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March 12, 2003 - Welcome To The American Bankers Association

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March 12, 2003 - Welcome To The American Bankers Association

    March 12, 2003

    The Trustee’s Role in Asset-Backed Securities

    --By the American Bankers Association, Corporate Trust Committee

    Executive Summary

    In this position paper, the Corporate Trust Committee responds on behalf of 1trustees to a recent report (the “Report”) by Moody’s Investors Service, Inc. (“Moody’s”)

    on the role of trustees in asset-backed securities (“ABS”) and residential mortgage-backed securities (“RMBS”). For convenience, unless otherwise indicated, ABS and

    RMBS are collectively referred to a “asset-backed securities.”

    This paper begins with an introduction of its authors and their view of the Report.

    It then considers the development of the role of the indenture trustee and describes typical asset-backed securities transactions. It discusses in some detail the role of the trustee in asset-backed securities transactions and how that role derives from the

    transaction documents. Finally, it will comment on the Report.

    The first necessity for every debt security is certainty in its terms. For corporate

    and municipal debt securities this means clear drafting of the issuer’s promise to pay.

    For asset-backed securities, this means clear drafting of the mechanism whereby

    payments on the assets are converted into payments to the security holders. The duties of

    a trustee for an issue of asset-backed securities (e.g., receiving payments, maintaining

    funds, making calculations and distributing information and payments) help implement

    the terms of the asset-backed securities. Consequently, those duties must be and are

    explicitly set forth in the applicable transaction documents so as to clearly set

    expectations and avoid the very misunderstanding of duties as to which concern is

    expressed in the Report. As transaction documents evolve to reflect enhanced roles for

    certain parties, including trustees, as suggested in the Report, clear delineation of those

    roles and the attendant duties will be needed so that the terms of the new asset-backed

    securities will be certain and not subject to misinterpretation.

    Introduction

    Advisory Board. The Corporate Trust Committee (the “Committee”), a committee of the American Bankers Association, focuses on the role of banks in

    providing corporate trust products and services to corporate, institutional and

     1 Moody's Investors Service, Inc., Structured Finance Special Report, “Moody’s Re-examines Trustees’ Roles in ABS and RMBS,” February 4, 2003.

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governmental clients. Its purposes include member education, providing a forum for their

    concerns and representing their interests. The Committee currently is composed of

    representatives of ten major banking institutions that provide corporate trust services,

    including acting as trustees for asset-backed securities. Together, these institutions 2 The Committee provide trustee services for over 90% of all asset-backed securities.

    believes that the views expressed herein reflect the views of virtually all trustees for

    asset-backed securities.

    The Report. A number of the member organizations have brought the Report to

    the Committee's attention. After reviewing the Report, the Committee members believe

    it would be useful to clearly articulate the nature and scope of the trustees’ roles in typical

    asset-backed securities transactions. The Report indicated a lack of understanding on the

    part of Moody's as to the trustees’ legal and contractual obligations. Committee members

    were surprised and dismayed by that lack of understanding because the role and

    responsibilities of the trustee are clearly spelled out in the documentation relating to most

    asset-backed securities transactions.

    The Committee supports Moody’s willingness, expressed in the Report, to take a

    more active role in clarifying the responsibilities of trustees in respect of future asset-

    backed securities transactions by urging additional unambiguous language in transaction

    documents. The Committee also agrees with the Report’s recommendations that: (1) a

    review of the servicer’s role is necessary in light of recent servicer defaults; (2) further

    consideration of the possible appointment of a “hot” back-up servicer should be

    undertaken; and, (3) successor servicing fees and reserves for transfer costs may need to

    be increased to enable smooth transitions of servicing. However, the Committee believes

    that the Report incorrectly ascribes “implicit” duties to trustees that have no basis in

    contract or law. Participants in the asset-backed securities market, including investors,

    know the limits on trustees’ duties.

