which again Originators may not be too keen to do). o Typically credit enhancement is sized such as to protect the acquirer from collections shortfalls even under significantly stressed assumptions. In the absence of credit enhancement, bilateral assignment transactions would require a precise valuation or an accurate estimation of the cashflows actually likely to materialise would be required. Given the nature of the underlying loan pools, such a precise valuation would be a huge challenge. There may be no meeting ground between the buyer and seller on the expected losses in the pool. o However, in case such transactions happen, it would improve the capitalization as well as the income profile of the Originator as the Originator would earn some servicing fee on the assigned pool while restricting its exposure to MRR (that too pari passu with the Purchaser). At the same time, lack of any credit enhancement by the originator would reduce the penalty for poor asset quality for the Originator vis-a-vis the earlier position whereby the Originators were providing the first loss piece. The capital adequacy treatment for direct purchase of retail loans, will be as per the rules applicable to retail portfolios directly originated by banks 2. No benefit in terms of reduced risk weights will be available to purchased retail loans portfolios based on rating. Nevertheless, in the absence of credit enhancements, the rating of a typical retail loan pools is anyway expected to reflect s the pool s own inherent credit quality, thus the prospect of reduced risk weight is minimal. Moreover, the Originators in the case of Assignment transactions are also prohibited from re-purchasing any assets through exercise of clean-up call options. These regulations are expected to significantly reduce the volume of direct assignment transactions that formed about 75% of the market in FY2012 (as per ICRA s estimates) going forward. Albeit, some portion of the issuances could be expected to be routed through the conventional securitisation or PTC issuance route. However, the deterrents to a widespread shift to securitisation are two-fold Impact of mark-to-market for the Investing Banks: PTCs which are tradable instruments would be classified under investments book of the investing banks, and thus attract mark-to-market provisions; unlike the loan pools acquired bilaterally which get classified under loans and advances. Traditionally, the mark-to-market requirement was one of the reasons why investors (read banks) were not keen on this route. Incrementally, for reasons discussed above, issuance is likely to shift to the PTC route, thus exposing the banks to a potential provisioning requirement. Nevertheless, the alternative of not meeting PSL targets would have bigger financial consequence (the shortfall would have to be met through lower-yielding avenues like contribution to Rural Infrastructure development Fund of NABARD and such other Funds specified by RBI 3 ). We expect that the banks would weigh mark-to-market provisioning requirement in case of PTC investments against the potential yield loss arising from investment in the alternative avenues. Further, given relatively short duration of Asset-Backed Securities (typically 2-3 years) market to market (MTM) 2 except in cases where the individual accounts have been classified as NPA, in which case usual capital adequacy norms as applicable to retail NPAs will apply 3 The prevailing yield on these deposits is between Bank Rate minus 2% to Bank Rate minus 5%, depending on the extent of shortfall in meeting the PSL target May Page 4

5 losses may not be very high.. In the case of Mortgage-Backed Securities, the tenure is much longer, but the PTC yield is usually floating and typically linked to either the pool interest rate or to an external benchmark rate, reducing the MTM losses. High capital charge for Originators and potential rise in role of third-party credit enhancement providers 4 : In the past, given that there was no prescribed regulatory requirement regarding treatment of credit enhancement for direct assignment transactions, the most common treatment among Originators was to treat the credit enhancement at par with other risk-weighted asset, which resulted in significant capital relief post such transactions. However, for securitisation transactions, 50% of the credit enhancement is to be reduced from Tier I Capital and another 50% from Tier II Capital. Thus, the capital relief under securitisation transactions will be significantly lower than that under bilateral transactions. We also expect a potential rise in thirdparty credit enhancement providers. In the case of home loans, mortgage guarantee on the underlying loans may get used by Originators as a proxy for third party credit enhancement 5. Please see box 1. Box 1: Capital relief : securitization & pre-guidelines bilateral assignments compared Direct assignment (pre-may 2012 guidelines) Securitisation Pool size Credit enhancement (assumption) Impact on RWA Capital required for the cr. enh.