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Credit Servicing Act - New regulatory regime for owners and servicers of Irish debt
AUTHOR(S): Patrick Molloy, Peter O’Brien, Joe Beashel, William Prentice, Alma Campion, Chris Quinn, Turlough Galvin
PRACTICE AREA GROUP: Structured Finance and Securitisation, Regulatory Risk Management and Compliance
New legislation enacted in Ireland (Credit Servicing Act) will have implications for persons carrying on loan servicing activities in Ireland and both owners and purchasers of Irish debt.
In recent times, a political issue surfaced in Ireland surrounding the sale of loan portfolios by a number of Irish banking entities. These portfolios were often acquired from regulated banks by newly-formed Irish special purpose companies. The Irish Government announced that it intended to introduce new laws “to ensure that borrowers whose loans are sold by a regulated entity to a currently unregulated entity maintain the same regulatory protections as they had prior to the sale”. Following a long consultation process, the Consumer Protection (Regulation of Credit Servicing Firms) Act 2015 (the "Act") was enacted on 8 July 2015.
The Act, in general, requires the servicer (or in the absence of a servicer, the owner) of such loans to become authorised as a “credit servicing firm”. Credit servicing firms will now, as a result, be subject to supervision and enforcement by the Central Bank of Ireland (the "CBI").
The Act permits customers of credit servicing firms (ie the underlying borrowers) to complain to the Irish Financial Services Ombudsman about the conduct of the firm and will provide such customers with protection under the Central Bank’s Code of Conduct on Mortgage Arrears, the Code of Conduct for Business Lending to Small and Medium Enterprises and the Consumer Protection Code (the "Codes").
The immediate impact of the new Act is that special purpose vehicles (“SPVs”) that have acquired Irish consumer loan portfolios will need to ensure that the existing servicer appointed to service the portfolio applies to the Irish Central Bank to become authorised as a credit servicing firm before 8 October 2015. If the existing servicer fails to apply or, having applied, fails to achieve authorisation then the SPV itself would in theory be required to seek authorisation as a credit servicing firm. Bearing in mind that an SPV is unlikely to achieve such authorisation, the likely practical solution in such circumstances will be that a separate authorised credit servicing firm will need to be appointed by the SPV to service the portfolio.
SPVs that have acquired Irish consumer loan portfolios will also need to check the terms of their contractual arrangements in order to ensure that the tasks being undertaken by parties other than the servicer (such as the SPV itself or any master servicer or other parties involved in the transaction) do not amount to “credit servicing”. If credit servicing is being undertaken by any parties other than the servicer, then they too will need to seek authorisation as a credit servicing firm or will need to amend the terms of the contractual arrangements in order to clarify the position.
What is a credit servicing firm?
As mentioned above, the Act introduces a new concept of credit servicing firm. A credit servicing firm is required to apply for authorisation under the Act. A credit servicing firm means a person who:
(i) undertakes credit servicing for an unregulated entity; that is to say an entity that is not a regulated financial service provider authorised by the CBI or an authority that performs functions in an EEA country that are comparable to the functions performed by the CBI, for example an "Equivalent Authority", to provide credit in Ireland, or
(ii) holds the legal title to credit granted under a credit agreement in respect of which credit servicing is not being undertaken by a person authorised to carry on the business of a credit servicing firm.
The definition of credit servicing firm also includes a regulated financial service provider authorised by the CBI or an equivalent authority to provide credit in Ireland (a "Regulated Provider").
All existing and new Regulated Providers will, automatically, be taken to be authorised to carry on the business of a credit servicing firm.
A number of things about the concept of credit servicing firm are notable:
- Owners of loans who appoint servicers that are Regulated Providers will not be required to become authorised as credit servicing firms. This exclusion would not extend to servicers that are authorised to undertake activities other than providing credit in Ireland (such as regulated mortgage administrators in the UK).
- Servicers who only provide credit servicing to Irish banks, non-Irish banks that have passported into Ireland to provide credit in Ireland, or Irish retail credit firms will not need to seek authorisation as a credit servicing firm.
- All Regulated Providers (which includes all Irish banks and all foreign banks that have passported into Ireland to provide credit in Ireland) will be required to comply with any new rules (yet to be finalised) to be imposed upon credit servicing firms. This appears to be the case even where these Regulated Providers do not in fact carry on any credit servicing. This is an odd result and is discussed, along with some other peculiarities of the Act, below.