    Purpose of This Paper. This paper results from the Committee’s review of the

    Report and serves as a follow up to discussions between Moody’s and various members

    of the Committee, among others, regarding the roles of trustees in respect of asset-backed

    securities.

    Development of the Role of the Indenture Trustee

    Brief History. The use of corporate trustees in the United States arose with railroad bonds in the nineteenth century. Extremely simple documents of a few pages

    developed over decades of use and litigation into long documents with extensive

    provisions that attempted to eliminate uncertainty as to terms. Trustees accepted only

    ministerial duties for the convenience of the issuer, such as authenticating and paying

     2 Bond Market Association data shows that approximately $1.5 trillion of ABS, including automobile,

    credit card, home equity, manufactured housing, student loans, equipment leases and CBO/CDO, was

    outstanding at yearend 2002 and approximately $3.5 trillion of MBS, including RMBS and agency (GNMA,

    FNMA, FHLMC, etc.), was outstanding at that time.

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bonds. At the time nearly all bonds were bearer bonds, so few records were needed. The

    terms of the bonds were largely contained in the bonds themselves. The terms

    “indenture” or “deed of trust” were applied to the documents pursuant to which bonds were issued because they generally followed a trust format: the issuer granted interests in

    property to the trustee to secure the issuer’s obligation to repay the bonds. This style was

    adopted even where the debt was unsecured. The issuer’s general obligation to repay the 3 bonds was granted in trust to the trustee for the benefit of the bondholders.

    Trust Indenture Act of 1939. The first widespread test of corporate indentures

    came about with the Great Depression. Hearings in the 1930’s by then SEC Commissioner William O. Douglas, among others, uncovered instances where a trustee’s 4action or inaction resulted in harm to bondholders. In the reforming spirit of the times, it was felt that public investors needed more protections than the market place had provided 5them. In consequence, the Trust Indenture Act of 1939 (the “Trust Indenture Act”) was 6adopted. It imposes on trustees, regardless of any contractual protections, the

    requirement that, after a default in respect of the indenture securities, the trustee must

    protect the interests of the holders with the same degree of care that a “prudent man” 7would use in respect of his own interests. Trustees could not be relieved from liability 8for their own negligence or willful misconduct. But, trustees would not be liable “except 9for the performance of such duties as are specifically set out in such indenture” and

    could “conclusively rely . . . upon certificates or opinions conforming to the requirements 10of the indenture.”

    The Trust Indenture Act is applicable to non-governmental debt publicly sold in 11the United States, but not other debt, such as privately placed securities. Its provisions,

    which were required until 1990 to be quoted verbatim in the indentures to which it was

    applicable, form a core of boilerplate that infuses indentures even where the Trust

    Indenture Act is inapplicable. Some state statutes, such as New York’s Streit Act and

    various state Blue Sky laws, have inspired the addition of similar boilerplate in indentures

    to which the Trust Indenture Act is not applicable. However, in the transaction

    documents for many private placements of asset-backed securities, notwithstanding the

    inclusion of much of such boilerplate, the language imposing the prudent man standard

    on the trustee after default and related limitations on the trustee’s protections, is not

    included. Instead, the trustee’s duties remain ministerial after default and are limited to

    actions instructed (and indemnified) by the holders.

     3 Smith, Chase and Morison, “The Trust Indenture Act of 1939 Needs No Conflict of Interest Revision,” 35

    The Business Lawyer 161, 163-63 (1979). See generally American Bar Foundation, Commentaries on

    Indentures 4-10 (1971). 4 Hearings Before Subcommittee of the Committee on Interstate and Foreign Commerce, House of Reps., thrd75 Cong., 3 Sess., on HR 10292, April 25, 1938, at 30 et seq. (remarks of Commissioner Douglas concerning, among other things, hearings in which he had previously participated). 5 See TIA (defined in note 6 supra), Section 302. 6 Act of August 3, 1939, 53 Stat.1149, 15 USC Sections 77aaa-77bbbb, as amended (the “TIA”). 7 TIA, Section 315(c). 8 TIA, Section 315(d). 9 TIA, Section 315(a)(1). 10 TIA, Section 315(a)(2). 11 TIA, Section 304(b).

