SECURITISATION RESEARCH

Residential Credit Strategy | 7 February 2011

A case for revamping remittance reporting

Reprinted from the Securitized Products Weekly, 4 February 2011 As servicers perform complicated modifications and other actions, remittance reporting has been found wanting. Most remits commingle cash and non-cash items, making it difficult to reconcile the actual amount paid to the bonds. Advance payments and recoupment, balance capitalization, fees paid, and modification adjustments are the most common sources of confusion. The amount received at liquidation from the sale of individual properties is not reported. On liquidated loans, only the amount that enters the trust is provided, and there is no way to tell if severities were higher because of low recovery from the sale or because of unexpected or unreasonable fixed/variable/servicer related costs. Non-timely reporting of modifications and mixed timeline reporting of liquidations and recoveries also result in inconsistencies. We discuss pertinent issues using relevant examples. In the short term, the provision of loan level data with data fields corresponding to those in the remittance report can go a long way in helping investors reconcile bonds cash flows with loan level payments and other adjustments. In the longer term, the adoption of industry standards with respect to reporting structures and terminology can help reduce complexity and aid easier analysis.
Sandeep Bordia +1 212 412 2099 sandeep.bordia@barcap.com Jasraj Vaidya +212-412-2265 jasraj.vaidya@barcap.com Sandipan Deb +1 212 412 2099 sandipan.deb@barcap.com Aaron Haan +1 212 412 2099 aaron.haan@barcap.com www.barcap.com

Why a remittance report?

The purpose of a remittance report is to provide investors with a monthly reconciliation of cash flows and balances within a deal. The report provides information about the amount of cash received from various borrowers, payments to the servicer and other entities (such as swap counterparties), recoveries from liquidated loans, and, finally, the amount of principal and interest distributed out to various bonds. In short, it gives information about collateral performance and provides a tally of how that translated into payments to bondholders. We show the typical cash flows in the RMBS deal in Figure 1. A remittance report ideally should be a simple translation of this flowchart that provides details on the various cash flows along with the beginning and ending balances.

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Barclays Capital | A case for revamping remittance reporting

Structure of a typical remittance report

Though different trusts have different reporting templates, most remittance reports follow a general structure that is described below. Bond distribution: This section shows the payments made to all bonds in the deal both principal and interest. It also shows the starting and ending balances, as well as any losses allocated. This is the starting point in the report and it is important for investors to tally the cash flows that they have received for the current month. Though relatively straightforward, the report typically gives limited information on how the various collateral cash flows have been redirected to arrive at payments to specific bonds. Even in instances where a bond receives no interest or principal, this part of the report routinely fails to explain why it happened. Figure 1: Monthly cash flows in a typical RMBS deal

Advance recoupment / Liquidation cost Servicer P&I Advances

Servicer
Servicing fee

Swap counterparty
Swap payments/ receipts Bond 1

Delinquent Loan

Scheduled P&I

Monthly payment from borrower

Current Loan

Scheduled P&I

Bond 2

Deal
Liquidation proceeds Liquidated Loan Recoveries Bond 3

Modified Loan

Bond 4 Servicer advances / late fees

Recouped advances and balance capitalization

Bond Cashflows

Source: Barclays Capital

Collateral summary: This section provides information of the various scheduled and actual cash flows from the collateral underlying the deal. Information is typically provided at the group level, as well as for the overall collateral. Though significantly more informative than the bond statement, some key information is typically missing in this section. The missing information includes detailed advancing and modification cash flows. In addition, losses and recoveries from different months tend to be combined, resulting in incremental confusion.
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Barclays Capital | A case for revamping remittance reporting

Collection account: This section gives a top level reconciliation of the cash received by the trust and the cash paid out. The lack of sufficient detail makes this section of limited utility. Typically, the account is shown with a mix of cash and non-cash items, such as realized losses. It would be much easier to understand if sources of funds and uses of funds were listed for all cash entering and leaving the trust in any given month. Detailed collateral performance: This section breaks up collateral performance into detail along certain dimensions. It contains the following information:

The number of loans and loan balances in various delinquency buckets, as well as loan level details of loan in foreclosure and REO. Loan level details on liquidated loans along with recoveries. Note that recoveries on loans liquidated in previous months, as well as any loss adjustments, also show up here and, therefore, result in some confusion in calculation of CDRs and severities. Details on loans that prepaid this month and a summarized curtailment number.