In general, Irish SPVs that have purchased or will purchase Irish loan portfolios where the loans were originally advanced to Irish individuals or small and medium enterprises ("SMEs"), as defined below, will need to appoint an authorised credit servicing firm to manage such portfolios to comply with the requirements of the Act.
What is credit servicing?
Credit servicing is defined as managing or administering a credit agreement, including:
(a) notifying the relevant borrower of changes in interest rates or in payments due under the credit agreement or other matters of which the credit agreement requires the relevant borrower to be notified;
(b) taking any necessary steps for the purposes of collecting or recovering payments due under the credit agreement from the relevant borrower;
(c) managing or administering any of the following:
(i) repayments under the credit agreement;
(ii) any charges imposed on the relevant borrower under the credit agreement;
(iii) any errors made in relation to the credit agreement;
(iv) any complaints made by the relevant borrower;
(v) information or records relating to the relevant borrower in respect of the credit agreement;
(vi) the process by which a relevant borrower’s financial difficulties are addressed;
(vii) any alternative arrangements for repayment or other restructuring;
(viii) assessment of the relevant borrower’s financial circumstances and ability to repay under the credit agreement;
(d) communicating with the relevant borrower in respect of any of the matters referred to in paragraphs (a) to (c).
What is not credit servicing?
The Act clarifies that credit servicing does not include:
(x) the determination of the overall strategy for the management and administration of a portfolio of credit agreements;
(y) the maintenance of control over key decisions relating to such portfolio; or
(z) taking such steps as may be necessary for the purposes of:
(i) enabling the undertaking of credit servicing by another person, or
(ii) enforcing a credit agreement,
whether any action referred to in paragraphs (x) to (z) is taken by a person who holds the legal title to credit in respect of a portfolio of credit agreements (the "holder") or a person acting on behalf of the holder, provided that such action (whether taken by the holder or such person) is not taken in a manner that, if it were so taken by a regulated financial service provider, it would be a breach of certain provisions of financial services legislation or codes of conduct.
These exclusions from the definition of credit servicing should be generally helpful for SPV owners of loans, master servicers of loans and trustees in securitisation deals.
What is a credit agreement?
A credit agreement is an agreement whereby a person grants, or promises to grant, credit (being a cash loan) to a relevant borrower.
What is a relevant borrower?
A relevant borrower is:
(i) any individual person (excluding professional clients under Markets in Financial Instruments Directive ("MiFID") and persons who are regulated service providers) situated in Ireland; or
(ii) any SME (ie an entity that employs fewer than 250 persons and has an annual turnover of not more than €50 million and/or an annual balance sheet total of not more than €43 million).
The definition of SME is derived from EU Commission Recommendation 2003/361/EC of 6 May 2003 and is very broad and includes companies, partnerships and sole traders. The definition of SME is not (on the face of the Act) restricted to SMEs located in Ireland, but it is assumed that it is intended only to apply to SMEs located in Ireland. The definition of relevant borrower only applies, so far as an SME is concerned, where the credit advanced to the SME was originally advanced by a Regulated Provider.
Authorisation process and requirements for credit servicing firms
The Act provides for a three month transitional period for persons deemed by the Act to be existing credit servicing firms to seek authorisation. Such persons will be deemed to be authorised to carry on the business of a credit servicing firm until the CBI has granted or refused authorisation, provided that such person has applied for authorisation before 8 October 2015.
Where a person is deemed to be authorised, it must comply with the Codes, the Minimum Competency Code, Part V of the Central Bank Act 1997 and the Fitness and Probity Regime and must take steps to update its IT systems, all documentation, policies and procedures to comply with these codes and regimes and must train their staff appropriately.
Each credit servicing firm is required to apply to the CBI for authorisation to carry on such credit servicing business. The application must contain such information as the CBI has published in their Stage 1 Application for Authorisation as a credit servicing firm (available at www.centralbank.ie). If the CBI wishes to refuse an application, it must specify in writing the grounds on which it proposes to do so.
In granting an application for authorisation, the CBI may impose certain conditions on the authorised credit servicing firm. The CBI has published Consultation Paper 96 entitled “Consultation on the Authorisation Requirements and Standards for Credit Servicing Firms and Consequential Amendments to Statutory Codes” dated July 2015 (available at www.centralbank.ie). Interested parties can provide comments on this Consultation Paper prior to 30 September 2015.
What is the potential impact of non-compliance?
