The landscape of the Irish property market is disjointed. In first quarter 2013 we have witnessed some rising house prices. However, this is only in certain parts of the country and particularly in Dublin. In other areas unemployment and high supply are keeping the market suppressed.
There is uncertainty over the impact of the Personal Insolvency Act on supply; there are legal roadblocks to bank repossessions; there is a very high percentage of mortgage arrears; there are a high number of cash transactions; and finally there is the perception that the banks are not open for business.
This article deals with some of these issues with most focus on mortgage arrears and solving that problem. It is important to note that at current new-build levels (8,000 or so in 2012) we are way below where the demand in this country is expected to be for the next 10 years given the demographics and the expected trends. We will need up to 30,000 new builds annually to meet the needs in the country.
Estimates put the number of mortgages in distress at about 13-16 per cent of all mortgages in the country or about 140,000 mortgages. It's important to note that half the property stock in Ireland does not have any mortgages so the overall number in distress is 8 per cent or below.
Anecdotal evidence would suggest that there are also a lot of people close to a distressed state and are fighting to maintain payments. The people must not be forgotten in a solution because the last thing we need is for them to fall into a distressed state. In the United States the banks and the government are much more advanced in dealing with the same issues, having started the process back in 2009.
More on this later, but firstly lets deal with the demand side. We are all hearing stories of the banks not lending and refusing perfectly good applications for loans and mortgages. One story I heard recently was of a husband and wife who wanted to extend their home. They have no children and both of them are in professional, well-paid, secure employment. The bank refused the mortgage loan.
However, this does appear to be changing with the banks expected to lend €2 billion or more in 2013 and with a sizable uptick in Q4 2012. Experts say that for Ireland to be in equilibrium, lending across the country would be in the €8 billion range annually. This means there is room for improvement over the coming years.
Aside from the arrears problem, one of the biggest challenges is the lack of liquidity on the market both for mortgages and SMEs.
If demand rises, as is expected, but there is no money for people to borrow then we could see investor-lead purchases.
This is what is happening in the United States in a lot of markets. Institutional money and investors are looking for investment and have started to bulk-buy single family homes, whereas in the past they would have stuck to multi-family housing units and commercial properties.
This is a new asset class that requires new thinking and management given the disparate nature of the portfolio and it remains to be seen if these investors can make money.
What is clear is that there is an investor feeding frenzy in the United States and due to lack of liquidity, owner/occupiers cannot get access to mortgages and even if they do, they are being outbid by investors. We could see the same phenomenon in Ireland as the demand for housing goes up in an illiquid market.
In the US they have what are called FHA-insured mortgages. FHA stands for Federal Housing Administration. Essentially an FHA loan is a loan insured by the government.
Historically, this programme has allowed lower-income Americans to buy homes by providing an insurance policy to the lender should that mortgage default. FHA loans have been around since after the Great Depression when the concept was brought in to help stimulate the economy. It also provided a facility to securitise mortgages and thus attract investors.
In fact, small investors can also get involved through the establishment of Reits (real estate investment trusts), all of which might provide much needed liquidity to the Irish market.
In Ireland the State owns the banks (or large portions of them) and also guarantees private deposits, albeit to a lesser extent than previously. So we are guaranteeing deposits – people with money who are not spending, while we are blocking giving money to people who want to spend it and stimulate the economy.
Why not provide a State-guaranteed insurance-based loan scheme to potential borrowers that will take away the risk from the banks and help get to the €8 billion equilibrium number and similarly for SME loan sector? This can be a zero-sum game and cost the exchequer little or nothing by adding the insurance charge onto the mortgage payment or through some other mechanism. This approach has the following benefits:
(1) It provides much-needed lending liquidity to the housing market to drive the demand side which will have long-term and deep ripple effects in the economy;
(2) It creates a vehicle for securitising mortgages which itself can be used to increase liquidity;
(3) If done correctly, it should be cost neutral to the State.
Of course potential borrowers will still have to submit all of their financial statements and be properly assessed but this type of insurance policy for properly assessed lending criteria will at least allow some people to purchase homes – a demand that we know exists and is set to increase.
In theory, loan insurance could be extended to other types of loans including to the SME sector, with the same type of assessment and thus provide much-needed liquidity to this hard-working and hard-pressed sector. Guarantee the people who want to spend money, not the people who want to save money.
In 2009 the Obama administration published guidelines for the Making Home Affordable (MHA) programme. MHA is made up of a number of other programmes designed to help distressed borrowers. The key about the MHA is that it is government-driven and monitored. This ensures compliances with the programmes by the banks.
Recently in Ireland, we have seen an uptick in activity around mortgage adjustments but it is all at the discretion of the banks and every bank is doing things differently and are at different stages.
