Debt-defying problem

THERE is no greater challenge facing the country over the next few years than tackling the mortgage debt crisis.

The scale of the problem was underlined last week by the latest Central Bank figures, which show that €17.5bn worth of mortgages are in arrears by over 90 days. And that is just residential mortgages. The buy-to-let sector is equally troubled (see panels, right).

How the arrears crisis is tackled and resolved will have a huge bearing on the complexion of the economic recovery. Moreover, it will massive implications for the viability of the banking system.

Sinn Féin, the People before Profit alliance, and the Socialist Party are all calling for a write-down of unsustainable mortgage debt. Richard Boyd Barrett TD argues there should be a full writedown of the total value of mortgage arrears on the basis that “this is not our debt”.

The problem is, it is our debt. Every one of those mortgages is an individual agreement between the account holder and the bank. There is no doubt that banks were indiscriminately reckless when they were doling out mortgages in the boom years. All income groups had ready access to mortgages that far exceeded salaries or more importantly future salary expectations.

The collapse of the economy and the surge in unemployment has turned the problem into a crisis.

The upside of a blanket relief policy is that it allows people freighted with unsustainable debts to become active players in the economic recovery. Consumption levels would surge and confidence would return to what is a sclerotic economy.

But the downside of a blanket debt relief policy is that there are moral hazard risks. There is a sizeable cohort living in multimillion-euro houses that they can no longer afford. If there is a writedown of this debt, it would mean that hard-pressed taxpayers would be underwriting debt forgiveness of multimillion-euro mortgages. Moreover, if there was blanket debt forgiveness, then it would be impossible to differentiate those who can’t pay from those who won’t pay.

The new personal insolvency legislation replaces Ireland’s antiquated bankruptcy laws. The new arrangements provide a roadmap to deal with secured and unsecured debt, with a value of up to €3m, over a workout period of three years.

However, 65% of creditors have to agree to a personal insolvency arrangement — which in the vast majority of cases will be the banks. At the end of this period, the banks will have the ultimate say on whether secured debt — mortgages — are written off.

However, Central Bank governor Patrick Honohan told an Oireachtas finance committee in January that he wanted the banks to deal with mortgage arrears without resorting to personal insolvency legislation. He wants banks to meet distressed customers and work out solutions on a case by case basis.

The Government has stipulated that the banks have to meet quarterly targets on dealing with arrears or face sanctions, including higher capital charges. In many ways, this gets to the nub of the problem.

Following stress tests in Mar 2011, the three covered banks, AIB, Bank of Ireland, and Permanent TSB, were ordered to raise €24bn in fresh capital. The idea was to make the banks so well capitalised they would have sufficient buffers to absorb future losses, even in the event of adverse economic scenarios panning out.

The banks say that if there is blanket debt forgiveness, then they would burn their capital reserves and require a future recapitalisation. In other words, they would need a further bailout from the taxpayer.

Bank of Ireland and Ulster Bank both say they will not countenance debt writedowns under any circumstances. AIB and Permanent TSB have said that if at the end of a debt restructuring, the distressed customer cannot discharge the remaining debt, they will consider a writedown. But a decision will be made on a case-by-case basis.

Bank of Ireland is 15% state-owned. It wants to make a full return to the private fold as soon as possible. If it were to write off debt and subsequently needed to be recapitalised, it would have the choice of raising this in the private markets, at punitive rates, or look for a further capital injection from the Government and push it further into state ownership. This explains its policy on no debt writedowns.

Mr Honohan has said that long-term debt modifications and debt forgiveness will eventually have to be included in long-term solutions to the mortgage arrears crisis. This pits the Central Bank against both Bank of Ireland and Ulster Bank.

AIB and PTSB are state-owned. If they need to be recapitalised in the future, it will either have to come from the State’s coffers or the European Stability Mechanism. The Government will be anxious to avoid either scenario.

For successful debt restructurings to occur, there has to be an agreement between secured and unsecured creditors. Most distressed mortgage arrears customers will have substantial credit card debt and credit union loans. The latter two are mostly unsecured creditors.

The banks insist that mortgage repayments should get seniority in any debt restructuring because it is secured credit. The Central Bank is attempting to broker a workable agreement between secured and unsecured lenders.

Then there is the extremely thorny issue of repossessions. Because of the Dunne judgment, it is extremely hard for a bank to enforce a repossession order. The banks want this case overturned.

They say they will make every effort to keep a family in their home. However, the rate of repossessions will inevitably rise.

Repossessing homes is a very emotive issue. How this is handled will have implications for both the Government and the banks.