As filed with the Securities and Exchange Commission on June 8, 2005
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 20-F
(Mark One)
|_| REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES
EXCHANGE ACT OF 1934
OR
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 2004.
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the transition period from _________to _________
Commission file number: 333-117465
GRANITE MORTGAGES 04-3 PLC
(Exact name of Registrant 1 as specified in its charter)
England and Wales
(Jurisdiction of Incorporation or Organization)
Fifth Floor, 100 Wood Street, London EC2V 7EX, United Kingdom (011 44 20) 7606 5451
(Address and telephone number of Registrant 1's principal executive offices)
GRANITE FINANCE FUNDING LIMITED
(Exact name of Registrant 2 as specified in its charter)
Jersey, Channel Islands, registered branch in England and Wales
(Jurisdiction of Incorporation or Organization)
69 Park Lane Croydon CR9 1TQ, United Kingdom (011 44 20) 8409 8888
(Address and telephone number of Registrant 2's principal executive offices)
GRANITE FINANCE TRUSTEES LIMITED
(Exact name of Registrant 3 as specified in its charter)
Jersey, Channel Islands
(Jurisdiction of Incorporation or Organization)
22 Grenville Street, St. Helier, Jersey JE4 8PX, Channel Islands (011 44 1534) 609891
(Address and telephone number of Registrant 3's principal executive offices)
--------------------------------
Securities registered or to be registered pursuant to Section 12(b) of the Act: None
Securities registered or to be registered pursuant to Section 12(g) of the Act: None
Securities for which there is a reporting obligation pursuant to Section 15(d)
of the Act:
Granite Mortgages 04-3 plc:
- ---------------------------
Title of each class(1) Name of each exchange on which registered
- ------------------- -----------------------------------------
$981,400,000 series 1 class A1 notes due London Stock Exchange
September 2025
$1,248,100,000 series 1 class A3 notes due London Stock Exchange
September 2044
$59,200,000 series 1 class B notes due September London Stock Exchange
2044
$31,400,000 series 1 class M notes due London Stock Exchange
September 2044
$62,700,000 series 1 class C notes due London Stock Exchange
September 2044
$713,700,000 series 2 class A1 notes due London Stock Exchange
September 2044
Intercompany Loan(2) None
Funding interest in the mortgages trust(2) None
Indicate the number of outstanding shares of each of the issuer's classes of
capital or common stock as of the close of the period covered by the annual
report:
Not Applicable
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
- ---------
(1) The current balances of each class of notes issued by Granite Mortgages
04-3 plc as at April 30, 2005 are as follows: $230,933,723 series 1 class A1
notes; $1,248,100,000 series 1 class A2 notes; $59,200,000 series 1 class B
notes; $31,400,000 series 1 class M notes; $62,700,000 series 1 class C notes;
and $713,700,000 series 2 class A1 notes.
(2) These items have not been offered directly to investors. Granite Finance
Trustees Limited is the registrant for Granite Finance Funding Limited's
interest in the mortgages trust and is holding that interest in the mortgages
trust on behalf of Granite Finance Funding Limited. The interest of Granite
Finance Funding Limited in the mortgages trust is the primary source of
payment on each intercompany loan. The intercompany loan made by Granite
Mortgages 04-3 plc to Granite Finance Funding Limited is the primary source of
payments on the notes issued by Granite Mortgages 04-3 plc. Granite Mortgages
04-3 plc is the registrant for the notes issued by Granite Mortgages 04-3 plc.
2
|X| Yes |_| No
Indicate by check mark which financial statement item the registrant has
elected to follow.
Item 17 and Item 18 - Not Applicable
3
TABLE OF CONTENTS
Presentation of Information..................................................................................1
Forward-looking Statements...................................................................................2
Incorporation of Certain Documents by Reference..............................................................3
PART I
Item 1. Identity of Directors, Senior Management and Advisers...............................................4
Item 2. Offer Statistics and Expected Timetable.............................................................4
Item 3. Key Information.....................................................................................4
Selected financial data......................................................................4
Capitalization and indebtedness..............................................................4
Reasons for the offer and use of proceeds....................................................4
Risk factors.................................................................................4
Item 4. Information on the Company.........................................................................31
History and development of the company......................................................31
Business overview...........................................................................31
Organizational structure....................................................................32
Property, plants and equipment..............................................................33
Item 5. Operating and Financial Review and Prospects.......................................................33
Operational results.........................................................................32
Liquidity and capital resources.............................................................32
Research and development, patents and licenses etc..........................................32
Trend Information...........................................................................32
Off-balance Sheet Arrangements..............................................................32
Tabular Disclosure of Contractual Obligations...............................................32
Safe Harbor.................................................................................32
Item 6. Directors, Senior Management and Employees.........................................................34
Directors and Senior Management.............................................................34
Compensation................................................................................36
Item 7. Major Shareholders and Related Party Transactions..................................................37
Major shareholders..........................................................................37
Related party transactions..................................................................37
Item 8. Financial Information..............................................................................39
Item 9. The Offer and Listing..............................................................................39
Item 10. Additional Information............................................................................39
Share Capital...............................................................................39
Memorandum and articles of association......................................................39
Material contracts..........................................................................39
Exchange Controls...........................................................................39
Taxation....................................................................................39
Dividend and paying agents..................................................................47
Statements by experts.......................................................................47
Documents on display........................................................................47
Subsidiary information......................................................................47
Item 11. Quantitative and Qualitative Disclosures About Market Risk........................................48
Item 12. Description of Securities Other than Equity Securities............................................58
PART II
Item 13. Defaults, Dividend Arrearages and Delinquencies...................................................58
<Page>
Item 14. Material modifications to the rights of Security Holders and use of Proceeds......................58
Item 15. Controls and Procedures...........................................................................58
Item 16. [Reserved] 58
Item 16A. Audit Committee Financial Expert..................................................................53
Item 16B. Code of Ethics....................................................................................54
Item 16C. Principal Accountant Fees and Services............................................................53
Item 16D. Exemptions from the Listing Standards for Audit Committees........................................53
Item 16E. Purchasers of Equity Securities by the Issuer and Affiliated Purchasers...........................53
PART III
Item 17. Financial Statements..............................................................................58
Item 18. Financial Statements..............................................................................58
Item 19. Exhibits ......................................................................................59
PRESENTATION OF INFORMATION
This Annual Report on Form 20-F relates to:
(1) Granite Mortgages 04-3 plc (the "issuer") and the following
securities (the "securities" or "notes"), which were issued pursuant to a
trust deed dated January 28, 2004 (the "issuer trust deed"), between the
issuer and the note trustee:
o $981,400,000 series 1 class A1 notes due September 2025;
o $1,248,100,000 series 1 class A3 notes due September 2044;
o $59,200,000 series 1 class B notes due September 2044;
o $31,400,000 series 1 class M notes due September 2044;
o $62,700,000 series 1 class C notes due September 2044;
o $713,700,000 series 2 class A1 notes due September 2044; and
(2) an intercompany loan (the "intercompany loan") made by the issuer to
Funding pursuant to an intercompany loan agreement dated September 22, 2004
(the "intercompany loan agreement") in the amount of (GBP)4,000,009,814 (or
approximately $7,308,623,815(3)).
This Annual Report on Form 20-F further relates to Funding's interest in
the mortgages trust, the property of which includes the initial mortgage
portfolio and the related security that Northern Rock plc (the "seller")
assigned to the mortgages trustee on March 26, 2001 (the "initial closing
date"), the further mortgage portfolios that the seller assigned to the
mortgages trustee after the initial closing date and each new mortgage
portfolio and the related security that the seller assigns to the mortgages
trustee on any assignment date, including any permitted replacement mortgage
loan in respect of any permitted product switch and any income generated by
the mortgage loans or their related security on or after the relevant
assignment date (excluding third party amounts). In addition, re-draws made
under flexible mortgage loans and further draws made under personal secured
loans, in each case that were assigned to the mortgages trustee also form part
of the existing trust property. Future re-draws that are made under flexible
mortgage loans and further draws that are made under personal secured loans,
in each case that are assigned to the mortgages trustee, will also form part
of the trust property. The trust property also includes any contribution paid
by either beneficiary to the mortgages trustee (until the relevant funds are
applied by the mortgages trustee in accordance with the mortgages trust deed)
and any money in the mortgages trustee transaction account and the mortgages
trustee guaranteed investment contract, or GIC account. The mortgages trustee
GIC account is the bank account in which the mortgages trustee holds any cash
that is part of the trust property until it is distributed to the
beneficiaries. The composition of the trust property fluctuates as re-draws
under flexible mortgage loans, further draws under personal secured loans,
future further advances and new mortgage loans are added to the mortgages
trust and as the mortgage loans that were previously part of the trust
property are repaid or mature or are purchased by the seller.
Certain terms used herein and not defined have the same meaning
ascribed to such terms in the Registration Statement on Form S-11 relating to
the securities (file number 333-117465) (the "Granite Mortgages 04-3
Registration Statement").
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(3) This translation of pounds sterling into US dollars was made at a rate of
(GBP)0.5473 = $1.00, which reflects the noon buying rate in the City of New
York for cable transfers in sterling per $1.00 and certified for customs
purposes by the Federal Reserve Bank on August 2, 2004, which was the rate of
exchange used in the final prospectus dated September 16, 2004 relating to the
notes.
1
References to "previous issuers" herein refer to each of Granite
Mortgages 01-1 plc (the "first issuer"), Granite Mortgages 01-2 plc (the
"second issuer"), Granite Mortgages 02-1 plc (the "third issuer"), Granite
Mortgages 02-2 plc (the "fourth issuer"), Granite Mortgages 03-1 plc (the
"fifth issuer"), Granite Mortgages 03-2 plc (the "sixth issuer") and Granite
Mortgages 03-3 plc (the "seventh issuer"). References to "other issuers"
herein refer to each of the previous issuers, Granite Mortgages 04-1 plc and
Granite Mortgages 04-2 plc.
The first issuer issued certain securities (the "first issuer
securities") pursuant to a trust deed dated March 26, 2001 between the first
issuer and the note trustee. The first issuer securities were registered with
the United States Securities and Exchange Commission (the "SEC") pursuant to a
Registration Statement on Form S-11 relating to the first issuer securities
(file number 333-13242).
On June 30, 2002, the first issuer and the second issuer, together with
Funding and the mortgages trustee, filed an annual report with the SEC on Form
20-F for the fiscal year ended December 31, 2001. On December 31, 2002, each
of the first issuer and the second issuer filed a Certification and Notice of
Suspension of Duty to File Reports under Section 13 of the Securities and
Exchange Act of 1934, as amended (the "Exchange Act"), on Form 15 and are
therefore not required to file an annual report for the fiscal year ended
December 31, 2002.
On June 30, 2003, the third issuer and the fourth issuer, together with
Funding and the mortgages trustee, filed an annual report with the SEC on Form
20-F for the fiscal year ended December 31, 2002. On December 30, 2003, each
of the third issuer and the fourth issuer filed a Certification and Notice of
Suspension of Duty to File Reports under Section 13 of the Exchange Act on
Form 15 and are therefore not required to file an annual report for the fiscal
year ended December 31, 2003.
On June 30, 2004, each of the fifth issuer, the sixth issuer and the
seventh issuer, together with Funding and the mortgages trustee, filed an
annual report with the SEC on Form 20-F for the fiscal year ended December 31,
2003. On January 5, 2005, each of the fifth issuer, the sixth issuer and the
seventh issuer filed a Certification and Notice of Suspension of Duty to File
Reports under Section 13 of the Exchange Act on Form 15 and are therefore not
required to file an annual report for the fiscal year ended December 31, 2004.
Certain items in Form 20-F are only applicable to registration statements
and not to annual reports filed on Form 20-F. Therefore, as used in this
Annual Report, "Not Applicable to Annual Reports Filed on Form 20-F" means
that the response to the referenced item is omitted in reliance on the
instructions to Form 20-F published by the SEC as of the date of this Annual
Report that specifically state that such item is inapplicable to annual
reports filed on Form 20-F. In addition, information required for some items
in Form 20-F is not applicable to the issuer, Funding or Granite Finance
Trustees Limited (the "mortgages trustee"). Therefore, as used in this Annual
Report, "Not Applicable" means the response to the referenced item is omitted
in reliance on the procedures outlined in numerous no-action letters issued by
the staff of the SEC with respect to issuers of substantially similar
asset-backed securities that file annual reports on Form 10-K, or that the
referenced item is otherwise not applicable.
FORWARD-LOOKING STATEMENTS
This Annual Report may contain forward-looking statements, including, but
not limited to, statements made under Item 3, Sub-part D of this Annual
Report, entitled "Risk Factors". All statements regarding the future financial
condition, results of operations and business strategy, plans and objectives
of the seller of the mortgage portfolios, the issuer, Funding or the mortgages
trustee are forward-looking. These forward-looking statements can be
identified by the use of forward-looking terminology, such as the words
"believes", "expects", "may", "intends", "should" or "anticipates", or the
negative or other variations of those terms. These statements involve known
and unknown risks, uncertainties and other important factors that could cause
the actual results and performance of the
2
notes, the seller or the mortgage portfolios, the issuer, Funding, the
mortgages trustee or the UK residential mortgage industry to differ materially
from any future results or performance expressed or implied in the
forward-looking statements. These risks and uncertainties and other factors
include, among others: general economic and business conditions in the UK;
currency exchange and interest fluctuations; governmental, statutory,
regulatory or administrative initiatives affecting the seller; changes in
business strategy, lending practices or customer relationships; and other
factors that may be referred to in this Annual Report. Some of the most
significant of these risks, uncertainties and other factors are discussed in
Item 3, Sub-part D of this Annual Report, entitled "Risk Factors", and
noteholders are encouraged to carefully consider those factors prior to making
an investment decision relating to the notes.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
Each of the issuer, Funding and the mortgages trustee incorporates by
reference its periodic filings on Form 6-K, which contain all financial
information relating to the securities relevant to the holders of the notes.
References in this Annual Report to the "prospectus relating to the notes"
refers to the prospectus contained within the Registration Statement relating
to the notes.
3
PART I
Item 1. Identity of Directors, Senior Management and Advisers
A. Directors and senior management
Not Applicable to Annual Reports Filed on Form 20-F
B. Advisers
Not Applicable to Annual Reports Filed on Form 20-F
C. Auditors
Not Applicable to Annual Reports Filed on Form 20-F
Item 2. Offer Statistics and Expected Timetable
A. Offer statistics
Not Applicable to Annual Reports Filed on Form 20-F
B. Method and expected timetable
Not Applicable to Annual Reports Filed on Form 20-F
Item 3. Key Information
A. Selected financial data
Each of the issuer, Funding and the mortgages trustee incorporates by
reference and attaches hereto as exhibits the following reports, filed on Form
6-K, which include all financial information relating to the securities that
is relevant to holders of the notes:
o Investor's Monthly Reports in respect of the issuer for September
2004
o Investor's Monthly Reports in respect of the issuer for October 2004
o Investor's Monthly Reports in respect of the issuer for November
2004
o Investor's Monthly Reports in respect of the issuer for December
2004
B. Capitalization and indebtedness
Not Applicable to Annual Reports Filed on Form 20-F
C. Reasons for the offer and use of proceeds
Not Applicable to Annual Reports Filed on Form 20-F
D. Risk factors
This section describes the principal risk factors associated with an
investment in the notes.
The risks and uncertainties described below are not the only ones
relating to the notes. Additional risks and uncertainties not presently known
to the issuer may also impair the noteholders' investment. In addition, this
Annual Report contains forward-looking statements that involve risks
4
and uncertainties. Actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain
factors, including the risks described below and elsewhere in this Annual
Report and the Granite Mortgages 04-3 Registration Statement.
Noteholders cannot rely on any person other than the issuer to make
payments on the notes
The issuer is the only party responsible for making payments on the
notes. The notes do not represent an interest in or obligation of, and are not
insured or guaranteed by, any of Northern Rock plc, the underwriters, Funding,
any other issuers, the mortgages trustee, the security trustee, the note
trustee, any swap provider or any of their respective affiliates or any other
party to the transaction other than the issuer.
The issuer has a limited amount of resources available to it to make
payments on the notes
The issuer's ability to make payments of interest on, and principal of,
the notes and to pay its operating and administrative expenses will depend
primarily on funds being received under the intercompany loan. In addition,
the issuer will rely on the related basis rate swap to provide payments on all
the notes and will rely on the dollar currency swaps and the euro currency
swaps to provide payments on the notes denominated in US dollars and in euro,
respectively.
The issuer will not have any other significant sources of funds available
to meet its obligations under the notes and/or any other payments ranking in
priority to the notes. If the resources described above cannot provide the
issuer with sufficient funds to enable it to make required payments on the
notes, noteholders may incur a loss of interest and/or principal which would
otherwise be due and payable on the notes.
Funding is not required to make payments on the intercompany loan if it
does not have enough money to do so, which could adversely affect payment on
the notes
Funding's ability to pay amounts due on the intercompany loan will depend
upon:
o Funding receiving enough funds from the Funding share of the trust
property, including revenue receipts and principal receipts on the
mortgage loans included in the mortgages trust on or before each
payment date;
o on any payment date, Funding's entitlement to access funds standing
to the credit of the issuer reserve fund and/or the issuer liquidity
reserve fund, if any, subject to certain limitations; and
o (in the case of interest due under the intercompany loan) the amount
of funds credited to the Funding reserve fund.
According to the terms of the mortgages trust deed, the mortgages trustee
is obliged to pay to Funding on each distribution date (a) that portion of
revenue receipts on the mortgage loans which is payable to Funding in
accordance with the terms of the mortgages trust deed and (b) that portion of
principal receipts on the mortgage loans which is payable to Funding in
accordance with the terms of the mortgages trust deed.
On each payment date, however, Funding will only be obliged to pay
amounts due to the issuer under the intercompany loan to the extent that it
has funds available to it after making payments ranking in priority to the
issuer, such as payments of certain fees and expenses of Funding. Furthermore,
Funding is obligated to make payments to the previous issuers under the
previous intercompany loans and, if Funding subsequently enters into a new
intercompany loan with a new issuer, Funding will also be obliged to make
payments due to such new issuer under such new intercompany loan. These
payments will rank equally with payments to the issuer, other than in respect
of the priority made in respect of the allocation of principal receipts to an
issuer (such as the
5
fifth issuer and the eighth issuer) that issued a money market note, all in
accordance with the relevant Funding priority of payments. If Funding does not
pay amounts to the issuer under the intercompany loan because it does not have
sufficient funds available, those amounts will be due but not payable until
funds are available to pay those amounts in accordance with the relevant
Funding priority of payments. Funding's failure to pay those amounts to the
issuer when due in such circumstances will not constitute an event of default
under the intercompany loan.
If there is a shortfall between the amounts payable by Funding to the
issuer under the intercompany loan agreement and the amounts payable by the
issuer on the notes, then depending on the other sources of funds available to
Funding referred to above, noteholders may not receive the full amount of
interest and/or principal which would otherwise be due and payable on the
notes.
The issuer's recourse to Funding under the intercompany loan is limited,
which could adversely affect payment on the notes
If, on the final repayment date of the intercompany loan, there is a
shortfall between the amount required by the issuer to pay all outstanding
interest and/or principal in respect of the notes and the amount available to
Funding to pay amounts due under the intercompany loan to fund repayment of
such amounts, then Funding shall not be obliged to pay that shortfall to the
issuer under the intercompany loan agreement. Any claim that the issuer may
have against Funding in respect of that shortfall will then be extinguished.
If there is a shortfall in interest and/or principal payments under the
intercompany loan agreement, the issuer may not have sufficient funds to make
payments on the notes and noteholders may incur a loss on interest and/or
principal which would otherwise be due and payable on the notes.
Enforcement of the issuer security is the only remedy for a default in
the issuer's obligations, and the note trustee will not be able to assign its
or the issuer's rights under the intercompany loan agreement
The only remedy for recovering amounts due on the notes is through the
enforcement of the issuer security. If Funding does not pay amounts due under
the intercompany loan because it does not have sufficient funds available,
those amounts will be deemed to be not due and payable, there will not be an
event of default under the intercompany loan and the issuer will not have
recourse to the assets of Funding in that instance. The issuer will only have
recourse to the assets of Funding if Funding has also defaulted on its
obligations under the intercompany loan and the security trustee (on the
issuer's behalf and on behalf of the other Funding secured creditors) has
enforced the Funding security.
As the note trustee will not be entitled to assign to a third party its
or the issuer's rights under the intercompany loan agreement following the
service of a note enforcement notice, the most likely consequence of the
issuer security becoming enforceable will be that monies received by the note
trustee from Funding will be applied by the note trustee (or the issuer cash
manager on its behalf) to make payments on the notes in accordance with the
issuer post-enforcement priority of payments. However, the proceeds of that
enforcement may be insufficient to pay all interest and principal due on the
notes.
There may be a conflict between the interests of the holders of the
various classes of notes, and the interests of other classes of noteholders
may prevail over certain noteholders' interests
The trust deed, the issuer deed of charge and the terms of the notes will
provide that the note trustee is to have regard to the interests of the
holders of all the classes of notes. There may be circumstances, however,
where the interests of one class of the noteholders conflict with the
interests of another class or classes of the noteholders. In general, the note
trustee will give priority to the interests of the holders of the most senior
class of notes such that:
6
o the note trustee is to have regard only to the interests of the
class A noteholders in the event of a conflict between the interests
of the class A noteholders on the one hand and the class B
noteholders and/or the class M noteholders and/or the C noteholders
on the other hand; and
o (if there are no class A notes outstanding) the note trustee is to
have regard only to the interests of the class B noteholders in the
event of a conflict between the interests of the class B noteholders
on the one hand and the class M noteholders and/or the class C
noteholders on the other hand; and
o (if there are no class A notes or class B notes outstanding) the
note trustee is to have regard only to the interests of the class M
noteholders in the event of a conflict between the interests of the
class M noteholders on the one hand and the class C noteholders on
the other hand.
