Thomson Reuters Tax & Accounting News

Featuring content from Checkpoint

Back to Thomson Reuters Tax & Accounting News

Subscribe below to the Checkpoint Daily Newsstand Email Newsletter

Accountants to be Part of Credit Rating Agency Reform

The SEC issued a rule overhauling the credit rating market in Release No. 34-72936. The reform includes a requirement that issuers of asset-backed securities publish third-party due diligence reports, and some attestation work by accounting firms will fall under the rule.

The SEC said accounting firms will be a part of overall effort to reform the credit rating market under rules adopted on August 27, 2014, in Release No. 34-72936,Nationally Recognized Statistical Rating Organizations.

The rules become effective 60 days after publication in the Federal Register, which normally occurs a few days after a release is posted on the SEC’s website. (See Sweeping Rules for Credit Rating Agencies Adopted in the August 28, 2014, edition of Accounting & Compliance Alert. )

The SEC requires, among other things, rating agencies to get certifications from providers of third-party due diligence services with respect to the quality of asset-backed securities offered to investors. The third-party due diligence reports must be made publicly available.

However, when the SEC issued the credit rating reform proposal three years ago in Release No. 34-64514, the Big Four firms asked that their attestation work for the asset-backed securities issuers not be drawn into the rating process.

The agreed-upon procedure (AUP) services, such as that described in AT Section 201, “Agreed Upon Procedures Engagements,” should not be considered due diligence under the proposal, wrote KPMG LLP in August 2011, and urged the SEC to clarify what constitutes third-party due diligence services.

AUP services are traditionally provided by independent public accounting firms to verify the accuracy of information included in offering documents related to asset-backed securities and report their findings to the issuer and underwriter.

The procedures typically consist of agreeing on the source documents that provide the foundation for disclosures in the prospectus, such as comparing attributes for a sample of loans to information on the loan tape that is used to generate the asset disclosures. The firm performing the due diligence will also compare loss, delinquency, and static pool information, and it may recalculate the financial information in the disclosures for accuracy.

“These reports are not designed to assist in the evaluation of the credit quality of the assets underlying the ABS,” KPMG wrote. AUP services do not include verifying information contained within the source document, such as verifying information related to income levels in mortgage loan documents from tax records or W-2s.

Before 2011, rating agencies rarely sought access to accountants’ AUPs, wrote PricewaterhouseCoopers LLP because the AUP does not provide additional information with which to gauge the credit quality of the assets underlying the security. An AUP report is typically compiled after the due diligence is completed by another third party, meaning after the rating has been assigned.

Moreover, the accounting firm argued that disclosing information about AUPs could be confusing to investors.

The firms also said accountants are not allowed to agree to public distribution of AUP reports because of AT Section 201.04.

In final Release No. 34-72936, the SEC rejected parts of the firms’ arguments.

Recalculating projected future cash flows due to investors and performing procedures that address other information included in the offering document “are not commonly understood as being due diligence services and should not trigger the requirements,” the release noted. “However, comparing the information on a loan tape with the information contained on the hard-copy documents in a loan file is an activity that falls within the definition of due diligence services … because the work undertaken involves reviewing of the accuracy of the information or data about the assets provided, directly or indirectly, by the securitizer or originator of the assets.”

Therefore, the SEC said it’s not persuaded that it would be appropriate to exclude this type of review just because it is being performed in the context of an AUP engagement.

“Comparing information on a loan tape with information contained on the hard-copy documents in a loan file, even if performed under an agreed-upon procedure engagement, is a third-party due diligence service,” the SEC said.

The commission added that it understands that the accounting profession must take into account applicable professional standards that govern certain services.

“The requirements and limitations resulting from relevant professional standards generally are described within the reports issued and, to the extent such requirements or limitations are based upon professional standards, the commission would not object to the inclusion of the same description in the written certifications,” the release said.