Therefore, loss severity for second loans is 100%,
resulting in foreclosure frequency percentages,
which are rating specific, as the determinant for
reserve funding. Foreclosure frequency levels will
be adjusted from rating-specific levels based on the
loan type, dwelling type, loan to value ratio, bor-
rower quality, servicing method, or other potential
strengths or weaknesses of the mortgage pool.
Once loss coverage is established as indicated
above, cash flows must show that the transaction
can withstand such losses through bond maturity.
Reserves can be funded in various forms, such as
through over-collateralization, capital reserve
funds, pool insurance policies, or evaporation of
assets as demonstrated in cash flow scenarios.
Further explanation of these methods is found in
the single-family whole loan criteria.
Legal Provisions
Standard & Poor’s will focus primarily on the fol-
lowing legal provisions:
Flow of funds
In evaluating an issue’s flow of funds, two concerns
should be addressed: The release of funds and the
use of surpluses. With some exceptions, the flow of
funds should be closed for all local issuer transac-
tions, with all surpluses being used to call bonds.
State agencies may use an open flow of funds if
structured properly, and a cash flow certificate
(requiring the same scenarios as were originally
provided at the time of initial issuance) is provided
each time funds are released. In both cases, a 2%
liquid reserve should be replenished through the
flow of funds prior to any release of funds. In addi-
tion, legal provisions should give first priority to
the payment of debt service, then to payment of
insurance premiums, with all other expenses subor-
dinated and capped.
Second lien
The pledge of the second mortgage and revenues
from the loan to bondholders should be clearly stat-
ed and described in the bond documents. The pur-
pose of the second mortgage is to establish an
enforceable right to cash flows and any other
pledged property, in the event of a default.
Standard & Poor’s will review second mortgage
documents to ensure the creation of the second lien.Cash Flow
Cash flows should meet the same standards as first
loans. Please refer to the criteria on single-family
whole loans for cash flow guidelines.■Single Family Mortgage-Backed Securities Programs ........................................................
http://www.standardandpoors.com 245I
ssuers use Ginnie Mae, Fannie Mae, and Freddie
Mac single-family mortgage-backed securities
(MBS) in housing bond structures to securitize
pools of single-family mortgages. These transac-
tions are eligible for a ‘AAA’ rating, based on the
guarantee on the MBS by Fannie Mae, Ginnie Mae,
and Freddie Mac, which have direct or implied sup-
port of the U.S. government.
The loans in the MBS pools carry insurance from
private mortgage insurers or the Federal Housing
Administration (FHA), USDA Rural Development
(RD), or Veteran’s Administration (VA) government
guarantee programs. While Freddie Mac and
Fannie Mae securitize all four types of loans, the
Ginnie Mae program limits the mortgages it secures
to FHA, RD, and VA. However, much of the rating
criteria for each MBS program are the same. Often,
bond issues incorporate the use of at least two and
sometimes all of these securitization programs.
For new money issues, it is typical for bond
proceeds to be deposited with the trustee in an
acquisition fund. Then, various lenders originate
single-family mortgages according to program
origination guidelines established in the financing
documents. These mortgages are “warehoused”
by a master lender. When the master lender has
sufficient mortgages, Ginnie Mae, Fannie Mae,
or Freddie Mac MBS are issued by the lender.
The trustee gives the lender the corresponding
amount of bond proceeds from the acquisition
fund in exchange for the MBS. Accrued interest
may be paid to the lender in one of two ways.
The trustee can return the accrued interest to the
lender on the first date after the security’s issue
date that the trustee receives a principal and
interest payment on the security. Alternatively,
the accrued interest may be paid from the acqui-
sition fund or other trust fund monies on the
date that the security is acquired. The trustee
may hold the MBS in physical possession or in
book-entry form. Ginnie Mae securities typically
are held in book-entry form.