There may be a conflict between the interests of the holders of notes of
any class of the series 1 notes and the holders of the same class of the
series 2 notes and/or series 3 notes, and the interests of other noteholders
may prevail over certain noteholders' interests
There may also be circumstances where the interests of a class of
noteholders of one series of notes conflict with the interests of the
noteholders of the same class of a different series of notes. In general, the
trust deed, the issuer deed of charge and the terms of the notes will require
a single meeting of the holders of all series of the relevant class of notes
whether or not there is a conflict of interest between the holders of those
different series of that class of notes. As there will be no provision for
separate meetings of the holders of a class of notes of one series, a
resolution may be passed by holders of notes of one series of a relevant class
which will bind the holders of each other series of that same class.
There may be conflicts between the issuer, the previous issuers and any
new issuers, and the issuer's interests may not prevail, which may adversely
affect payments on the notes
The security trustee will exercise its rights under the Funding deed of
charge only in accordance with directions given by the note trustee. If
resolutions of holders of the previous notes and any new notes result in
conflicting directions being given to the note trustee (and, ultimately, from
the note trustee to the security trustee), the security trustee shall have
regard only to the directions of the noteholders of the issuer, each previous
issuer or new issuers that has or have the highest ranking class of notes
outstanding at such time (meaning the class A notes so long as there are any
class A notes outstanding and thereafter the class B notes so long as there
are no class A notes outstanding and thereafter the class M notes so long as
there are neither class A notes nor class B notes outstanding and thereafter
the class C notes so long as there are no class A notes, class B notes or
class M notes outstanding and thereafter special repayment notes so long as
there are no class A notes, class B notes, class M notes or class C notes
outstanding). However, if more than one issuer has notes outstanding that are
the highest ranking notes outstanding among all issuers, the note trustee
shall instead have regard to the resolutions of the holders of notes of that
issuer that has the greatest aggregate principal amount of notes outstanding
at such time. If there is a conflict between the issuer, any previous issuer
and any new issuers and the issuer does not have the highest ranking notes
outstanding among all issuers (or the greatest aggregate principal amount of
notes outstanding at such time), the issuer's interests may not prevail. This
could ultimately cause a reduction in the payments that noteholders receive on
the notes.
If Funding enters into new intercompany loans, these new intercompany
loans and accompanying new notes may rank ahead of the intercompany loans and
the notes as to payments
It is expected that in the future, subject to satisfaction of certain
conditions, Funding will establish additional wholly-owned subsidiary
companies to issue new notes to investors. The proceeds of each new issue of
new notes will be used by the new issuer to make a new intercompany
7
loan to Funding. Funding will use the proceeds of the new intercompany loan
(less any amount utilized to fund any applicable reserve fund for any new
issuer) to do one or more of the following:
o pay to the mortgages trustee Funding's initial contribution for the
Funding share in respect of any new trust property to be assigned by
the seller to the mortgages trustee;
o pay to the mortgages trustee a further contribution to increase the
Funding share of the trust property; and/or o refinance an existing
intercompany loan or intercompany loans outstanding at that time
(and if the issuer's intercompany loan to Funding is refinanced,
noteholders could be repaid early).
Funding will apply amounts it receives from the trust property to pay
amounts it owes under the intercompany loan, the previous intercompany loans
and any new intercompany loan without regard to when the relevant intercompany
loan was made. Noteholders should note that payments by Funding to the
previous issuers under the previous intercompany loans and to new issuers
under any new intercompany loans will rank equally in priority with payments
made by Funding to the issuer under the intercompany loan, other than in
respect of the priority made in the allocation of principal receipts to an
issuer (such as the fifth issuer and the eighth issuer) that issued a money
market note. Subject to the foregoing exception, Funding will initially
allocate principal to repay each outstanding intercompany loan in no order of
priority among them but in proportion to the each relevant issuer's allocable
interest in the Funding share of the trust property (or, if provided under the
relevant intercompany loan agreement, will set aside that allocable interest
in the Funding share of principal receipts for the issuer).
The amount and timing of payments on an intercompany loan are determined
by the amount and timing of payments on the notes issued by the relevant
issuer and by the priorities for payment applicable to those notes. The terms
of the previous notes issued by the previous issuers and of any new notes
issued by a new issuer may therefore result in those previous notes and the
related previous intercompany loans or those new notes and the related new
intercompany loans being repaid prior to the repayment of the notes issued by
the issuer and the issuer's related intercompany loan.
If Funding establishes new issuers to make new intercompany loans to
Funding, noteholders will not have any right of prior review or consent with
respect to those new intercompany loans or the corresponding issuance by new
issuers of new notes. Similarly, the terms of the Funding transaction
documents (including the mortgage sale agreement, the mortgages trust deed,
the Funding deed of charge, the definitions of the trigger events and the
seller share event and the criteria for the assignment of new loans to the
mortgages trustee) may be amended to reflect the new issue. Noteholders'
consent to these changes will not be required. There can be no assurance that
these changes will not affect the cashflow available to pay amounts due on the
notes.
Before issuing new notes, however, a new issuer will be required to
satisfy a number of conditions, including that the ratings of the notes will
not be downgraded or otherwise adversely affected at the time a new issuer
issues new notes.
New issuers will share in the same security granted by Funding to the
issuer, and this may ultimately cause a reduction in the payments noteholders
receive on the notes
A new issuer will become party to the Funding deed of charge and will be
entitled to share, on an equal ranking, in the security granted by Funding for
the issuer's benefit (and the benefit of the other Funding secured creditors)
under the Funding deed of charge. If the Funding security is enforced and
there are insufficient funds to make the payments that are due to all issuers,
each issuer will only be entitled to its proportionate share of those limited
funds. This could ultimately cause a reduction in the payments noteholders
receive on the notes.
8
The previous issuers and the other Funding secured creditors already
share in the same security granted by Funding to the issuer, and this may
ultimately cause a reduction in the payments noteholders receive on the notes
Funding has entered into previous intercompany loan agreements and it has
also entered into various agreements with other Funding secured creditors in
connection with the issuance of the previous intercompany loans. These Funding
secured creditors are already parties to the Funding deed of charge and are
entitled to share, on an equal ranking, in the security granted by Funding for
the benefit of the issuer. If the Funding security is enforced and there are
insufficient funds to make the payments that are due to the previous issuers
and to the issuer, the issuer will only be entitled to its proportionate share
of those limited funds. This could ultimately cause a reduction in the
payments noteholders receive on the notes.
As new mortgage loans are assigned to the mortgages trustee and as
mortgage loans are in certain circumstances removed from the mortgages trust,
the characteristics of the trust property may change from those existing at
the closing date, and those changes may delay or reduce payments on the notes
The issuer cannot guarantee that the characteristics of any new mortgage
loans assigned to the mortgages trustee will have the same characteristics as
the mortgage loans in the mortgage portfolio as of the date of this report. In
particular, new mortgage loans may have different payment characteristics than
the mortgage loans in the mortgage portfolio as of the date of this report.
The ultimate effect of this could be to delay or reduce the payments
noteholders receive on the notes or increase the rate of repayment of the
notes. However, the new mortgage loans will be required to meet the conditions
described in "Assignment of the mortgage loans and their related security" in
the prospectus relating to the notes.
In addition, in order to promote the retention of borrowers, the seller
may periodically contact certain borrowers in respect of the seller's total
portfolio of outstanding mortgage loans in order to encourage a borrower to
review the seller's other mortgage products and to discuss shifting that
borrower to an alternative Northern Rock mortgage product. The seller also may
periodically contact borrowers in the same manner in order to offer to a
borrower the opportunity to apply for a further advance. The employee of the
seller who contacts a borrower will not know whether that borrower's original
mortgage loan has been assigned to the mortgages trust. However, if the
relevant original mortgage loan made to that borrower happens to have been
assigned to the mortgages trust and that borrower decides to switch mortgage
products or take a further advance, the seller then has the option of
repurchasing that original mortgage loan from the mortgages trust.
Generally, the borrowers that the seller may periodically contact are
those borrowers whose mortgage loans are not in arrears and who are otherwise
in good standing. To the extent that these borrowers switch to a different
Northern Rock mortgage product or take a further advance and their original
mortgage loans are purchased by the seller, the percentage of fully performing
mortgage loans in the mortgage portfolio may decrease, which could delay or
reduce payments noteholders receive on the notes. However, as described above,
the seller's decision as to which borrowers to target for new mortgage
products and/or further advances and the decision whether to approve a new
mortgage product and/or further advance for a particular borrower will be made
without regard to whether a borrower's mortgage loan is included in the
mortgage portfolio.
The seller may change the lending criteria relating to mortgage loans
which are subsequently assigned to the mortgages trustee which could affect
the characteristics of the trust property, and which could lead to a delay or
a reduction in the payments received on the notes or could increase the rate
of repayment of the notes
Each of the mortgage loans was originated in accordance with the seller's
lending criteria applicable at the time of origination, which lending criteria
in the case of each mortgage loan included in the mortgage portfolio as of the
related closing date were the same as or substantially
9
similar to the criteria described in the prospectus relating to the notes.
These lending criteria consider a variety of factors such as a potential
borrower's credit history, employment history and status and repayment
ability, as well as the value of the property to be mortgaged. In the event of
the assignment of any new mortgage loans and new related security to the
mortgages trustee, the seller will warrant to the mortgages trustee, Funding
and the security trustee that those new mortgage loans and new related
security were originated in accordance with the seller's lending criteria
applicable at the time of their origination. However, the seller retains the
right to revise its lending criteria as determined from time to time, and so
the lending criteria applicable to any new mortgage loan at the time of
origination may not be the same as those set out in the prospectus relating to
the notes.
If new mortgage loans that have been originated under revised lending
criteria are assigned to the mortgages trustee, the characteristics of the
trust property could change. This could lead to a delay or a reduction in the
payments received on the notes or it could increase the rate of repayment of
the notes.
If property values decline payments on the notes could be adversely
affected
The security granted by Funding in respect of the intercompany loan,
which is the principal source of funding for the notes, consists, among other
things, of Funding's interest in the mortgages trust. Since the value of the
mortgage portfolio held by the mortgages trustee may increase or decrease, the
value of that security may decrease and will decrease if there is a general
decline in property values. The issuer cannot guarantee that the value of a
mortgaged property will remain at the same level as on the date of origination
of the related mortgage loan. If the residential property market in the United
Kingdom experiences an overall decline in property values, the value of the
security created by the mortgage loans could be significantly reduced and,
ultimately, may result in losses to noteholders if the security is required to
be enforced.
The timing and amount of payments on the mortgage loans could be affected
by geographic concentration of the mortgage loans
To the extent that specific geographic regions have experienced or may
experience in the future weaker regional economic conditions and housing
markets than other regions, a concentration of the mortgage loans in such a
region may be expected to exacerbate all of the risks relating to the mortgage
loans described in this section. The issuer can predict neither when or where
such regional economic declines may occur nor to what extent or for how long
such conditions may continue.
The timing and amount of payments on the mortgage loans could be affected
by various factors which may adversely affect payments on the notes
Various factors influence mortgage delinquency rates, prepayment rates,
repossession frequency and the ultimate payment of interest and repayment of
principal. These factors include changes in the national or international
economic climate, regional economic or housing conditions, changes in tax
laws, interest rates, inflation, the availability of financing, yields on
alternative investments, political developments and government policies. Other
factors in borrowers' personal or financial circumstances may affect the
ability of borrowers to repay mortgage loans. Loss of earnings, illness,
divorce and other similar factors may lead to an increase in delinquencies by
and bankruptcies of borrowers, and could ultimately have an adverse impact on
the ability of borrowers to repay mortgage loans.
In addition, the ability of a borrower to sell a property given as
security for a mortgage loan at a price sufficient to repay the amounts
outstanding under the mortgage loan will depend upon a number of factors,
including the availability of buyers for that property, the value of that
property and property values and the property market in general at the time.
The intercompany loan is the issuer's principal source of income for
repayment of the notes. The principal source of income for repayment by
Funding of the intercompany loan is its interest in
10
the mortgage loans held on trust by the mortgages trustee for the benefit of
Funding and the seller. If the timing and payment of the mortgage loans is
adversely affected by any of the risks described above, the payments on the
notes could be reduced or delayed.
The yield to maturity of the notes may be adversely affected by
prepayments or redemptions on the mortgage loans or repurchases of mortgage
loans by the seller
The yield to maturity of the notes of each class will depend mostly on
(a) the amount and timing of the repayment of principal on the mortgage loans
and (b) the price paid by the noteholders of each class of notes. The yield to
maturity of the notes of each class may be adversely affected by a higher or
lower than anticipated rate of prepayments on the mortgage loans.
The rate of prepayment of mortgage loans is influenced by a wide variety
of economic, social and other factors, including prevailing mortgage market
interest rates, the availability of alternative financing programs, local and
regional economic conditions and homeowner mobility. For instance, prepayments
on the mortgage loans may be due to borrowers refinancing their mortgage loans
and sales of mortgaged properties by borrowers (either voluntarily or as a
result of enforcement action taken), as well as the receipt of proceeds from
buildings insurance and life insurance policies. The rate of prepayment of
mortgage loans may also be influenced by the presence or absence of early
repayment charges. Noteholders should note that certain of the seller's
flexible mortgage loan products allow the borrower to make overpayments or
repay the entire current balance under the flexible mortgage loan at any time
without incurring an early repayment charge.
Variation in the rate and timing of prepayments of principal on the
mortgage loans may affect each class of notes differently depending upon
amounts already repaid by Funding to the issuer under the intercompany loan
and whether a trigger event has occurred or the security granted by the issuer
under the issuer deed of charge has been enforced. If prepayments on the
mortgage loans occur less frequently than anticipated, then the actual yields
on the notes may be lower than noteholders anticipate and the amortization of
the notes may take much longer than is presently anticipated.
The yield to maturity of the notes may be affected by the purchase by the
seller of mortgage loans subject to product switches, further advances or in
respect of which personal secured loans are made to the same borrower and
secured over the same property or by the repurchase by the seller of mortgage
loans for breaches of representations and warranties. If the seller is
required to repurchase from the mortgages trustee a mortgage loan or mortgage
loans under a mortgage account and their related security because one of the
mortgage loans does not comply with the mortgage loan representations and
warranties in the mortgage sale agreement, then the payment received by the
mortgages trustee will have the same effect as a prepayment of such mortgage
loan or mortgage loans. Because these factors are not within the issuer's
control or the control of Funding or the mortgages trustee, the issuer cannot
give any assurances as to the level of prepayments that the mortgage portfolio
may experience.
In addition, if a mortgage loan is subject to a product switch or a
further advance, the seller may purchase the relevant borrower's mortgage loan
or mortgage loans and their related security from the mortgages trustee. If a
borrower takes a personal secured loan after the borrower's existing mortgage
loan(s) has been assigned to the mortgages trustee, the seller currently
intends to purchase from the mortgages trustee the mortgage loan(s) of that
borrower (including any personal secured loans and any further draws
thereunder in respect of that borrower) that were part of the trust property.
In the case of any such purchase, the payment received by the mortgages
trustee will have the same effect as a prepayment of such mortgage loan or
mortgage loans.
In order to promote the retention of borrowers, the seller may
periodically contact certain borrowers in respect of the seller's total
portfolio of outstanding mortgage loans in order to encourage a borrower to
review the seller's other mortgage products and to discuss shifting that
borrower to an alternative Northern Rock mortgage product. The employee of the
seller who contacts a borrower will not know whether that borrower's original
mortgage loan has been assigned to the mortgages
11
trust. However, if the relevant original mortgage loan made to that borrower
happens to have been assigned to the mortgages trust and that borrower decides
to switch mortgage loan products, the seller's retention policy may ultimately
result in that mortgage loan becoming the subject of a product switch which
ultimately may result in a prepayment as described in the preceding paragraph.
Furthermore, the seller also may periodically contact certain borrowers in
respect of the seller's total portfolio of outstanding mortgage loans in order
to offer to a borrower the opportunity to apply for a further advance. If the
borrower decides to take a further advance and the seller decides to purchase
the mortgage loan subject to that further advance, the mortgage loan will be
prepaid.
As the decision by the seller whether to purchase a mortgage loan subject
to a product switch or a further advance, or the mortgage loan(s) of a
borrower taking a personal secured loan, is not within the issuer's control or
the control of Funding or the mortgages trustee, the issuer cannot give any
assurance as to the level of effective prepayments that the mortgage portfolio
may experience.
The inclusion of flexible mortgage loans may affect the yield to maturity
of and the timing of payments on the notes
Certain of the mortgage loans in the mortgage portfolio are flexible
mortgage loans. Flexible mortgage loans provide the borrower with a range of
options that gives that borrower greater flexibility in the timing and amount
of payments made under the mortgage loan. Subject to the terms and conditions
of the mortgage loans which may require in some cases notification to the
seller and in other cases the consent of the seller, under a flexible mortgage
loan a borrower may "overpay" or prepay principal on any day or make a re-draw
in specified circumstances. In addition, certain of the seller's flexible
mortgage loan products allow the borrower to make overpayments or repay the
entire current balance under the flexible mortgage loan at any time without
incurring an early repayment charge.
The inclusion of Together Connections mortgage loans and Connections
mortgage loans, which are another type of flexible mortgage loan, in the
mortgages trust may also affect the yield to maturity of, and the timing of
payments on, the notes. Application of the Together Connections Benefit, a
feature of Together Connections mortgage loans, and the Connections Benefit, a
feature of Connections mortgage loans, will reduce the principal amount
outstanding on a Together Connections mortgage loan and a Connections mortgage
loan, respectively. As a result, less of a related borrower's contractual
monthly payment (which the borrower is nevertheless obligated to continue
making in full) will be required to pay interest, and proportionately more of
that contractual monthly payment will be allocated as a repayment of
principal. This reallocation may lead to amortization of the related mortgage
loan more quickly than would otherwise be the case.
If the notes are not repaid on or before the applicable step-up date,
then to the extent that borrowers under flexible mortgage loans consistently
prepay principal or to the extent that Together Connections mortgage loans and
Connections mortgage loans amortize more quickly than otherwise expected, the
timing of payments on the notes may be adversely affected.
The occurrence of an asset trigger event or enforcement of the issuer
security may accelerate the repayment of certain notes and/or delay the
repayment of other notes
If no trigger event has occurred and the issuer security has not been
enforced, then payments of principal of a class of notes on any payment date
will not be greater than the controlled amortization amount for that class on
that payment date. If an asset trigger event has occurred, the mortgages
trustee will distribute principal receipts on the mortgage loans to Funding
and the seller proportionally based on their percentage shares (or, in certain
circumstances, their weighted average percentage shares) of the trust property
and Funding will on each payment date apply those principal receipts to repay
the previous intercompany loans, the intercompany loan and each new
intercompany loan (if any) in proportion to the outstanding principal balance
of the relevant intercompany loan.
12
Following the occurrence of an asset trigger event or enforcement of the
issuer security, the issuer will apply these principal repayments of the
intercompany loan which are available for payment to noteholders on each
payment date to repay the class A notes, in no order of priority among them
but in proportion to the respective amounts due on the class A notes, until
their outstanding principal balances have been reduced to zero, without regard
to their controlled amortization amounts, then the class B notes, in no order
of priority among them but in proportion to the respective amounts due on the
class B notes, until their outstanding principal balances have been reduced to
zero, without regard to their controlled amortization amounts, then the class
M notes, in no order of priority among them but in proportion to the
respective amounts due on the class M notes, until their outstanding principal
balances have been reduced to zero, without regard to their controlled
amortization amounts, and finally, the class C notes, in no order of priority
among them but in proportion to the respective amounts due on the class C
notes, until their outstanding principal balances have been reduced to zero,
without regard to their controlled amortization amounts..
As the priority of payment in respect of the series 1 class A1 notes, the
series 1 class A2 notes, the series 2 class A1 notes, the series 2 class A2
notes and the series 3 class A notes rank equally after the occurrence of an
asset trigger event or enforcement of the issuer security, and as repayments
of principal in these circumstances will not be limited to or controlled by
the respective controlled amortization amounts for the relevant class of
notes, this may result in certain noteholders being repaid more rapidly than
if an asset trigger event or enforcement of the issuer security had not
occurred, and may result in other noteholders being repaid less rapidly than
if an asset trigger event had not occurred.
The occurrence of a non-asset trigger event may accelerate the repayment
of certain notes and/or delay the repayment of other notes
If a non-asset trigger event has occurred, the mortgages trustee will
distribute all principal receipts to Funding until the Funding share
percentage of the trust property is zero. Funding will on each payment date
apply these principal receipts to repay the previous intercompany loans, the
intercompany loan and each new intercompany loan (if any) equally and in
proportion to the outstanding principal balance of the relevant intercompany
loan.
