Structured finance and securitisation in Australia: overview

A Q&A guide to structured finance and securitisation law in Australia.

This Q&A provides an overview of, among others, the markets and legal regimes, issues relating to the SPV and the securities issued, transferring the receivables, dealing with security and risk, cash flow, ratings, tax issues, variations to the securitisation structure and reform proposals.

To compare answers across multiple jurisdictions, visit the Structured lending and securitisation Country Q&A tool.

This Q&A is part of the global guide to structured finance and securitisation. For a full list of contents visit www.practicallaw.com/securitisation-guide.

Contents

Market and legal regime

1. Please give a brief overview of the securitisation market in your jurisdiction. In particular:
  • How developed is the market and what notable transactions and new structures have emerged recently?

  • What impact have central bank programmes (if any) had on the securitisation market in your jurisdiction?

  • Is securitisation particularly concentrated in certain industry sectors?

Australia has a mature securitisation market, one of the most developed in the world. It is characterised by a strong regulatory environment, conservative underwriting standards and low delinquency rates.

Since the global financial crisis, the market has seen a moderate recovery trend. However, the volatility of the global markets has led to a reduction of total issuance in 2016, as compared with previous years. Issuance of Australian residential mortgage-backed securities (RMBS) and asset-backed securities (ABS) decreased by about A$3.5 billion and A$1.1 billion respectively in 2016. Delinquency rates in Australian residential mortgage-backed securities (RMBS) also increased from 1.13% as at 30 September 2015 to 1.52% at 30 September 2016.

Developments in recent years have included using securitisation structures and techniques to provide acquisition financing for bidders for financial services and to fund local government authorities.

Following the global financial crisis, the Australian Office of Financial Management (AOFM) launched an investment programme, under which it purchased about A$15.5 billion worth of Australian RMBS over a four year period. The Australian Government's key aim was to boost competition in Australia's mortgage markets by supporting smaller lenders, so that the market could return to sustainable levels. In April 2013, after global investors had returned to participate in new primary issues, the AOFM ended its investment programme. Since mid-2015, the AOFM has gradually been selling its RMBS portfolio through regular auctions.

 
2. Is there a specific legislative regime within which securitisations in your jurisdiction are carried out? In particular:
  • What are the main laws governing securitisations?

  • What is the name of the regulatory authority charged with overseeing securitisation practices and participants in your jurisdiction?

There is no specific legislative regime for securitisations, although there is a specific regime for covered bonds in Part II, Division 3A of the Banking Act 1959 (Cth).

The primary legislation for securitisations is the Corporations Act 2001 (Cth), as it regulates the issuance of securities. The main obligation for issuers is to lodge certain disclosure documents with the Australian Securities and Investments Commission (ASIC), however most securitisations are structured to avoid this requirement, usually by issuing only to sophisticated investors (for example, those subscribing for at least A$500,000) or professional investors. Participants in the securitisation market who provide financial services are also likely to be subject to further obligations as Australian financial services licence holders.

In addition, foreign company participants should ensure that they are registered with ASIC if they are carrying on a business in Australia. This will depend on the volume and frequency of their activities in Australia.

A patchwork of other legislation regulates particular aspects of, or participants in, securitisations, including:

  • The Personal Property Securities Act 2009 (Cth) (PPSA) which governs security interests in personal property.

  • The National Consumer Credit Protection Act 2009 (Cth) (NCCPA) which requires certain consumer credit providers to hold an Australian credit licence and comply with credit contract and general conduct requirements. A servicer will exercise the rights and obligations of a credit provider and will therefore need an Australian credit licence. A specific exemption may apply to particular securitisation entities.

  • The Competition and Consumer Act 2010 (Cth), which provides for consumer protections such as the prohibition of misleading and deceptive conduct.

  • The Anti-Money Laundering and Counter-Terrorism Financing Act 2006 (Cth) which requires, among other things, customer due diligence to be undertaken, and suspicious matters to be reported, by designated services providers (catching many participants in the financial services sector).

  • The Privacy Act 1988 (Cth) which regulates the collection and handling of personal information about individuals (including information collected from individuals in respect of corporate customers, such as directors or employees).

  • Various tax legislation.

The main Australian regulatory body is ASIC, which regulates issuances of securities and Australian financial services licensees. In addition, the Australian Prudential Regulation Authority (APRA), the prudential regulator of the financial services industry, regulates the involvement of authorised deposit-taking institutions (ADIs) in securitisations, including capital adequacy requirements. ADIs must comply with Australian Prudential Standard (APS) 120 to manage the risks associated with securitisation.

 

Reasons for doing a securitisation

3. What are the main reasons for doing a securitisation in your jurisdiction? How are the reasons for doing a securitisation in your jurisdiction affected by:
  • Accounting practices in your jurisdiction, such as application of the International Financial Reporting Standards (IFRS)?

  • National or supra-national rules concerning capital adequacy?

  • Risk retention requirements?

  • Implementation of the Basel III framework in your jurisdiction?

