Draft Framework for Securitization of Standard Assets

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Securitization is the procedure where an issuer designs a marketable financial instrument by merging or pooling various financial assets into one group. The issuer then sells this group of repackaged assets to investors. Securitization offers opportunities for investors and frees up capital for originators, both of which promote liquidity in the marketplace. In theory, any financial asset can be securitized—that is, turned into a tradeable, fungible item of monetary value. In essence, this is what all securities are. However, securitization most often occurs with loans and other assets that generate receivables such as different types of consumer or commercial debt. It can involve the pooling of contractual debts such as auto loans and credit card debt obligations[1].

Essential elements

  • In securitization, an originator pools or groups debt into portfolios that they sell to issuers.
  • Issuers create marketable financial instruments by merging various financial assets into tranches.
  • Investors buy securitized products to earn a profit.
  • Securitized instruments furnish investors with good income streams.
  • Products with riskier underlying assets will pay a higher rate of return.

The Need for Draft Framework for Securitization of Standard Assets

  • Securitization involves transactions where credit risk in assets is redistributed by repackaging them into tradeable securities with different risk profiles which may give investors of various classes access to exposures that they otherwise will be unable to access directly.
  • While complicated and opaque securitization structures could be undesirable for financial stability, prudentially structured securitization transactions can be an important facilitator in a well-functioning financial market in that it improves risk distribution and liquidity of lenders in originating fresh loan exposures.
  • In the exercise of the powers conferred by the Banking Regulation Act, 1949 and the Reserve Bank of India Act, 1934, the Reserve Bank, is satisfied that it is necessary and expedient in the public interest[2] to amend the existing framework.

The Development of Securitization in India

When undertaken by banks, financial institutions, and non-banking financial companies (“NBFCs“), securitization in India is regulated and governed by the Reserve Bank of India (“RBI“) under the provisions of the 2006 and 2012 Guidelines on Securitization of Standard Assets (“RBI Guidelines“) for standard assets and by the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (“SARFAESI Act“) for stressed financial assets.

While the term “securitization” is defined under each of these regulatory regimes, both regimes envisage securitization as a ring-fenced and bankruptcy-remote true sale of financial assets (or a pool of such assets) in return for immediate cash payment. Under the true sale mechanism, the assets move from the balance sheet of the originator to the balance sheet of a special purpose vehicle (“SPV“) or asset reconstruction company and are pooled, sub-divided, repackaged as tradeable securities backed by such pooled assets and sold to investors either as pass-through certificates (“PTCs“) or security receipts (“SRs“), which represent claims on incoming cash flows from such pooled assets.

On 8th June 2020, RBI issued the Draft Framework for Securitization of Standard Assets for public comments. This draft Framework has brought about major changes in the regulatory framework governing securitization. This framework on one hand brings with it a few new concepts to securitization and alters the existing framework on the other. The capital requirements are aligned with that of the Basel Framework for securitization besides the minimum quantitative threshold.

General requirements for securitization

  • Eligible assets– All on-balance sheet standard exposures, except the following, will be eligible for securitization by the originators:

a. Revolving credit facilities (e.g., Cash Credit accounts, Credit Card receivables, etc.)
b. Loans with bullet repayments of both principal and interest; and
Securitization exposures

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c. Loans with tenor up to 24 months extended to individuals for agricultural activities defined under PSL directions where both interest and principal are due only on maturity and trade receivables with tenor up to 12 months discounted/purchased by lenders from their borrowers will be eligible for securitization subject to the condition that the borrower/ drawee has fully repaid the entire amount of last two loans/receivables within 90 days of the due date.

The eligibility of security assets remains similar, except for one. The securitization of allowed receivables acquired from elsewhere, provided they are held for 12 months will help in no misuse of this provision but in paragraph 30, the provisions seem to be mismatched with this requirement. The bar on the loans is only in the cases where both principal and interest are payable on maturity provided if the interest is regularly serviced, but the principal is paid as a bullet repayment, the asset will remain eligible.

  • Securitization activities/exposures not covered – which is the same as before, the Lenders in India, including overseas branches of banks in India, are not permitted to undertake the securitization activities or assume securitization exposures as mentioned below:

a. Re-securitization exposures;