Following the occurrence of a non-asset trigger event, the issuer will
apply these principal repayments of the intercompany loan which are available
for payment to noteholders on each payment date to repay the series 1 class A1
notes until the outstanding principal balance of the series 1 class A1 notes
has been reduced to zero, without regard to their controlled amortization
amounts, then the series 1 class A2 notes until the outstanding principal
balance of the series 1 class A2 notes has been reduced to zero, without
regard to their controlled amortization amounts, then the series 2 class A1
notes, the series 2 class A2 notes and the series 3 class A notes, in no order
of priority among them but in proportion to the respective amounts due on the
series 2 class A1 notes, the series 2 class A2 notes and the series 3 class A
notes, until the outstanding principal balance of each of the series 2 class
A1 notes, the series 2 class A2 notes and the series 3 class A notes, has been
reduced to zero, without regard to their controlled amortization amounts, then
the class B notes, in no order of priority among them but in proportion to the
respective amounts due on the class B notes, until their outstanding principal
balances have been reduced to zero, without regard to their controlled
amortization amounts, then the class M notes, in no order of priority among
them but in proportion to the respective amounts due on the class M notes,
until their outstanding principal balances have been reduced to zero, without
regard to their controlled amortization amounts and finally, the class C
notes, in no order of priority among them but in proportion to the respective
amounts due on the class C notes, until their outstanding principal balances
have been reduced to zero, without regard to their controlled amortization
amounts.
As the repayments of principal in these circumstances will not be limited
to or controlled by the respective controlled amortization amounts for the
relevant class of notes, this may result in certain noteholders being repaid
more rapidly than if a non-asset trigger event or enforcement of the
13
issuer security had not occurred, and may result in other noteholders being
repaid less rapidly than if a non-asset trigger event had not occurred.
Competition in the UK mortgage loan industry could increase the risk of
an early redemption of the notes
The mortgage loan industry in the United Kingdom is highly competitive.
Both traditional and new lenders use heavy advertising, targeted marketing,
aggressive pricing competition and loyalty schemes in an effort to expand
their presence in or to facilitate their entry into the market and compete for
customers. For example, certain of the seller's competitors have implemented
loyalty discounts for long-time customers to reduce the likelihood that these
customers would refinance their mortgage loans with other lenders such as the
seller.
This competitive environment may affect the rate at which the seller
originates new mortgage loans and may also affect the level of attrition of
the seller's existing borrowers. If the rate at which new mortgage loans are
originated declines significantly or if existing borrowers refinance their
mortgage loans with lenders other than the seller, then the risk of a trigger
event occurring increases, which could result in an early redemption of the
notes.
If the seller does not purchase fixed rate mortgage loans under which the
borrower exercises his or her re-fix option then the issuer may need to enter
into new hedging arrangements and the issuer may not find a counterparty at
the relevant time
If the seller does not elect within 30 days of the end of the relevant
fixed rate period to purchase the relevant mortgage loan from the mortgages
trustee if it becomes a re-fixed mortgage loan, then this will necessitate the
entry by the issuer into further hedging arrangements with an alternative
basis rate swap counterparty satisfactory to the rating agencies. Entering
into additional hedging arrangements may increase the issuer's obligations on
any payment date which may adversely affect payments on the notes. In
addition, the issuer cannot provide assurance that an alternative basis rate
swap counterparty will be available at the relevant time.
If the mortgages trustee GIC provider or the Funding GIC provider ceases
to satisfy certain criteria, then the mortgages trustee GIC account or the
Funding GIC account may have to be transferred to another GIC provider under
terms that may not be favourable as those offered by the current GIC provider
The mortgages trustee GIC provider and the Funding GIC provider are
required to satisfy certain criteria (including certain criteria and/or
permissions set or required by the FSA from time to time) in order to continue
to receive deposits in the mortgages trustee GIC account and the Funding GIC
account, respectively. If either the mortgages trustee GIC provider or the
Funding GIC provider ceases to satisfy that criteria, then the relevant
account may need to be transferred to another entity which does satisfy that
criteria. In these circumstances, the stand-by GIC provider or other bank, as
applicable, may not offer a GIC on terms as favourable as those provided by
the mortgages trustee GIC provider or the Funding GIC provider.
The criteria referred to above include a requirement that the short-term,
unguaranteed and unsecured ratings ascribed to the mortgages trustee GIC
provider or, as the case may be, the Funding GIC provider are at least "A-1+"
(or in the circumstances described below, "A-1") by Standard & Poor's, "F1" by
Fitch and "P-1" by Moody's, provided that where the relevant deposit amount is
less than 20% of the amount of the Funding share of the trust property, then
the short-term, unguaranteed and unsecured rating required to be ascribed by
Standard & Poor's to the mortgages trustee GIC provider or, as the case may
be, the Funding GIC provider shall be at least "A-1".
Termination payments on the basis rate swap may adversely affect the
funds available to make payments on the notes
14
The amount of revenue receipts that Funding receives will fluctuate
according to the interest rates applicable to the mortgage loans in the
mortgages trust. However, the amount of interest payable by Funding to the
issuer under the intercompany loan will depend upon the aggregate amount
payable by the issuer to the basis rate swap provider in exchange for payments
which will depend upon the variable interest rates at which interest accrues
on the notes.
To hedge the issuer's exposure against the possible variance between the
foregoing interest rates, the issuer has entered into a basis rate swap with
the basis rate swap provider and the note trustee.
If the basis rate swap is terminated, the issuer may be obliged to pay a
termination payment to the basis rate swap provider. The amount of the
termination payment will be based on the cost of entering into a replacement
basis rate swap. Under the intercompany loan agreement, Funding will be
required to pay the issuer an amount equal to any termination payment due by
the issuer to the basis swap provider. Funding will also be obliged to pay the
issuer any extra amounts which the issuer may be required to pay to enter into
a replacement swap.
The issuer cannot give noteholders any assurance that Funding will have
the funds available to make that payment or that the issuer will have
sufficient funds available to make any termination payment under a swap or to
make subsequent payments to noteholders in respect of the relevant series and
class of notes. Nor can the issuer give noteholders any assurance that it will
be able to enter into a replacement swap, or if one is entered into, that the
credit rating of the replacement basis rate swap provider will be sufficiently
high to prevent a downgrading of the then-current ratings of the notes by the
rating agencies.
Except where the basis rate swap provider has caused the basis rate swap
to terminate by its own default, any termination payment due by the issuer
will rank equally with payments due on the notes. Any additional amounts
required to be paid by the issuer following termination of the basis rate swap
(including any extra costs incurred (for example, from entering into "spot"
interest rate swaps) if the issuer cannot immediately enter into a basis rate
swap), will also rank equally with payments due on the notes.
Therefore, if the issuer is obliged to make a termination payment to a
basis rate swap provider or to pay any other additional amount as a result of
the termination of the swap, this may affect the funds which that issuer has
available to make payments on the notes of any class and any series.
Ratings assigned to the notes may be lowered or withdrawn after
noteholders purchase the notes, which may lower the market value of the notes
or the likelihood of their repayment
The ratings assigned to each class of notes address the likelihood of
full and timely payment to noteholders of all payments of interest on each
payment date under those classes of notes. Such ratings also address the
likelihood of ultimate repayment of principal on the final maturity date of
each class of notes. Any rating agency may lower its rating or withdraw its
rating if, in the sole judgement of the rating agency, the credit quality of
the notes has declined or is in question. If any rating assigned to the notes
is lowered or withdrawn, the market value of the notes may be reduced.
Subordination of other note classes may not protect noteholders from all
risk of loss
Each of the class B notes of each series, the class M notes of each
series and the class C notes of each series are subordinated in right of
payment of interest to the class A notes of each series. Each of the class M
notes of each series and the class C notes of each series are subordinated in
right of payment of interest to the class B notes of each series. Each of the
class C notes of each series are subordinated in right of payment of interest
to the class M notes of each series.
Each of the class B notes of each series, the class M notes of each
series and the class C notes of each series are subordinated in right of
payment of principal to the class A notes of each series.
15
Each of the class M notes of each series and the class C notes of each series
are subordinated in right of payment of principal to the class B notes of each
series. Each of the class C notes of each series are subordinated in right of
payment of principal to the class M notes of each series.
However, the controlled amortization amount payable in respect of each
class of notes is determined by a schedule that indicates the target balance
for that class of notes on the relevant payment date. Noteholders should be
aware that not all classes of notes are scheduled to receive payments of
principal on each payment date. The controlled amortization amount payable on
some classes of notes will be zero, which means that, despite the principal
priority of payments described above, lower ranking classes of notes may
nevertheless be repaid principal before higher ranking classes of notes.
Noteholders should note that the controlled amortization amount for the series
2 class B notes, the series 2 class M notes, the series 2 class C notes, the
series 3 class B notes, the series 3 class M notes and the series 3 class C
notes from the date of this report to the payment date falling in March 2009
is zero. This means that, subject to there being no trigger event, no
enforcement of either the Funding security and/or the issuer security, the
series 2 class B notes, the series 2 class M notes, the series 2 class C
notes, the series 3 class B notes, the series 3 class M notes and the series 3
class C notes will not be scheduled to be repaid an amount of principal until
the payment date falling in March 2009 at the earliest. Payments of principal
are expected to be made to each class of notes in scheduled amounts up to the
amounts set forth in the schedule in the prospectus relating to the notes.
There is no assurance that these subordination rules will protect the
class A noteholders from all risk of loss, the class B noteholders from all
risk of loss or the class M noteholders from all risk of loss. If the losses
allocated to the class C notes, the class M notes and the class B notes, as
evidenced on each of the class C, class M and class B principal deficiency
subledgers, respectively, plus any other debits to each of the class C, class
M and class B principal deficiency subledgers, as the case may be, are in an
aggregate amount equal to the aggregate outstanding principal balances of the
class C notes, the class M notes and the class B notes, then losses on the
mortgage loans will thereafter be allocated to the class A notes at which
point there will be an asset trigger event. If the losses allocated to the
class C notes and the class M notes, as evidenced on each of the class C and
class M principal deficiency subledgers, respectively, plus any other debits
to each of the class C and class M principal deficiency subledgers, as the
case may be, are in an aggregate amount equal to the aggregate outstanding
principal balances of the class C notes and the class M notes, then losses on
the mortgage loans will thereafter be allocated to the class B notes.
Similarly, if the losses allocated to the class C notes as evidenced on the
class C principal deficiency subledger plus any other debits to the class C
principal deficiency subledger are in an aggregate amount equal to the
aggregate outstanding principal balance of the relevant class C notes, then
losses on the mortgage loans will thereafter be allocated to the class M
notes.
Principal payments on the class B notes, the class M notes and the class
C notes will be deferred in certain circumstances
On any payment date, the issuer's obligation to pay principal of the
class B notes, the class M notes and the class C notes will be subject to the
satisfaction as of the related determination date of the issuer arrears test,
the issuer reserve requirement and the subordinated principal test to the
extent that any class A notes are outstanding on that date.
If any class A note remains outstanding on that date and any of the above
conditions is not satisfied on a payment date then payments of principal which
would otherwise have been made to the class B notes and/or the class M notes
and/or the class C notes will not be payable on that payment date.
Noteholders may not be able to sell the notes
There currently is no secondary market for the notes. The underwriters
that underwrote the notes expect, but are not obliged, to make a market in the
notes. If no secondary market develops,
16
noteholders may not be able to sell the notes prior to maturity. The issuer
cannot offer any assurance that a secondary market will develop or, if one
does develop, that it will continue.
Noteholders may be subject to exchange rate and interest rate risks
Repayments of principal and payments of interest on the dollar notes will
be made in US dollars, but the intercompany loan made by the issuer to Funding
and repayments of principal and payments of interest by Funding to the issuer
under the intercompany loan will be in sterling.
To hedge the issuer's currency exchange rate exposure, including any
interest rate exposure connected with that currency exposure, the issuer has
entered into the dollar currency swaps for the dollar notes with the
applicable dollar currency swap provider.
If the issuer fails to make timely payments of amounts due under a dollar
currency swap, then the issuer will have defaulted under that currency swap. A
dollar currency swap provider is obliged only to make payments under a dollar
currency swap as long as the issuer makes payments under it. If a dollar
currency swap provider is not obliged to make payments of, or if it defaults
in its obligations to make payments of, amounts in US dollars equal to the
full amount to be paid to the issuer on the payment dates under the dollar
currency swap (which are the same dates as the payment dates under the notes),
the issuer will be exposed to changes in US dollar/sterling currency exchange
rates and in the associated interest rates on these currencies. Unless a
replacement dollar currency swap is entered into, the issuer may have
insufficient funds to make payments due on the notes of any class and any
series.
In addition, some of the mortgage loans carry variable rates of interest,
some of the mortgage loans pay interest at a fixed rate or rates of interest
and some of the flexible mortgage loans pay interest at variable rates of
interest no higher than the rate offered by a basket of UK mortgage lenders or
pay interest at a rate which tracks the Bank of England base rate. However,
these interest rates on the mortgage loans which will fund the interest
payable under the intercompany loan will not necessarily match the floating
rates on the notes. If the basis rate swap provider defaults in its obligation
to make payments under the basis rate swap, the issuer will be exposed to the
variance between the rates of interest payable on the mortgage loans and the
rate of interest payable on the notes. Unless a replacement basis rate swap is
entered into, the issuer may have insufficient funds to make payments due on
the notes of any class and any series.
Termination payments on the dollar currency swaps and the euro currency
swaps may adversely affect the funds available to make payments on the notes
If any of the currency swaps entered into by the issuer terminate, that
issuer may be obliged to pay a termination payment to the relevant currency
rate swap provider. The amount of the termination payment will be based on the
cost of entering into a replacement currency swap. Under the intercompany loan
agreement, Funding is required to pay the issuer an amount required by the
issuer to pay any termination payment due by the issuer to the relevant
currency rate swap provider. Funding will also be obliged to pay the issuer
any extra amounts which that issuer may be required to pay to enter into a
replacement swap.
The issuer cannot give noteholders any assurance that Funding will have
the funds available to make that payment or that the issuer will have
sufficient funds available to make any termination payment under any of the
currency swaps or to make subsequent payments to noteholders in respect of the
relevant series and class of notes. Nor can the issuer give noteholders any
assurance that the issuer will be able to enter into a replacement swap, or if
one is entered into, that the credit rating of the replacement currency rate
swap provider will be sufficiently high to prevent a downgrading of the
then-current ratings of the notes by the rating agencies.
Except where the relevant currency swap provider has caused the relevant
currency swap to terminate by its own default, any termination payment due by
the issuer will rank equally with
17
payments due on the notes. Any additional amounts required to be paid by the
issuer following termination of the relevant currency swap (including any
extra costs incurred (for example, from entering into "spot" currency or
interest rate swaps) if the issuer cannot immediately enter into a replacement
currency swap), will also rank equally with payments due on the notes.
Therefore, if the issuer is obliged to make a termination payment to the
relevant currency rate swap provider or to pay any other additional amount as
a result of the termination of the relevant currency swap entered into by the
issuer, this may affect the funds which the issuer has available to make
payments on the notes of any class and any series.
If the Bank of England base rate falls below a certain level, the issuer
could suffer a revenue shortfall which could adversely affect the issuer's
payments on the notes
The seller guarantees that for variable rate mortgage loans that are
eligible to be charged at the seller's standard variable rate (including fixed
rate mortgage loans which become variable after the fixed period), during the
period in which the seller may impose an early repayment charge, the actual
gross interest rate that the seller charges will be the lower of:
(a) the seller's standard variable rate; or
(b) the Bank of England base rate plus a margin, which is determined by
Northern Rock.
If the Bank of England base rate plus the appropriate margin (as
described above) falls to a level below the seller's standard variable rate it
is possible that there would be a shortfall of income on the mortgage loans
and that, as a result, either or both of Funding and the issuer would suffer a
revenue shortfall.
If borrowers become entitled to the loyalty discount offered by the
seller, the issuer could suffer a revenue shortfall which could adversely
affect the issuer's payments on the notes
The seller currently offers a loyalty discount on each mortgage loan
(other than a Together mortgage loan, a Together Connections mortgage loan and
a CAT standard mortgage loan) which currently provides for a reduction of
0.25% (although the seller may in the future allow for a discount of between
0.25% and 0.75%) of the applicable interest rate on that mortgage loan once
the borrower has held that mortgage loan for at least seven years, subject to
certain conditions. If the loyalty discount becomes applicable to a
significant number of borrowers it is possible that there would be a shortfall
of income on the mortgage loans and that, as a result, either or both of
Funding and the issuer would suffer a revenue shortfall.
The issuer relies on third parties and noteholders may be adversely
affected if they fail to perform their obligations
The issuer is a party to contracts with a number of other third parties
that have agreed to perform services in relation to the notes. For example,
the dollar currency swap providers and the euro currency swap provider have
agreed to provide their respective swaps, the corporate services provider has
agreed to provide corporate services and the paying agents and the agent bank
have agreed to provide payment and calculation services in connection with the
notes. In the event that any relevant third party was to fail to perform its
obligations under the respective agreements to which it is a party,
noteholders may be adversely affected.
Payments by Funding to third parties in relation to the previous issuers
may affect payments due to the issuer and accordingly the issuer's ability to
make payments on the notes
Under the previous intercompany loan agreements, Funding is required to
make payments to each previous issuer in respect of that previous issuer's
obligations to make payments to the security trustee and its own note trustee,
agent bank, paying agents, cash manager, corporate services provider
18
and account bank and to other third parties to whom that previous issuer owes
money. These payments, in addition to the payments that the issuer is required
to make to the issuer's third party creditors, rank in priority to amounts due
by Funding to the issuer under the intercompany loan that the issuer may use
to make payments under the notes.
Funding's obligations to make the third-party payments described above to
the previous issuers may affect Funding's ability to make payments to the
issuer under the intercompany loan. This in turn may affect the issuer's
ability to make payments on the notes.
Excess revenue receipts may not be sufficient to replenish principal that
has been used to pay interest, which may result in the notes not being repaid
in full
If, on any payment date, revenue receipts available to the issuer are
insufficient to enable the issuer to pay interest on the notes and the
issuer's other expenses ranking in priority to interest due on the notes, then
the issuer may use principal receipts from the intercompany loan to make up
that revenue shortfall.
During the term of the transaction, however, it is expected that these
principal deficiencies will be recouped from subsequent excess issuer
available revenue receipts. However, if subsequent excess issuer available
revenue receipts are insufficient to recoup those principal deficiencies, then
noteholders may receive later than anticipated, or noteholders may not receive
in full, repayment of the principal amount outstanding on the notes.
The seller share of the trust property does not provide credit
enhancement for the notes
Subject to certain exceptions as described in the prospectus relating to
the notes, any losses from mortgage loans included in the trust property will
be allocated to Funding and the seller on each distribution date in proportion
to the then-current Funding share percentage and the then-current seller share
percentage of the trust property.
The seller share of the trust property does not provide credit
enhancement for the Funding share of the trust property. Losses on the
mortgage loans in the trust property are generally allocated proportionately
between the seller and Funding depending on their respective percentage shares
(or, in certain circumstances, their weighted average percentage shares) of
the trust property.
The issuer will only have recourse to the seller if there is a breach of
warranty by the seller, and otherwise the seller's assets will not be
available to the issuer as a source of funds to make payments on the notes
After an intercompany loan enforcement notice under the intercompany
loan, any previous intercompany loan or any new intercompany loan is given,
the security trustee may sell the Funding share of the trust property. There
is no assurance that a buyer would be found or that such a sale would realize
enough money to repay amounts due and payable under the intercompany loan
agreement, the previous intercompany loan agreements and any new intercompany
loan agreements.
The issuer will not, and Funding and the mortgages trustee will not, have
any recourse to the seller of the mortgage loans, other than in respect of a
breach of warranty under the mortgage sale agreement.
The issuer will not, and the mortgages trustee, Funding and the security
trustee will not, undertake any investigations, searches or other actions on
any mortgage loan or its related security and the issuer and each of them will
rely instead on the warranties given in the mortgage sale agreement by the
seller.
If any of the warranties made by the seller is materially untrue on the
date on which a mortgage loan (including any personal secured loan) is
assigned to the mortgages trustee, then, in the
19
first instance, the seller will be required to remedy the breach within 28
days of the seller becoming aware of the same or of receipt by it of a notice
from the mortgages trustee.
If the seller fails to remedy the breach within 28 days, then the seller
will be required to repurchase from the mortgages trustee (i) the relevant
mortgage loan and its related security and (ii) any other mortgage loans
(including any personal secured loans) of the relevant borrower and their
related security that are included in the trust property, in each case at
their current balance as of the date of completion of such repurchase together
with all interest (whether due or accrued but not due) and arrears of interest
payable thereon to the date of repurchase. There can be no assurance that the
seller will have the financial resources to repurchase the mortgage loan or
mortgage loans and their related security. However, if the seller does not
repurchase those mortgage loans and their related security when required, then
the seller share of the trust property will be deemed to be reduced by an
amount equal to the principal amount outstanding of those mortgage loans
together with any arrears of interest and accrued and unpaid interest and
expenses.
Other than as described here, none of the mortgages trustee, Funding, the
noteholders or the issuer, the holders of the previous notes or the previous
issuers will have any recourse to the assets of the seller.
There can be no assurance that a borrower will repay principal at the end
of the term on an interest-only loan (with or without a capital repayment
vehicle) or a combination loan
o Each mortgage loan in the mortgage portfolio is advanced on one of
the following bases:
o Repayment basis, with principal and interest repaid on a monthly
basis through the mortgage term; or
o An interest-only basis with or without a capital repayment vehicle;
or
o A combination basis, that is, a combination of the repayment and
interest-only arrangements where only part of the principal will be
repaid by way of monthly payments.
Neither the interest-only mortgage loans nor the interest-only portion of
any combination mortgage loan includes scheduled amortization of principal.
Instead the principal must be repaid by the borrower in a lump sum at maturity
of the mortgage loan.
For interest-only mortgage loans with a capital repayment vehicle or a
combination loan with a capital repayment vehicle the borrower is recommended
to put in place an investment plan or other repayment mechanism forecast to
provide sufficient funds to repay the principal due at the end of the term.