Usual reasons for securitisation

The reasons for doing a securitisation in Australia are consistent with the reasons specified in the Guide to a standard securitisation (http://uk.practicallaw.com/2-501-2997).

Accounting practices

The importance of off-balance sheet accounting treatment varies between asset classes. It is less important to RMBS because in Australia, to achieve off-balance sheet treatment under IFRS (as incorporated into Australian accounting standards) our understanding is that the transaction must be structured such that the interests bearing the first loss risk (such as subordinated notes and equity interests) are held by a third party. Because mortgages generate a large amount of excess income, this would deprive the originator of future excess income.

Off-balance sheet treatment is more important to, for example, trade receivables and other asset classes where there is less excess income. It allows companies to improve their balance sheets by reducing accounts receivables and increasing cash at hand.

Capital adequacy

In November 2016, Australian Prudential Regulation Authority (APRA) released a finalised Prudential Standard APS 120 on Securitisation (APS 120). This will have an impact on the prudential requirements in securitisation when these new standards are enforced. The anticipated start date for APS 120 is 1 January 2018.

To obtain capital relief for securitisations, ADIs must comply with the requirements of APS 120, including:

  • Dealing with the SPV and investors on arms-length and on clearly documented terms.

  • Clearly disclosing to investors the nature and limitations of the ADI's involvement.

  • Refraining from providing implicit support or creating the perception that the ADI will support the securitisation beyond its contractual obligations.

 

The special purpose vehicle (SPV)

Establishing the SPV

4. How is an SPV established in your jurisdiction? Please explain:
  • What form does the SPV usually take and how is it set up?

  • What is the legal status of the SPV?

  • How the SPV is usually owned?

  • Are there any particular regulatory requirements that apply to the SPVs?

Form and establishment

An Australian-based SPV is usually a company, a trust or, in a two-tier structure, an issuing company and an asset-holding trust. In Australia, securitisation vehicles are most commonly set up as special purpose trusts.

A company is incorporated in Australia by registration with ASIC and is governed by its constitution and/or the replaceable rules in the Corporations Act. The constitution of a special purpose company will typically state the purpose for which it has been created.

A trust is established by a trustee declaring, in an executed trust deed, a trust over initial nominal assets and any future assets acquired by the trust.

Legal status

A company has its own legal personality, separate from that of its directors or its shareholders (although the directors will manage the company's day to day business). A company has at least the same legal powers as a natural person. By contrast, a trust is not a separate legal entity but an arrangement or relationship between a trustee and the beneficiaries of the trust regarding the management of the trust assets. It is the trustee that has its own legal personality. In a securitisation structure, the trustee will in practice be a corporation, not an individual.

Ownership

The shareholders own the capital in the company, but the company owns its assets.

Special purpose trusts are usually established as unit trusts with separate classes of units. Capital units may be issued to third parties and entitle the holders to a fixed share of the trust assets on termination of the trust. Other units are typically held by the originator and entitle it to excess income and capital.

The trustee is the legal owner of the trust assets. Noteholders and other creditors of the trustee do not own the trust assets but may have recourse to them to satisfy liabilities, to the extent that the trustee is entitled to be indemnified out of the assets of the trust. The trustee may lose this indemnity in particular circumstances (usually due to negligence, wilful default and/or fraud). Creditors will generally require that the trustee grant security over the trust assets in favour of them.

Regulation

There are some specific regulatory requirements for special purpose companies in Australia, but these are unlikely to apply to securitisation vehicles. Of note, securitisation SPVs may be exempt from holding an Australian financial services licence in respect of almost all the financial services they typically provide, if certain conditions are met.

Trusts are regulated, in part, by the Trustee Act of the relevant Australian state or territory. However, there are no specific regulatory requirements which apply to special purpose trusts separately to those which apply to trusts generally.

 
5. Is the SPV usually established in your jurisdiction or offshore? If established offshore, in what jurisdiction(s) are SPVs usually established and why? Are there any particular circumstances when it is advantageous to establish the SPV in your jurisdiction?

The SPV is usually established in Australia. It may be established offshore where there are concerns about regulatory issues or to meet the preferences of particular investors.

Ensuring the SPV is insolvency remote

6. What steps can be taken to make the SPV as insolvency remote as possible in your jurisdiction? In particular:
  • Has the ability to achieve insolvency remoteness been eroded to any extent in recent years?

  • Will the courts in your jurisdiction give effect to limited recourse and non-petition clauses?

To reduce the likelihood of the SPV becoming insolvent, the issuing documentation will usually include covenants given by both the SPV as well as its creditors. These covenants are aimed at:

  • The preservation of the SPV's purpose, including undertakings not to incur other indebtedness or engage in activities other than those contemplated in the transaction documents.

  • The creditor's commitment to maintaining the solvency of the SPV, including an undertaking not to wind up the SPV.

Issuing documentation will also generally include mechanisms to:

  • Facilitate the replacement of an insolvent trustee and the vesting of the trust assets in a new trustee.

  • Limit the liability of the SPV.

  • Limit the recourse of the SPV's creditors to the securitised assets.

