PFS Tax Lien Trust

Transcription

1 Presale: PFS Tax Lien Trust Primary Credit Analyst: Mike P Dougherty, New York (1) ; mike.p.dougherty@standardandpoors.com Secondary Contact: Daniel C Hall, New York ; daniel.hall@standardandpoors.com Analytical Manager, U.S. RMBS New Issue: Jack E Kahan, New York (1) ; jack.kahan@standardandpoors.com Table Of Contents $134 Million Texas Tax-Lien Collateralized Notes Series Rationale Tax Liens Collateral Characteristics Loss Coverage Originator and Servicer Evaluation Payments To Bondholders Advances Expense Reserve Account Working Capital Reserve Account Subsequent Texas Tax Lien Account Cash Flow Modeling APRIL 29,

2 Table Of Contents (cont.) Prepayment Speed Default Curve Credit Enhancement Standard & Poor's 17g-7 Disclosure Report Related Criteria And Research APRIL 29,

3 Presale: PFS Tax Lien Trust $134 Million Texas Tax-Lien Collateralized Notes Series This presale report is based on information as of April 29, The ratings shown are preliminary. This report does not constitute a recommendation to buy, hold, or sell securities. Subsequent information may result in the assignment of final ratings that differ from the preliminary ratings. Preliminary Rating As Of April 29, 2014 Class Preliminary rating(i) Preliminary principal balance (mil. $) Expected interest rate Collateral group Notes AAA (sf) 134 Fixed One (i)the rating on the notes is preliminary and subject to change at any time. Profile Expected first distribution date June 16, 2014 Total rated bond amount ($) 134,000,000 Collateral Transaction structure Expected initial overcollateralization Expected overcollateralization target Seller Texas tax liens Senior/overcollateralization 5.31% of the initial pool balance 100% of the initial pool balance Propel Financial Services LLC Issuer PFS Tax Lien Trust Issue Texas tax-lien collateralized notes series Indenture trustee and custodian Owner trustee Servicer Back-up servicer Citibank N.A. (A/Stable/A-1) Wilmington Trust N.A. Propel Financial Services LLC MTAG Services LLC Rationale The preliminary 'AAA (sf)' rating assigned to PFS Tax Lien Trust 's Texas tax-lien collateralized notes reflects our assessment of the transaction's credit enhancement level and structure, as well as our view of the tax liens' credit quality and the servicer's experience. The collateral consists of tax liens, payment agreements, and other documents (collectively, the Texas tax liens), all of which are associated with properties across 128 Texas jurisdictions. Strengths: Tax lien performance has been historically strong. In particular, Propel Financial Services LLC (Propel) has completed foreclosures related to 125 Texas tax liens with zero losses. The borrowers entered into a Texas tax lien payment agreement, demonstrating a desire and willingness to repay. APRIL 29,