The ability of a borrower to repay the principal on an interest-only
mortgage loan or the final payment of principal on a combination mortgage loan
at maturity depends on such borrower's responsibility to ensure that
sufficient funds are available from an investment plan or another source, such
as ISAs, pension policies, personal equity plans or endowment policies, as
well as the financial condition of the borrower, tax laws and general economic
conditions at the time. However, there can be no assurance that there will be
sufficient funds from any investment plan to repay the principal or (in the
case of a combination loan) the part of the principal that it is designed to
cover.
The seller does not (and in certain circumstances cannot) take security
over investment plans. Consequently, in the case of a borrower in poor
financial condition the investment plan will be an asset available to meet the
claims of other creditors. The seller also recommends the borrower to take out
term life insurance cover in relation to the mortgage loan, although the
seller again does not take security over such policies.
20
In the case of interest-only mortgage loans, there can be no assurance
that the borrower will have the funds required to repay the principal at the
end of the term. If a borrower cannot repay the mortgage loan and a loss
occurs on the mortgage loan, then this may affect payments on the notes if
that loss cannot be cured by the application of excess issuer available
revenue receipts.
There may be risks associated with the fact that the mortgages trustee
has no legal title to the mortgage loans and their related security which may
adversely affect payments on the notes
The assignment by the seller to the mortgages trustee of the benefit of
the English mortgage loans and their related security takes effect in equity
only (and any assignment of the benefit of the English mortgage loans and
their related security in the future will take effect in equity only). The
sale and assignment by the seller to the mortgages trustee of Scottish
mortgage loans and their related security is given effect by a declaration of
trust by the seller by which the beneficial interests in such Scottish
mortgage loans and their related security will be transferred to the mortgages
trustee (and any sale of Scottish mortgage loans and their related security in
the future will be given effect by further declaration of trust). In each case
this means that legal title to the mortgage loans and their related security
in the trust property remains with the seller, but the mortgages trustee has
all the other rights and benefits relating to ownership of each mortgage loan
and its related security (which rights and benefits are subject to the trust
in favor of the beneficiaries). The mortgages trustee has the right to demand
the seller to give it legal title to the mortgage loans and the related
security in the circumstances described in the prospectus relating to the
notes and until then the mortgages trustee will not apply to Land Registry or
the Land Charges Registry to register or record its equitable interest in the
English mortgages and cannot in any event apply to the Registers of Scotland
to register or record its beneficial interest in the Scottish mortgages. In
addition, except in the limited circumstances set out in the prospectus
relating to the notes, the seller will not give notice of the assignment of
the mortgage loans and related security to any borrower.
At any time during which the mortgages trustee does not hold the legal
title to the mortgage loans and their related security or has not notified its
interest in the mortgage loans and their related security to the borrowers,
there are risks, as follows:
o firstly, if the seller wrongly sold to another person a mortgage
loan and that mortgage loan has already been assigned to the
mortgages trustee, and that person acted in good faith and did not
have notice of the interests of the mortgages trustee or the
beneficiaries in the mortgage loan and that person notified the
borrower of that sale to it of the mortgage loan and its related
security or registered its interest in that mortgage, then she or he
might obtain good title to the mortgage loan, free from the
interests of the mortgages trustee and the beneficiaries. If this
occurred then the mortgages trustee would not have good title to the
affected mortgage loan and its related security and it would not be
entitled to payments by a borrower in respect of such a mortgage
loan. This may affect the issuer's ability to repay the notes;
o secondly, the rights of the mortgages trustee and the beneficiaries
may be subject to the rights of the borrowers against the seller,
such as the rights of set-off which occur in relation to
transactions or deposits made between certain borrowers and the
seller and the rights of borrowers to redeem their mortgages by
repaying the mortgage loan directly to the seller. If these rights
were exercised, the mortgages trustee may receive less money than
anticipated from the mortgage loans, which may affect the issuer's
ability to repay the notes; and
o finally, the mortgages trustee would not be able to enforce any
borrower's obligations under a mortgage loan or mortgage itself but
would have to join the seller as a party to any legal proceedings.
However, once notice has been given to a borrower of the transfer of the
related mortgage loan and its related security to the mortgages trustee, any
independent set-off rights which that
21
borrower has against the seller will crystallize, further rights of
independent set-off would cease to accrue from that date and no new rights of
independent set-off could be asserted following that notice. Set-off rights
arising under transaction set-off (which are set-off claims arising out of a
transaction connected with the mortgage loan) will not be affected by that
notice.
Additionally, if a borrower exercises any set-off rights then an amount
equal to the amount set off will reduce the total amount of the seller share
of the trust property only.
There are risks in relation to flexible mortgage loans and personal
secured loans which may adversely affect the funds available to pay the notes
As described in "-- There may be risks associated with the fact that the
mortgages trustee has no legal title to the mortgage loans and their related
security, which may adversely affect payments on the notes" in this Annual
Report, the seller has made (in respect of the mortgage portfolio) and will
make (in respect of any new mortgage portfolio) an equitable assignment of
(or, in the case of the Scottish mortgage loans, a transfer of the beneficial
interest in) the relevant mortgage loans and mortgages to the mortgages
trustee, with legal title being retained by the seller. Therefore, the rights
of the mortgages trustee may be subject to the direct rights of the borrowers
against the seller, including rights of set-off existing prior to notification
to the borrowers of the assignment of the mortgage loans and the mortgages.
Such set-off rights (including analogous rights in Scotland) may occur if the
seller fails to advance a cash re-draw to a borrower under a flexible mortgage
loan or a further draw to a borrower under a personal secured loan when the
borrower is entitled to such cash re-draw or further draw.
If the seller fails to advance the cash re-draw or further draw in
accordance with the relevant mortgage loan, then the relevant borrower may set
off any damages claim (or the exercise of analogous rights in Scotland)
arising from the seller's breach of contract against the seller's (and, as
equitable assignee of or holder of the beneficial interest in the mortgage
loans and the mortgages, the mortgages trustee's) claim for payment of
principal and/or interest under the flexible mortgage loan or personal secured
loan as and when it becomes due. In addition, a borrower under a personal
secured loan may attempt to set off any such damages claim (or the exercise of
analogous rights in Scotland) against the seller's claim for payment of
principal and/or interest under any other mortgage loan which the borrower has
with the seller. Such set-off claims will constitute transaction set-off as
described in the immediately preceding risk factor.
The amount of the claim in respect of a cash re-draw or further draw
will, in many cases, be the cost to the borrower of finding an alternative
source of funds (although in the case of Scottish mortgage loans which are
personal secured loans it is possible, though regarded as unlikely, that the
borrower's rights of set-off could extend to the full amount of the relevant
further draw). The borrower may obtain a mortgage loan elsewhere in which case
the damages would be equal to any difference in the borrowing costs together
with any consequential losses, namely the associated costs of obtaining
alternative funds (for example, legal fees and survey fees). If the borrower
is unable to obtain an alternative mortgage loan, he or she may have a claim
in respect of other losses arising from the seller's breach of contract where
there are special circumstances communicated by the borrower to the seller at
the time the borrower entered into the mortgage or which otherwise were
reasonably foreseeable.
A borrower may also attempt to set off against his or her mortgage
payments an amount greater than the amount of his or her damages claim (or the
exercise of analogous rights in Scotland). In that case, the administrator
will be entitled to take enforcement proceedings against the borrower although
the period of non-payment by the borrower is likely to continue until a
judgement is obtained.
The exercise of set-off rights by borrowers would reduce the incoming
cash flow to the mortgages trustee during such exercise. However, the amounts
set off will be applied to reduce the seller share of the trust property only.
22
Further, there may be circumstances in which:
o a borrower may seek to argue that certain re-draws are unenforceable
by virtue of non-compliance with the Consumer Credit Act of 1974
("CCA"); or
o a borrower may seek to argue that personal secured loans may be
unenforceable or unenforceable without a court order because of
non-compliance with the CCA; or
o certain re-draws or further draws may rank behind liens created by a
borrower after the date upon which the borrower entered into its
mortgage with the seller.
The minimum seller share has been sized in an amount expected to cover
these risks, although there is no assurance that it will. If the minimum
seller share is not sufficient in this respect then there is a risk that
noteholders may not receive all amounts due on the notes or that payments may
not be made when due.
If the administrator is removed, there is no guarantee that a substitute
administrator would be found, which could delay collection of payments on the
mortgage loans and ultimately could adversely affect payments on the notes
The seller has been appointed by the mortgages trustee and the
beneficiaries as administrator to service the mortgage loans. If the
administrator breaches the terms of the administration agreement, then the
mortgages trustee, Funding and the security trustee will be entitled to
terminate the appointment of the administrator and to appoint a substitute
administrator.
There can be no assurance that a substitute administrator would be found
who would be willing and able to service the mortgage loans on the terms of
the administration agreement. In addition, as described under the third risk
factor immediately succeeding this risk factor, any substitute administrator
may be required to be authorized under The Financial Services and Markets Act
2000 once mortgage lending becomes a regulated activity. The ability of a
substitute administrator fully to perform the required services would depend,
among other things, on the information, software and records available at the
time of the appointment. Any delay or inability to appoint a substitute
administrator may affect payments on the mortgage loans and hence the issuer's
ability to make payments when due on the notes.
Noteholders should note that the administrator has no obligation itself
to advance payments that borrowers fail to make in a timely fashion.
The mortgages trustee may not receive the benefit of claims made on the
buildings insurance which could adversely affect payments on the notes
The issuer cannot provide assurance that the mortgages trustee will
always receive the benefit of any claims made under any applicable insurance
contracts or that the amount received in the case of a successful claim will
be sufficient to reinstate the property. This could reduce the principal
receipts received by Funding according to the Funding share and could
adversely affect the issuer's ability to make payments on the notes.
Noteholders should note that buildings insurance is normally renewed annually.
The mortgages trustee is not required to maintain mortgage indemnity
insurance with the insurer, and the seller is not required to maintain the
current level of mortgage indemnity insurance coverage for new mortgage loans
that it originates in the future, which may adversely affect the funds
available to pay the notes
The mortgages trustee is not required to maintain a mortgage indemnity
policy with the current insurer. The mortgages trustee has the discretion to
contract for mortgage indemnity guarantee protection from any insurer then
providing mortgage indemnity insurance policies or not to contract
23
for such protection at all, subject to prior agreement with the rating
agencies and their confirmation that this will not cause a reduction,
qualification or withdrawal of the then current ratings of the notes.
In addition, the seller is not required to maintain the same level of
coverage under mortgage indemnity insurance policies for mortgage loans that
it may originate in the future and assign to the mortgages trustee.
Regulatory changes by the Office of Fair Trading, the FSA and any other
regulatory authorities may have an impact on the seller, the mortgages
trustee, Funding, the issuer, the mortgage loans and/or personal secured loans
and may adversely affect the issuer's ability to make payments when due on the
notes
In the United Kingdom, the Office of Fair Trading ("OFT") is responsible
for the issue of licenses under and the enforcement of the CCA, related
consumer credit regulations and other consumer protection legislation. The OFT
may review businesses and operations, provide guidelines to follow and take
actions when necessary with regard to the mortgage market in the United
Kingdom (except to the extent of the regulation of the market by the FSA under
FSMA -- see below). The licensing regime under the CCA is different from, and
additional to, the regime for authorisation under the FSMA.
Regulation of mortgage lending in the united kingdom under the FSMA
Mortgage lending in the United Kingdom became a regulated activity under
the FSMA on October 31, 2004 ("N(m)").
Certain provisions of the FSMA apply to a "regulated mortgage contract".
A mortgage loan contract will be a regulated mortgage contract under the FSMA
if it is originated after N(m) or originated prior to N(m) but varied after
N(m) such that a new contract is entered into and if, at the time it is
entered into: (a) the borrower is an individual or trustee, (b) the contract
provides for the obligation of the borrower to repay to be secured by a first
legal mortgage (or the Scottish equivalent) on land (other than timeshare
accommodation) in the UK, and (c) at least 40% of that land is used, or is
intended to be used, as or in connection with a dwelling by the borrower or
(in the case of credit provided to trustees) by an individual who is a
beneficiary of the trust, or by a related person. Therefore, the FSMA does not
apply to a mortgage contract that is secured by a second or subsequent legal
charge (or the Scottish equivalent) or is provided to a corporate body. The
CCA may continue to apply to mortgage loans post N(m) where the mortgage loan
does not satisfy the definition of a regulated mortgage contract but does fall
within the criteria for regulation under the CCA as described below in this
risk factor.
On and from N(m), subject to any exemption, persons carrying on any
specified regulated mortgage-related activities by way of business must be
authorized by the FSA under the FSMA. The specified activities currently are
(a) entering into a regulated mortgage contract as lender, (b) administering a
regulated mortgage contract (administering in this context means notifying
borrowers of changes in mortgage payments and/or collecting payments due under
the mortgage loan), (c) advising on regulated mortgage contracts, and (d)
arranging regulated mortgage contracts. Agreeing to carry on any of these
activities is also a regulated activity. If requirements as to, inter alia,
authorization of lenders and brokers are not complied with, a regulated
mortgage contract will be unenforceable against the borrower except with the
approval of a court and the unauthorized person may commit a criminal offense.
The regime under the FSMA regulating financial promotions covers the content
and manner of promotion of agreements relating to qualifying credit, and by
whom such promotions can be issued or approved. In this respect, the FSMA
regime not only covers financial promotions of regulated mortgage contracts
but also promotions of certain other types of secured credit agreements under
which the lender is a person who carries on the regulated activity of entering
into a regulated mortgage contract. Failure to comply with this regime is a
criminal offense and will render the regulated mortgage contract or other
secured credit agreement in question unenforceable against the borrower except
with the approval of a court.
24
An unauthorized person who carries on a regulated mortgage-related
activity of administering or advising in respect of a regulated mortgage
contract that has been validly entered into may commit an offense, although
this will not render the contract unenforceable against the borrower. The
mortgages trustee does not need to be an authorised person under the FSMA in
order to acquire legal or beneficial title to a regulated mortgage contract.
The mortgages trustee will not carry on the regulated activity of
administering in relation to regulated mortgage contracts, where such
contracts are administered pursuant to an administration agreement by an
entity having the required FSA authorization and permission. If such
administration agreement terminates, however, the mortgages trustee will have
a period of not more than one month in which to arrange for mortgage
administration to be carried out by a replacement administrator having the
required FSA authorization and permission. In addition, on and from N(m) no
variations may be made to the mortgage loans and no re-draws, further draws or
further advances may be made under the mortgage loans, where this would result
in the mortgages trustee arranging, advising on, administering or entering
into a regulated mortgage contract or agreeing to carry on any of these
activities, if the mortgages trustee would be required to be authorized under
the FSMA to do so.
Prior to N(m), there was only self-regulation of mortgage business in the
UK under the Mortgage Code (the "CML Code") issued by the Council of Mortgage
Lenders (the "CML"). The seller subscribed to the CML Code. Membership of the
CML and compliance with the CML Code were voluntary. The CML Code set out a
minimum standard of good mortgage business practice, from marketing to lending
procedures and dealing with borrowers experiencing financial difficulties.
Since April 30, 1998, lender-subscribers to the CML Code were not permitted to
accept mortgage business introduced by intermediaries who were not registered
with (before November 1, 2000 until October 31, 2004) the Mortgage Code
Register of Intermediaries or (on and after November 1, 2000) the Mortgage
Code Compliance Board. The CML Code ceased to have effect on N(m). Since N(m),
as an authorized person the seller is subject to the FSA requirements in its
Mortgages: Conduct of Business Source Book ("MCoB"). MCoB sets out various
requirements that a regulated mortgage lender must comply with when carrying
on regulated mortgage-related activities. In particular, MCoB sets out
requirements as to pre-application disclosures at offer stage, disclosures at
the start of a regulated mortgage contract and responsible lending. A failure
to comply with MCoB by a regulated mortgage lender, would not render the
regulated mortgage contract unenforceable or void as against the borrower or
constitute an offense by the regulated mortgage lender. A borrower who is a
private person may have a right of action against the regulated mortgage
lender where the borrower has suffered a loss as a result of the
contravention.
In September 2002, the European Commission published a proposal for a
directive of the European Parliament and of the Council on the harmonization
of the laws, regulations and administrative provisions of the member states
concerning credit for consumers and surety agreements entered into by
consumers.
However, in October 2004 the European Commission adopted a modified
proposal to incorporate many of the amendments called for by the European
Parliament when it held its first vote on the directive in April 2004. In its
current form, the proposal requires specified requirements to be met and
restrictions observed in respect of loans secured on land for a sum not more
than (euro)100,000, including new credit agreements for further drawings under
certain flexible mortgages and further advances. The proposal provides that
the directive will not apply retrospectively; however, it is unclear whether
this will extend to new drawings and further advances made in respect of
existing agreements.
Member states will then have a further two years in which to bring into
force national implementing legislation regulations and administrative
provisions. The UK Department of Trade and Industry (the "DTI") is currently
in consultation with consumer and industry organizations in relation to the
modified proposal.
Regulation of consumer credit lending in the United Kingdom
25
Currently, a credit agreement is regulated by the CCA where: (a) the
borrower is or includes an individual, (b) the amount of "credit" as defined
in the CCA does not exceed the financial limit, which is (GBP)25,000 for
credit agreements made on or after May 1, 1998, or lower amounts for credit
agreements made before that date, and (c) the credit agreement is not an
exempt agreement as specified in or under section 16 of the CCA (for example,
certain types of credit to finance the purchase of, or alterations to, homes
or business premises or a regulated mortgage contract under the FSMA (see
above)). Some of the personal secured loans in the mortgage portfolio might be
wholly or partly regulated or treated as such by the CCA. The loan agreement
that evidences any such personal secured loan has to comply with requirements
under the CCA as to content, layout and execution. If the contract does not
comply, then to the extent that it is regulated or to be treated as such:
(a) the contract relating to the personal secured loan is unenforceable
if the form of agreement to be signed by the borrower is not signed
by the borrower or omits or mis-states a "prescribed term"; or
(b) in other cases, the contract relating to the personal secured loan
is unenforceable without a court order and, in exercising its
discretion whether to make the order, the court will take into
account any prejudice suffered by the borrower and any culpability
by the lender.
If a court order is necessary to enforce some or part of a personal
secured loan agreement in the mortgage portfolio to the extent that it is
regulated or to be treated as such, then in dealing with such an application,
the court has the power, if it appears just to do so, to amend the personal
secured loan agreement or to impose conditions upon its performance or to make
a time order (for example, giving extra time for arrears to be cleared). The
CCA contains anti-avoidance provisions. The seller does not believe that these
provisions would apply to the mortgage loans, and has represented that no
mortgage loan agreement (apart from a personal secured loan documented as a
regulated agreement subject to the CCA) is wholly or partly regulated by the
CCA or to be treated as such.
In November 2002, the DTI announced its intention that a credit agreement
will be regulated by the CCA where, for credit agreements made after this
change is implemented: (a) the borrower is or includes an individual, save for
partnerships of four or more partners, (b) irrespective of the amount of
credit (although in July 2003, the DTI announced its intention that the
financial limit will remain for certain business-to-business lending), and (c)
the credit agreement is not an exempt agreement. If this change is
implemented, then any new loan or further advance made after this time, other
than under a regulated mortgage contract under the FSMA or an exempt agreement
under the CCA, will be regulated by the CCA. Such agreement relating to the
loan or further advance will have to comply with requirements as to the form
and content of the credit agreement and, in certain cases, new requirements
for pre-contract disclosure of key information. If it does not comply, the
agreement will be unenforceable against the borrower. A white paper on
consumer credit was published by the DTI in December 2003. The white paper was
accompanied by a consultation on draft regulations.
Following the consultation process, a number of finalized regulations
have been laid before Parliament since June 2004. Those include amongst
others, regulations governing consumer credit advertising; the form and
content of regulated consumer credit agreements; requirements for pre-contract
disclosure; and the rebate of interest charges to which a borrower will be
entitled on early settlement of regulated consumer credit agreements. The new
regulations relating to advertising came into effect on October 31, 2004. The
regulations relating to form and content of regulated consumer credit
agreements are due to come into effect on May 31, 2005, or August 31, 2005 for
agreements that have been presented, sent or made available to the borrower
but have not been executed before May 31, 2005. Regulations on pre-contract
disclosure are due to take effect from May 31, 2005. The regulations on early
settlement introduce revised formulae for calculating the minimum rebate of
interest to which the borrower is entitled on an early settlement of a loan
made under a regulated consumer credit agreement, which are anticipated to be
more favourable to the borrower than the existing formulae. The new formulae
come into force on May 31, 2005 for all regulated consumer credit agreements
entered into on or after that date. For all regulated consumer credit
agreements
26
existing on May 31, 2005, the new formulae will apply from May 31, 2007 for
all such agreements which were originally for a term of 10 years or less, and
from May 31, 2010 for all such agreements which were originally for a term of
more than 10 years.
The Consumer Credit Bill was introduced into Parliament on December 16,
2004. The bill, if enacted, would amend the CCA and the main provisions
covered by the bill include: (a) removing the financial limit for consumer
lending, whilst retaining the limit of (GBP)25,000 for lending for business
purposes to individuals, unincorporated bodies and partnerships of up to 3
partners; (b) strengthening the licensing regime; (c) reforming the law on
extortionate credit as it applies to both new and existing regulated consumer
credit agreements; and (d) introducing alternative dispute resolution
procedures outside the courts for consumer credit agreements. At present there
is no indication as to when the Consumer Credit Bill is likely to be enacted,
or if it will be enacted in its current form.