Courts in Australia will generally give effect to limited recourse provisions. It is possible that recent developments in English case law (such as BNY Corporate Trustee Service Limited and others v Eurosail-UK 2007- 3BL plc [2013] UKSC 28 and ARM Asset Backed Securities S.A. [ 2013] EWHC 335) may influence the interpretation of Australian courts.

The position is not as clear for non-petition provisions (that is, provisions that restrict the creditor's ability to commence insolvency proceedings). There is a public policy question around whether a covenant not to wind up an SPV opposes the underlying principles of insolvency law and should therefore be unenforceable. In relation to subordination arrangements, courts have enforced the contracting out of a right to prove in liquidation on the basis that it does not prejudice the rights of creditors (only those contracting out). While a similar argument could be made about non-petition provisions, this remains an open question in Australia.

Ensuring the SPV is treated separately from the originator

7. Is there a risk that the courts can treat the assets of the SPV as those of the originator if the originator becomes subject to insolvency proceedings (substantive consolidation)? If so, can this be avoided or minimised?

Related companies in Australia are commonly treated as a single entity for accounting purposes. In an insolvency context, the Corporations Act provides a number of avenues to pool the assets and liabilities of a corporate group: under a court approved scheme of arrangement, deed of company arrangement or pooling determination or by court order under the court's general powers during an administration.

However, the risk of the SPV's assets being treated as the originator's will be low if:

  • The originator does not own the SPV.

  • The transfer of the assets is characterised as a true sale.

  • The transfer occurred when both parties were solvent and would not become insolvent as a result of the sale.

 

The securities

Issuing the securities

8. What factors will determine whether to issue the SPV's securities publicly or privately?

The securities are often issued privately to avoid licensing, disclosure and reporting obligations under the Corporations Act, usually with minimum subscription amounts of at least A$500,000 to take advantage of relevant exemptions.

 
9. If the securities are publicly issued:
  • Are the securities usually listed on a regulated exchange in your jurisdiction or in another jurisdiction?

  • If in your jurisdiction, please identify the main documents required to make an application to list debt securities on the main regulated exchange in your jurisdiction. Are there any share capital requirements?

  • If a particular exchange (domestic or foreign) is usually chosen for listing the securities, please briefly summarise the main reasons for this.

Publicly issued securities are commonly listed on the Australian Securities Exchange (ASX), the main exchange in Australia. Public offerings to retail investors are settled in the Clearing House Electronic Subregister System (known as CHESS) and settlement of wholesale debt securities normally occurs in the Austraclear system.

To list debt securities on the ASX, the main documents the SPV must lodge include:

  • An ASX Debt Listing Application and Agreement form.

  • Its constituent documents.

  • The information memorandum/prospectus and the transaction documents.

If the SPV is incorporated overseas, it may also need to provide legal opinions on the status of the securities under the Corporations Act and the SPV's legal status and compliance with its constitution, laws and listing rules in its home jurisdiction.

The ASX may need to approve a listing entity (particularly in the case of an issuer trustee) and/or waive listing requirements (particularly in respect of net asset requirements and prescribed interest payment times).

Listing on the ASX will typically satisfy investors whose mandates require the securities to be listed. Issues into global markets may be listed on offshore exchanges.

Constituting the securities

10. If the trust concept is not recognised in your jurisdiction, what document constitutes the securities issued by the SPV and how are the rights in them held?

The trust concept is recognised in Australia.

 

Transferring the receivables

Classes of receivables

11. What classes of receivables are usually securitised in your jurisdiction? Are there any new asset classes to have emerged recently or that are expected to emerge in the foreseeable future?

RMBS is by far the most commonly securitised class of receivable in Australia and this is unlikely to change in the near future. Issued volumes for RMBS in 2015 were about A$25 billion, in contrast to CMBS and other ABS which was about A$6.5 billion in 2015.

Other asset classes which have been typically securitised in Australia include:

  • Trade receivables.

  • Credit card receivables.

  • Automobile loans and leases receivables.

  • Auto dealer floor plan bailment contracts.

  • Consumer and commercial loans and mortgages.

  • Commercial real estate.

  • Agricultural, constructional and office equipment loans.

However, these markets have remained small.

Assets which may become more popular include:

  • Reverse mortgages. These allow senior Australians to use the equity in their home as collateral to access an income stream without selling their property. The ageing Australian population may lead to this asset class increasing in volume.

  • Student loans. Many Australian graduates take out loans under the Australian Government's higher education loan programme. However, funding future obligations through the securitisation market would require the loans to be structured on a more commercial basis with market-linked interest rates.

  • Business loans. Securitisation could improve the availability of business loans to small and medium sized enterprises (SMEs). However, securitisations in this class have to date been complicated by the lack of both standardised lending practices or a history of credit performance in this area. SMEs also often require several different forms of financing.

  • Credit card receivables. A limited number of credit card securitisation deals have been done in Australia due to the current regulatory environment which limits securitisations to closed asset pools with amortising notes. APRA's approval of master trusts for funding-only securitisations (see Question 29) is expected to increase the volume of term credit card securitisation deals in Australia.

