The current recession is characterized by locks in liquidity which are preventing the proper servicing of mortgage finance products. For example, servicers must advance delinquent principal and interest to the trustee in US residential mortgage-backed securities (RMBS), at times creating a financial burden. However, issuers could avoid the pressure on servicers’ liquidity by pursuing RMBS structures that do not require advances, rating agency DBRS suggests in commentary Monday. Servicers are typically expected to make advance payments for delinquent principal and interest (P&I), as well as make escrow advances for delinquent taxes and insurance (T&I) and corporate advances for such “out-of-pocket” expenses as foreclosure proceedings and fees associated with the management and liquidation of real estate-owned (REO) properties. Servicers are reimbursed for these advances on either a monthly basis from general collections on the pool of mortgages or from subsequent collections on the related delinquent mortgage at the time of liquidation or reinstatement. Principal and interest recoveries typically take the first form of reimbursement, called pool-level recovery, while taxes and insurance recoveries take the loan-level recovery. Servicers are usually reimbursed at the top of the trust payment “waterfall,” and most RMBS servicing agreements specify the servicer recovers any previously non-reimbursed advances when a loan is modified. The speed at which servicer advances are reimbursed depends on the type of advance and the foreclosure time line within the jurisdiction local to the mortgaged property. But high delinquency rates and increased time lines on foreclosure and real estate-owned processes cause liquidity challenges for many advancing servicers. “Loan-level recoveries on servicing advances can take several years,” DBRS said Monday in a structured finance commentary. “Additionally, the interest cost to carry relative to the servicer’s credit facility can become a serious financial burden.” As a result, issuers are considering the benefit of not advancing principal and interest in new RMBS transactions. DBRS said it sees growing requests with respect to transactions in which servicers are not required to advance P&I payments “While servicer advances are intended to provide timely cash flows and liquidity to a transaction, they do not serve as credit support,” said DBRS. “Furthermore, deals where advancing occurs typically have higher loss severities than those that do not because the advanced interest will have to be reimbursed from the trust upon the liquidation of the mortgage.” To keep liquidity flowing, some servicers are turning to servicing advance facilities, which enable them to securitize their rights to advance reimbursements at high investment-grade rating levels and receive funds up front, DBRS noted in market commentary in early August. Write to Diana Golobay.