So as to avoid dual regulation on and from N(m), all mortgage loans
regulated by the FSA are not covered by the CCA. This carve-out only affects
mortgage loans entered into on or after N(m) (or entered into before N(m) but
varied on or after that date such that a new contract is formed). In respect
of mortgage loans entered into prior to N(m) (which have not been so varied)
the CCA will continue to be the relevant legislation. A mortgage contract that
would (except for the carve-out) be regulated under the CCA or treated as such
will, however, only be enforceable on an order of the court pursuant to
section 126 of the CCA, notwithstanding regulation under the FSMA.
No assurance can be given that additional regulations will not arise with
regard to the mortgage market in the United Kingdom generally, the seller's
particular sector in that market or specifically in relation to the seller.
Any such action or developments, in particular, but not limited to, the cost
of compliance, may have a material adverse effect on the seller, the mortgages
trustee and/or the administrator and their respective businesses and
operations. This may adversely affect the issuer's ability to make payments in
full when due on the notes.
Regulations in the United Kingdom could lead to some terms of the
agreements relating to the mortgage loans and personal secured loans being
unenforceable, which may adversely affect payments on the notes
In the United Kingdom, the Unfair Terms in Consumer Contracts Regulations
1994 applied to all of the mortgage loans that were entered into between July
1, 1995 and September 30, 1999. These regulations were revoked and replaced by
the Unfair Terms in Consumer Contracts Regulations 1999 ("UTCCR") on October
1, 1999, which apply to all the mortgage loans as of that date. The UTCCR
generally provide that:
o a borrower may challenge a term in an agreement on the basis that it
is an "unfair" term within the regulations and therefore not binding
on the borrower; and
o the OFT and any "qualifying body" (as defined in the regulations,
such as the FSA) may seek to prevent a business from relying on
unfair terms.
This will not generally affect "core terms" which set out the main
subject matter of the contract, such as the borrower's obligation to repay
principal. However, it may affect terms that are not considered to be core
terms, such as the right of the lender to vary the interest rate. For example,
if a term permitting a lender to vary the interest rate is found to be unfair,
the borrower will not be liable to pay interest at the increased rate or, to
the extent that she or he has paid it, will be able, as against the lender or
the mortgages trustee, to claim repayment of the extra interest amounts paid
or to set-off the amount of such claim against the amount owing by the
borrower under the mortgage loan. Any such non-recovery, claim or set-off
ultimately may adversely affect the issuer's ability to make payments on the
notes such that the payments on the notes could be reduced or delayed.
On February 24, 2000, the OFT issued a guidance note on what the OFT
considered to be fair and unfair terms for interest variation in mortgage loan
contracts. Where the interest variation term
27
does not provide for precise and immediate tracking of an external rate
outside the lender's control, and if the borrower is locked in, for example by
an early repayment charge that is considered to be a penalty, the term is
likely to be regarded as unfair under the UTCCR unless the lender (i) notifies
the borrower in writing at least 30 days before the rate change and (ii)
permits the borrower to repay the whole loan during the next three months
after the rate change, without paying the early repayment charge. The seller
has reviewed the guidance note and has concluded that its compliance with it
will have no material adverse effect on the mortgage loans or its business.
The guidance note has been withdrawn from the OFT website. The FSA has agreed
with the OFT to take responsibility for the enforcement of the UTCCR insofar
as they apply to regulated mortgage contracts. The guidance note is currently
under review by the OFT and the FSA, but there is no indication as to when
this review is likely to be concluded or what changes, if any, may arise from
it.
In August 2002 the Law Commission for England and Wales and the Scottish
Law Commission published a Joint Consultation Paper proposing changes to the
UTCCR, including harmonizing provisions of the UTCCR and the Unfair Contract
Terms Act 1977, applying the UTCCR to business-to-business contracts and
revising the UTCCR to make it "clearer and more accessible". The closing date
for comments on this consultation was November 8, 2002 and a final report
(together with a draft Bill) is expected to be published early in 2005. No
assurances can be given that changes to the UTCCR, if implemented, will not
have an adverse effect on the seller, the mortgages trustee and/or the
administrator.
Under the FSMA, the Financial Ombudsman Service (the "Ombudsman") is
required to make decisions on (among other things) complaints relating to the
terms in agreements on the basis of what, in the Ombudsman's opinion, would be
fair and reasonable in all circumstances of the case, taking into account
(among other things) law and guidance. Complaints brought before the Ombudsman
for consideration must be decided on a case-by-case basis, with reference to
the particular facts of any individual case. Each case would first be
adjudicated by an adjudicator. Either party to the case may appeal against the
adjudication. In the event of an appeal, the case proceeds to a final decision
by the Ombudsman. The Ombudsman may make a money award to a borrower, which
may adversely affect the value at which mortgage loans could be realized and
accordingly the issuer's ability to make payments in full when due on the
notes.
The mortgages trustee's entitlement to be indemnified for liabilities
undertaken during the enforcement process may adversely affect the funds
available to Funding to pay amounts due under the intercompany loan, which may
in turn adversely affect the funds available to pay the notes
In order to enforce a power of sale in respect of a mortgaged property,
the relevant mortgagee (which may be Northern Rock, the mortgages trustee or
any receiver appointed by the security trustee) must first obtain possession
of the mortgaged property unless the property is vacant. Possession is usually
obtained by way of a court order although this can be a lengthy process and
the mortgagee must assume certain risks. Each of the mortgages trustee and the
security trustee and any receiver appointed by it is entitled to be
indemnified to its satisfaction against personal liabilities which it could
incur if it were to become a mortgagee in possession before it is obliged to
seek possession, provided that it is always understood that the security
trustee is never obliged to enter into possession of the mortgaged property.
The European Union Directive on the Taxation of Savings Income
The European Union has adopted a Directive regarding the taxation of
savings income. Subject to a number of important conditions being met, it is
proposed that member states will be required from July 1, 2005, to provide to
the tax authorities of other member states details of payments of interest and
other similar income paid by a person to an individual in another member
state, except that Austria, Belgium and Luxembourg will instead impose a
withholding system for a transitional period unless during such period they
elect otherwise.
28
Withholding tax payable by Funding or the issuer may adversely affect the
issuer's ability to make payments on the notes
In the event any withholding or deduction for or on account of taxes is
imposed on or is otherwise applicable to payments of interest on or repayments
of principal of the notes or the loan tranches, Funding is not obliged to
gross-up or otherwise compensate us for the lesser amount we will receive and
we are not obliged to gross-up or otherwise compensate you for the lesser
amounts you will receive, in each case, as a result of such withholding or
deduction.
If the United Kingdom joins the European Monetary Union prior to the
maturity of the notes, the issuer cannot assure noteholders that this would
not adversely affect payments on the notes
It is possible that prior to the maturity of the notes the United Kingdom
may become a participating member state in the European economic and monetary
union and the euro may become the lawful currency of the United Kingdom. In
that event, (a) all amounts payable in respect of any notes denominated in
pounds sterling may become payable in euro; (b) applicable provisions of law
may allow or require the issuer to re-denominate such notes into euro and take
additional measures in respect of such notes; and (c) the introduction of the
euro as the lawful currency of the United Kingdom may result in the
disappearance of published or displayed rates for deposits in pounds sterling
used to determine the rates of interest on such notes or changes in the way
those rates are calculated, quoted and published or displayed. The
introduction of the euro could also be accompanied by a volatile interest rate
environment which could adversely affect a borrower's ability to repay its
loan as well as adversely affect investors. It cannot be said with certainty
what effect, if any, adoption of the euro by the United Kingdom will have on
investors in the notes.
The noteholders' interests may be adversely affected by a change of law
in relation to UK withholding tax
The structure of the issue of the notes and the ratings which are to be
assigned to them are based on English law, Scottish law, Jersey law and New
York law and administrative practice in effect as at the date of this
prospectus. No assurance can be given as to the impact of any possible change
to English law, Scottish law, Jersey law or New York law or administrative
practice after the date of this prospectus, nor can any assurance be given as
to whether any such change could adversely affect our ability to make payments
in respect of the notes.
The implementation of changes to the Basel Capital Accord and the EU
regulatory capital framework may result in changes to the risk-weighting of
the notes
In June 1999, the Basel Committee on Banking Supervision (the "Basel
Committee") issued proposals for reform of the 1988 Capital Accord and
proposed a new capital adequacy framework which would place enhanced emphasis
on risk- sensitivity and market discipline. Following an extensive
consultation period, the Basel Committee published the "International
Convergence of Capital Measurement and Capital Standards: A Revised Framework"
(the "New Basel Capital Accord") on June 26, 2004, with an intended
implementation date of year-end 2006. On July 14, 2004, the European
Commission published its consultation paper on the EU's implementation of the
New Basel Capital Accord (known as the "Capital Requirements Directive"). The
various approaches under the framework set out in the Capital Requirements
Directive will be implemented in the EU in stages, some from year-end 2006,
and the most advanced at year-end 2007. The implementation of the New Basel
Capital Accord or the Capital Requirements Directive, as applicable, could
affect the risk-weighting of the notes in respect of investors which are
subject to regulatory capital requirements. Consequently, noteholders should
consult their own advisers as to the consequences to and effect on noteholders
of the implementation of the New Basel Capital Accord or the Capital
Requirements Directive, as applicable. The issuer cannot predict the precise
effects of potential changes which might result from the implementation by
national regulators of the New Basel Capital Accord or the Capital
Requirements Directive.
29
Noteholders will not receive physical notes, which may cause delays in
distributions and hamper the noteholders' ability to pledge or resell the
notes
Unless the global note certificates are exchanged for individual note
certificates, which will only occur under a limited set of circumstances, the
noteholders' beneficial ownership of the notes will only be registered in
book-entry form with DTC, Euroclear or Clearstream, Luxembourg. The lack of
physical notes could, among other things:
o result in payment delays on the notes because the issuer will be
sending distributions on the notes to DTC instead of directly to
noteholders;
o make it difficult for noteholders to pledge or otherwise grant
security over the notes if physical notes are required by the party
demanding the pledge or other security; and
o hinder the noteholders' ability to resell the notes because some
investors may be unwilling to buy notes that are not in physical
form.
If the noteholders have a claim against the issuer, it may be necessary
for the noteholders to bring suit against the issuer in England to enforce the
noteholders' rights
The issuer has agreed to submit to the non-exclusive jurisdiction of the
courts of England, and it may be necessary for the noteholders to bring a suit
in England to enforce their rights against the issuer.
Provisions of the Insolvency Act 2000 could delay enforcement of
noteholders' rights in the event of the insolvency of the issuer or an
insolvency of Funding
The Insolvency Act 2000 amended the Insolvency Act 1986 to provide that
certain "small" companies (which are defined by reference to certain tests
relating to a company's balance sheet, turnover and number of employees) will
be able to seek protection from their creditors for a period of up to 28 days
with the option for creditors to extend the moratorium for a further two
months. The position as to whether or not a company is a "small" company may
change from period to period and consequently no assurance can be given that
the issuer or Funding will, at any given time, be determined to be a "small"
company. The Secretary of State for Trade and Industry may by regulation
modify the eligibility requirements for "small" companies and can make
different provisions for different cases. No assurance can be given that any
such modification or different provisions will not be detrimental to the
interests of noteholders.
However, the Insolvency Act 1986 (Amendment) (No.3) Regulations 2002
(Statutory Instrument 2002 No. 1990) provides for an exception to the "small"
companies moratorium provisions if the company is party to an arrangement
which is or forms part of a capital market arrangement under which (i) a party
has incurred, or when the arrangement was entered into was expected to incur,
a debt of at least (GBP)10 million under the arrangement and (ii) the
arrangement involves the issue of a capital market investment. The issuer
believes that it will fall within this exception and that the moratorium
provisions will not apply to it. However, the issuer takes the view that the
exception will not cover Funding and there is therefore a risk that it may be
the subject of a "small" companies moratorium under the Insolvency Act 2000.
It should be borne in mind that the moratorium merely delays the enforcement
of security whilst the moratorium is in effect (a maximum of three months), it
does not void or in any way negate the security itself.
Risks relating to the introduction of International Financial Reporting
Standards
The issuer's UK corporation tax position depends to a significant extent
on the accounting treatment applicable to it. From January 1, 2005, the
issuer's accounts are required to comply with International Financial
Reporting Standards ("IFRS") or with new UK Financial Reporting Standards
reflecting IFRS ("New UK GAAP"). Funding may also choose to comply with IFRS.
There is a
30
concern that companies such as the issuer, might, under either IFRS or new UK
GAAP, suffer timing differences that could result in profits or losses for
accounting purposes, and accordingly for tax purposes, which bear little or no
relationship to the company's cash position. However, draft legislation has
been published to be included in the Finance Act 2005 which, if enacted, would
allow "securitization companies" to prepare tax computations for accounting
periods ending not later than March 31, 2006 on the basis of UK GAAP as
applicable up to December 31, 2004, notwithstanding any requirement to prepare
statutory accounts under IFRS or new UK GAAP. The issuer (but, currently, not
Funding) is likely to be a "securitization company" for these purposes on the
basis of the current draft legislation.
The draft legislation remains subject to change and withdrawal until
enacted and as currently drafted does not apply to accounting periods ending
after March 31, 2006. The stated policy of the Inland Revenue is that the tax
neutrality of securitization special purpose companies in general should not
be disrupted as a result of the transition to IFRS and that they are working
with participants in the securitization industry to identify appropriate means
of preventing any such disruption. However, if the draft legislation is
changed (or continues, notwithstanding the stated policy of the Inland
Revenue, not to apply to Funding) or if further extensions or measures are not
introduced by the Inland Revenue to deal with accounting periods ending after
March 31, 2006, then the issuer may be required to recognize profits or losses
as a result of the application of IFRS or new UK GAAP which could have tax
effects not contemplated in the cashflows for the transaction and as such
adversely affect the issuer and therefore noteholders.
Item 4. Information on the Company
A. History and development of the company
The issuer
----------
The issuer was incorporated in England and Wales as a public company
limited by shares under the Companies Act 1985 on July 1, 2004 with registered
number 5168395. The registered office of the issuer is at Fifth Floor, 100
Wood Street, London EC2V 7EX, England. The issuer issued the notes on
September 22, 2004. Information concerning the notes can be found in the
various filings made by the issuer with the SEC on Form 6-K listed in Item 3,
Sub-part A above, which have been incorporated herein by reference and are
attached hereto as exhibits.
Funding
-------
Funding was incorporated as a private limited company in Jersey, Channel
Islands on February 14, 2001 with registered number 79308. The registered
office of Funding is at 22 Grenville Street, St. Helier, Jersey JE4 8PX,
Channel Islands. Funding has been registered, under Schedule 21A to the
Companies Act 1985, as having established a branch in England and Wales on
February 19, 2001. Its registered overseas company number is FC022999 and
branch number is BR005916. The branch address is at 69 Park Lane, Croydon CR9
1TQ. Funding entered into the intercompany loan agreement with the issuer on
January 28, 2004.
The mortgages trustee
---------------------
The mortgages trustee was incorporated as a private limited company in
Jersey, Channel Islands on February 14, 2001 with registered number 79309. The
registered office of the mortgages trustee is at 22 Grenville Street, St.
Helier, Jersey JE4 8PX, Channel Islands.
B. Business overview
31
The issuer
----------
The issuer's activities principally comprise the issue of the notes, the
making of the intercompany loan to Funding pursuant to the intercompany loan
agreement, the entering into all documents relating to such issue and such
intercompany loan to which it is expressed to be a party and the exercise of
related rights and powers and other activities referred to in the prospectus
relating to the notes or reasonably incidental to those activities.
Funding
-------
Funding's activities principally comprise the establishment of new
issuers, the entering into intercompany loan agreements with the other
issuers, entering into new intercompany loan agreements with any new issuers,
the entering into all documents relating to the establishment of new issuers
and relating to the intercompany loans made by the previous issuers, the
issuer and any new issuer to which it is expressed to be a party and the
exercise of related rights and powers and other activities (such prospectus
contained in the Granite Mortgages 04-3 Registration Statement), applying for
a standard license under the CCA, applying for registration under the Data
Protection Act 1998 and other matters which are incidental or ancillary to
those activities.
The mortgages trustee
---------------------
The mortgages trustee's activities principally comprise those activities
incidental to the settlement of the trust property on the mortgages trustee,
the holding of the trust property on trust for the seller and Funding under
the terms of the mortgages trust deed, the authorization of the transaction
documents to which it is a party relating to the previous notes, the notes,
any notes issued by the previous issuers and any notes issued by any new
issuers, applying for a standard license under the CCA, filing a notification
under the Data Protection Act 1998 and other matters which are incidental or
ancillary to those activities.
C. Organizational structure
The issuer
----------
The issuer is organized as a special purpose company and has no
subsidiaries. The issuer's authorized share capital comprises 50,000 ordinary
shares of (GBP)1 each. The issuer's issued share capital comprises 50,000
ordinary shares of (GBP)1 each (of which (GBP)12,500 is paid up), all of which
are beneficially owned by Funding. The seller does not own directly or
indirectly any of the share capital of the issuer.
Funding
-------
Funding is organized as a special purpose company and has no subsidiaries
other than the other issuers, although it is expected that, subject to certain
conditions, Funding will establish new issuers from time to time to issue new
notes. Each such new issuer will be a subsidiary of Funding. The authorized
share capital of Funding as at December 31, 2004 comprised 200,000 ordinary
shares of (GBP)1 each. The issued share capital of Funding as at December 31,
2004 comprised 125,000 ordinary shares of (GBP)1 each, all of which are
beneficially owned by Granite Finance Holdings Limited ("Holdings"). The
seller does not own directly or indirectly any share capital of Funding.
The mortgages trustee
---------------------
The mortgages trustee is organized as a special purpose company and has
no subsidiaries. The authorized share capital of the mortgages trustee as at
December 31, 2004 comprised 10,000 ordinary shares of (GBP)1 each. The issued
share capital of the mortgages trustee as at December 31, 2004 comprised 10
ordinary shares of (GBP)1 each, all of which are beneficially owned by
Holdings. The seller does not own directly or indirectly any share capital of
the mortgages trustee.
32
D. Property, plants and equipment
The issuer
----------
The property of the issuer consists of its rights and claims in respect
of all security and other rights held on trust by the security trustee
pursuant to the Funding deed of charge, its right, title and interest and
benefit in the transaction documents to which it is a party, including the
intercompany loan agreement, the Funding deed of charge, and each of the
foregoing agreements to which the issuer is a party: the related swap
agreement, the related paying agent and agent bank agreement, the related
subscription agreement, the related underwriting agreement, the related
corporate services agreement, the issuer bank account agreement, the issuer
cash management agreement, the issuer trust deed, its right, title and
interest and benefit in the issuer transaction accounts and each other account
(if any) of the issuer, and all amounts standing to the credit of those
accounts (including all interest earned on such amounts) and its right, title,
interest and benefit in all authorized investments made by or on behalf of the
issuer, including all monies and income payable under those investments.
Funding
-------
The property of Funding consists of its interest in the trust property
held by the mortgages trustee together with amounts available under the
Funding reserve fund and (in specified circumstances and for specified
purposes) the issuer's reserve fund, the other issuers' reserve funds, the
issuer's liquidity reserve fund (if required to be established) and the other
issuer's liquidity reserve fund (if required to be established) and its right
to receive certain payments of principal and interest from the trust property
controlled by the mortgages trustee.
The mortgages trustee
---------------------
The trust property includes the mortgage portfolios and the related
security that the seller has assigned to the mortgages trustee on initial
closing date and each assignment date, and will also include each new mortgage
portfolio and the related security that the seller assigns to the mortgages
trustee in the future, including any permitted replacement mortgage loan in
respect of any permitted product switch and any income generated by the
mortgage loans or their related security on or after the relevant assignment
date (excluding third party amounts). In addition, re-draws made under
flexible mortgage loans and further draws that have been made under personal
secured loans, in each case that were assigned to the mortgages trustee, also
form part of the existing trust property. The trust property also includes any
contribution paid by either beneficiary to the mortgages trustee (until the
relevant funds are applied by the mortgages trustee in accordance with the
mortgages trust deed) and any money in the mortgages trustee transaction
account and the mortgages trustee guaranteed investment contract, or GIC
account. The mortgages trustee GIC account is the bank account in which the
mortgages trustee holds any cash that is part of the trust property until it
is distributed to the beneficiaries. The composition of the trust property
fluctuates as re-draws under flexible mortgage loans, further draws under
personal secured loans, future further advances and new mortgage loans are
added to the mortgages trust and as the mortgage loans that are already part
of the trust property are repaid or mature or are purchased by the seller.
Item 5. Operating and Financial Review and Prospects
A. Operating results
Not Applicable
B. Liquidity and capital resources
Not Applicable
C. Research and development, patents and licenses, etc.
33
Not Applicable
D. Trend information
Not Applicable
E. Off-balance Sheet Arrangements
Not Applicable
F. Tabular Disclosure of Contractual Obligations
Not Applicable
G. Safe Harbor
Not Applicable
Item 6. Directors, Senior Management and Employees
A. Directors and Senior Management
The following sets out the names, business addresses and business
occupations of the directors of the issuer, Funding and the mortgages trustee.
Because each of the issuer, Funding and the mortgages trustee is organized as
a special purpose company and are largely passive, it is expected that the
directors of each entity in that capacity will manage its operations to the
extent necessary.