Transferring receivables from the originator to the SPV

12. How are receivables usually transferred from the originator to the SPV? Is perfection of the transfer subject to giving notice of sale to the obligor or subject to any other steps?

Receivables can be sold by legal or equitable assignment. Legal assignment of a debt must be absolute and in writing and notice of the assignment must be provided to the debtor. If any of these requirements are not met, the sale takes effect as an equitable assignment. In these circumstances, the purchaser obtains beneficial ownership, but legal title to the receivables remains with the seller.

Receivables are usually transferred from the originator to the SPV by equitable assignment, mainly because:

  • Originators prefer not to notify debtors that their debts have been transferred, for commercial and relationship reasons.

  • The parties wish to avoid stamp duty consequences arising from an assignment in writing. Instead, generally the offer to assign the receivables will be made in writing with the acceptance implied from conduct (in this case, payment of the purchase price for the assets).

Perfection is governed by individual property law statutes in the various Australian states and territories and by equity. The PPSA also governs the transfer of "accounts" or "chattel paper" as the purchaser's interest is deemed to be a security interest under the PPSA. Most receivables in Australia fall into these collateral classes. Perfection of these interests can be achieved in a number of ways (see Question 19), but will generally be by registration on the Personal Property Securities Register established under the PPSA (PPSR).

While notice of the transfer to the debtor is not necessary for a true sale, the choice not to perfect the equitable assignment by notice does leave the SPV exposed to some risks. The debtor's obligation to repay is owed to the originator, not the SPV, and is subject to the arrangement between the originator and the debtor. If the debtor were to default, the SPV has no direct right to take action against the debtor. This may be overcome by the originator agreeing to transfer legal title or grant a power of attorney to the SPV on the occurrence of particular events (known as title perfection events). Title perfection events can include the originator's insolvency.

 
13. Are there any types of receivables that it is not possible or not practical to securitise in your jurisdiction (for example, future receivables)?

Receivables under contracts which restrict or prohibit transfer or assignment without the counterparty's consent are generally unable to be securitised (see Question 15).

An assignment of future receivables is valid in equity if made for proper consideration and with unambiguous identification of the receivables to be assigned. The assignment should take place automatically under the terms of the sale contract and cause beneficial title in the receivables to vest in the purchaser as soon as the originator acquires legal title.

There may also be tax and stamp duty consequences which make an assignment of certain receivables problematic, though still possible (such as segregated income streams including royalties).

 
14. How is any security attached to the receivables transferred to the SPV? What are the perfection requirements?

Security attached to receivables is generally transferred as outlined in Question 12. If the security has been perfected on a statutory register other than the PPSR (for example, land title registers for real property mortgages), it is also necessary to lodge a transfer form to register the change in the security holder.

Prohibitions or restrictions on transfer

15. Are there any prohibitions or restrictions on transferring the receivables, for example, in relation to consumer data?

Although there is no legislation in Australia expressly preventing the transfer of receivables, contractual provisions prohibiting or restricting the transfer of a contract or the rights and interests under a contract are common in Australia.

Contractual restrictions

If the contract prohibits assignment or transfer of the contract and/or rights and interests under the contract without the counterparty's consent, at common law this will typically restrict the receivable from being transferred, such that any transfer as between the debtor and the SPV would be invalid.

The common law position has been modified to some extent by the PPSA. If the receivable is an "account" or "chattel paper" for the purposes of the PPSA, an assignment is valid despite the lack of consent (although the debtor may have contractual and tortious remedies for breach of contract). Even if notice of the transfer is provided to the debtor, the debtor and the originator may still modify or substitute the contract as it relates to payments that have not been fully earned by performance if, among other things, the modification or substitution does not materially adversely affect the SPV's rights. If a contract has been modified or substituted in this manner, the SPV obtains rights that correspond to the originator's rights under the modified or substituted contract.

Where a security agreement prohibits transfer or declares the transfer to be a default, the PPSA also permits the transfer if consent is reached between the grantor and the transferee (although this does not prejudice the secured party's rights under the security agreement).

General law remedies may also apply to other forms of negative pledges, such as a seller's promise to a third party not to sell its assets (breach of which may lead the third party to, for example, seek injunctive relief). However, this will not usually invalidate the transfer.

Legislative restrictions

The Privacy Act 1988 (Cth) and the National Credit Code (the schedule to the NCCPA) impact how credit providers and their assignees use data obtained under receivables contracts. However, neither piece of legislation affects the validity of a transfer of receivables. The effect of this legislation can also be alleviated by including relevant provisions in the underlying debtor contract, although it is not possible to contract out of the National Credit Code.

Avoiding the transfer being re-characterised

16. Is there a risk that a transfer of title to the receivables will be re-characterised as a secured loan? If so:
  • Can this risk be avoided or minimised?

  • Are true sale legal opinions typically delivered in your jurisdiction or does it depend on the asset type and/or provenance of the securitised asset?