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    Model Debenture Indenture. In 1971, the American Bar Foundation published

    the Commentaries on Indentures (the “Commentaries”). It resulted from a long-term

    American Bar Association committee project representing issuers, underwriters, trustees

    and governmental interests. The Commentaries contained a model indenture derived from

    a long evolution in standardized indenture documentation that had become the prevailing

    influence on indenture drafting long before its publication. Among many other

    provisions, the model indenture contained in the Commentaries included standard provisions on the rights, duties, obligations and immunities of the trustee. These

    provisions were carefully crafted to provide the trustee with the protections customary in

    the financial marketplace without violating the Trust Indenture Act. They limited the

    duties of the trustee to those expressly stated (until default when the statutory prudent

    man standard became applicable), exonerated the trustee for all but its negligence or bad

    faith, provided for reliance by the trustee on various issuer and expert certifications and

    provided other protections. These standard provisions appear in hundreds of thousands

    of indentures and similar instruments, including the documents relating to asset-backed

    securities transactions.

     12 The Reform Act. The Trust Indenture Reform Act of 1990 (the “Reform Act”)remains the only substantive amendment to the Trust Indenture Act. The Reform Act,

    among other things, changed the time when a trustee’s conflicting interests are judged for purposes of the disqualification of the trustee. Under the pre-1990 Trust Indenture Act,

    the existence of any of nine specified “conflicting interests” at any time while indenture

    debt was outstanding required cure or resignation by the trustee. After the Reform Act, a

    “conflicting interest” exists only when default under the indenture is pending and one of

    the specified conflicts also exists. The SEC proposed and Congress enacted this change 13because they believed that a trustee’s pre-default role is only administrative. This

    change made disqualifying trustee conflicts applicable to a trustee at substantially the

    same time as the prudent man standard becomes applicable to the trustee. It implicitly

    recognizes that, before any default occurs under an indenture, a trustee has no duties

    under the indenture other than the duties it has explicitly undertaken to perform.

    The Trustee. The virtually universal inclusion in indentures of standard

    provisions protecting and exonerating the trustee reflects the economic realities of

    trustees’ relationships to debt offerings. Trustees are usually named late in the

    preparation of a transaction (with accordingly limited ability to negotiate terms) and are

    paid relatively small fees to act as trustees in transactions involving large sums of money.

    A trustee’s willingness to act is premised upon its documented understanding that the

    trustee can have no liability in the transaction except for its own negligence or willful

    misconduct in carrying out its prescribed duties. Thus, trustees require indemnification

    and a lien against trust assets for their expenses in enforcing the indenture and defending

    themselves against claims.

     12 Act of November 15, 1990, Pub. L. 101-550, 104 Stat. 2713. 13 Senate Report 101-155, The Securities Acts Amendments of 1989, October 18, 1989, at 32-35 (“[T]he Commission has stated that, in the absence of default, the indenture trustee’s duties are essentially ministerial . . . .” At 32.).

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    Asset-Backed Securities Transactions

    Brief History. Current asset-backed securities transactions (as distinguished from traditional mortgage indentures that granted physical security under mortgages mostly for

    railroads and utilities) developed in the 1980’s from such predecessors as project finance,

    sale-leaseback and tax-exempt municipal financing. The initial draftsmen were

    experienced with traditional indentures for corporate and municipal debt and the passive

    roles performed by trustees under those indentures prior to any default. But certain

    structural features of asset-backed securities transactions, primarily the absence in most

    such transactions of an operating issuer, inclined the draftsmen to make the trustee’s pre-

    default role more active.