The issuer
----------
The directors of the issuer and their respective business addresses
and principal activities or business occupations are:
Principal Activities/Business
Name Business Address Occupation
- ------------------------ ----------------------- -----------------------------
Keith McCallum Currie Northern Rock House Treasury Director of
Gosforth Northern Rock plc
Newcastle upon Tune
NE3 4PL
L.D.C. Securitisation Fifth Floor Acting as corporate
Director No. 1 Limited 100 Wood Street directors of special
London purposes companies
EC2V 7EX
L.D.C. Securitisation Fifth Floor Acting as corporate
Director No. 2 Limited 100 Wood Street directors of special
London purposes companies
EC2V 7EX
Keith McCallum Currie is an employee of the seller.
The company secretary of the issuer is:
Name Business Address
- ------------------------------ ------------------------------------------------
Law Debenture Corporate Fifth Floor, 100 Wood Street, London EC2V 7EX
Services Limited
34
The directors of L.D.C. Securitisation Director No. 1 Limited and L.D.C.
Securitisation Director No. 2 Limited and their principal activities or
business occupations are:
Principal Activities/Business
Name Business Address Occupation
- ------------------------ ----------------------------- ----------------------------------
Law Debenture Fifth Floor, 100 Wood Street, Provision of directors for special
Securitisation Services London EC2V 7EX purpose vehicles
Limited
The affairs of L.D.C. Securitisation Director No. 1 Limited., L.D.C.
Securitisation Director No. 2 Limited and Law Debenture Securitisation
Services Limited are represented by, among others, Denyse Monique Anderson,
Julian Robert Mason-Jebb and Richard David Rance each of whose business
address is at Fifth Floor, 100 Wood Street, London EC2V 7EX and each of whose
principal activities are as director of The Law Debenture Trust Corporation
p.l.c.
Funding
-------
The directors of Funding and their respective business addresses and
principal activities or business occupations are:
Principal Activities/Business
Name Business Address Occupation
- ------------------------ ----------------------------- ----------------------------------
Keith McCallum Currie Northern Rock House Treasury Director of
Gosforth Northern Rock plc
Newcastle upon Tune
NE3 4PL
Robert William Short 69 Park Lane Director of Onshore Administration
Croydon Administration Mourant
CR9 1TQ International Finance
Jonathan David Rigby 4 Royal Mint Court Advocate
London
EC3N 4HJ
Keith McCallum Currie is an employee of the seller.
The company secretary of Funding is:
Name Business Address
- ------------------------ -----------------------------------------------------
Mourant & Co. Capital 69 Park Lane
Secretaries Limited Croydon
CR9 1TQ
The mortgages trustee
---------------------
The directors of the mortgages trustee and their respective business
addresses and principal activities or business occupations are:
Principal Activities/Business
Name Business Address Occupation
- ------------------------ ----------------------------- ----------------------------------
Nicola Claire Davies 22 Grenville Street, Advocate
St. Helier
Jersey JE4 8PX
35
Principal Activities/Business
Name Business Address Occupation
- ------------------------ ----------------------------- ----------------------------------
Channel Islands
Julia Anne Jennifer 22 Grenville Street, Solicitor
Chapman St. Helier
Jersey JE4 8PX
Channel Islands
Richard Gough 22 Grenville Street, Corporate Administration
St. Helier Manager
Jersey JE4 8PX
Channel Islands
Daniel Le Blancq 22 Grenville Street, Corporate Administration
St. Helier Manager
Jersey JE4 8PX
Channel Islands
The company secretary of the mortgages trustee is:
Name Business Address
- ------------------------ -----------------------------------------------------
Mourant & Co. 22 Grenville Street
Secretaries Limited St. Helier
Jersey JE4 8PX
Channel Islands
B. Compensation
The issuer
----------
In accordance with the corporate services agreement, the seller and the
corporate services provider will each provide directors and other corporate
services for the issuer in consideration for the payment of a separate annual
fee payable by the issuer to the corporate services provider. No other
remuneration is paid to any director or officer in connection with such
director's or officer's activities on behalf of the issuer.
Funding
-------
In accordance with a corporate services provider agreement dated 26 March
2001 (as amended and restated on 28 September 2001) (the "Funding corporate
services provider agreement") between Funding and Mourant & Co. Capital (SPV)
Limited (the "Funding corporate services provider") the Funding corporate
services provider has agreed to provide directors and other corporate services
for Funding in consideration for the payment of fees as specified in the
Funding corporate services provider agreement. No other remuneration is paid
to any director in connection with such director's activities on behalf of
Funding.
36
The mortgages trustee
---------------------
In accordance with the provisions of a mortgages trustee corporate
services agreement dated 26 March 2001 (the "mortgages trustee corporate
services agreement") made between the mortgages trustee and Mourant & Co.
Limited (the "mortgages trustee corporate services provider"), the mortgages
trustee corporate services provider has agreed to provide directors and other
corporate services for the mortgages trustee in consideration for the payment
of fees as specified in the mortgages trustee corporate services agreement. No
other remuneration is paid to any director in connection with such director's
activities on behalf of the mortgages trustee.
C. Board practice
Not Applicable
D. Employees
None of the issuer, Funding or the mortgages trustee has any
employees.
E. Share ownership
Not Applicable
Item 7. Major Shareholders and Related Party Transactions
A. Major shareholders
The issuer
----------
The issuer is wholly owned by Funding.
Funding
-------
Funding is wholly owned by Holdings.
The mortgages trustee
---------------------
The mortgages trustee is wholly owned by Holdings.
B. Related party transactions
Parties are considered to be related if one party has the ability to
control the other party or exercise significant influence over the other party
in making financial or operational decisions. The issuer is a subsidiary of
Funding and therefore is a related party. The issuer has made an intercompany
loan to Funding. The proceeds of the intercompany loan were used by Funding to
purchase additional beneficial interests in the trust property held on trust
by the mortgages trustee for the benefit of the beneficiaries. The
intercompany loan is repaid by Funding from amounts received by Funding from
its beneficial interest in the trust property. Amounts received by the issuer
from Funding under the intercompany loan are used by the issuer to make
payments of interest and principal under the notes.
The issuer
----------
The issuer, which is a special purpose company, is controlled by its
board of directors, which consists of three directors. Two of the issuer's
three directors are provided by Law Debenture Corporate Services Limited, the
principal activity of which is providing directors and corporate management
for special purpose companies. The third director of the issuer is an employee
of
37
Northern Rock plc. The Company pays a corporate services fee pursuant to a
corporate services agreement to Law Debenture Corporate Services Limited in
connection with its provision of corporate management services. The fees
payable to these directors for providing their services are immaterial in the
context of this Annual Report.
The total amount paid by the issuer to Northern Rock plc as cash
management fees from July 1, 2004 through December 31, 2004 was (GBP)22,534 (or
approximately $40,996(4)). Although one of the three directors of the issuer is
an employee of Northern Rock plc, Northern Rock plc does not own any share
capital of the issuer.
Funding
-------
Funding, which is a special purpose company, is controlled by its board
of directors, which consists of three directors. Two of Funding's three
directors are provided by the Funding corporate services provider, the
principal activity of which is providing directors and corporate management
for special purpose companies. The third director of Funding is an employee of
Northern Rock plc. Funding pays a corporate services fee pursuant to the
Funding corporate services agreement to the Funding corporate services
provider in connection with its provision of corporate management services.
The fees payable to these directors for providing their services are
immaterial in the context of this Annual Report.
The total amount paid by Funding to Northern Rock plc as cash management
fees from January 1, 2004 through December 31, 2004 was (GBP)100,548 (or
approximately $182,927(4)). Although one of the three directors of Funding is
an employee of Northern Rock plc, Northern Rock plc does not own any share
capital of Funding.
Northern Rock plc is the interest rate swap provider in connection with
the notes. Northern Rock plc is one of a number of counterparties used by the
issuer in the normal course of their business. Any transaction undertaken by a
counterparty is carried out at arms' length and on commercial terms and
conditions. Northern Rock plc does not hold any share capital of Funding.
The mortgages trustee
---------------------
The mortgages trustee, which is a special purpose company, is controlled
by its board of directors, which consists of four directors. Two of the
mortgages trustee's four directors are partners of Mourant du Feu & Jeune, the
legal adviser to the mortgages trustee as to matters of Jersey law, and are
shareholders of Mourant Limited, the ultimate owner of Mourant & Co. Limited
to which fees are payable for providing corporate administration services to
the mortgages trustee, including the provision of a secretary through its
subsidiary company, Mourant & Co. Secretaries Limited. These same two
directors also serve as directors for both Mourant & Co. Limited and Mourant &
Co. Secretaries Limited. The other two directors are employees of Mourant
Limited and one of the other two directors is an associate director of Mourant
& Co. Limited, the parent company of Mourant & Co. Secretaries Limited. The
fees payable to these directors for providing their services are immaterial in
the context of this Annual Report.
The total amount paid by the mortgages trustee to Northern Rock plc as
fees for administering the mortgage portfolio from January 1, 2004 through
December 31, 2004 was (GBP)14,358,289 (or approximately $26,122,035(4)).
Northern Rock plc does not own any share capital of the mortgages trustee.
C. Interests of experts and counsel.
Not Applicable to Annual Reports Filed on Form 20-F
- ---------
(4) This translation of pounds sterling into U.S. dollars was made at a rate
of (GBP)0.5497 = $1.00 which was the sterling/dollar exchange rate as reported
in the Financial Times as of June 6, 2005.
38
Item 8. Financial Information
Not Applicable.
Item 9. The Offer and Listing.
A. Offer and listing details
Not Applicable
B. Plan of distribution
Not Applicable to Annual Reports Filed on Form 20-F
C. Markets
The principal trading market for each class of notes is the London Stock
Exchange. The notes have been listed on the London Stock Exchange since
September 22, 2004.
D. Selling shareholders
Not Applicable to Annual Reports Filed on Form 20-F
E. Dilution
Not Applicable to Annual Reports Filed on Form 20-F
F. Expenses of the issue
Not Applicable to Annual Reports Filed on Form 20-F
Item 10. Additional Information
A. Share capital
Not Applicable to Annual Reports Filed on Form 20-F
B. Memorandum and articles of association
The memorandum and articles of association for each of the issuer,
Funding and the mortgages trustee are incorporated by reference from the
Granite Mortgages 04-3 Registration Statement. Please also see the description
of the issuer, Funding and the mortgages trustee set forth in the Granite
Mortgages 04-3 Registration Statement.
C. Material contracts
Not applicable other than with respect to contracts relating to the
notes, which were described in the Granite Mortgages 04-3 Registration
Statement.
D. Exchange controls
None
E. Taxation
39
United Kingdom Taxation
-----------------------
The following section summarizes the material UK tax consequences of the
purchase, ownership and disposition of the notes based on current law and
practice in the UK. Sidley Austin Brown & Wood, UK tax advisers to the issuer
("UK tax counsel"), has prepared and reviewed this summary and the opinions of
UK tax counsel are contained in this summary. The summary assumes that the
representations made by each of Funding and the issuer, respectively, to UK
tax counsel that the profit in Funding's profit and loss account will not
exceed 0.01% of the Funding available revenue receipts, that the profit in the
issuer's profit and loss account will not exceed 0.01% of the interest on the
intercompany loan are correct. It further assumes that all payments made
pursuant to the final documentation are calculated on arms' length terms. The
summary does not purport to be a complete analysis of all tax considerations
of the purchase, ownership and disposition of the notes. It relates to the
position of persons who are the absolute beneficial owners of notes such as
individuals, partnerships and non-financial trade corporate entities, and may
not apply to certain classes of persons such as financial trade corporate
entities (such as banks, securities dealers and securities brokers),
investment managers, insurance companies, pension funds and UK unit and
investment trusts. UK tax counsel suggests that Noteholders should consult
their own tax adviser if uncertain of their current tax position.
Taxation of US residents
As discussed in more detail under "Withholding tax" below, UK tax counsel
is of the opinion that a noteholder who is resident in the US for US tax
purposes may obtain payment of interest on his notes without deduction of UK
tax if and for so long as the notes are listed on a "recognised stock
exchange". If the notes cease to be listed on a recognised stock exchange, an
amount must generally be withheld on account of UK income tax at the lower
rate (currently 20%), from interest paid on them subject to any direction to
the contrary from the Inland Revenue in respect of such relief as may be
available pursuant to the provisions of an applicable double taxation treaty.
Residents of the US are generally not subject to tax in the UK on
payments of interest on the notes under the double taxation treaty between the
US and the UK, subject to completion of administrative formalities, except
where the notes are effectively connected with a permanent establishment or a
fixed base of the noteholder situated in the UK. The benefit of the double
taxation treaty between the US and the UK is excluded in respect of any
interest paid under, or as part of, a conduit arrangement and is also subject
to comprehensive limitation on benefits provisions.
In addition, UK tax counsel is of the opinion that, as discussed in more
detail under "- Direct assessment of non-UK resident holders of notes to UK
tax on interest" below, a noteholder who is resident in the US for US tax
purposes and who is not resident in the UK for UK tax purposes will not be
subject to UK tax (other than any withholding tax, as regards which see above)
in respect of any payments on the notes unless they are held by or for a
trade, profession or vocation carried on by him through a branch or agency
(or, in the case of a noteholder which is a company, for a trade carried on by
it through a permanent establishment) in the UK.
It is the opinion of UK tax counsel that US resident noteholders will not
be liable to UK tax in respect of a disposal of the notes provided they are
not within the charge to UK corporation tax and (i) are not resident or
ordinarily resident in the UK, and (ii) do not carry on a trade, profession or
vocation in the UK through a branch or agency in connection with which
interest is received or to which the notes are attributable.
It is the opinion of UK tax counsel that, as discussed in more detail
below under "UK taxation of Funding and the issuer", Funding and the issuer
will generally be subject to UK corporation tax, currently at a rate of 30%,
on the profit reflected in their respective profit and loss accounts as
increased by the amounts of any non-deductible expenses or losses.
40
It is the opinion of UK tax counsel that, as discussed in more detail
below under "UK taxation of the mortgages trustee", the mortgages trustee will
have no liability to UK tax in relation to amounts which it receives on behalf
of Funding or the seller under the mortgages trust.
Except as described in the preceding paragraphs (and as further developed
in the corresponding opinions below), UK tax counsel will render no opinions
relating to the notes, the parties to the transaction, or any aspects of the
transaction.
Withholding tax
For so long as the notes are and continue to be listed on a "recognised
stock exchange" within the meaning of section 841 of the Income and
Corporation Taxes Act 1988 (the London Stock Exchange plc is such a recognised
stock exchange for this purpose) interest payments on each of the notes will
be treated as a "payment of interest on a quoted Eurobond" within the meaning
of section 349 of the Income and Corporation Taxes Act 1988. Under an Inland
Revenue interpretation, securities will be regarded as listed on a recognised
stock exchange if they are listed by a competent authority in a country which
is a member state of the European Union or which is part of the European
Economic Area and are admitted to trading on a recognised stock exchange in
that country. In these circumstances, payments of interest on the notes may be
made without withholding or deduction for or on account of UK income tax
irrespective of whether the notes are in global form or in definitive form.
If the notes cease to be listed on a recognised stock exchange, an amount
must be withheld on account of UK income tax at the lower rate (currently 20%)
from interest paid on the notes, subject to any direction to the contrary from
the Inland Revenue in respect of such relief as may be available pursuant to
the provisions of an applicable double taxation treaty or to the interest
being paid to the persons (including companies within the charge to UK
corporation tax) and in the circumstances specified in sections 349A to 349D
of the Income and Corporation Taxes Act 1988.
The European Union has adopted a Directive regarding the taxation of
savings income. Subject to a number of important conditions being met, it is
proposed that member states will be required from a date not earlier than
January 1, 2005, to provide to the tax authorities of other member states
details of payments of interest and other similar income paid by a person to
an individual in another member state, except that Austria, Belgium and
Luxembourg will instead impose a withholding system for a transitional period
unless during such period they elect otherwise.
Payments of interest and principal with respect to the notes will be
subject to any applicable withholding taxes and the issuer will not be obliged
to pay additional amounts in relation thereto.
Direct assessment of non-UK resident holders of notes to UK tax on
interest
Interest on the notes constitutes UK source income and, as such, may be
subject to income tax by direct assessment even where paid without
withholding, subject to any direction to the contrary from the Inland Revenue
in respect of such relief as may be available pursuant to the provisions of an
applicable double taxation treaty.
However, interest with a UK source received without deduction or
withholding on account of UK tax will not be chargeable to UK tax in the hands
of a noteholder (other than certain trustees) who is not resident for tax
purposes in the UK unless that noteholder carries on a trade, profession or
vocation through a branch or agency (or, in the case of a noteholder which is
a company, which carries on a trade through a permanent establishment) in the
UK in connection with which the interest is received or to which the notes are
attributable. There are exemptions for interest received by certain categories
of agent (such as some brokers and investment managers).
41
Where interest has been paid under deduction of UK income tax,
noteholders who are not resident in the UK may be able to recover all or part
of the tax deducted if there is an appropriate provision under an applicable
double taxation treaty.
Taxation of returns: companies within the charge to UK corporation tax
In general, noteholders which are within the charge to UK corporation tax
in respect of notes will be charged to tax and obtain relief as income on all
returns, profits or gains on, and fluctuations in value of the notes (whether
attributable to currency fluctuations or otherwise) broadly in accordance with
their statutory accounting treatment.
Taxation of returns: other noteholders
Noteholders who are not within the charge to UK corporation tax and who
are resident or ordinarily resident in the UK for tax purposes or who carry on
a trade, profession or vocation in the UK through a branch or agency in
connection with which interest on the notes is received or to which the notes
are attributable will generally be liable to UK tax on the amount of any
interest received in respect of the notes.
As the dollar notes are denominated in US dollars and the euro notes are
denominated in euro, such notes will not be regarded by the Inland Revenue as
constituting "qualifying corporate bonds" within the meaning of Section 117 of
the Taxation of Chargeable Gains Act 1992. Accordingly, a disposal of any of
these notes may give rise to a chargeable gain or an allowable loss for the
purposes of the UK taxation of chargeable gains.
It is expected that the series 3 notes will be regarded by the Inland
Revenue as constituting "qualifying corporate bonds" within the meaning of
Section 117 of the Taxation of Chargeable Gains Act 1992. Accordingly, a
disposal of any of these notes is not expected to give rise to a chargeable
gain or an allowable loss for the purposes of the UK taxation of chargeable
gains.
There are provisions to prevent any particular gain (or loss) from being
charged (or relieved) at the same time under these provisions and also under
the provisions of the "accrued income scheme" described below.
Accrued income scheme
On a disposal of notes by a noteholder, any interest which has accrued
since the last payment date may be chargeable to tax as income under the rules
of the "accrued income scheme" if that noteholder is resident or ordinarily
resident in the UK or carries on a trade in the UK through a branch or agency
to which the notes are attributable.
Stamp duty and stamp duty reserve tax
No UK stamp duty or stamp duty reserve tax is payable on the issue or
transfer of the offered notes, whether such offered note is in global or
definitive form.
UK taxation of Funding and the issuer
It is the opinion of UK tax counsel that Funding and the issuer will
generally be subject to UK corporation tax, currently at a rate of 30%, on the
profit reflected in their respective profit and loss accounts as increased by
the amounts of any non-deductible expenses or losses. In respect of Funding,
the profit in the profit and loss account will not exceed 0.01% of the Funding
available revenue receipts. In respect of the issuer, the profit in the profit
and loss account will not exceed 0.01% of the interest on the intercompany
loan. Any liability to UK corporation tax will be paid out of the available
revenue receipts of Funding and the issuer, respectively.
UK taxation of the mortgages trustee
42
It is the opinion of UK tax counsel that the mortgages trustee will have
no liability to UK tax in respect of any income, profit or gain arising under
these arrangements. Accordingly, the mortgages trustee will have no liability
to UK tax in relation to amounts which it receives on behalf of Funding or the
seller under the mortgages trust.
United States Taxation
----------------------
The following section summarizes the material United States federal
income tax consequences of the purchase, ownership and disposition of the
dollar notes, that may be relevant to a holder of dollar notes that is a
"United States person" (as defined later in this section) or that otherwise is
subject to US federal income taxation on a net income basis in respect of a
dollar note (any such United States person or holder, a "US holder"). In
general, the summary assumes that a holder acquires a dollar note at original
issuance and holds such note as a capital asset. It does not purport to be a
comprehensive description of all the tax considerations that may be relevant
to a decision to purchase the dollar notes. In particular, it does not discuss
special tax considerations that may apply to certain types of taxpayers,
including dealers in stocks, securities or notional principal contracts;
traders in securities electing to mark to market; banks, savings and loan
associations and similar financial institutions; taxpayers whose functional
currency is other than the US dollar; taxpayers that hold a dollar note as
part of a hedge or straddle or a conversion transaction, within the meaning of
section 1258 of the US Internal Revenue Code of 1986, as amended (the "Code");
and subsequent purchasers of dollar notes. In addition, this summary does not
describe any tax consequences arising under the laws of any taxing
jurisdiction other than the US federal government.
This summary is based on the US tax laws, regulations, rulings and
decisions in effect or available on the date of this Annual Report. All of the
foregoing are subject to change, and any change may apply retroactively and
could affect the continued validity of this summary.
Sidley Austin Brown & Wood LLP, US tax advisers to the issuer ("US tax
counsel") has prepared and reviewed this summary of material US federal income
tax consequences. As described under "- Tax status of the issuer, Funding,
mortgages trustee and mortgages trust", US tax counsel is of the opinion that
the mortgages trustee acting as trustee of the mortgages trust, Funding, the
issuer will not be subject to US federal income tax as a result of their
contemplated activities. As described further under "- Characterization of the
dollar notes", US tax counsel is also of the opinion that, although there is
no authority on the treatment of instruments substantially similar to the
dollar notes, and while not free from doubt, the dollar notes will be treated
as debt for US federal income tax purposes. Except as described in the two
preceding sentences (and set forth in the corresponding opinions), US tax
counsel will render no opinions relating to the notes or the parties to the
transaction.