4 The structure generates significant excess interest given that the collateral's weighted average coupon is approximately 13% and the notes are expected to accrue interest at a much lower rate. There are dedicated funds in a reserve account available to pay interest that will be replenished internally via the waterfall. In addition, there are multiple reserve accounts available to pay interest after funding various other items more senior in the transaction waterfall. A majority of the borrowers also have mortgages on their property. The mortgage holder is informed when the borrowers become 90-plus days delinquent, which often causes the mortgage holder to pay off the Texas tax lien rather than losing control over any future liquidation. The servicer will advance any lien administration expenses it determines recoverable that are not covered by the working capital account. Unlike traditional residential mortgage-backed securities (RMBS) servicer advances, these advances accrue interest at the prime rate. The servicer and back-up servicer receive significant servicing fees that should provide adequate compensation for their services and should also be sufficient to incentivize replacement servicers to step in if necessary. A subsequent Texas tax lien account is in place to purchase additional liens associated with the trust's Texas tax liens to provide additional overcollateralization because the trust's liability balance does not increase when subsequent liens are purchased. Weaknesses: The back-up servicer, MTAG Services LLC (MTAG), is not currently licensed to perform tax lien servicing duties in Texas but it has taken steps to acquire the appropriate license. If a license is not issued to MTAG, we believe the back-up servicing fee is high enough and the moderate number of tax lien servicers already licensed in Texas would allow the trust to replace MTAG without significant delays. All tax liens share priority and the rights to initial liquidation funds on a pro rata basis. If Propel does not issue a subsequent Texas tax lien, unpaid subsequent tax liens typically accrue interest at higher rates than the trust's Texas tax liens (including applicable fees), thus diluting the trust's share in any liquidation funds. The subsequent Texas tax lien account will mitigate this risk by funding subsequent Texas tax lien purchases for the trust. Full redemptions can be slower than traditional tax lien transactions, as redemptions can come in through the loan payment schedule as opposed to only a full voluntary or involuntary repayment. However, observed constant prepayment rates (CPR) are roughly 17% annually and we have applied several CPR scenarios in our cash flow analysis. Texas tax liens have longer average lives than traditional tax liens because of their payment schedule, leading to prolonged exposure to default and bankruptcy risk from borrowers who have demonstrated a weak payment history. We have accounted for this structural risk in our cash flow analysis by running a scenario with slow repayments and concentrated back-loaded defaults. Although the subsequent Texas tax liens cause additional overcollateralization and excess interest for the transaction, account replenishment is senior to principal payments on the notes, which can extend the notes' life. However, we feel that this weakness is mitigated based on the subsequent liens' requirements, the limit on the Subsequent Texas tax lien account's size, and the subsequent liens' pari passu nature. The trust could incur substantial expenses should it choose to possess the property and remedy any environmental issues that would otherwise significantly reduce the property value. To mitigate this risk, a Phase 1 environmental assessment will be performed before any nonresidential properties become real estate owned (REO) to determine if there are any environmental concerns, and if the costs to remedy them exceed the potential recovery value. APRIL 29,

5 Tax Liens Texas tax liens, which are tax liens that have been transferred from the local government taxing entity to a private party, will collateralize the notes. Unlike a typical tax lien, where the entire redemptive balance is due and payable, a Texas tax lien has a repayment schedule and essentially similar terms to a loan. Each Texas tax lien in this transaction contains: A signed document by the property owner authorizing the tax lien's transfer; A certified transfer statement from the local government tax collector; and A property tax payment agreement and contract between the property owner and Propel. Each Texas tax liens' property tax payment agreement describes the loan term, which is typically between five and 15 years and have a 8%-18% interest rate. The Texas tax code has a special feature where tax liens transferred from the local government taxing entity to a private party retains the first priority claim on the underlying property. Therefore, this transaction's Texas tax liens retain a first priority claim on the underlying property ahead of mortgages and other liens, other than other property tax liens that are pari passu, and limited other priorities. Collateral Characteristics As of the cut-off date, the trust will hold Texas tax liens with a $141,510,080 initial balance secured by liens on commercial and residential properties in Texas for nonpayment of property taxes. Initially, none of the Texas tax liens will be associated with bankruptcy or REO properties. The pool characteristics are shown in table 1. Table 1 Pool Summary Balance ($) 141,510,80 No. of liens 15,870 Weighted avg. age (mos.) 17.3 Weighted avg. CLTV ratio (%) 10.6 Weighted avg. adjusted CLTV ratio (%)(i) 16.5 Adjusted CLTV ratio distribution (%) (see chart 1 below) plus APRIL 29,