Case law suggests that Australian courts are likely to give effect to the legal nature and substance of the transaction, rather than the economic effect. They will, as a starting point, determine the character of a transaction from the terms of the documentation. If those terms are clear, they will be given effect unless there is some ambiguity or clear evidence to the contrary. Consistent with this approach, Australian courts are unlikely to uphold "sham" transactions which purport to disguise the true intentions of the parties.

Therefore, the documentation should be clearly expressed as a sale and the rights and obligations of the parties should be consistent with that language. A right to repurchase securities is unlikely in itself to cause a sale to be recharacterised, but if combined with other features which create legal rights and obligations inconsistent with those of a sale, this will increase the risk of recharacterisation. Representations and warranties as to the validity and enforceability of the loans and assignability of the mortgages may assist with reinforcing that the transaction is in substance a sale.

True sale legal opinions may be required, depending on the transaction. Ratings agencies will take into account the provision of a true sale legal opinion when rating the securities.

Ensuring the transfer cannot be unwound if the originator becomes insolvent

17. Can the originator (or a liquidator or other insolvency officer of the originator) unwind the transaction at a later date? If yes, on what grounds can this be done and what is the timescale for doing so? Can this risk be avoided or minimised?

Once an insolvency practitioner has been appointed to the originator, the ability to deal with the originator's assets is restricted. A company's insolvency status can be determined by conducting a search of ASIC's published notices register, located at https://insolvencynotices.asic.gov.au.

If the originator is insolvent, certain of the originator's transactions can, under the Corporations Act, be declared voidable if occurring within a particular timeframe of the insolvency. For example, an uncommercial transaction may be set aside where a reasonable person in the company's circumstances would not have entered into the transaction, having regard to:

  • The benefits, if any, and the detriments to the originator of entering into the transaction.

  • The respective benefits to other parties to the transaction.

  • Any other relevant matter (which is open-ended).

The timeframes for review of a voidable transaction vary, but the general period is the two year period before liquidation (usually the date that a winding-up application was filed or a voluntary administrator was appointed). This can be extended to four years if the transaction involved a related party to the originator, or even ten years if the purpose of the transaction was to defeat, delay or interfere with the rights of any creditors. Only the originator's liquidator can apply to the court for review.

The risks of having a transaction reviewed can be minimised by ensuring that the sale of the receivables is commercial, on arms-length terms and mutually beneficial to all parties.

Establishing the applicable law

18. Are choice of law clauses in contracts usually recognised and enforced in your jurisdiction? If yes, is a particular law usually chosen to govern the transaction documents? Are there any circumstances when local law will override a choice of law?

Choice of law clauses in contracts are usually recognised and enforced in Australia, except where:

  • The choice is not bona fide.

  • There is a public policy reason for not upholding the choice of law.

  • The choice of law infringes a statute of the chosen jurisdiction.

In any of these circumstances, local law is likely to override a choice of law clause.

Where the majority of the participants are incorporated or conducting business in Australia, the transaction documents will usually be governed by Australian law (the law of the relevant state or territory and the laws of the Commonwealth that apply to it).

 

Security and risk

Creating security

19. Please briefly list the main types of security that can be taken over the various assets of the SPV in your jurisdiction, and the requirements to perfect such security.

The most common form of security is a general security interest over all of the assets of the SPV. This is similar to a fixed and floating charge.

The security interest should be perfected within prescribed time limits by the appropriate registration on the PPSR. A security interest can under the PPSA also be perfected by possession or control (depending on the asset class). However this would be unusual for a securitisation as the date of perfection in this context can be difficult to determine. The date of the perfection will determine the priority of competing security interests, so perfection by registration is the preferred approach.

 
20. How is the security granted by the SPV held for the investors? If the trust concept is recognised, are there any particular requirements for setting up a trust (for example, the security trustee providing some form of consideration)? Are foreign trusts recognised in your jurisdiction?

The security is usually held by a security trustee on behalf of, and for the benefit of, the investors.

The security trustee must make an express declaration of trust in writing for the trust to be properly constituted. As the trust property must also be certain, this declaration is often combined as a matter of practice with the security trustee declaring that it holds a nominal sum (usually A$10) on trust for the beneficiaries.

Foreign trusts are recognised in Australia.

Credit enhancement

21. What methods of credit enhancement are commonly used in your jurisdiction? Are there any variations or specific issues that apply to the credit enhancement techniques set out in the Guide to a standard securitisation (Guide)?

In addition to the credit enhancement methods set out in the Guide, in Australia:

  • Most RMBS benefit from LMI (although reliance on this method is declining, particularly among the major banks, as credit tranching has led to the most senior notes having their ratings delinked from LMI).

  • Liquidity reserves may be pre-funded or gradually built up through excess income. In some RMBS, losses can be charged to the liquidity reserve before they are charged to the senior notes.

Risk management and liquidity support

22. What methods of liquidity support or cash reservation are commonly used in your jurisdiction? Are there any variations or specific issues that apply to the provision of liquidity support as set out in the Guide?

In addition to the liquidity support methods in the Guide, Australian securitisations typically make use of principal draws. The obligation to pay principal is usually a pass-through obligation and the covenant to repay all principal relates to the final maturity date only. Therefore, principal draws can be used on a given payment date to redirect principal collections to required income payments. As long as the principal draw is reimbursed from the excess income in subsequent periods, no default will arise.

