Securitisation, Asset Reconstruction and Security Receipt Defined

The second chapter of the Act runs on three defined terms. Securitisation is the acquisition of loans against the issue of tradeable receipts; asset reconstruction is the acquisition of a loan to realise it; and the security receipt is the instrument an investor holds for funding the acquisition. All three are carried on only by an asset reconstruction company registered with the RBI. This note sets out each definition, the difference between the two routes, and the place of the qualified buyer.

1. The Three Definitions

Figure 1: Securitisation, asset reconstruction and security receipt

• Securitisation, s.2(1)(z). The acquisition of financial assets by an asset reconstruction company from a bank or financial institution, against the issue of security receipts to qualified buyers, so bad loans are turned into claims that fund their own purchase.
• Asset reconstruction, s.2(1)(b). The acquisition by an ARC of a bank or financial institution's financial asset for the purpose of its realisation: the recovery mandate, acquiring the loan and then working it out.
• Security receipt, s.2(1)(zg). A receipt issued by an ARC to a qualified buyer evidencing the buyer's undivided right, title or interest in the financial asset acquired, the instrument the investor holds in return for funding.

2. The Security Receipt and the Qualified Buyer

Figure 2: The instrument, who holds it, and what backs it

• What it is. A receipt the ARC issues evidencing an undivided interest in the pool of financial assets acquired, so the holder shares in the realisation rather than owning any single loan.
• Who may hold it. Only a qualified buyer, a bank, financial institution, insurer, or other notified investor: the funding side of securitisation, which is why the Act limits who may invest.
• What backs it. The holder's return depends on the realisation of the acquired assets: recovery from the underlying loans is what pays the security receipt, so the instrument carries the recovery risk.
• Where it sits. The security receipt is a distinct SARFAESI instrument tied to the acquired pool, issued under the Chapter II scheme rather than the ordinary securities regime (Topic 20)

3. The Two Routes Compared

Figure 3: Securitisation funds, reconstruction recovers

• Securitisation. Acquire financial assets and issue security receipts to qualified buyers: the funding and investment mechanism, by which the ARC raises the money to buy the loans.
• Asset reconstruction. Acquire a financial asset for the purpose of realising it: the recovery and workout mechanism, using measures such as rescheduling, settlement, taking over management, or sale (Topic 16)
• The common gateway. Both are carried on only by an ARC registered with the RBI under s.3, so neither route is open to an unregistered company (Topic 15)
• The shared object. Both serve the same end, moving bad loans off bank books and realising them, one by funding the acquisition and the other by working the asset out.

4. Frequently Asked Questions

What is the difference between securitisation and asset reconstruction under SARFAESI?

Securitisation under Section 2(1)(z) is the acquisition of financial assets by an asset reconstruction company against the issue of security receipts to qualified buyers; it is essentially the funding mechanism, turning loans into claims that investors hold. Asset reconstruction under Section 2(1)(b) is the acquisition of a bank or financial institution's financial asset for the purpose of realising it, the recovery mechanism, carried out through measures such as rescheduling the debt, settlement, taking over the borrower's management, or sale of the asset. Both are performed only by an ARC registered with the RBI under Section 3, and both serve the same object of moving non-performing assets off bank balance sheets and recovering their value.

What is a security receipt and who can hold it?

Under Section 2(1)(zg), a security receipt is a receipt issued by an asset reconstruction company to a qualified buyer, evidencing the buyer's undivided right, title or interest in the financial asset acquired by the company. It is the instrument an investor receives in return for funding the acquisition, and the holder's return depends on the realisation of the underlying loans. Only a qualified buyer, such as a bank, financial institution, insurance company or other notified investor, may hold a security receipt, which is why the Act confines investment in them to that class.

5. Related Topics

• Topic 15: Section 3 Registration of ARCs. The gateway both routes run through.
• Topic 20: Security Receipts and Qualified Buyers. The instrument and its investors in depth.