b. Synthetic securitization; and

c. Securitization with revolving credit facilities as underlying

  • Single asset securitization-“securitization” means the set of transactions or scheme wherein credit risk associated with eligible exposures is trenched and where payments in the set of transactions or scheme depend upon the performance of the specified underlying exposures as opposed to being derived from an obligation of the originator, and the subordination of tranches determines the distribution of losses during the life of the set of transactions or scheme; Provided that the pool may contain one or more exposures eligible to be securitized. The concept of single-asset securitization is completely new. Of course, for the STC label, it has to be a homogenous pool of assets but for plain securitization, the requirement for a pool or homogeneity goes away. The very idea of single-asset securitization is counter-intuitive, because, in the same breath, the Directions also define securitization as consisting of more than one tranche. The question of trenching a single asset does not arise. Single asset securitization will be no different from loan sell-off, which was responsible for some of the malpractices noted by the RBI just before the 2006 Guidelines.
  • MHP requirements – Same as 2012 guidelines for assets other than residential mortgages.
    – If the underlying exposures comprise of bank loans, lenders can securitize the loans only after a minimum holding period counted from the date of full disbursement of loans for an activity/purpose; acquisition of asset (i.e., car, residential house, etc.) by the borrower or the date of completion of a project, as the case may be
    – In the case of loans purchased from other entities by a transferor – an MHP of 12 months is required, which will be reckoned from the date on which the loan was taken to the books of the transferor.

 – In the case of loans with bullet repayments of only either principal and interest – the MHP requirement will be reckoned based on the repayment frequency of principal or interest, as the case may be, that has a periodic repayment schedule.
– For residential mortgages, against which RMBS will be issued by the special purpose entity, the MHP applicable will be 6 months or a period covering 6 installments whichever is later.

– The MHP will apply to individual loans in the underlying pool of securitized loans. MHP will not apply to loans referred to in clause 7 (PSL loans). The change proposed for residential mortgages is welcome.

Under the existing framework, almost all the residential mortgages fall under the top bracket for MHP, that is, 12 months MHP becomes applicable in all cases. In the case of residential mortgages, the full disbursement of the facility happens over a while. The minimum holding period along with the time spent until the full disbursement, together, makes the effective holding period significantly longer than the prescribed. Therefore, a reduction in the MHP was strongly advocated by the industry. The word “acquisition of an asset” may confuse as it may have several meanings attached to it.

  • Listing of securities issued in Securitization – This is completely a new requirement. The idea is to create a secondary market for investors in mortgage-backed securities. Also, currently, mutual funds are allowed to invest only in listed securities, so this requirement will also take care of that issue. Having said the above, currently, the listing of securitized debt instruments is governed by the SEBI (Issue and Listing of Securitized Debt Instruments) Regulations, 2008. Also, the SEBI (Listing Obligations and Disclosures) Requirements, 2015 have provisions relating to the listing of SDIs. Both of these may require tweaking, especially the provisions dealing with corporate governance. If the value of the exposures underlying a residential mortgage-backed securitization is Rs.500 crore or above, the securities issued must be mandatorily listed. For securities issued in residential mortgage-backed securitizations where the value of the exposures underlying is less than Rs.500 crore and securities issued in other securitization transactions, the listing of the securities or notes is optional.
  • In case of assets purchased for securitization- In cases where the originator has purchased loans from another lender for securitization, the conditions specified above shall apply to the lender from whom the originator has purchased the exposures, as well. However, in sub-clause (d) of clause 29, only one of either the originator or the lender from where loans were purchased but the originator, shall have a representative on the board of the SPE.
  • Provision of facilities supporting securitization structures: General Conditions Lenders may provide supporting facilities such as credit enhancement facilities, liquidity facilities, underwriting facilities, and servicing facilities. Since such facilities may also be provided by entities that are not lenders, entities providing such facilities are generally referred to in these directions as “facility providers”.
  • Capital requirement for securitization exposure- Lenders must maintain capital against all securitization exposure amounts, including those arising from the provision of credit risk mitigants to a securitization transaction, investments in asset-backed or mortgage-backed securities, retention of a subordinated tranche, and extension of a liquidity facility or credit enhancement. For capital computation, repurchased securitization exposures must be treated as retained securitization exposures. (General conditions are covered in clauses 70-78).


The Draft Framework for Securitization of Asset is different from the existing framework and it clearly emphasizes in going forward, to avail capital relief, the transaction should have a mezzanine tranche. Also, the rule concerning capital relief in case of the absence of a mezzanine tranche lacks clarity. It says: the originator should not be holding more than 20% of the “exposure value” of the first loss positions. If the intent of this is to limit the originator’s position only to 20% of the first loss tranche, this is absolutely impractical.

However, if the intent is to relate the “exposure value” to the total of the asset pool, then, what is being implied is that the first loss tranche shall not be more than 20% of the total pool, which is mostly easy to satisfy. There is another rule which defines what the thickness of the first loss tranche should be. This requirement states that the minimum first loss tranche should be the product of (a) Exposure (b) Weighted maturity in years (c) The average slippage ratio over the last year.

[1] Securitization-available at https://www.investopedia.com/terms/s/securitization.asp by James Chen, May 14, 2019.

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[2]  Draft Framework for Securitization of Standard Assets available at https://www.rbi.org.in/. Last Visited on 21st July 2020