A standard structural feature of Australian RMBS is a threshold rate mechanism. This is an agreement between the issuer and the servicer, requiring the servicer to set the interest rate charged on variable-rate mortgages in the collateral pool to a level sufficient to generate enough income to meet the issuer's required payments. Although featuring in all RMBS issued since 2013, use of the threshold rate mechanism is unlikely in a market with low delinquency rates.

 

Cash flow in the structure

Distribution of funds

23. Please explain any variations to the cash flow index accompanying Diagram 9 of the Guide that apply in your jurisdiction. In particular, will the courts in your jurisdiction give effect to "flip clauses" (that is, clauses that allow for termination payments to swap counterparties who are in default under the swap agreement, to be paid further down the cash flow waterfall than would otherwise have been the case)?

The key elements of cash flows in Australian securitisations are summarised in the Guide. More specifically, it is also common for:

  • The cash flow waterfall to be split into income and principal waterfalls.

  • The obligation to pay principal to be an obligation to pass through all principal received, rather than defined amounts.

  • Principal to be available to meet income payments on particular dates if necessary, through principal draws (see Question 22).

  • Excess income to be used to repay principal in certain circumstances and to reimburse previous principal draws or charge-offs on the notes.

  • Excess income to be extracted periodically.

In Australia, there are no laws deeming ipso facto clauses (contractual clauses that allow a contract to be terminated on an insolvency event) to be void and therefore Australian courts are likely to follow the UK Supreme Court's decision in Belmont Park Investments Pty Limited v BNY Corporate Trustee Services Limited and Lehman Brothers Special Financing Inc [2011] UKSC 38. However, the Australian Government is considering introducing legislation to make ipso facto clauses unenforceable during a company restructure. It is therefore possible that by mid-2017 (when legislation, if any, is expected to be passed) flip clauses (a class of ipso facto clause) will not apply where the swap counterparty is in voluntary administration, undertaking a scheme of arrangement, entering into a deed of company arrangement or in receivership. However, the Australian Government has proposed that certain "prescribed financial contracts" will be excluded from the legislation (including swaps).

Profit extraction

24. What methods of profit extraction are commonly used in your jurisdiction? Are there any variations or specific issues that apply to the profit extraction techniques set out in the Guide?

The Guide sets out the profit extraction techniques commonly used in Australia. It is also important to note that:

  • Because trusts are the most common form of SPV, profit extraction is usually achieved by distributions under the units of the trust rather than the originator holding equity securities in the SPV.

  • There may be goods and services tax consequences in respect of the fees paid to the originator or other participants (see Question 26).

  • In particular, if the fees paid to the originator are too high, it may not be possible to claim a deduction for income tax purposes.

 

The role of the rating agencies

25. What is the sovereign rating of your jurisdiction? What factors impact on this and are there any specific factors in your jurisdiction that affect the rating of the securities issued by the SPV (for example, legal certainty or political issues)? How are such risks usually managed?

Australia's ratings stand at AAA, Aaa and AAA from Standard & Poor's, Moody's and Fitch, respectively. The budget deficit could be a key factor impacting on the sovereign rating. However, the authors are not aware of any current geopolitical or rule of law factors affecting the rating of securities issued by Australian SPVs.

 

Tax issues

26. What tax issues arise in securitisations in your jurisdiction? In particular:
  • What transfer taxes may apply to the transfer of the receivables? Please give the applicable tax rates and explain how transfer taxes are usually dealt with.

  • Is withholding tax payable in certain circumstances? Please give the applicable tax rates and explain how withholding taxes are usually dealt with.

  • Are there any other tax issues that apply to securitisations in your jurisdiction?

  • Does your jurisdiction's government have an inter-governmental agreement in place with the US in relation to FATCA compliance, and will this benefit locally-domiciled SPVs?

Transfer taxes

Stamp duty is imposed at state or territory level in Australia (with varying application and rates) and may affect different aspects of a securitisation, including:

  • Trust duty for the declaration of trust for a special purpose trust and the security trust.

  • Conveyance duty for the transfer of assets from the originator to the SPV (depending on the asset class).

  • Mortgage duty for the security granted in respect of the securitised assets (in New South Wales only, though exemptions for mortgage-backed and asset-backed securitisations may apply).

  • Marketable securities duty on the transfer of unquoted shares and units (relevant to the establishment of the SPV).

Most stages of a securitisation can be structured to avoid attracting stamp duty. For example, this can be accomplished in certain states by transferring the receivables by equitable assignment.

Withholding tax

Interest withholding tax must be deducted by the issuer from interest paid on securities to non-Australian residents at a rate of 10% unless an exemption applies.

The two most common exemptions are:

  • Satisfaction of the public offer test in s128F of the Income Tax Assessment Act 1936 (Cth).

  • Application of a double tax treaty between Australia and the residence of the non-Australian investor. For example, interest withholding tax is not applicable for certain financial institutions under Australia's double tax treaties with the UK and the US.