Modification details: This section is relatively new and has only started appearing in most remittance reports in the past two years. It provides a summary of modification activity, and, in some cases, loan level details on modified loans. Reporting still remains very nonstandardized and lacking in detail.

Problems with current remit reports

In the descriptions of the various sections within the remit report, we touched upon some of the issues. In addition, some trusts do not provide any loan level information in the remittance report at all, and that makes understanding bond cash flows all the more difficult. Even trusts that do report loan level data present significant challenges in analysis. Based on the sample set of remit reports that we analyzed for reconciling some information or to help clients who had queries about their bond cash flows, we believe that most of the issues can be categorised as follows:

Modification cash flows and balance adjustments

Modifications result in significant alteration to the cash flow stream from a loan. Additionally, as they are typically combined with recoupment, the math gets fuzzy very quickly. We have noticed a few common problems with the reporting in remit reports: Some (not all) trustees report a beginning and ending loan balance for modified loans and a few other metrics. However, the exact amount of forgiveness, forbearance, and principal recapitalization is not specified. Nevertheless, these balances are applied to aggregated cash flows, leading to confusion with respect to the source of those cash flows. Mostly, distinction is not made between the interest and principal components of forgiveness and forbearance. However, these sometimes show up separately in the aggregate cash flows. Non-cash flowing entries, such as balance forgiveness, are sometimes combined with principal cash flows (and simultaneously taken out with some other adjustments), therefore presenting an incorrect picture of principal cash flows. The type of modification is not clear in many instances.

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Barclays Capital | A case for revamping remittance reporting

Some terms used for modification adjustment are unclear and undefined. For example, capitalization reimbursed and balance capitalization on the same loan (sometimes with a negative adjustment) causes confusion. Sometimes there are unexplained cash flows from modification and no explanation is provided. Such amounts come with nondescript names such as other interest proceeds and can occasionally be a big proportion of cash flows.

Servicer advances and recoupment

Servicer advance reporting has significant room for improvement because the current process is very opaque. Advances paid and recouped are reported as a total amount, leaving a lot of questions about the loans on which those advances were made. Sometimes, total advances exceed the scheduled payments on all delinquent loans. Some servicers also seem to be advancing differently on scheduled principal and interest. When loans are liquidated, it is not clear how the advances on those loans have been recouped, and which ones they have been recouped on. The case is the same when advances are recouped on modified loans.

Servicing fees and other charges

The flow of servicing fees which includes base servicing fees, as well as late fees and fees on liquidations remains very unclear. The amount of recapitalization on modification would entail some servicer fees also but the exact amount remains unknown.

Mixed timeline reporting of liquidations and subsequent adjustments

The realized loss detail report contains losses on loans that were liquidated this month, as well as loss adjustments on loans that were liquidated many months ago. This causes some confusion as it is unclear whether the servicer reported CDRs, and severities include losses and liquidations from one month or multiple months. Additionally, there is only one loss number reported, though interest losses show up separately on the summary section sometimes. Reporting of subsequent recoveries on liquidated loans is not very clear. Sometimes, it may be due to rep and warranty buyouts and in other cases, it may be due to MI payments. However, investors are left guessing the exact source of these recoveries. In addition to the above, all modifications are not reported in a timely fashion, and sometimes not at all. This tends to understate the true extent of modifications, and the related cash flow adjustments get rolled into the advances and recoupment metrics, further muddying the waters. In the following section, we will look at three remit reports that contain a smattering of the various problems mentioned above. In each case, our investigation was triggered by some oddity observed in bond payments or LoanPerformance data. Further investigation revealed many reporting issues even beyond what was causing the initial issue under scrutiny. We hope that this serves as a guide to investors on how to approach reconciliation of numbers contained within those reports. We confess, though, that we have not been able to fully explain some of the entries in the following reports and look forward to a future where servicers will simplify reporting and aid our analysis.
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Barclays Capital | A case for revamping remittance reporting