There are two key programmes that form part of MHA, one being the Home Affordable Modification Programme (HAMP). HAMP is designed to enable borrowers that meet eligibility requirements to avoid foreclosure (repossession) by modifying loans to a level that is affordable for borrowers and sustainable for the long term – the aim is to reduce the percentage of payment on a mortgage to 31 per cent or less of total take home pay.
Home Affordable Foreclosure Alternatives (HAFA) provides borrowers that do not qualify for a HAMP modification with options to avoid foreclosure through a short sale or deed-in-lieu. A short sale is where the home is put up for sale and the bank agrees to write down the principal balance to the amount received through the sale of the property. A deed-in-lieu is essentially a handing back of the keys to the bank – provide the deed to the bank, in lieu of repossession.
Short sales have become a much more acceptable solution to the housing problem than foreclosure. In a lot of cases homeowners come to the bank with an offer on their home already in hand.
The Personal Insolvency Act will likely create the equivalent of short sale situations in Ireland but we need to be very careful about the way that happens. The difference in the short sale versus insolvency is that the bank never owns the property in a short sale scenario.
It remains to be seen who will own the property in Ireland (and thus bear the cost of maintaining it and trying to sell it) in the event of insolvency. Right now it looks like this will fall to the banks, which in effect will turn them into what is termed mortgagee in possession – effectively asset managers. There are a number of outsourcing companies moving into the Irish market in anticipation of this event and are ready and willing to help the banks when they become the mortgagee in possession.
Irish society has shunned the idea of allowing the banks to foreclose or take possession of the home. The family home has some protections under the Constitution. Unfortunately, however, the problem is simply not going to go away. In particular, there are an estimated 30,000 buy-to-let properties that the banks will eventually start to repossess, and this will create asset management issues for them.
There are a number of legal obstacles to repossession that the Government has said it will remove with caveats. It will not be a free-for-all for everyone in arrears, but should allow repossession in cases that make sense.
Unfortunately, this is a requirement if we are to see a recovery across the board in the mortgage banking and housing sectors. In the US, the housing market is recovering much faster in the states that allowed the foreclosure process to flow quickly. The theory is that you have to pull the Band-Aid off and let the process flow, which will lead to a quicker recovery. In Ireland we have firmly glued down the Band-Aid for the past number of years and essentially put our collective heads into the sand.
After the recent promissory note deal, there now appears to be momentum in the market place to deal with the issue and the Central Bank is putting a lot of pressure on the banks to initiate HAMP and HAFA like loan modification programmes.
While these will have some success, unfortunately repossession or foreclosure will also become inevitable as will some level of debt forgiveness. As a society, Ireland has to collectively address this problem and be open and accepting of debt forgiveness as one of the tools on the way to recovery for all. We cannot let large parts of our society languish in property traps or have large defaults. If we do, the consequences will be a much longer recovery period for the entire country.
Personal Insolvency Act
The Personal Insolvency Act could have significant consequences for the housing market in Ireland. If it is taken up in earnest by people struggling with their mortgage, it may flood the market with new properties.
Given that the demand side is struggling in some areas, this may further depress the housing market in the short term in those areas. However, additional inventory will be welcomed in other areas such as Dublin, Cork and Galway.
Principal writedowns, managed short sales, and mortgage modifications on a case-by-case basis would provide a much softer cushion. If the Personal Insolvency Act does lead to the banks taking possession, then they must be prepared for that eventuality and implement solutions to manage that.
Recent figures released in the US point out that since 2007 there have been 5.75 million loan modifications carried out. Short sales are on the increase and are running at around 40,000 per month and increasing.
Together these tools have prevented over 6.7 million homes from being repossessed, which otherwise would have had a costly and heavy impact on a personal homeowner level, on a bank level, and on a macro-economic level.
While there are definite green shoots in some areas in Ireland, in other areas the housing market is not in good shape. We have to address the demand side in order to restore some hope to the beleaguered market and the vicious circle that is lack of capital, tied to high negative equity, tied to high unemployment.
We should look to other countries that have already dealt with very similar problems and analyse what worked and what did not work and take all of the good ideas and empirical evidence and implement it here. There is no one size fits all and the solution will be a combination of mortgage adjustments, debt forgiveness, insolvency and unfortunately some repossessions.
On the demand side the creation of capital availability through insured loans, more pressure to lend, mortgage securitisation and other means must be addressed simultaneously.
The fact is that in Ireland the problem is on an upward curve – more people are falling into default on mortgage and SME loans. If we address this now, today, we can get it solved. If we continue to put our heads in the sand it will get worse and prolong the uncertainty for the entire country. Like every problem in life, business or otherwise, only by stepping up to it will we solve it and the sooner we do the sooner we will solve it.
Seán Ryan is CEO of Aspen Grove Solutions which specialises in technical software solutions to manage distressed assets including "mortgagee in possession" properties, short sales, property inspections, vendor management and compliance and reporting