# Capital relief on pool securitised Net capital relief # 100% risk weight and 15% capital requirement in the case of pre-guidelines direct assignment; for securitisation, cr. enh. reduced from capital However, notwithstanding the higher capital charge relative to that under the erstwhile bilateral assignment transactions the Originators could benefit from potentially lower investor yield, since in the case of securitisation unlike term loan or assignment transactions the yield need not be linked to the base rate of the investing/ lending banks but could be even lower. Given the provision of the May 2012 guidelines as discussed above, we may expect some shift in preference from Direct Assignment transactions to securitisation transactions. Hence, we have compared the benefits under Direct Assignment transactions before the May 2012 Guidelines and the provisions for securitisation transactions under these Guidelines to evaluate the out effect of such a shift on Originators and investors. The same has been summarised in the table below. Table 4: Comparison between Direct Assignment transactions (pre-may 2012 guidelines) and current norms for securitisation transactions Key Considerations Originator s perspective Capital Adequacy Credit Enhancement reset Pricing Benefit Direct Assignment (pre- May 2012 guidelines) No regulatory prescription; 100% risk weightage on credit enhancement provided by Originator No regulatory prohibition on reset of credit enhancement Restricted on account of base rate of the purchasing bank acting as a floor Securitisation Entire credit enhancement needs to be deducted from capital funds Not permitted at present; final guidelines on the same expected to be issued separately PTC pricing not linked with base rate of investing bank; fine pricing possible Investors perspective Mark to Market concerns No such concerns Mark to Market provision needs to be made For an Originator, the key considerations would be capitalisation and pricing benefit. For Originators with very high stand-alone credit quality, the bigger benefit could be capital relief (assuming that the credit enhancement requirement in their case will be lower than the regulatory capital requirement, which is a likely scenario). However, as reset of credit enhancement is not allowed so far, there may not be a significant capital relief in securitization vis-a-vis conventional funding. On the other hand, Originators with low stand-alone credit quality, better pricing could be the bigger motive (PTC pricing likely to be much finer compared to Originator s on-balance sheet funding cost given the significant difference in credit quality between the two). An illustration of the additional cost for securitization, based on assumptions of pool interest rate, tenure, investor yield, interest on cash collateral etc, for a hypothetical pool, is presented in table 7 below. 4 Credit enhancement offered is to be reduced from capital 5 RBI guidelines on mortgage guarantee product have been issued, the first such company expected to be operational soon May Page 5

6 Credit enhancement level Credit enhancement level ICRA Rating Feature Table 5: Additional costs for securitization at the beginning of transaction (negative carry6 + other costs) at various levels of credit enhancement Cost for on balance sheet funding for NBFC 10% 10.50% 11% 11.50% 12% 13% 13.00% 8% -0.41% -0.45% -0.49% -0.53% -0.57% -0.61% -0.65% 10% -0.45% -0.50% -0.55% -0.60% -0.65% -0.70% -0.75% 12% -0.49% -0.55% -0.61% -0.67% -0.73% -0.79% -0.85% 14% -0.53% -0.60% -0.67% -0.74% -0.81% -0.88% -0.95% 16% -0.57% -0.65% -0.73% -0.81% -0.89% -0.97% -1.05% 18% -0.61% -0.70% -0.79% -0.88% -0.97% -1.06% -1.15% 20% -0.65% -0.75% -0.85% -0.95% -1.05% -1.15% -1.25% As seen from the table, negative carry for securitization transaction increases with the cost of on balance sheet funding as well as the level of credit enhancements. Therefore, negative carry is likely to be the least for a better rated NBFC with lowest cost of funds. Overall, for securitization to make economic sense, NBFC should be able to place the securitized pool at significantly lower coupon than its funding costs to cover the additional costs associated with securitization. For instance in case credit enhancement levels are 10% and cost of on balance sheet funding for an NBFC is 11.5%, it would make economic sense to securitize only if the NBFC is able to place the securitized paper at coupon lower than 10.9%. As CC reset is not allowed, negative carry is likely to increase as the pool amortizes. The following table illustrates the impact of securitization on PBT (for the pool) at various levels of cost differentials. Table 6: Impact on PBT at the beginning of the transaction Cost differential = Yield on PTC - on balance sheet cost of funds for NBFCs 0.50% 0.00% -0.50% -1.00% -1.50% -2.00% -2.50% 8% -0.91% -0.45% 0.01% 0.47% 0.93% 1.39% 1.85% 10% -0.95% -0.50% -0.05% 0.40% 0.85% 1.30% 1.75% 12% -0.99% -0.55% -0.11% 0.33% 0.77% 1.21% 1.65% 14% -1.03% -0.60% -0.17% 0.26% 0.69% 1.12% 1.55% 16% -1.07% -0.65% -0.23% 0.19% 0.61% 1.03% 1.45% 18% -1.11% -0.70% -0.29% 0.12% 0.53% 0.94% 1.35% 20% -1.15% -0.75% -0.35% 0.05% 0.45% 0.85% 1.25% As seen from the table, if the PTC are placed at significantly lower rate than the conventional funding, it could impact the PBT positively. For instance, at a given level of credit enhancement ( say 12%) if PTC yields are lower ( than the cost of conventional funds) by 1.5%, there could be significant positive impact on PBT (0.77%) even after accounting for additional costs associated with securitization. Again the benefit is likely to reduce as the pool amortizes as the proportion of cash collateral( in relation to outstanding pool) will go up as CC reset is not allowed. Given the present guidelines, the motives behind doing an off balance sheet transaction through the securitisation or assignment route when compared to on balance sheet funding is summarised below- 6 Assuming interest on fixed deposits at 8% May Page 6

