SEC considers changing exemption status for some REITs
The Securities and Exchange Commission could close the exemption status real estate investment trusts have from the Investment Company Act when pooling and selling mortgage-backed securities. Passed in 1940, the Investment Company Act regulates how some investment firms are organized in order to minimize conflicts of interest in complex operations. But an exemption was given to companies engaged in the mortgage banking business. Since this exemption was put in place, the SEC said "the mortgage markets have evolved and expanded, and the provision has been used by a wide variety of types of pooled vehicles and other companies unforeseen at the time of enactment." These include certain MBS issuers and REITs. REITs already enjoy certain tax breaks and other advantages. Redwood Trust (RWT) is the only issuer of an private-label MBS since the financial crisis, and it has two more planned for 2011. Two Harbors, another REIT, is planning one as well. The SEC said Wednesday it was concerned some companies were making judgments about their status under the Investment Company Act without enough guidance from the regulator. The SEC will solicit comments, data and ideas for how to test certain REITs and issuers for whether or not they should be forced to comply with the law. The SEC also made another proposal related to REITs and ratings agencies. In 1992, the SEC issued a rule that would provide another avenue of exclusion from the Investment Company Act. One of the conditions was that the company, again often times a REIT, had to be rated by a nationally recognized statistical ratings organization – or an NRSRO. "In the aftermath of the recent financial crisis, the commission has engaged in various regulatory initiatives to address concerns raised by credit rating procedures and methodologies," the SEC said Wednesday. It proposed another rule to eliminate the ratings agency condition. Instead, a company could undergo an independent review to protect investors from self-dealing and overreaching by insiders. Ratings agencies recently came under investigation for their role in the collapse of the entire MBS industry. Many of these issuances were given AAA status despite being backed by subprime and other faulty loans. "We want to assure that our regulatory approach is updated to reflect the current market environment while still meeting our investor protection goals," said SEC Chairman Mary Schapiro. Write to Jon Prior. Follow him on Twitter @JonAPrior.