An opinion of US tax counsel is not binding on the US Internal Revenue
Service (the "IRS") or the courts, and no rulings will be sought from the IRS
on any of the issues discussed in this section. Accordingly, the issuer
suggests that persons considering the purchase of dollar notes consult their
own tax advisors as to the US federal income tax consequences of the purchase,
ownership and disposition of the dollar notes, including the possible
application of state, local, non-US or other tax laws, and other US tax issues
affecting the transaction.
As used in this section the term "United States person" means (a) an
individual who is a citizen or resident of the United States, (b) an entity
treated as a corporation or partnership for United States federal income tax
purposes that is organized or created under the law of the United States, a
State thereof, or the District of Columbia, (c) any estate the income of which
is subject to taxation in the United States regardless of source, and (d) any
trust if a court within the United States is able to exercise primary
supervision over its administration and one or more United States persons have
the authority to control all substantial decisions of the trust, or the trust
was in existence on August 20, 1996 and is eligible to elect, and has made a
valid election, to be treated as a United States person despite not meeting
those requirements.
43
Tax status of the issuers, Funding, mortgages trustee and mortgages trust
Under the transaction documents, each of the issuer, Funding, and the
mortgages trustee acting in its capacity as trustee of the mortgages trust
covenants not to engage in any activities in the United States (directly or
through agents), not to derive any income from sources within the United
States as determined under US federal income tax principles, and not to hold
any mortgaged property if doing so would cause it to be engaged or deemed to
be engaged in a trade or business within the United States as determined under
US federal income tax principles. US tax counsel is of the opinion that,
assuming compliance with the transaction documents, none of the issuer,
Funding or the mortgage trust acting in its capacity as trustee of the
mortgages trust will be subject to US federal income tax. No elections will be
made to treat the issuer, Funding, or the mortgages trustee or any of their
assets as a REMIC or a FASIT (two types of securitization vehicles having a
special tax status under the Code).
Characterization of the dollar notes
Although there is no authority regarding the treatment of instruments
that are substantially similar to the dollar notes, and while not free from
doubt, it is the opinion of US tax counsel that the dollar notes will be
treated as debt for US federal income tax purposes. The issuer intends to
treat the dollar notes as indebtedness of the issuer for all purposes,
including US tax purposes. The discussion in the next section assumes this
result. By their purchase of US dollar notes, the respective holders will be
deemed to have agreed to treat such US dollar notes as indebtedness for US
federal income tax purposes, including for any US federal income tax reporting
purposes. In general, the characterization of an instrument for US federal
income tax purposes as indebtedness or equity by its issuer as of the time of
issuance is binding on a holder (but not the IRS), unless the holder takes an
inconsistent position and discloses such position on its US federal income tax
return.
The dollar notes will not be qualifying real property mortgage loans in
the hands of domestic savings and loan associations, real estate investment
trusts, or REMICs under sections 7701(a)(19)(C), 856(c) or 860G(a)(3) of the
Code, respectively.
Taxation of US holders of the dollar notes
Qualified Stated Interest and Original Issue Discount ("OID"). For
purposes of this summary, it is assumed that the dollar notes will accrue
interest at a rate equal to LIBOR plus a margin (or other qualified floating
rate within the meaning of Treas. Reg. ss. 1.1275-5), and, hence the dollar
notes will be treated as "variable rate debt instruments" for US federal
income tax purposes. Please consult the applicable prospectus supplement in
the event the US dollar denominated notes accrue interest at a rate other than
a qualified floating rate.
The issuer intends to treat interest on the US notes as "Qualified Stated
Interest" under United States Treasury regulations relating to original issue
discount (hereafter, the "OID regulations"). As a consequence, assuming that
such interest is treated as qualified stated interest, discount on such dollar
notes arising from an issuance at less than par will only be required to be
accrued under the OID regulations if such discount exceeds a statutorily
defined de minimis amount. Qualified stated interest, which generally must be
unconditionally payable at least annually, is taxed under a holder's normal
method of accounting. De minimis OID is included in income on a pro rata basis
as principal payments are made on such US dollar denominated notes. It is
possible that interest on certain dollar notes could be treated as OID because
such interest is subject to deferral in certain limited circumstances.
A US holder of a dollar note issued with OID must include OID in income
over the term of such US dollar denominated note under a constant yield method
that takes into account the compounding of interest. Under the Code, OID is
calculated and accrued using prepayment assumptions where payments on a debt
instrument may be accelerated by reason of prepayments of other obligations
securing such debt instrument. Moreover, the legislative history to the
provisions
44
provides that the same prepayment assumptions used to price a debt instrument
be used to calculate OID, as well as to accrue market discount and amortize
premium. Here, prepayment of the mortgage loans is not expected to alter the
scheduled principal payments on the dollar notes and accordingly, the issuer
intends to assume that the US dollar denominated notes will have their
principal repaid according to the schedule for purposes of accruing any OID.
No representation is made that the mortgage loans will pay on the basis of
such prepayment assumption or in accordance with any other prepayment
scenario.
As an alternative to the above treatments, US holders may elect to
include in gross income all interest with respect to the dollar notes,
including stated interest, acquisition discount, OID, de minimis OID, market
discount, de minimis market discount, and unstated interest, as adjusted by
any amortizable bond premium or acquisition premium, using the constant yield
method described above.
Sales and Retirement. In general, a US holder of a dollar note will have
a basis in such note equal to the cost of the note to such holder, and reduced
by any payments thereon other than payments of stated interest. Upon a sale or
exchange of the note, a US holder will generally recognize gain or loss equal
to the difference between the amount realized (less any accrued interest,
which would be taxable as such) and the holder's tax basis in the note. Such
gain or loss will be long-term capital gain or loss if the US holder has held
the note for more than one year at the time of disposition. In certain
circumstances, US holders that are individuals may be entitled to preferential
treatment for net long-term capital gains. The ability of US holders to offset
capital losses against ordinary income is limited.
Alternative Characterization of the dollar notes. The proper
characterization of the arrangement involving the issuer and the holders of
the dollar notes is not clear because there is no authority on transactions
comparable to that contemplated herein. The issuer intends to treat the dollar
notes as debt of the issuer for all US federal income tax purposes.
Prospective investors should consult their own tax advisors with respect to
the potential impact of an alternative characterization of the dollar notes
for US tax purposes.
One possible alternative characterization is that the IRS could assert
that the series 1 class C notes or any other class of notes should be treated
as equity in the issuer for US federal income tax purposes. If any class of
dollar notes were treated as equity, US holders of such notes would be treated
as owning equity in a passive foreign investment company ("PFIC") which,
depending on the level of ownership of such US holder and certain other
factors, might also constitute an interest in a controlled foreign corporation
for such US holder. This would have certain timing and character consequences
for US holders and could require certain elections and disclosures that would
need to be made shortly after acquisition to avoid potentially adverse US tax
consequences.
If the issuer was treated as a PFIC, unless a United States person makes
a "QEF election" or "mark to market election", such person will be subject to
a special tax regime (i) in respect of gains realized on the sale or other
disposition of its dollar notes, and (ii) in respect of distributions on its
dollar notes held for more than one taxable year to the extent those
distributions constitute "excess distributions". Although not free from doubt,
the PFIC rules should not apply to gain realized in respect of any dollar
notes disposed of during the same taxable year in which such dollar notes are
acquired. An excess distribution generally includes dividends or other
distributions received from a PFIC in any taxable year to the extent the
amount of such distributions exceeds 125% of the average distributions for the
three preceding years (or, if shorter, the investor's holding period). Because
the dollar notes pay interest at a floating rate, it is possible that a United
States person will receive "excess distributions" as a result of fluctuations
in the rate of US dollar LIBOR or the federal funds rate over the term of the
dollar notes. In general, under the PFIC rules, a United State person will be
required to allocate such excess distributions and any gain realized on a sale
of its dollar notes to each day during such person's holding period for the
dollar notes, and will be taxable at the highest rate of taxation applicable
to the dollar notes for the year to which the excess distribution or gain is
allocable (without regard to such person's other items of income and loss for
such taxable year) (the "deferred
45
tax"). The deferred tax (other than the tax on amounts allocable to the year
of disposition or receipt of the distribution) will then be increased by an
interest charge computed by reference to the rate generally applicable to
underpayments of tax (which interest charge generally will be non-deductible
interest expense for individual taxpayers). The issuer does not intend to
provide information that would enable a holder of a dollar note to make a QEF
election and the mark to market election will only be available during any
period in which the dollar notes are traded on a qualifying exchange or
market.
Backup withholding
Backup withholding of US Federal income tax may apply to payments made in
respect of the dollar notes to registered owners who are not "exempt
recipients" and who fail to provide certain identifying information (such as
the fifth registered owner's taxpayer identification number) in the required
manner. Generally, individuals are not exempt recipients, whereas corporations
and certain other entities generally are exempt recipients. Payments made in
respect of the dollar notes to a United States person must be reported to the
IRS, unless such person is an exempt recipient or establishes an exemption.
With respect to non-United States persons investing in the dollar notes, to
ensure they qualify for an exemption, the paying agent will require such
beneficial holder to provide a statement from the individual or corporation
that:
o is signed under penalties of perjury by the beneficial owner of the
note,
o certifies that such owner is not a United States person, and
o provides the beneficial owner's name and address.
Generally, this statement is made on an IRS Form W-8BEN ("W-8BEN"), which
is effective for the remainder of the year of signature plus three full
calendar years unless a change in circumstances makes any information on the
form incorrect. The noteholder must inform the paying agent within 30 days of
such change and furnish a new W-8BEN. A noteholder that is not an individual
or an entity treated as a corporation for US federal income tax purposes or
that is not holding the notes on its own behalf may have substantially
increased reporting requirements. For example, a non-US partnership or non-US
trust generally must provide the certification from each of its partners or
beneficiaries along with certain additional information. Certain securities
clearing organizations, and other entities who are not beneficial owners, may
be able to provide a signed statement to the paying agent. However, in such
case, the signed statement may require a copy of the beneficial owner's W-8BEN
(or the substitute form).
In addition, upon the sale of a note to (or through) a broker, the broker must
report the sale and backup withholding on the entire purchase price, unless
(i) the broker determines that the seller is a corporation or other exempt
recipient, (ii) the seller certifies (as described above) that such seller is
a non-United States person and certain other conditions are met or (iii) the
broker has the taxpayer identification number of the recipient properly
certified as correct.
Any amounts withheld under the backup withholding rules from a payment to
a beneficial owner would be allowed as a refund or a credit against such
beneficial owner's US federal income tax provided the required information is
furnished to the IRS.
Prospective investors should consult their own tax advisors with respect
to the foregoing withholding tax requirements.
THE US FEDERAL INCOME TAX DISCUSSION SET FORTH ABOVE IS INCLUDED FOR
GENERAL INFORMATION ONLY AND MAY NOT BE APPLICABLE DEPENDING UPON AN OWNER'S
PARTICULAR SITUATION. HOLDERS OF DOLLAR NOTES SHOULD CONSULT THEIR OWN TAX
ADVISORS WITH RESPECT TO THE TAX CONSEQUENCES TO THEM OF THE OWNERSHIP AND
DISPOSITION OF DOLLAR NOTES, INCLUDING THE TAX CONSEQUENCES UNDER STATE,
LOCAL,
46
FOREIGN AND OTHER TAX LAWS AND POSSIBLE EFFECTS OF CHANGES IN FEDERAL AND
OTHER TAX LAWS.
Material Jersey (Channel Islands) tax considerations
----------------------------------------------------
Tax status of the mortgages trustee and the mortgages trust
It is the opinion of Jersey (Channel Islands) tax counsel that the
mortgages trustee will be resident in Jersey for taxation purposes and will be
liable to income tax in Jersey at a rate of 20% in respect of the profits it
makes from acting as trustee of the mortgages trust. The mortgages trustee
will not be liable for any income tax in Jersey in respect of any income it
receives in its capacity as mortgages trustee on behalf of the beneficiaries
of the mortgages trust.
Tax status of Funding
Funding had "exempt company" status within the meaning of Article 123A of
the Income Tax (Jersey) Law, 1961, as amended, for the calendar year ending
December 31, 2004. Funding will be required to pay an annual exempt company
charge (currently (GBP)600) in respect of each calendar year during which it
wishes to retain "exempt company" status. The retention of "exempt company"
status (for as long as such status is available under Jersey law) is
conditional upon the exempt company charge being paid, Funding disclosing its
beneficial ownership within the required time limits and the Comptroller of
Income Tax in Jersey being satisfied that no Jersey resident has a beneficial
interest in Funding, except as permitted by concessions granted by the
Comptroller of Income Tax. As at the date of this Annual Report no Jersey
resident person has or is anticipated to have any beneficial interest in
Funding, and therefore such concessions are not expected to be relied upon.
As an "exempt company", Funding will not be liable to Jersey income tax
other than on Jersey source income (except bank deposit interest on Jersey
bank accounts). It is the opinion of Jersey (Channel Islands) tax counsel
that, for so long as Funding is an "exempt company", payments in respect of
the intercompany loan will not be subject to Jersey taxation and no
withholding in respect of taxation will be required on such payments to the
issuer under the intercompany loan.
It is the opinion of Jersey (Channel Islands) tax counsel that the income
of Funding will not be Jersey source income insofar as the income of Funding
arises only from the mortgages trust property and that property is either
situated outside Jersey or is interest on bank or building society deposits in
Jersey.
On June 3, 2003, the European Union Council of Economic and Finance
Ministers reached political agreement on the adoption of a Code of Conduct on
Business Taxation. Although Jersey is not a member of the European Union, the
Policy & Resources Committee of the States of Jersey has announced that, in
keeping with Jersey's policy of constructive international engagement, it
intends to propose legislation to replace the Jersey exempt company regime by
the end of 2008 with a general zero rate of corporate tax.
F. Dividends and paying agents
Not Applicable to Annual Reports Filed on Form 20-F
G. Statement by experts
Not Applicable to Annual Reports Filed on Form 20-F
H. Documents on display
The issuer, Funding and the mortgages trustee are subject to the
information requirements of the U.S. Securities Exchange Act of 1934, as
amended, and are therefore required to file reports,
47
including annual reports on Form 20-F, and other information with the SEC.
These materials, including this Annual Report and the exhibits hereto, may be
inspected and copied at the SEC's public reference rooms in Washington, D.C.,
New York, NY and Chicago, IL. Please call the SEC at +1-800-732-0330 for
further information on the public reference rooms. All filings made by the
issuer, Funding or the mortgages trustee electronically will be made available
to the public over the internet at the SEC's web site at http://www.sec.gov.
I. Subsidiary Information
Not Applicable to Annual Reports Filed on Form 20-F
Item 11. Quantitative and Qualitative Disclosures About Market Risk
The issuer has entered into a basis rate swap with Northern Rock plc, in
its capacity as the basis rate swap provider, and the note trustee, and has
also entered into dollar currency swaps with the dollar currency swap provider
and the note trustee, and into euro currency swaps with the euro currency swap
provider and the note trustee, each as described in the Granite Mortgages 04-3
Registration Statement. In general, the basis rate and currency swaps are
designed to do the following:
o basis rate swap: to protect the issuer against the possible variance
between the seller's standard variable rate payable on the variable
rate mortgage loans, the rates of interest payable on the flexible
mortgage loans which pay variable rates of interest no higher than
the rate offered by a basket of UK mortgage lenders or a rate which
tracks the Bank of England base rate, and the fixed rates of
interest payable on the fixed rate mortgage loans and a LIBOR based
rate for three-month sterling deposits;
o dollar currency swaps: to protect the issuer against changes in the
sterling to dollar exchange rate following the closing date and the
possible variance between a LIBOR based rate for three-month
sterling deposits and a LIBOR based rate for three-month dollar
deposits applicable to the dollar notes;
o euro currency swaps: to protect the issuer against changes in the
sterling to euro exchange rate following the closing date and the
possible variance between a LIBOR based rate for three-month
sterling deposits and a EURIBOR based rate for three-month euro
deposits applicable to the euro notes; and
o interest rate swap: to protect the issuer against in the possible
variance between a LIBOR based rate for three-month sterling
deposits and a fixed rate of interest applicable to the series 3
class A2 notes up to and including the earlier of (i) the interest
period ending on or immediately before the payment date in September
2011, (ii) the occurrence of a trigger event or (iii) the
enforcement of the Funding security and/or the issuer security.
In addition to the foregoing, the issuer may from time to time enter into
additional swap arrangements or add additional features to the swap
arrangements described above in order to hedge against interest rate risks
that may arise in connection with new mortgage loan products that the seller
assigns into the mortgages trust at a later date.
The basis rate swap
Some of the mortgage loans in the mortgage portfolio pay a variable rate
of interest for a period of time which may either be linked to the seller's
standard variable rate or linked to an interest rate other than the seller's
standard variable rate, such as a variable rate offered by a basket of UK
mortgage lenders or a rate that tracks the Bank of England base rate. Other
mortgage loans pay a fixed rate of interest for a period of time.
48
The amount of revenue receipts that Funding receives will fluctuate
according to the interest rates applicable to the mortgage loans in the
mortgages trust. The amount of interest payable by Funding to the issuer under
the intercompany loan, from which the issuer funds, inter alia, its payment
obligations under the currency swaps and the notes, are made in sterling.
However, for each interest period the issuer is required to pay interest
(1) on the dollar notes in dollars, based upon a LIBOR based rate for
three-month dollar deposits, (2) on the euro notes in euro, based upon a
EURIBOR based rate for three-month euro deposits, and (3) on the series 3
notes in sterling, based upon either (a) a fixed rate of interest applicable
to the series 3 class A2 notes up to and including the earlier of (i) the
interest period ending on or immediately before the payment date in September
2011, (ii) the occurrence of a trigger event or (iii) the enforcement of the
Funding security and/or the issuer security, and thereafter a LIBOR based rate
for three-month sterling deposits applicable to all series of notes (other
than the series 3 class A2 notes).
Under the dollar currency swaps and the euro currency swaps (each as described
below), the issuer is required to pay to the applicable currency rate swap
provider or interest rate swap provider, as the case may be, certain amounts
based upon a LIBOR based rate for three-month sterling deposits in return for
the US dollar, euro and sterling amounts it needs to pay the interest on the
dollar notes, the euro notes and the series 3 class A2 notes, respectively.
The amounts payable by the issuer to a dollar currency swap provider under the
dollar currency swaps, to the euro currency swap provider under the euro
currency swaps and to the interest rate swap provider under the interest rate
swap is paid in sterling. To provide a hedge against the possible variance
between:
(1) the seller's standard variable rate payable on the variable rate
mortgage loans, the rates of interest payable on the flexible mortgage
loans which pay variable rates of interest no higher than the rate
offered by a basket of UK mortgage lenders or a rate which tracks the
Bank of England base rate and the fixed rates of interest payable on the
fixed rate mortgage loans; and
(2) a margin over the LIBOR based rate for three-month sterling deposits,
the issuer has entered into the basis rate swap with the basis rate swap
provider and the note trustee.
Under the basis rate swap, the following amounts are calculated in
respect of each calculation period:
o the amount (known as the "calculation period swap provider amount")
produced by applying LIBOR for three-month sterling deposits plus a
spread to the notional amount of the basis rate swap as defined
later in this section; and
o the amount (known as the "calculation period issuer amount")
produced by applying a rate equal to the weighted average of:
(1) the average of the standard variable mortgage rates or their
equivalent charged to existing borrowers on residential
mortgage loans as published from time to time, after excluding
the highest and the lowest rate, of Abbey National plc,
Alliance & Leicester plc, Bradford & Bingley, HBOS plc, Lloyds
TSB Bank plc, National Westminster Bank plc and Woolwich plc;
(2) in respect only of any flexible mortgage loans the difference
between (a) the average of the standard variable mortgage rates
or their equivalent charged to existing borrowers on
residential mortgage loans as published from time to time,
after excluding the highest and the lowest rate, of Abbey
National plc, Alliance & Leicester plc, Bradford & Bingley,
HBOS plc, Lloyds TSB Bank plc, National Westminster Bank plc
and Woolwich plc, and (b) the weighted
49
average of the discount to the average interest rate calculated
in (a) above in respect of the flexible mortgage loans; and
(3) the weighted average of the rates of interest payable on the
fixed rate mortgage loans, other than fixed rate mortgage loans
which have become re-fixed mortgage loans since the immediately
preceding payment date,
to the notional amount of the basis rate swap.
After these two amounts are calculated in relation to a payment date, the
following payments are made on that payment date:
o if the calculation period swap provider amount is greater than the
calculation period issuer amount, then the basis rate swap provider
will pay the difference (after such difference is adjusted to take
account of amounts payable by the basis rate swap provider and the
issuer under the basis rate swap (as described below)) to the
issuer;
o if the calculation period issuer amount is greater than the
calculation period swap provider amount, then the issuer will pay
the difference (after such difference is adjusted to take account of
amounts payable by the basis rate swap provider and the issuer under
the basis rate swap) to the basis rate swap provider; and
o if the calculation period swap provider amount is equal to the
calculation period issuer amount, neither party will make any
payment to the other party.
If a payment is to be made by the basis rate swap provider, once received
by the issuer that payment will be included in the issuer available revenue
receipts and will be applied on the relevant payment date according to the
relevant issuer priority of payments. If a payment is to be made by the
issuer, it will be made according to the relevant issuer priority of payments.