SABR 2006-WM3 January 2011 remittance

Trigger: This deal paid out 0 interest and 0 principal in this remittance period. Though there was a significant amount of principal and interest generated by the collateral, it was not clear why nothing was paid out. Main reason: On the principal side, the deal saw nothing in terms of voluntary prepayments. Liquidation balance was very high but so was severity, as mostly second liens and low balance first liens were liquidated. As a resulted, the net principal collection was quite small. On the interest side, a large portion of the scheduled interest did not come in as borrowers were delinquent. Servicing advance rate was also very low on delinquent interest. Another positive contributor to interest collections was Liquidation interest, whose source we could not ascertain. The main deductions from interest were categorized as Interest realized loss, Modification Loss, Non recoverable advances and Capitalized/Deferred amount. Just looking at the remittance report, we were not able to figure out which loans these losses occurred on, what these losses were and whether they were actual cash flows or not. Nonetheless, the interest deductions were sufficiently large to create a net interest shortfall. That shortfall was exactly the same as the principal collected and hence the net cash flow to the bonds was 0. Additional problems identified: We saw some puzzling advancing patterns on this deal that did not make much sense. First, the servicer seems to be advancing on all delinquent principal but only a third of the delinquent interest. Secondly, the total scheduled interest shown in greater than the total scheduled interest computed at the loan level.

FFMER 2007-2 December 2011 remittance

Trigger: The M2 bond got written back up despite losses on the collateral. Main reason: Scheduled interest collected on the deal was enhanced by cashflows titled Other Interest Proceeds/Shortfalls. Relevant line entries under this section are Other Interest Loss, Other Interest Proceeds and Other Interest Proceeds/Shortfalls. The three line items add up to more than $2MM. We are at a loss so as to what these entries mean, though we found this not very helpful footnote in the remit report : Other Interest proceeds are additional interest amounts specifically allocated to the bond(s) and used in determining the bonds Distributable Interest. These extra interest proceeds combined with relatively low liquidation losses and principal cashflows resulted in excess cash flows to the deal, which resulted in the junior-most outstanding mezzanine bond getting written up.

DSLA 2005-AR6 November 2010 remittance

Trigger: Remit reports showed significantly higher curtailment amount than what was evident from loan level data in LoanPerformance. Main reason: This remit presented significant challenges due to the sheer number of undefined variables. A modified loan has both a Capitalized Amount and a Capitalized Reimbursement Amount which sometimes contains negative entries. There was no way to match up bond principal payouts with collateral principal collections. This remit is a textbook case of one that requires a data dictionary and loan level reporting.

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Barclays Capital | A case for revamping remittance reporting

Some suggestions for improvement

Before we propose some improvements to the reporting process, we would like to highlight that the intent behind the design of the current structure was not to obfuscate. Rather, developments in the non-agency space have rendered the reporting structure obsolete. The simple structure modeled after agency remittance reports was insufficient to handle large scale delinquencies, losses, and modifications. Trustees have responded on their part by progressively increasing the amount of information available (and, consequently, the size of the report) but it is still not enough. In the short term, servicers should move to providing more details at the loan level, including advances made and/or recouped, modification details, and fees charged etc. The amount received at liquidation from the sale of individual properties should be reported. Currently, only the amount that enters the trust is provided and there is no way to tell if severities were higher because of low recovery from the sale or because of unexpected or unreasonable fixed/variable/servicer related costs. Additionally, a data dictionary should be provided that describes each line item and its source clearly. Once all data at the loan level (that is already available to servicers) are available, it is relatively easy to work up to the bond level cash flows as there are only a few payments (such as swap payments) that are deal-wide. In the longer term, a completely revamped reporting structure needs to be adopted that takes a standardized approach for various cash flows. Some of the changes may already come through regulations as the SEC takes a closer look at deal structures and cash flows.

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