    Structure. In a typical asset-backed securities transaction, a seller transfers receivables, securities or other assets in either of two ways. A trustee may receive the

    assets in exchange for pass-through certificates evidencing beneficial ownership interests

    in such assets. Alternatively, a Delaware statutory trust (until recently known as a

    “Delaware business trust”) or a separate, limited purpose entity (a “special purpose

    vehicle” or “SPV”) may purchase the assets with proceeds from its notes or other debt

    instruments and pledge such assets to a trustee to secure the debt instruments. The seller

    of the assets may sell the certificates or instruments directly or through underwriters to

    investors. A pooling and servicing agreement or trust indenture forms the basic

    document setting forth the relationship among the parties and the assets.

    Sellers. In most asset-backed securities transactions, the seller or “originator” or

    “depositor” assembles the pool of assets by purchasing or funding them, describes them

    in offering materials and sells the interests therein to investors. The seller, possibly in

    conjunction with underwriters or private investors, determines the structure, drafts the

    documents and prices the transaction. The seller selects the other participants, including

    the underwriter, if any, the servicer and the trustee. The seller may also sell the securities

    to investors and it, or an affiliate, may act as servicer. The seller will normally be

    protected by representations from selling asset holders, opinions from experts and

    counsel and its own and its agents’ due diligence. At the initiation of an asset-backed

    securities transaction, the seller will know more about the assets and structure of the

    transaction than any other participant. In some cases the seller will have continuing

    obligations in respect of the pool of assets, such as an obligation to add or replace assets

    if the assets in the pool drop below certain value thresholds. In other cases the seller will

    have no contact with the pool of assets once the transaction is closed. The seller may

    benefit from the initial sale of the assets to the trust or SPV and from the sale of securities

    of the trust or SPV to investors, as well as from any ongoing relationships that the seller

    or its affiliates may have with the transaction.

    Underwriters. The seller may select one or more underwriters to purchase the asset-backed securities and resell them to investors. Underwriters, their counsel and

    other experts may conduct a “due diligence” review of the assets, the structure of the

    transaction and the parties involved to obtain comfort and protection under the securities

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laws that the prospectus or other sales document is accurate. In some cases the

    underwriter controls the seller of the assets and is primarily responsible for the structure

    and assets in the transaction. Underwriters sell the securities and then have no further

    relation to the transaction. Consequently, they have little interaction with trustees.

    Servicers. The servicer, either directly or through subservicers, manages the assets deposited with the trust or SPV in an asset-backed securities transaction. The

    servicer typically collects all the income from the assets, enforces the assets as needed

    and may perform any evaluations needed to substitute assets. The servicer’s fee is

    typically a percentage of the asset pool. The servicer reports information about how the

    assets are performing to security holders (usually through the trustee). This information is

    used to determine the payment stream to holders of securities and the allocation of losses,

    if any. The servicer may also determine allocations of funds to reserves and to purchases

    of additional assets. The trustee applies the funds delivered to it from the servicer, as

    instructed by the servicer and provided in the transaction documents, to pay interest and

    principal on the securities, to fund reserve accounts and purchases of additional assets,

    and to make other payments including fees owing the transaction participants.

    Thus, in most asset-backed securities transactions, the servicer will have more

    knowledge about and control over the assets, their performance and the transaction

    generally than any other transaction participant. In many asset-backed securities

    transactions there may be no direct check on the performance of the servicer

    contemplated in the transaction documents. The Report states: “If there is no oversight on

    the part of the trustee, the risk of misapplication of cash collections by the servicer is

    greatly increased.” Transaction documents virtually never give the trustee any substantive

    oversight over the servicer and its activities. Any such oversight would necessarily be

    limited to matters susceptible of feasible ascertainment and verification on a cost and

    time sensitive basis. Rating agencies and investors should consider other means of 14mitigating the potential for servicer mistake or malfeasance.