The "notional amount of the basis rate swap" in respect of any payment
date is an amount in sterling equal to:
o the aggregate principal amount outstanding of the notes on the
immediately preceding payment date; less
o the balance of the principal deficiency ledger on such immediately
preceding payment date; less
o the aggregate outstanding principal balance on such immediately
preceding payment date of fixed rate mortgage loans which have
become re-fixed mortgage loans since that payment date.
In the event that a basis rate swap is terminated prior to the service of
a note enforcement notice or the final redemption of any class of notes, the
issuer shall use its best efforts to enter into a replacement basis rate swap
on terms acceptable to the rating agencies and the note trustee and with a
swap provider whom the rating agencies have previously confirmed in writing to
the issuer and the note trustee will not cause the then current ratings of the
issuer's notes to be downgraded, withdrawn or qualified.
The dollar currency swaps
The dollar notes are denominated in US dollars and investors will receive
payments of interest on, and principal of, these notes in US dollars. However,
the repayments of principal and payments of interest by Funding to the issuer
under the intercompany loan are made in sterling. In addition, the dollar
notes bear interest at a rate based on three-month US dollar LIBOR but the
50
payment made by the basis rate swap provider to the issuer is based on
sterling LIBOR. To hedge the variance between the US dollar LIBOR rate and the
sterling LIBOR rate, and to hedge its currency exchange rate exposure in
respect of these notes, the issuer has entered into six dollar currency swaps
relating to the dollar notes with the applicable dollar currency swap provider
and the note trustee.
Under each dollar currency swap, the issuer will pay to the dollar
currency swap provider:
o on each payment date, an amount in sterling equal to the dollar
amount of principal payments to be made on the relevant class of
dollar notes on that payment date, such dollar amount to be
converted into sterling at the relevant dollar currency swap rate;
and
o on each payment date, an amount in sterling based on three-month
sterling LIBOR (or based on an interpolated sterling LIBOR rate, as
applicable), which the dollar currency swap provider in respect of
such notes will then exchange for an amount in US dollars based on
three-month US dollar LIBOR (or based on an interpolated US dollar
LIBOR rate, as applicable) in order to pay to the issuer on each
payment date the interest amounts set forth below.
Under each dollar currency swap, the dollar currency swap provider will
pay to the issuer:
o on each payment date, an amount in US dollars equal to the amount of
principal payments to be made on the relevant class of dollar notes
on such payment date; and
o on each payment date, an amount in dollars equal to the interest to
be paid in US dollars on the relevant class of dollar notes on such
payment date.
As defined in this Annual Report, "dollar currency swap rate" means the
rate at which dollars are converted to sterling or, as the case may be,
sterling is converted to dollars, under the relevant dollar currency swap.
In the event that any dollar currency swap is terminated prior to the
service of a note enforcement notice or the final redemption of the relevant
class of dollar notes, the issuer shall use its best efforts to enter into a
replacement dollar currency swap in respect of the notes or that class of
notes to hedge against fluctuations in the exchange rate between dollars and
sterling and/or the possible variance between LIBOR for three-month sterling
deposits and LIBOR for three-month dollar deposits in respect of the dollar
notes. Any replacement dollar currency swap must be entered into on terms
acceptable to the rating agencies, the issuer and the note trustee and with a
replacement dollar currency swap provider that the rating agencies have
previously confirmed in writing to the issuer and the note trustee will not
cause the then current ratings of the notes to be downgraded, withdrawn or
qualified.
The euro currency swaps
The euro notes will be denominated in euro and investors will receive
payments of interest on, and principal of, these notes in euro. However, the
repayments of principal and payments of interest by Funding to the issuer
under the intercompany loan will be made in sterling. In addition, the euro
notes will bear interest at a rate based on EURIBOR, but the payment to be
made by the basis rate swap provider to the issuer will be based on sterling
LIBOR. To hedge the variance between the LIBOR rate and the relevant EURIBOR
rate and its currency exchange rate exposure in respect of
51
these notes, the issuer will enter into four euro currency swaps relating to
the euro notes with the euro currency swap provider and the note trustee.
Under each euro currency swap, the issuer will pay to the euro currency swap
provider:
o on each payment date, an amount in sterling equal to the amount of
principal payments to be made on the relevant class of euro notes on
that payment date, such euro amount to be converted into sterling at
the relevant euro currency swap rate; and
o on each payment date, an amount in sterling based on three-month
sterling LIBOR (or based on an interpolated sterling LIBOR rate, as
applicable), which the euro currency swap provider in respect of
such notes will then exchange for an amount in euro based on EURIBOR
based rate for three-month euro deposits (or based on an
interpolated EURIBOR rate, as applicable) with respect to the euro
notes in order to pay to the issuer on each payment date the
interest amounts set forth below.
Under each euro currency swap, the euro currency swap provider will pay
to the issuer:
o on each payment date, an amount in euro equal to the amount of
principal payments to be made on the relevant class of euro notes on
such payment date; and
o on each payment date, an amount in euro equal to the interest to be
paid in euro on the relevant class of euro notes on such payment
date.
As defined in this Annual Report, "euro currency swap rate" means the
rate at which euro are converted to sterling or, as the case may be, sterling
is converted to euro, under the relevant euro currency swap.
In the event that any euro currency swap is terminated prior to the
service of a note enforcement notice or the final redemption of the relevant
class of euro notes, the issuer shall use its best efforts to enter into a
replacement euro currency swap in respect of the notes or that class of notes
to hedge against fluctuations in the exchange rate between euro and sterling
and/or the possible variance between LIBOR for three-month sterling deposits
and EURIBOR for three-month euro deposits with respect to the euro notes. Any
replacement euro currency swap must be entered into on terms acceptable to the
rating agencies, the issuer and the note trustee and with a replacement euro
currency swap provider that the rating agencies have previously confirmed in
writing to the issuer and the note trustee will not cause the then current
ratings of the notes to be downgraded, withdrawn or qualified.
The Interest Rate Swap
The series 3 class A2 notes will bear interest initially at a fixed rate
up to and including the earlier of (a) the interest period ending on or
immediately prior to the payment date in September 2011, (b) the occurrence of
a trigger event or (c) the enforcement of the Funding security and/or the
issuer security, but the payment to be made by the basis rate swap provider to
the issuer will be based on sterling LIBOR. To hedge the variance between the
LIBOR rate and the fixed rate in respect of the series 3 class A2 notes, the
issuer will enter into an interest rate swap relating to the series 3 class A2
notes with the interest rate swap provider and the note trustee. The interest
rate swap will terminate upon the earlier to
52
occur of (a) the payment date in September 2011, (b) the occurrence of a
trigger event, (c) the enforcement of the Funding security and/or the issuer
security and (d) the date on which all of the series 3 class A2 notes are
redeemed in full. Under the interest rate swap, the issuer will pay to the
interest rate swap provider on each payment date up to and including the
earlier of (i) the payment date in September 2011, (ii) the occurrence of a
trigger event or (iii) the enforcement of the Funding security and/or the
issuer security, an amount in sterling based on three-month sterling LIBOR,
which the interest rate swap provider will then exchange for an amount in
sterling based upon a fixed rate of interest with respect to the series 3
class A2 notes (up to and including the interest period ending on or
immediately prior to the payment date in September 2011 or, if earlier, the
occurrence of a trigger event or enforcement of the Funding security and/or
the issuer security).
Under the interest rate swap, the interest rate swap provider will pay to
the issuer on each payment date up to and including the payment date in
September 2011, an amount in sterling equal to the fixed rate of interest to
be paid in sterling on the series 3 class A2 notes on such payment date. In
the event that the interest rate swap is terminated prior to the earlier of
(i) the payment date in September 2011, (ii) the occurrence of a trigger event
or (iii) the enforcement of the Funding security and/or the issuer security,
the issuer shall use its best efforts to enter into a replacement interest
rate swap in respect of the series 3 class A2 notes to hedge against the
possible variance between LIBOR for three-month sterling deposits and a fixed
rate of interest with respect to the series 3 class A2 notes up to and
including the earlier of (i) the interest period ending on or immediately
prior to the payment date in September 2011, (ii) the occurrence of a trigger
event or (iii) the enforcement of the Funding security and/or the issuer
security. Any replacement interest rate swap must be entered into on terms
acceptable to the rating agencies, the issuer and the note trustee and with a
replacement interest rate swap provider that the rating agencies have
previously confirmed in writing to the issuer and the note trustee will not
cause the then-current ratings of the notes to be downgraded, withdrawn or
qualified.
Ratings downgrade of swap providers
Each swap agreement includes provisions relating to a "RATING DOWNGRADE
EVENT" which will occur on each occasion where:
(a) the relevant debt rating (being the rating of the short-term or
long-term, as applicable, unsecured and unsubordinated debt
obligations) of the swap provider or any credit support provider, as
applicable, is either downgraded below an initial required rating or
below a secondary required rating, each as indicated in the table
below; and
(b) where such downgrade is made by Standard & Poor's and/or Fitch, as a
result of such downgrade, the then-current ratings of the notes may,
in the reasonable opinion of Standard & Poor's and/or Fitch, as
applicable, be downgraded or placed under review for possible
downgrade.
53
The initial required ratings and the secondary required ratings for each
swap provider are as follows:
INITIAL REQUIRED RATINGS
- ------------------------------------------------------------------------------------------------------------------------------
S&P MOODY'S FITCH S&P MOODY'S FITCH
------------ ------------- ------------- --------------- ------------ -------------
P-1 (short- P-2 (short-
A-1 term) and A2 F1 term) and A3 F2
basis rate swap agreement (short-term) (long-term) (short-term) Not applicable (long-term) (short-term)
------------ ------------- ------------- -------------- ------------ -------------
P-1 (short- P-2 (short-
A-1 term) and A1 F1 BBB- term)and A3 F2
interest rate swap agreement (short-term) (long-term) (short-term) (long-term) (long-term) (short-term)
------------ ------------- ------------- -------------- ------------- ------------
dollar currency swap agreements
P-1 (short- P-2 (short-
(1) series 1 notes (other than A-1+ term) and A1 F1 BBB- term) and A3 F2
series 1 class A2 notes) (short-term) (long-term) (short-term) (long-term) (long-term) (short-term)
------------ ------------- ------------- -------------- ------------- -------------
P-1 (short- P-2 (short-
AA- term) and A1 A+ BBB- term) and A3 BBB+
(2) series 2 class A1 notes (long-term) (long-term) (long-term) (long-term) (long-term) (long-term)
------------ ------------- ------------- -------------- ------------- -------------
P-1 (short- P-2 (short-
A-1+ term) and A1 F1 term) and A3 F2
euro currency swap agreements (short-term) (long-term) (short-term) Not applicable (long-term) (short-term)
------------ ------------- ------------- -------------- ------------- -------------
54
Following the occurrence of a rating downgrade event in respect of a swap
provider, the relevant swap provider may be required, within specified periods
of time, to take certain remedial measures in accordance with the relevant
swap agreement. These remedial measures and periods of time differ according
to the minimum ratings required or secondary required rating to which the
rating downgrade event relates and depending on whether it is an S&P, a
Moody's or a Fitch rating downgrade event. Such remedial measures may include
the relevant swap provider arranging for its obligations under the swap
agreement to be transferred to a third party with the minimum ratings required
by the relevant rating agency, procuring another third party with the relevant
initial required ratings to become co-obligor in respect of its obligations
under the relevant swap agreement and/or taking such other action as it may
agree with the relevant rating agency. In relation to Moody's, such third
party must have the initial required ratings of P-1 (short-term) and A1
(long-term) as specified above or such other rating as agreed with Moody's
(save in the case of the basis rate swap agreement, where the long-term
initial required rating of the basis rate swap provider must be A2). In
addition, the relevant swap provider shall provide collateral (as specified in
the relevant swap agreement) for its obligations under the swap agreement
either in place of or pending (depending upon the initial required rating or
secondary required rating to which the rating downgrade event relates) taking
those other steps.
A failure to take such steps will allow the issuer to terminate the
relevant swap agreement; provided, however, that in respect of a downgrade
termination event, in the event that the issuer designates an early
termination date (as defined in the relevant swap agreement) and there is a
payment due to the relevant swap provider, the issuer may only designate such
an early termination date if the relevant swap provider has found a
replacement swap provider.
Termination of the swaps
o The basis rate swap will terminate on the earlier of the payment
date falling in September 2044 and the date on which all of the
notes are redeemed in full;
55
o The dollar currency swap for the series 1 class A1 notes will
terminate on the earlier of the payment date falling in September
2025 and the date on which all of the series 1 class A1 notes are
redeemed in full;
o The euro currency swap for the series 1 class A2 notes will
terminate on the earlier of the payment date falling in September
2028 and the date on which all of the series 1 class A2 notes are
redeemed in full;
o The dollar currency swap for the series 1 class A3 notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 1 class A3 notes are
redeemed in full;
o The dollar currency swap for the series 1 class B notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 1 class B notes are
redeemed in full;
o The dollar currency swap for the series 1 class M notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 1 class M notes are
redeemed in full;
o The dollar currency swap for the series 1 class C notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 1 class C notes are
redeemed in full;
o The dollar currency swap for the series 2 class A1 notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 2 class A1 notes are
redeemed in full;
o The euro currency swap for the series 2 class A2 notes will
terminate on the earlier of the payment date falling in September
2044 and the date on which all of the series 2 class A2 notes are
redeemed in full;
o The euro currency swap for the series 2 class B notes will terminate
on the earlier of the payment date falling in September 2044 and the
date on which all of the series 2 class B notes are redeemed in
full;
o The euro currency swap for the series 2 class M notes will terminate
on the earlier of the payment date falling in September 2044 and the
date on which all of the series 2 class M notes are redeemed in
full;
o The euro currency swap for the series 2 class C notes will terminate
on the earlier of the payment date falling in September 2044 and the
date on which all of the series 2 class C notes are redeemed in
full; and
o The interest rate swap for the series 3 class A2 notes will
terminate on the earlier to occur of (a) the payment date in
September 2011, (b) the occurrence of a trigger event, (c) the
enforcement of the Funding security and/or the issuer security and
(d) the date on which all of the series 3 class A2 notes are
redeemed in full.
Any swap may also be terminated in the circumstances set out in the
relevant currency swap agreement, which include the following circumstances,
each referred to as a "swap early termination event":
o at the option of one party to the swap, if there is a failure by the
other party to pay any amounts due and payable in accordance with
the terms of that swap. Certain amounts
56
may be due but not payable in accordance with the terms of the swap
as described below under "Limited recourse and swap payment
obligation";
o if an event of default under the notes occurs and the note trustee
serves a note enforcement notice;
o upon the occurrence of an insolvency of one of the parties or the
merger of one of the parties without an assumption of the
obligations under the swaps, or changes in law resulting in the
obligations of one of the parties becoming illegal; and
o if the relevant swap provider is downgraded and fails to comply with
the requirements of the ratings downgrade provision contained in the
relevant swap agreement and described above under "-- Ratings
downgrade of swap providers".
Upon the occurrence of a swap early termination event, the issuer or the
relevant swap provider may be liable to make a termination payment to the
other. This termination payment will be calculated and made in sterling. The
amount of any termination payment will be based on the market value of the
terminated swap based on market quotations of the cost of entering into a swap
with the same terms and conditions that would have the effect of preserving
the respective full payment obligations of the parties (or based upon loss in
the event no market quotation can be obtained). Any such termination payment
could be substantial.
If any termination payment is due by the issuer to a swap provider, then,
pursuant to its obligations under the intercompany loan, Funding shall pay to
the issuer an amount required by the issuer to pay the termination payment due
to the relevant swap provider. Any such termination payment will be made by
the issuer to the swap provider only after paying interest amounts due on the
notes and after providing for any debit balance on the issuer principal
deficiency ledger to the extent that a default was caused by the swap
provider. However, if the issuer causes a default to occur that results in a
termination payment becoming due from the issuer to a swap provider, such
payment will be made by the issuer in the same priority as it pays the
relevant interest amounts due on the notes. The issuer shall apply amounts
received from Funding under the intercompany loan in respect of termination
payments in accordance with the issuer pre-enforcement revenue priority of
payments, the pre-enforcement principal priority of payments, the relevant
priority of payments following the occurrence of a trigger event or, as the
case may be, the relevant post-enforcement priority of payments. The
application by the issuer of termination payments due to a swap provider may
affect the funds available to pay amounts due to noteholders (see "Risk
factors -- Noteholders may be subject to exchange rate risks" in Item 3,
Sub-part D herein).
If the issuer receives a termination payment from the basis rate swap
provider, the dollar currency swap provider and/or the euro currency swap
provider, then the issuer shall use those funds towards meeting its costs in
effecting currency exchanges at the spot rate of exchange until a new dollar
currency swap and/or a new euro currency swap is entered into and/or to
acquire a new basis rate swap, new dollar currency swap and/or a new euro
currency swap. Noteholders will not receive extra amounts (over and above
interest and principal payable on the notes) as a result of the issuer
receiving a termination payment.
Taxation
The issuer is not obliged under any of the swaps to gross up payments
made by it if withholding taxes are imposed on payments made under the swaps.
A swap provider is always obliged to gross up payments made by it to the
issuer if withholding taxes are imposed on payments made under the swaps.
Limited recourse and swap payment obligation
57
On any payment date the issuer will only be obliged to pay an amount to a
swap provider to the extent that the issuer has received from Funding
sufficient funds under the intercompany loan to pay that amount to that swap
provider, subject to and in accordance with the relevant issuer priority of
payments. On any payment date, the dollar currency swap provider will only be
obliged to pay to the issuer an amount that is proportionate to the amount of
the payment that it has received from the issuer on that payment date.
Item 12. Description of Securities Other than Equity Securities.
Not Applicable to Annual Reports Filed on Form 20-F
PART II
Item 13. Defaults, Dividend Arrearages and Delinquencies
None
Item 14. Material modifications to the rights of Security Holders and use of
Proceeds
None
Item 15. Controls and Procedures
Item 16. [Reserved]
Item 16A. Audit Committee Financial Expert
Not applicable.
Item 16B. Code of Ethics
Not applicable.
Item 16C. Principal Accountant Fees and Services
Not applicable.
Item 16D. Exemptions from the Listing Standards for Audit Committees
Not applicable.
Item 16E. Purchasers of Equity Securities by the Issuer and Affiliated
Purchasers
Not applicable.
PART III
Item 17. Financial Statements
Not applicable.
Item 18. Financial Statements
Not applicable
58
Item 19. Exhibits
The following exhibits are filed as part of this Annual Report filed on
Form 20-F.
1. Exhibit 3: The Memorandum and Articles of Association of each of the
issuer, Funding and the mortgages trustee are incorporated by reference
from the Granite Mortgages 04-3 Registration Statement.
2. Exhibit 4: All instruments defining the rights of security holders as
described in the Granite Mortgages 04-3 Registration Statement are
incorporated by reference from the Granite Mortgages 04-3 Registration
Statement.
3. Exhibit 13.1: Investor's Monthly Report in respect of the issuer for
September 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on November 15, 2004).
4. Exhibit 13.2: Investor's Monthly Report in respect of the issuer for
October 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on December 21, 2004).
5. Exhibit 13.3: Investor's Monthly Report in respect of the issuer for
November 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on January 18, 2005).
6. Exhibit 13.4: Investor's Monthly Report in respect of the issuer for
December 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on February 15, 2005).
7. Exhibit 99.1: Annual Certificate of Compliance of the Administrator for
year end December 31, 2004.
8. Exhibit 99.2: Certification pursuant to section 302 of the Sarbanes-Oxley
Act 2002.
9. Exhibit 99.3: Report of Independent Accountants.
59
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, each
registrant certifies that it has reasonable grounds to believe that it meets
all of the requirements for filing on Form 20-F and has duly caused this
Annual Report on Form 20-F to be signed on its behalf by the undersigned,
thereunto duly authorized on June 8, 2005.
GRANITE MORTGAGES 04-3 PLC
By: /s/ Ian Bowden
--------------------------------------------
Name: Ian Bowden
Title: Representing L.D.C. Securitisation
Director No. 1 Limited
GRANITE FINANCE FUNDING LIMITED
By: /s/ Jonathan Rigby
--------------------------------------------
Name: Jonathan Rigby
Title: Director
GRANITE FINANCE TRUSTEES LIMITED
By: /s/ Julia Chapman
--------------------------------------------
Name: Julia Chapman
Title: Director
A-1
EXHIBITS
1. Exhibit 3: The Memorandum and Articles of Association of each of the
issuer, Funding and the mortgages trustee are incorporated by reference
from the Granite Mortgages 04-3 Registration Statement.
2. Exhibit 4: All instruments defining the rights of security holders as
described in the Granite Mortgages 04-3 Registration Statement are
incorporated by reference from the Granite Mortgages 04-3 Registration
Statement.
3. Exhibit 13.1: Investor's Monthly Report in respect of the issuer for
September 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on November 15, 2004).
4. Exhibit 13.2: Investor's Monthly Report in respect of the issuer for
October 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on December 21, 2004).
5. Exhibit 13.3: Investor's Monthly Report in respect of the issuer for
November 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on January 18, 2005).
6. Exhibit 13.4: Investor's Monthly Report in respect of the issuer for
December 2004 (incorporated by reference from the Form 6-K previously
filed with the SEC on February 15, 2005).
7. Exhibit 99.1: Annual Certificate of Compliance of the Administrator for
year end December 31, 2004.
8. Exhibit 99.2: Certification pursuant to section 302 of the Sarbanes-Oxley
Act 2002.
9. Exhibit 99.3: Report of Independent Accountants.