Income tax

If the SPV is a trust, the beneficiary is liable to pay income tax rather than the trustee, as long as the beneficiary is presently entitled to the income. Tax neutrality is therefore relatively simple for a trust.

A corporate SPV must pay income tax on its net assessable income. Therefore, for tax neutrality purposes it is important that the corporate SPV ensures that its assessable income fully matches its allowable deductions in any tax year.

Income tax rates are determined by the level of assessable income received during the tax year.

Goods and services tax

Goods and services tax (GST) is levied at a rate of 10% on the consideration for the supply of goods and services. The SPV should carefully consider whether payments made under the transaction documents (in particular, servicing and management agreements) are subject to GST.

FATCA

Australia's intergovernmental agreement with the US (FATCA Agreement) was enacted into Australian law on 30 June 2014. Australian securitisation vehicles will generally be "Investment Entities" under FATCA and will therefore need to comply with the FATCA Agreement.

To the extent that notes are issued through Austraclear, Austraclear will be identified as the noteholder, and because Austraclear is a registered Australian financial institution it is not necessary for the issuer to determine the individual noteholders.

 

Recent developments affecting securitisations

27. Please give brief details of any legal developments in your jurisdiction (arising from case law, statute or otherwise) that have had, or are likely to have, a significant impact on securitisation practices, structures or participants.

Recent regulatory developments in the Australian market include the reform of over-the-counter (OTC) derivatives, such as client-money reforms. Such reforms will require licensees to hold retail derivative client money on trust, so enhancing the protection of client assets in the event of an insolvency of a licensee.

In November 2016, the APRA released its response to submissions on its November 2015 Discussion Paper Revisions to the prudential framework for securitisation. The APRA's response highlighted that the APRA is continuing to update its regulatory framework for securitisation to:

  • Incorporate the most recent internationally agreed regulatory reforms.

  • Reflect the lessons learned following the global financial crisis.

  • Provide a more sustainable basis for the securitisation market going forward.

  • Provide more flexibility for authorised deposit-taking institutions in their funding arrangements.

  • Provide a simpler set of requirements for use of securitisation.

  • Provide simpler approaches to calculating regulatory capital requirements that appropriately reflect risk.

APS 120 aims to ensure than an authorised deposit-taking institution adopts prudent practices to manage the risks associated with securitisation and to ensure sufficient regulatory capital is held against the associated credit risk.

The key requirements of APS 120 are that an authorised deposit-taking institution must:

  • Have a risk management framework covering its involvement in a securitisation.

  • Ensure there is clear and prominent disclosure of the nature and limitations of its obligations arising from its involvement in a securitisation.

  • Not provide implicit support to a securitisation.

  • Calculate regulatory capital for credit risk against its securitisation exposures.

For more information on APS 120, see Question 29.

 

Other securitisation structures

28. What other structures, including synthetic securitisations, are sometimes used in your jurisdiction?

Synthetic securitisations (where only the credit risk of a pool is transferred, not the receivables) are sometimes used in Australia, commonly in respect of collateralised debt obligations but also sometimes for collateralised loan obligations and mortgage obligations. Synthetic securitisations must comply with the requirements of APS 120.

Some smaller ADIs also use a multi-seller securitisation structure whereby multiple originators directly or indirectly originate receivables into the one pool. APRA invited feedback on how a credit risk retention requirement for multi-seller programmes could be structured. APS 120 requires that originating ADIs, to obtain capital relief, apply the 20% limit for holding junior securities or loss cover according to the proportion of assets originated by the ADI to the total amount of assets in the pool.

 

Reform

29. Please summarise any reform proposals and state whether they are likely to come into force and, if so, when. For example, what structuring trends do you foresee and will they be driven mainly by regulatory changes, risk management, new credit rating methodology, economic necessity, tax or other factors?

APRA has released APS 120, with the aim of simplifying the prudential framework for securitisation and making it easier for ADIs to use securitisation as a funding-only tool, to assist in the further recovery of the securitisation market following the global financial crisis. The anticipated start date for APS 120 is 1 January 2018.

Some of the key proposals for change relate to:

  • Funding-only securitisations. APS 120 will explicitly recognise funding-only securitisations, including self-securitisations (which will be required to comply with funding-only requirements, from the point the securities are used as collateral to obtain funding under a repurchase agreement with the Reserve Bank of Australia (RBA)).

  • Master trusts. APS 120 accommodates master trusts and early amortisation provisions, but not for capital relief securitisations. Master trusts allow for the issue of multiple series of notes from a single trust, collateralised by a shared pool of receivables. Master trusts produce greater flexibility in meeting investor preferences, as they increase the range of assets which can be securitised.

  • Date-based calls. APS 120 shows that APRA is prepared to be more flexible about date-based calls for funding-only securitisations, provided the call date is set at inception, the exercise of the call is at the full discretion of the originating ADI and the call is not structured to avoid allocating losses to credit enhancements or to provide credit enhancement. Originating ADIs seeking capital relief are still not permitted to exercise date-based calls and may only exercise a clean-up call when 10% or less of the original underlying portfolio or securities remain outstanding.