6 Table 1 Pool Summary (cont.) Property types (%) Residential 69.7 Commercial 23.6 Raw land/lots 6.7 (i)the weighted average adjusted CLTV differs from the weighted average CLTV given in the offering documents (10.60%), reflecting our assumptions for market value declines and adjustments for any changes in the Federal Housing Finance Agency housing price index. CLTV--Combined lien-to-value. Chart 1 Valuations for the properties underlying the Texas tax liens are performed by the appraisal office in each appraisal district (of which there are 128 associated with the liens in the pool). The valuation methods include three different types (cost approach, comparable approach, and income approach) that are contingent on the type of property. Each appraisal office has a chief appraiser and appraisal staff that perform valuations at different times. In addition, the Texas Comptroller of Public Accounts performs oversight of each appraisal office, providing a Methods and Assistance Program report and performance review for each district every two years regarding governance, taxpayer assistance, operating procedures, appraisal standards, procedures, and methodologies. We reviewed the results from each of the 128 districts and found that most all (with the exception of roughly 2% of the collateral pool representation) met or APRIL 29,

7 exceeded requirements. We felt that the roughly 2% that had less than satisfactory findings for certain elements of the review in light of the overall valuation process and limited pool concentration was mitigated given the other collateral pool characteristics. The collateral pool is geographically concentrated in Texas as approximately half of its Texas tax liens are located in five of the highest populated appraisal districts. We used our credit model to place each lien into a risk bucket (from one to six) based upon our published criteria pertaining to tax lien securitizations. We determined bucket placement based on the adjusted lien-to-value ratio (by both the Federal Housing Finance Agency index and our market value decline assumptions of 45% for residential properties and 63% for nonresidential properties), the age of the oldest outstanding tax lien on a property, property type (residential vs. commercial), and the lien balance. Liens that fall into bucket one are the least risky, while those in bucket six are considered the riskiest, as we opine in our criteria "Methodology For Rating And Surveilling U.S. Tax Lien Securitizations," published Dec. 16, See chart 2 below for the percentage of total Texas tax liens in each risk bucket. Chart 2 APRIL 29,

8 Loss Coverage Based on the transaction's bucketing after applying our tax lien model, the 'AAA' loss coverage components comprise: Foreclosure frequency (including Texas tax liens that we do not expect to be redeemed voluntarily) is 36.2%. Loss severity (including Texas tax liens we assume will foreclose, be written-off, or both) is 29.0%. The overall projected loss coverage for the collateral pool is 10.5%. The overall projected 'AAA' loss for the collateral pool also included our view of the transaction's strengths and weaknesses, and its features in particular, comparatively to other tax lien transactions in conjunction with the key factors that underlie our typical tax lien securitization analysis. Originator and Servicer Evaluation Propel was established in 2007 and focuses specifically on tax liens. Propel is a subsidiary of Encore Capital Group Inc. (Encore), a debt and recovery solutions provider for consumers. As of April 2014, Encore had a market capitalization of roughly $1.16 billion. Members from Standard & Poor's U.S. RMBS analytical and Servicer Evaluations group visited Propel in San Antonio, Texas to perform an onsite review, and the overall impression was positive. We obtained information regarding the operations, facilities, work flows, origination, servicing, systems, and other facets of the business, and we met and collaborated with the CEO, general counsel, and chief financial officer. Key management personnel possess strong knowledge regarding tax liens, including their associated legal feature. We assessed the different functional entities, historical track record, and systems the originator and servicer have in place to perform these operational functions efficiently, which we feel are important components of our analysis. Overall, we consider Propel's operations to be appropriate given the role they play within the securitization. Management and organization Propel has a seasoned team with legal background and knowledge associated with tax liens (particularly in Texas). There are diversified and managed business segments including legal, financial, operations, and information technology. Encore provides guidance on process and procedure leverage. Systems Propel utilizes nonproprietary systems and software to manage their portfolio, which in our view mitigates operational administration or servicing disruptions to the extent there is a portfolio servicing transfer. In conjunction with system platforms, Propel has a stable origination and servicing track record. Payments To Bondholders Beginning June 16, 2014, according to the transaction documents, monthly distributions are to be made from the collections from a full or partial redemption, the property's liquidation in foreclosure or REO, and the remaining reserve account funds in a specified priority (see table 2). We believe that the transactional features, including the payment priority, substantially support the notes. The single APRIL 29,