7 Table 7: Motive behind Securitisation transaction and Direct Assignment transactions under May-12 Guidelines Key potential motives Securitisation transactions Direct Assignment transactions Profit Booking Some recognition of cash profits allowed Some recognition of cash profits allowed Capital Relief Low, Entire credit enhancement needs to be deducted from capital High, no capital to be maintained against the assigned pool; since no risk retained. But if credit enhancement is provided, assets need to be treated as if they are on book Pricing Benefit vis-a-vis onbalance sheet funding Likely; specially for Originators rated low Unlikely; in the absence of credit enhancement, pricing likely to be closely aligned with the yield on the underlying loans, i.e., higher than the on-balance sheet funding cost for most Originators Tenure matched funding Yes Yes Alternate Source of Yes Yes funding Access to alternative investor base vis-a-vis on balance sheet funding Asset class wise exposure management Yes, access to wider investor base there could be a set of investors unwilling to lend to low rated entities, but willing to invest in higher rated ABS issuances of that entity Possible Not very likely, investors who have no relationship with the Originator unlikely to take on open-ended credit risk on its loan pools Possible Nevertheless, the most immediate and severe obstacle to a wide-spread move to securitization is the unresolved issue of the Income Tax authorities claim of taxing the Special Purpose Vehicle (SPV) involved in securitisation transactions as a separate entity. This is discussed in greater detail in a subsequent section. Guidelines negative for NBFCs The likely dip in volumes of off-book funding is a negative for NBFCs, especially those for whom securitisation / bilateral assignments were an important funding source. As per ICRA s analysis of the balance sheets of over 20 top NBFCs, with Assets Under Management (AUM) aggregating to over Rs. 2,00,000 crore, in the case of 3 NBFCs with AUM of around Rs. 50,000 crore the share of off balance sheet funding exceeds 35%, while for most of the others, it is less than 15%. The Top 9 NBFC s with high reliance on assignment/securitization have aggregated assets under management of Rs. 1,60,000 crore(approx) including assigned/securitised book of Rs 31,000 crore (approx) as on December 31, 2011, which are primarily in the form of assignment transactions. In case we treat these as securitization transactions and apply the capital treatment as prescribed by the revised guidelines ICRA estimates the aggregate CRAR would drop by approximately 2.23% (0.93% in Tier 1 CRAR and 1.30% in Tier 2 CRAR) from 19.49% to 17.26% (Tier 1 from 14.53% to 13.60%), which would be well above the RBI guidelines of 15% for Total CRAR and 10% for Tier 1 CRAR. At an individual level as well, ICRA does not envisage capital adequacy to below the prescribed minimum regulatory requirement for these players. Further most of the NBFCs were amortizing the income on premium assignment transactions, therefore ICRA does not envisage the change in income booking policy to have an impact on profitability indicators and ROE of these players. Requirements to be met by investing banks Banks investing in securitisation transactions are expected to be able to demonstrate a comprehensive and thorough understanding of the risk profile of their investments. They are expected to meet strict own due diligence requirements and have skilled manpower and systems to carry out the process. Also they are expected to perform appropriate stress testing pertaining to their positions and monitor the performance of the underlying exposures on a regular basis. Though some banks have started conducting their own due diligence on the portfolio they are investing in, however, given that many banks may not have the adequate systems in place to comply with the stipulated requirements, they have been given a time frame till 30 September 2012 to put necessary systems and procedures in place to be able to comply with the requirements of the guidelines (however, the guidelines leave scope for some subjectivity in this direction). Failure to meet the norms would attract a risk weight of 1111% to the securitisation exposures from 1 October 2012 onwards. May Page 7