    If the servicer becomes insolvent or unable to perform, or if it resigns, the trustee

    is usually responsible under the transaction documents for the appointment of a successor

    servicer. Some transaction documents contain specific provisions relating to “back-up”

    servicing, i.e., appointing a specified successor servicer from the outset to take over servicing when succession becomes necessary. These provisions range from “cold”

    back-up servicing, where the trustee agrees in the transaction documents to become the

    successor servicer unless another entity (appointed by the trustee when needed) accepts

    such appointment, to “hot” back-up servicing, where a successor servicer named in the

    transaction documents agrees to maintain back-up files throughout the transaction. In

    transactions where the trustee accepts the role of back-up servicer, the trustee typically

    relies upon arrangements with servicing units within its own institution or with third

    party providers to pre-arrange succession.

    Typical asset-backed securities transaction documents permit the costs of servicer

    successions, including any increased fees needed to attract a successor servicer and the

     14 See The ReportAnother View infra.

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out-of-pocket expenses involved in a transfer of servicing, to be paid from the trust,

    sometimes reducing payments available to certain classes of investors. In rare cases

    where no provision is made for these costs, certain participants or investors may argue

    that the transaction documents obligate the trustee to incur these costs personally without

    reimbursement. This would virtually never have been the trustee’s intent when entering

    into the transaction documents and when setting its fees.

    Trustees. The trustee in an asset-backed securities transaction may perform various functions, including serving as indenture trustee, authenticating agent, paying

    agent, registrar and transfer agent and calculation agent in respect of the securities,

    custodian of the assets (for the trust, SPV, etc.), analytics provider and back-up servicer.

    “Trustee” as used herein, unless otherwise specified, includes all such roles performed by

    the trustee in an asset-backed securities transaction (but not the role of servicer, which it

    might assume under certain circumstances when it serves as back-up servicer). The

    trustee typically performs more numerous and complex duties than trustees for traditional

    corporate and municipal debt transactions. The asset-backed securities trustee’s ability to

    accept these expanded duties within its role and compensation depends on the clear

    expression of such duties in the transaction documents and the applicability of the

    provisions thereof to properly limit the trustee’s liability for their performance.

    The Asset-Backed Securities Trustee

    Transaction Documents. The principal document in most asset-backed securities

    transactions is a pooling and servicing agreement or indenture pursuant to which the

    securities are issued and the trustee serves. The transaction documents normally provide

    for events of servicer default, additional events of default (“acceleration events” in

    pooling and servicing agreements), and limits on enforcement rights only to rights against

    the assets dedicated to the asset-backed securities transaction (not against the seller).

    Additional agreements may detail the roles of the servicer and other parties and may

    contain specified additional duties for the trustee.

    The responsibilities of the trustee, as set forth in typical asset-backed securities transaction documents, whether a pooling and servicing agreement or an indenture, are

    narrowly circumscribed as to each role and are traditionally stated to be limited to those

    expressly accepted by the trustee. These duties are ministerial in nature and do not

    require or permit the trustee to verify, investigate or monitor the actions of the seller or

    the servicer. Indeed, the trustee and the other transaction participants do not want the

    trustee to exercise judgment or discretion. In tacit recognition that the trustee’s duties are

    so circumscribed, asset-backed securities transaction documents usually provide for

    expert input from independent accountants or others in circumstances where information

    needs to be audited or verified. Trustee judgments are virtually never required or invited

    in the transaction documents.

    Under Trust Indenture Act-qualified transaction documents, during the

    continuance of a default, the trustee must exercise its rights and powers under the

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transaction documents for the benefit of the holders of the asset-backed securities in the

    same manner that a prudent man would exercise such rights and powers for his own

    benefit. But, as noted above, a significant portion of all asset-backed transaction

    documents are not so qualified; they do not impose upon the trustee after the occurrence

    of a default anything more than its pre-default ministerial duties.

