Structured Finance in UAE: Securitization, Abs, and Mbs

Structured Finance in UAE: Securitization, ABS and MBS

A receivables sale agreement usually turns on one operative clause, and a well-drafted one is blunt. The originator sells, transfers and assigns all of its right, title and interest in the scheduled receivables to the issuer. The purchase price is paid at closing and is not repayable. The issuer takes the credit risk on the underlying obligors. The originator has no right to take the receivables back and no obligation to replace them if they go bad. Every other document in the deal, from the servicing agreement to the offering memorandum, is written on the assumption that this clause did what it says.

The weak version starts the same way and then, for a commercial reason that looked small when it was negotiated, adds that the originator will repurchase any receivable more than ninety days in arrears, will top the pool up if collections fall below a stated level, and is entitled to any surplus once the notes are repaid. Read together, those additions describe an originator that kept the credit risk, kept the upside and gave the investors a fixed return out of a ring-fenced cash flow. That is a loan secured on receivables. The heading on the front page says sale, and the heading will not settle the argument.

The cost of getting it wrong falls due at the worst moment. If the originator goes into insolvency and a liquidator persuades a court that the transfer was a financing rather than a sale, the receivables are assets of the estate. The noteholders are then either unsecured creditors of a company they never intended to lend to, or holders of a security interest whose perfection nobody checked because the deal was documented as a sale. The rating, the pricing and the capital treatment were all built on a risk transfer that turned out not to have happened. Nothing in the structure recovers from that, which is why the isolation of the assets is the first thing to build and the last thing to compromise.

How the isolation is documented

Isolation is not a single clause. It is a set of drafting decisions that have to point the same way, because the test applied after the fact looks at substance across the whole transaction rather than at any one provision.

What makes a transfer look like a sale

The features that support a true sale characterisation are consistent across markets and worth stating plainly, because each one is a place where commercial pressure pushes in the opposite direction.

• Price and finality. The consideration is fixed and paid, not advanced and repaid. A deferred purchase price is workable, but the more it behaves like interest, the more it reads like lending.
• Where the credit risk sits. Obligor default should hit the issuer and, through it, the noteholders. Repurchase obligations tied to non-payment hand that risk straight back.
• Repurchase for the right reasons only. A buy-back triggered by breach of a representation about the receivable, that it exists, that it is legally enforceable, that it met the eligibility criteria on the cut-off date, is a warranty remedy. A buy-back triggered by the obligor's failure to pay is recourse.
• No residual equity in the originator. If the originator sweeps whatever is left after the notes are redeemed, it has retained the economics of ownership.
• Control after closing. The originator often continues to service the pool because it holds the customer relationship and the systems. Servicing has to be documented as an agency, terminable on defined events, remunerated at a market rate, with the collections held for the issuer rather than mixed into the originator's own accounts.

Two questions sit underneath all of these and cannot be assumed away. The first is whether the assignment is effective against the underlying obligors, and what has to be done to make it so under the law governing the receivables. The second is whether the assignment can be asserted against the originator's own creditors, and what step, if any, that requires. Where the pool consists of mortgage loans, the same question arises about the registered security, and the answer determines whether the issuer can enforce against the property or is left with a contractual claim against a borrower. These are opinion points. They belong in a reasoned legal opinion delivered at closing, not in a recital.

What the vehicle itself has to prevent

The special purpose vehicle exists to hold the assets and issue the notes, and its constitution is written to stop it doing anything else. Onshore, the corporate form comes from the Commercial Companies Law, Federal Decree-Law No. 32 of 2021; in the financial free zones it comes from the relevant companies regime. Whichever it is, the drafting work is the same in kind.

The objects clause is narrowed to the transaction. Borrowing outside the deal documents, granting security outside them, employing staff, acquiring other assets and merging are all prohibited. Independent directors are appointed so that the board is not simply the originator's management wearing a second hat, and unanimity or independent consent is required for anything that could put the vehicle into insolvency. Ownership is placed outside the originator's group, commonly through a share trust, so that the vehicle is not consolidated with the group whose insolvency it is meant to survive. The counterparties who deal with it accept limited recourse to the transaction assets and agree not to petition for its winding up while the notes are outstanding. Accounts are kept separate and collections are identified as the issuer's from the moment they are received.

None of this is exotic, and all of it is fragile in practice. The most common failure is not a defective clause but an operational habit, collections landing in an originator account and staying there, a servicer report that nobody reconciles, a director who signs whatever is sent. Insolvency arguments are built out of that kind of evidence.

Registration and disclosure for ABS and MBS offerings

Once the isolation is in place, the securities have to be offered lawfully. The Securities and Commodities Authority approves the issuance and trading of securities on the onshore markets, and asset-backed and mortgage-backed notes are securities. An offering has to be registered and approved before it is made, and the disclosure the Authority expects is directed at the specific problem these instruments create: the investor is buying a pool it cannot inspect, serviced by a party it did not choose, on economics it has to take on trust.