8 Securitisation Activities not permitted Banks are not permitted to undertake securitisation activities or assume securitisation exposures pertaining to re-securitisation of assets, synthetic securitisation and securitisation with revolving structures. However, such transactions are not popular in the Indian market in any case. Nair Committee report on re-examining and suggesting revision with respect to Priority Sector classification and related issues (February 2012) As discussed earlier, meeting the shortfall in PSL targets is one of the key motives from investors perspective that drives securitisation / loan pool assignment activity in India. In this regard, another develo0pment likely to shape the volumes going forward is the extent to which the recommendations of the M.V. Nair Committee set up by RBI to re-examine and suggest revision with respect to Priority Sector classification and related issues are adopted. The Committee, in its report submitted in February 2012, recommended that bilateral assignment of loans and securitisation should continue to be allowed to be classified as priority sector provided the underlying asset is eligible for classification under priority sector advances. Also, it talks of clear due diligence criteria for assets acquired through NBFCs, which is a positive. Moreover, increasing the priority sector targets for foreign banks from 32% to 40% would increase the funding avenues for various entities that want to avail priority sector benefits. Nevertheless, these benefits have to be seen in the light of Overall cap of 5% of Adjusted net bank credit (ANBC) on priority sector bank lending through non bank financial intermediaries which includes portfolio buy-outs and investment in securitization instruments o Given that several banks, particularly private sector banks have been investing in securitisation or Direct Assignment transactions to meet their PSL targets, this move would have an adverse impact on the buying appetite of banks that were exceeding the 5% cap. This is turn could adversely affect the ability of the Originating NBFCs to securitise their portfolios. Proposed interest spread cap of 6% for NBFC-AFCs and 3.5% for HFCs o This recommendation is likely to have an impact on securitisation of certain asset classes like Microfinance loans and SME Loans, where the interest spread has been observed to be higher than 6%. Barring a handful of transactions, most microfinance transactions have an interest spread greater than 6% and in some cases the spread has been observed to be higher than 10% also- this is primarily due to high interest rate on the underlying loans, which is typically in the range of 22%-26%. Capping of off-balance sheet exposure (of NBFCs) at 35% o This is likely to have an immediate bearing on the portfolio of 3-4 large NBFCs that have off balance sheet exposure exceeding 35%. Also, the committee s recommendation is to continue to exclude loans against gold jewellery from priority sector advances o Hence the attractiveness of this asset class for securitisation is expected to remain low. May Page 8

9 Others Nair Committee RBI Guidelines ICRA Rating Feature Annexure: Asset class-wise impact of RBI guidelines and other legal issues Table 8: Asset class-wise impact RBI guidelines and other legal issues # Criteria Mortgage Loan Car/ CV/ CE Loans Tractor Loans Micro Loans TW Loans SME/ Personal Loans MHP MRR % cap on total retained exposure to securitisation transactions by Originating Banks Stress Testing/Credit Monitoring/Due diligence requirements Cap on Spread for PSL classification (as per Nair Committee report) Cap on bank exposure at 5% of ANBC for PSL classification (as per Nair Committee report) Taxation of Trust interest income MTM requirement for PTCs # 1: Marginal/ No Impact; 2: Low Impact; 3: Medium Impact; 4: High Impact; 5: Very High Impact As can be seen from the table above, the greatest impact of the May 2012 Guidelines along with recommendations of the Nair committee if accepted, is likely to be on unsecured loans like Micro Loans, SME/ Personal Loans and also on TW Loans- particularly on account of shorter tenure of the underlying loans, making the MHP criteria relatively difficult to comply with; high interest rate on underlying loans, thus leading to greater than 6% interest spread (which is not permissible as per Nair Committee recommendations); and relatively lower ticket size thus increasing the due diligence requirement by investing banks and making monitoring more cumbersome. Moreover, the credit enhancement by way of cash collateral and subordination required for such transactions is also relatively higher, leading to possibility of breach of the20% cap on total retained exposure to securitisation transactions, if these asset classes were originated by banks. The least impact is expected on Mortgage loans, which have a relatively long tenure (thus MHP requirement may not be difficult to comply with), credit enhancement requirement being relatively lower (thus possibility of breaching 20% exposure cap is low) and lower interest spread given that the PTC yield is usually floating and typically linked to either the pool interest rate or to an external benchmark rate. The 5% cap on bank exposure of ANBC (as per Nair Committee recommendation) for PSL classification and the unresolved stance on the taxation of PTCs are both expected to have a significant impact on the securitisation of all asset classes equally. May Page 9

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