     Basic Duties of Trustee. In most asset-backed securities transactions, the roles

    and basic duties of the trustee are specifically detailed in the transaction documents and

    consist of:

    1) as assets custodian and analytics provider, the receipt, holding and

    substitution of the assets and the performance of certain, specified analysis thereof;

    2) as account custodian, the receipt, maintenance and segregation of funds

    derived from the asset;

    3) as paying and calculation agent, the release of those funds as payments to

    holders and for other purposes; and

    4) as trustee, the holding of a lien on the assets for the benefit of holders, the

    distribution of certain information to holders and the replacement of the servicer.

    Additionally the trustee performs certain traditional duties in respect of the asset-backed

    securities (authenticating agent, registrar and transfer agent for the asset-backed securities

    issued under the indenture or pooling and servicing agreement). Although some of these

    tasks may be complex, they are all ministerial in nature and not discretionary. Trustees

    accept these duties in reliance upon provisions in transaction documents that limit trustee

    performance liability to negligence and bad faith, authorize trustee reliance on the

    servicer for all information and indemnify the trustee.

    Asset Custodian. The trustee usually is granted a security interest in the assets underlying the transaction for the benefit of the holders of the asset-backed securities.

    The details of the interest and the trustee’s duties in respect of it are described in the

    transaction documents. The actual grant occurs pursuant to the transaction documents at

    the closing for the issuance of the asset-backed securities. In the case of physical assets or

    securities, the transaction documents usually require that physical possession be given to

    the trustee or registration of securities be made in the name of the trustee or its nominee.

    Where the assets are receivables, inventory or other property that may be impracticable

    for the trustee to hold, the transaction documents normally specify that the trustee’s

    interest in such assets must be clearly indicated in the records of the seller or pledgor of

    the assets. The quality of the security interest granted (“perfected”, “first priority”, etc.)

    and the “true sale” nature of any transfer of assets may be specified in the transaction

    documentation. But the trustee is not expected to determine that a security interest of

    such quality has been established or that a “true sale” transfer has occurred. Instead, the

    trustee is authorized by the transaction documents to rely upon opinions or other evidence

    to establish at closing that what it has been granted conforms to the documents. The

    trustee is also authorized to rely upon future opinions and instructions from others

    (usually the servicer or the seller) to establish that the assets are being maintained so as to

    preserve the trustee’s interests in the assets in accordance with the transaction documents.

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    The trustee may be obligated under the transaction documents to determine from

    time to time that the aggregate value of the assets bears a prescribed ratio to the amount of the debt outstanding or to perform other analytics on the assets. The documents set forth precise valuation procedures and indices and other methods of valuation and authorize the trustee to rely upon specific sources of information. The trustee will instruct the seller or other responsible party to add assets if needed or may permit assets to be withdrawn if the amount held exceeds requirements. In each case the trustee has authority to rely on specified information as to the value and ownership of assets being added or withdrawn. The trustee may also require the substitution of new conforming assets for existing assets that have ceased to conform to the asset requirements for the transaction. Usually the seller or servicer will effect the substitution. The trustee will be authorized to rely upon their representations that the substitute assets meet transaction requirements. In many transactions there is a constant or periodic flow of assets through the trustee’s custody or security interest.

    Accounts. The transaction documents usually specify a number of separate

    accounts in which the trustee is instructed to hold funds derived from specified sources. The servicer usually collects the funds from these sources and remits the funds to the trustee with instructions as to source and account application. Appropriately, in most asset-backed securities transactions, the trustee is authorized under the transaction documents to rely entirely upon the servicer as to the source and, usually, the allocation of the funds to particular accounts because the trustee has no means to investigate the servicer’s information and instructions. The trustee’s only duty is to keep the funds safely until their release is directed pursuant to the transaction documents by the servicer or upon the happening of an event, established by certification to the trustee.