So the disclosure has to describe the asset pool as it actually is. That means the eligibility criteria applied at the cut-off date, the composition of the pool by obligor type, seniority, geography and remaining term, historical arrears and loss experience on comparable assets originated by the same originator, and the assumptions behind any cash flow projection. It means the credit enhancement, stated as what it is and what it covers rather than as reassurance. It means the servicing arrangements, including what happens if the servicer is replaced. And it means the risk factors written as risks, not as disclaimers, with the recharacterisation question addressed rather than buried.

The distinction between the two instrument families matters to the disclosure more than to the structure. ABS are backed by pools of financial assets, and MBS by mortgage loans. A mortgage pool carries the extra layer of registered security and of a property market that moves as one, so concentration is harder to disclose honestly and easier to understate. Covered bonds are sometimes discussed alongside these instruments and are a different animal: the pool secures the debt but the holder keeps recourse to the issuing institution, so the assets are not being isolated at all. Marketing one as though it were the other is a disclosure problem before it is anything else.

Institutions originating or sponsoring these transactions also sit inside the Central Bank's prudential framework, which is concerned with the credit quality of what is securitised and with whether the capital relief claimed matches the risk actually transferred. A deal that is a sale for accounting purposes and a financing in substance tends to fail both tests at once.

The DIFC and ADGM alternative

The Dubai International Financial Centre and Abu Dhabi Global Market operate their own legal systems on common law foundations, with their own courts and their own companies and financial services regimes. For structured finance that is a substantive choice, not a matter of address.

What the free zones offer is a body of familiar concepts and a forum used to applying them. Trusts, security assignments, limited recourse and non-petition covenants, the appointment of a trustee to hold the security for a class of noteholders: these are constructs an international investor base already understands, and the free zone courts are staffed to interpret them. Vehicle formation is designed for holding structures rather than trading businesses, and issuance out of the zone can be aimed at professional investors rather than the retail market.

The limits are equally practical. A free zone issuer does not change the law governing an onshore receivable or an onshore registered mortgage. If the borrowers are onshore, the loan agreements are onshore and the security sits on an onshore register, then the transfer and enforcement questions are still onshore questions, answered by an onshore court, whatever the issuer's jurisdiction. Choosing the zone moves the vehicle and the note documentation; it does not move the assets. Deals are lost at exactly that seam, so the jurisdictional analysis has to be done asset by asset before the structure is fixed.

Credit enhancement, and where it strains the structure

Credit enhancement is what allows senior notes to be rated well above the quality of the average asset in the pool. The mechanisms are well known and each one has a drafting consequence.

Subordination divides the notes into classes and pays them in order, so that losses are absorbed from the bottom. On a pool of AED 500 million supporting AED 425 million of senior notes, AED 50 million of mezzanine and AED 25 million of junior, the senior class is protected until losses exceed 15 per cent of the pool. Over-collateralisation transfers more assets than the notes require, so the same pool issued against AED 425 million of notes leaves a 15 per cent cushion before principal is impaired. Reserve accounts, funded at closing or built out of excess spread, cover timing gaps rather than ultimate losses. Third-party guarantees and insurance wraps substitute the credit of the provider for part of the pool's, which helps only to the extent that provider stays good, and adds a counterparty whose own documentation has to be read.

The tension is that every form of enhancement provided by the originator points back towards recourse. A junior tranche retained by the originator, a reserve funded from its own balance sheet, a top-up obligation dressed as a liquidity facility: each one is a reason for a liquidator to argue that the risk never left. The answer is not to avoid enhancement, which the market requires, but to source and document it so that it operates inside the issuer's structure, at a defined and capped level, rather than as an open commitment by the seller to make the pool whole.

What to settle before the first draft

1. Which law governs each receivable and each item of security, and what makes the transfer effective against the obligor and against the originator's creditors under that law.
2. Whether any repurchase, top-up or residual entitlement in the commercial term sheet is recourse in substance, and whether it can be removed or capped.
3. Where the vehicle is formed, who owns it, who sits on its board and what its constitution forbids.
4. What the Authority will be told about the pool, and whether the data to support it exists in the originator's systems.
5. How collections move on day one, and who reconciles them.

Answer those before the drafting starts and the documents follow. Answer them afterwards and the structure has to be unpicked, usually under time pressure, usually in front of investors.

Related services: pool and originator due diligence before the eligibility criteria are fixed, and advice on insurance disputes where a wrap or a credit policy forms part of the enhancement.

Disclaimer: This article is for informational purposes only and does not constitute legal advice.

Related practice areas

• Banking and finance
• Corporate and commercial
• Regulatory compliance
• Contract drafting

Contact Nour Attorneys

If you are structuring a securitisation, or reviewing one someone else structured, our banking and finance team advises on transfer documentation, vehicle formation, offering disclosure and the opinions that support them. Where a transaction has already gone wrong, our arbitration and dispute resolution practice handles enforcement against obligors, servicers and enhancement providers.

Further reading

• Factoring and receivables finance in the UAE
• Consumer finance and personal lending regulations
• Green finance and sustainable banking
• Project finance and infrastructure funding structures