9 note structure with an uncapped building overcollateralization amount and the potential significant excess interest generation increases the likelihood of ultimate principal payment on the notes. Similarly, timely interest payments are supported by structural mechanisms that mitigate liquidity risk (including possible collection disruptions if the servicer's performance deteriorates). In our view, the likelihood of timely interest payments is enhanced by the following features: An interest reserve amount will be fully funded at closing as a subset of the expense reserve account and can be replenished up to $100,000. The reserve amount is more than the portion of monthly interest due on the notes under the most stressful section of our default curve. Each period, any remaining amounts in the reserve accounts (for the working capital reserve account, the remaining amounts exceeding $150,000) are included in the collection account and are available to pay interest due on the notes in the payment priority. Table 2 Payment Waterfall Priority Payment 1 The outstanding and unpaid fees, expenses, and indemnity payments, pro rata, to the owner trustee and the indenture trustee. Indemnity payments due and payable are subject to the indemnification cap.(i) 2 Servicing fees and back-up servicing fees; then reimburse outstanding servicer advances and interest on the advanced amounts; then reimburse expenses to the servicers and indenture trustee regarding any transfer; then refund any indemnity amounts to the servicers. 3 Use available funds and, if necessary, the interest reserve amount deposited in the expense reserve account to pay interest on the notes. 4 Fund the expense reserve account, working capital reserve account, and the subsequent Texas tax lien account, in that order, to each respective target amount. 5 Reduce the notes' principal balance to zero. 6 Any payments due and payable to the owner trustee, the indenture trustee, servicer, and back-up servicer, pro rata, that exceed the applicable indemnification cap.(i) 7 Release the remainder to the issuer. (i)indemnification amounts are subject to a $500,000 aggregate annual indemnification cap unless there's a continuing event of default and the indenture trustee has initiated collateral liquidation. Advances The servicer will be obligated to advance the funds needed for lien administrative expenses if the working capital reserve account has been depleted, but only if it determines these advances are recoverable. Expense Reserve Account According to the transaction documents, the trustee will fund $1,150,000 in the expense reserve account with the note proceeds. The expense reserve account will fund the collection account to cover monthly transaction fees and current interest due on the notes. Furthermore, the expense reserve account will be replenished each month from the collection account, after interest is paid to the notes, to a target amount equal to three months of interest on the notes APRIL 29,

10 and transaction fees (see table 3). Table 3 Transaction Fees Servicing fee Back-up servicing fee Owner trustee fees Indenture trustee fee The higher of 1.25% of the collateral balance, annualized, and $1,800,000 in each 12-month period $100,000 per year $4,000 per year $12,500 per year Working Capital Reserve Account The trustee will use the note proceeds to fund $150,000 in the working capital reserve account, which the servicer will use to pay lien administration expenses associated with nonperforming Texas tax liens. Furthermore, the account will be replenished each month from the collection account, after interest is paid to the notes, up to the $150,000 target. In our view, the working capital reserve account's monthly replenishment and the servicer's advance of any remaining lien administration expenses address the working capital reserve account balance's disparity with our lifetime administrative expense estimations associated with the Texas tax liens' enforcement, which include foreclosure costs. Subsequent Texas Tax Lien Account The account will be used to purchase subsequent Texas tax liens associated with the properties already in the collateral pool. The funds remaining in the account each period will be included in the collection account to assist covering monthly transaction fees and current interest due on the notes. The subsequent Texas tax lien account will not be initially funded but will instead be funded each month from the collection account, after interest is paid to the notes, to a target amount equal to the lesser of 10% of the current collateral balance and $42,453,024 less the subsequent Texas tax liens the depositor previously transferred to the issuer. Subsequent Texas tax liens must meet the following criteria to be purchased by the issuer: The combined lien-to-value ratio is 50% or less. The balance is $750 or greater. The subsequent Texas tax lien interest rate is greater than or equal to 8.99%. The remaining term is less than or equal to 10 years and does not end later than the notes' maturity date. However, up to $4,245,302 of the subsequent Texas tax liens may have remaining terms that exceed 10 years but not 20. Cash Flow Modeling We performed a cash flow analysis to test for the ultimate principal and timely interest payments made to the notes according to our preliminary rating. We applied various liquidity stresses by varying the shape of the default curve and magnitude of the prepayments. The quicker the collateral balance reduces by either voluntary prepayments or involuntary defaults, the lower the monthly excess interest and the higher the liquidity stress. APRIL 29,