    Payments. The trustee for an asset-backed securities transaction releases funds

    from one or more accounts upon the terms of the transaction documents to pay holders, to pay transaction participants’ fees and expenses and, in some cases, to pay the costs of acquiring new assets. The trustee or the servicer usually calculates payments to holders based upon the terms of the asset-backed securities. Often an asset-backed securities transaction involves several classes of holders who are entitled to payment at different levels of priority, with some entitled to payment on a particular day only if the funds then available exceed the amounts due to others having prior interests. If the calculation requires information not known to the trustee, the transaction documents specify that the trustee may rely in making the payment upon information provided by other transaction participants.

    Reports. The trustee usually provides monthly distribution reports to holders of

    securities, furnishes information or documents pertaining to the assets and performs tax reporting functions on distributions. In addition, in the case of publicly offered transactions, the trustee may file the periodic reports required by the Securities Exchange 15 on behalf of the trust, the SPV, the Act of 1934, as amended (the “Exchange Act”)

    servicer or the seller. The Staff of the Securities and Exchange Commission allows Exchange Act reports in respect of asset-backed securities transactions to be signed by

     15 Act of June 6, 1934, 48 Stat. 881, 15 USC Sections 78a-78jj, as amended.

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the trustee or the servicer, on behalf of the trust or the SPV, in lieu of the “registrant” of

    the asset-backed securities transaction, which is usually the seller. The Committee

    believes that most reports under the Exchange Act in respect of asset-backed securities

    transactions are signed by the seller or the servicer on behalf of the trust or the SPV.

    When signed by a trustee, the reports typically, if not always, are signed “on behalf of”

    the seller, the trust or the SPV, and not “as trustee” of the trust. Trustees have accepted

    the contractual obligation to file the Exchange Act reports with the understanding that, in

    the absence of fraud by the signer, the registrant (and not the trustee or the trustee’s

    officer signing on behalf of the seller, the trust or the SPV) should bear all liability under 16 the Exchange Act with respect to the accuracy and completeness of the reports.

     Replacement of the Servicer. The transaction documents typically make the trustee responsible for any needed succession of another entity to the role of servicer.

    The transaction documents usually provide precise circumstances when the trustee must

    remove the servicer, such as upon the servicer’s bankruptcy or material breach of its

    covenants. Where the transaction documents task the trustee with the administration of

    servicer performance standards, most trustees require that such standards be set forth in a

    sufficiently clear manner that the trustee may reasonably administer them.

    In cases where the transaction participants contemplate a likely servicer

    succession when the transaction documents are being negotiated, they usually name a

    “hot” back-up servicer. Such a servicer maintains redundant real time servicing

    information during the life of the transaction so that it is in a position to step in at any

    time. If the contemplation at closing is for a less likely but still probable servicer

    succession, a “warm” back-up servicer is named to receive periodically and test back-up tapes of transaction information. In most cases servicer succession is not actively

    contemplated at closing and the transaction documents provide that the trustee will

    appoint a successor servicer, if needed, or will act as the successor servicer itself until

    another entity accepts appointment. This is referred to as a “cold” back-up servicer.

    Trustees that do not wish to perform when a cold back-up role becomes actual may

    obtain an agreement from an entity that can so act for them to take over the servicing

    upon the trustee’s request. Cold successions function reasonably well where funds are set

    aside for transition expenses and the successor servicers’ fees are fair enough to attract

    successors or can be increased.

    The Report

    Trustee Credit Enhancement. The Report re-examines Moody’s rating process for

    asset-backed securities. The Report states, among other things, that “[t]he importance of

    the trustee’s role in Moody’s rating process is mostly a function of the credit strength of

     16 The Sarbanes-Oxley Act may force trustees also to make the certification required thereunder. The

    potential for this obligation makes it all the more important for trustees to ensure that their duties,

    knowledge, etc. are fully limited to what they can realistically know and perform. See Staff of the Division

    of Corporation Finance, “Revised Statement: Compliance by Asset-Backed Issuers with Exchange Act Rules 13a-14 and 15d-14,” February 21, 2003.

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