  • Originators holding securities. APRA has dropped its proposal to introduce a "skin-in-the-game" requirement for originating ADIs to retain at least 20% of the junior or subordinated notes in their securitisation structures. This decision is based on industry feedback and consideration of international skin-in-the-game requirements settling at around 5%.

Although there was some financial market volatility in Australia following the announcement of Brexit, this quickly subsided, and it is expected that the Australian economy will be resilient on the UK's exit from the EU. It is anticipated that Brexit will not have a significant impact on the capacity of Australian originators, sponsors and investors to participate in UK or post-Brexit EU securitisations. The Council of Financial Regulators has stated that some of the institutional agreements between Australia and the EU and the UK may need to be amended. However, many of the existing agreements will assist in ensuring that originators, sponsors and investors will continue to be able to participate in these securitisations.

 
30. Has the nature and extent of global, regional and domestic reforms had a positive or negative affect on revitalising securitisation in your jurisdiction?

For a summary of the impact of the AOFM's RMBS investment programme, see Question 1.

APRA implementation of the Basel III Liquidity Coverage Ratio (LCR) came into effect on 1 January 2015. APS 210 requires that large ADIs hold sufficient high quality liquid assets (HQLA) to withstand a severe, 30-day period of liquidity stress. APRA recognises cash, balances held with the RBA and government securities as HQLA.

Given the shortfall between HQLA levels and LCR requirements, the RBA has also made available a Committed Liquidity Facility (CLF) to LCR ADIs from 1 January 2015. This allows ADIs to deposit other high quality assets, including asset backed securities, as collateral for cash out of the CLF. APRA has approved 14 Australian LCR ADIs to use the CLF to meet LCR requirements, amounting to a commitment to A$275 billion of funding under repurchase agreements with the RBA. Before an approved ADI can rely on the CLF, they must show that they have taken "all reasonable steps" towards meeting their LCR requirements by their own balance sheet management. Securitisation programmes can be used as an alternative source of funding to meet the "all reasonable steps" requirement.

As a result of the increased contingent exposure to asset backed securities, the RBA implemented mandatory reporting requirements for repo-eligible collateral from 30 June 2015. APRA also introduced liquidity disclosure reporting requirements from 1 July 2015.

It is anticipated that these measures will encourage securitisations as a source of funding, increase primary and secondary market liquidity through the provision of cash against securitised collateral, and generate standardised data allowing APRA and the RBA to better manage a liquidity crisis.

On 31 March 2016, APRA also released a discussion paper on its proposed implementation of the net stable-funding ratio (NSFR) in Australia, with an anticipated commencement date of 1 January 2018. The proposed NSFR rules will apply to 15 of the larger ADIs in Australia and will require those banks to maintain an NSFR of at least 100%. In other words, their weighted available stable funding must at least equal their weighted required stable funding (RSF). The RSF factor is intended to approximate the amount of each asset or off-balance sheet exposure which must be supported by stable funding. High liquidity assets have a lower RSF factor and vice versa.

APRA has proposed that self-securitised assets be treated the same as the underlying loans in the self-securitisation, with a significantly higher RSF factor of 65% to 100% rather than, by contrast, a 10% RSF factor applied to other repo-eligible assets. It is also proposed that encumbered assets have a higher RSF factor than unencumbered assets meaning that, for example, external securitisation may cause the RSF factor for residential mortgage loans to increase from 65% to 100%. Australia's major banks rely on RMBS generated from their own assets for large portions of their liquid-asset books, so these proposals have raised concerns that RMBS will become a less attractive funding option. However, APRA suggests that securitisation will continue to remain an attractive source of funding where ADIs are seeking to replace less stable sources of funding and/or are able to obtain capital relief.

 

Online resources

Federal Register of Legislation

W www.legislation.gov.au

Description. The Federal Register of Legislation (the Legislation Register) is the authorised whole-of-government website for Commonwealth legislation and related documents. It contains the full text and details of the lifecycle of individual laws and the relationships between them (including current and superseded versions of legislation). The Legislation Register is managed by the Office of Parliamentary Counsel in accordance with the Legislation Act 2003.

Australian Prudential Regulation Authority

W www.apra.gov.au

Description. APRA's official website, maintained by APRA. It contains current versions of Australian Prudential Standards and other guidelines for authorised deposit-taking institutions.



Contributor profiles

Nicky Lester, Partner

Hogan Lovells

T +61 2 9093 3502 / +61 8 6208 6552
F +61 2 9093 3599 / +61 8 6208 6599
E nicky.lester@hoganlovells.com
W www.hoganlovells.com

Professional qualifications. Australia

Areas of practice. Securitisation; structured finance; debt capital markets

Kirsten Young, Associate

Hogan Lovells

T +61 8 6208 6553
F +61 8 6208 6599
E kirsten.young@hoganlovells.com
W www.hoganlovells.com

Professional qualifications. Australia

Areas of practice. Securitisation; structured finance; debt capital markets


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