11 Prepayment Speed Excess interest is a form of credit support available to absorb losses in the transaction. Therefore, we ran several prepayment scenarios to test the level of credit support available to the notes. We applied the following three CPR scenarios as part of the analysis: slow CPR (1%), observed CPR (17%), and high CPR (33%). When assigning the preliminary rating, we considered the high CPR scenario that has the most stressful impact, which corresponds with reduced excess interest generated by the collateral. Default Curve As an additional way to test the level of credit support, two default curve assumptions are incorporated into the transaction analysis. The two bulleted curves we run are the standard or front-loaded default curve and the back-loaded default curve (see tables 4 and 5). The defaults on each curve are designed to be dependent on the collateral seasoning and taken in large groups or bullets, instead of being smoothly distributed, so that excess interest generation would be stressed. This is especially true in transactions like PFS Tax Lien Trust , where the servicer is not advancing principal and interest. The standard default curve was the more stressful cash flow scenario because the front-loaded wave of nonperforming Texas tax liens resulted in significantly reduced excess interest. Table 4 Standard Default Curve Month Less than 12 months seasoned (%) Greater than 12 months seasoned (%) Table 5 Back-Loaded Default Curve Month Less than 12 months seasoned (%) Greater than 12 months seasoned (%) APRIL 29,

12 Table 5 Back-Loaded Default Curve (cont.) Credit Enhancement The notes' overcollateralization will equal 5.31% of the aggregate collateral balance. Although we project 10.5% losses for the collateral pool, the transaction's structural mechanics provided additional credit enhancement in the form of excess interest. We expect overcollateralization to grow as a percentage of the outstanding notes because no cash flow will be released to the issuer until the notes have been paid in full. Standard & Poor's 17g-7 Disclosure Report SEC Rule 17g-7 requires an NRSRO, for any report accompanying a credit rating relating to an asset-backed security as defined in the Rule, to include a description of the representations, warranties, and enforcement mechanisms available to investors and a description of how they differ from the representations, warranties, and enforcement mechanisms in issuances of similar securities. The Standard & Poor's 17g-7 Disclosure Report included in this credit rating report is available at Related Criteria And Research Related Criteria Methodology And Assumptions: U.S. RMBS Surveillance Credit And Cash Flow Analysis For Pre-2009 Originations, Dec. 23, 2013 Counterparty Risk Framework Methodology and Assumptions, June 25, 2013 Standard & Poor s Revised Representations And Warranties Criteria For U.S. RMBS Transactions, March 14, 2012 Methodology For Rating And Surveilling U.S. Tax Lien Securitizations, Dec. 16, 2009 Application Of Revised Cash Flow Assumptions For U.S. Residential Mortgage-Backed Securities, April 30, 2008 Legal Criteria For U.S. Structured Finance Transactions: Special-Purpose Entities, Oct. 1, APRIL 29,

13 Related Research Global Structured Finance Scenario And Sensitivity Analysis: The Effects Of The Top Five Macroeconomic Factors, Nov. 4, 2011 U.S. RMBS Tax Lien Collateral Model, Sept. 1, APRIL 29,

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