A person who acts as a credit servicer without authorisation will commit a criminal offence carrying a maximum penalty of €100,000. Subject to certain defences, individual officers in a firm, which has committed an offence under the Central Bank Act 1997, can be subject to personal liability carrying maximum penalties of a fine of €50,000 or imprisonment for up to 12 months, or both.
When a firm becomes a regulated credit servicer it becomes subject to the CBI’s supervision regime which allows the CBI to impose a range of administrative sanctions including a monetary penalty of €10 million or up to 10% of the turnover of the credit servicer. Subject to certain defences, individuals concerned in the management of the firm can become subject to a personal fine of up to €1 million and/or a prohibition on being concerned in the management of a regulated firm in Ireland permanently or for a specified period of time.
There is also a specific offence created by the Act that applies where a holder of legal title to credit (such as an SPV) instructs a credit servicing firm to take or fail to take an action which would be a contravention of certain existing laws. This offence can give rise to a fine of up to €250,000 or imprisonment for up to five years, or both.
Examples of situations affected by the Act
Where a loan made to a relevant borrower was originated by a Regulated Provider and has been acquired by a person who has not appointed a servicer to service the portfolio, then that person is now required to apply for authorisation under the Act (unless that person is already a Regulated Provider).
Where a loan made to a relevant borrower was originated by a Regulated Provider and has been acquired by a person who has appointed a servicer to service the portfolio, then that person will need to ensure that the servicer seeks authorisation under the Act prior to 8 October 2015 (unless the servicer is already a Regulated Provider). If the servicer does not seek authorisation (or fails to become authorised by the CBI in due course), then the person who acquired the loan will need to seek authorisation itself, or else replace the servicer with an authorised credit servicing firm.
Where a loan made to a relevant borrower was originated by a Regulated Provider and has been acquired by a person who has appointed a servicer to service the portfolio, it is sometimes the case that the servicer may delegate some of the activities outlined in the definition of credit servicing to a third party (such as collection or recovery services). In such cases, the person and the servicer should ensure that the third party seeks authorisation (unless the third party is already a Regulated Provider).
In some cases, loans made to a relevant borrower which were originated by a Regulated Provider have been acquired by an SPV that has separately appointed both a servicer and a master servicer (where the master servicer oversees the servicing arrangements). In such cases, it is likely that the servicer will always need to seek authorisation under the Act. However, it is also possible that the master servicer may need to seek authorisation if it provides any services that are not excluded from the definition of credit services as set out above.
Where any loan made to a relevant borrower was originated by a Regulated Provider and has been included in a securitisation or CLO structure, in addition to the requirement for the servicer or manager to seek authorisation, any back-up servicer should also seek (or be required to seek) authorisation. Further, where any special servicer is appointed, the special servicer will need to seek authorisation.
Some unexpected concerns
As mentioned above, the Act presents some unexpected concerns.
It appears that all Regulated Providers (which includes all Irish banks and all foreign banks that have passported into Ireland to provide credit in Ireland) will be required to comply with any new rules (yet to be finalised) to be imposed upon credit servicing firms. We await the publication of the relevant rules by the CBI following the end of the consultation period (ie 30 September 2015). It is hoped that the CBI might in due course clarify that these rules will only apply where the Regulated Provider is actually involved in credit servicing, although we note that the Act does not contain such a limitation.
It also appears as if all Regulated Providers (which includes all Irish banks and all foreign banks that have passported into Ireland to provide credit in Ireland) that have advanced loans to Irish individuals or SMEs in the past may need to be aware that the transfer of such loans may be more complicated than in the past. Where such loans are transferred to another Regulated Provider then no particular issues should arise under the Act. However, where such loans are transferred to an unregulated entity (such as an SPV or a special situations fund) then the transferee may need to appoint a credit servicing firm to administer the loans. Due to the broad definition of SME, this could include any loans originally granted to an Irish individual, an Irish SPV, an Irish fund or any other Irish entity. Buyers of loans should raise this issue as part of their due diligence. This is likely to become a discussion point upon the future transfer of Irish loans.
Finally, the definition of credit servicing is quite broad – possibly broader than necessary. Persons carrying on activities that involve (or might in the future involve) some element of credit servicing will need to review the nature of their services in order to ensure that they are not captured by the requirement to seek authorisation under the Act. For example, any person who communicates with a relevant borrower may need to review their arrangements – this could include facility agents, special servicers, master servicers and back-up servicers.