Securitization

Question 1

Problems in securitization

Answer 1

1.High stamp duty , Note: pass through certificate exempt from SDV and recognizing the special nature of securitized instruments in some states has reduced the stamp duty on them

2.Taxation : no clarity
Some are of opinion that SPV as a trustee is liable to be taxed in a representative capacity
Others: instead of SPV, investors will be taxed
Clarity needed on capital gains on passing payments to investors

3.Accounting : Securitization instruments are off balance sheet items but in true sense the receivables are removed from the balance sheet .
Problem arise when assets are trf without recourse

4. Lack of standardization: Every originator following his own format for documentation and administration
5. Obstacle for secondary market of asset backed securities
6. Ineffective Foreclosure laws: not supportive to lending institutions and this makes securitized instruments especially mortgaged backed securities less attractive as lenders face difficulty in transfer of property in event of default by the borrower.

Question 2

steps involved in the Securitization mechanism

Answer 2

1. Creation of pool of assets: segregation of assets backed by similar type of mortgages in terms of interest rate, risk, maturity and concentration units.
2. Transfer to SPV
3. Sale of securitized papers : SPV designs the instruments based on nature of interest, risk, tenure etc. based on pool of assets.- Pass through security and pay through certificates
4. Administration of assets: The administration of assets in subcontracted back to originator which collects principal and interest from underlying assets and transfer it to SPV, which works as a conduct.
5. Recourse to originator: unless specified in case of default they go back to originator from SPV
6. Repayment of funds: SPV will repay the funds in form of interest and principal that arises from the assets pooled
7. Credit rating to assess risk of issuer before sale of securities

Question 3

Benefits of Securitization from the perspective of originator

Answer 3

From the angle of originator:(entity which sells assets collectively to Special Purpose Vehicle)

1. Off balance sheet financing : releases capital tied up and improves liquidity
2. More specialization in main business: Further, in case of non-recourse arrangement even the burden of default is shifted
3. improve financial ratios
4. Reduced borrowing cost : securitized papers are rated due to credit enhancement even they can also be issued at reduced rate as of debts

Question 4

Benefits of Securitization from the perspective of investor

Answer 4

1. Diversification of Risk: Securities backed by different types of assets
2. Regulatory requirement : Acquisition of asset backed belonging to a particular industry say micro industry helps banks to meet regulatory requirement of investment of fund in industry specific.
3. Protection against default: By the originator in case of recourse agreement or insurance coverages