Borrowers may win quicker deals after their loans are sold on
THROUGH 2010 and 2011 a lot of US investors asked us about the prospect of buying real estate debt. This was their way of trying to get significant exposure to Irish property without going through the process of buying individual properties.
While packaging and selling of loans had not developed here, it is an established process in the US and other markets. However, since June 2012 five significant Irish property loan books have been sold for prices that total over €800m. That puts the €600m of investment property sales in Ireland last year in the shade.
When a loan is sold the bank sells its interest in the contract. The bank's contractual entitlements include the right to receive the interest and capital payments in return for the security, the title documents and possibly some other security like a personal guarantee it holds from the borrower.
The banks that operate in Ireland are slimming down and they need to reduce the size of their loan books in an effort to either close the bank or 'right size' themselves.
Where a loan is not performing the bank has a number of options. They can do nothing. They can look to enforce, which typically means entering an insolvency process of receivership or alternatively, they could look to sell the loan. Insolvency can be a slow process and can be costly. It is not feasible for banks looking to deleverage to enforce on every non-performing loan as they simply would not have the resources to manage that process.
With a non-performing loan, the bank is likely to take a hit on the amount outstanding, whichever route it takes. Depending on the provisions that have been made against the loans, this may or may not be palatable for the bank. Selling the loan crystalises this loss, whereas extending the loan can buy the bank time. The level of discounts being made on loans sold here in 2012 were between 60pc and 90pc.
What the loan sale means for the borrower depends on whether or not it is performing. If the loan is current and performing, little will change. Where the loan is not performing it can bring a more aggressive stance from the new lender, but, more interestingly, it can bring an opportunity.
Put simply, the purchaser of the loan is less concerned about the amount originally borrowed, but focuses on the cost of acquiring that loan and the value of the security.
Secondly, the borrower is unlikely to have any other obligations to the new owner of the loan such as a home loan or credit cards. Thirdly, the buyer of the loan is generally unfettered by political accountability and can 'do a deal'. Some form of debt forgiveness which has been off limits for the banks is a realistic possibility for borrowers whose loans have been sold.
The buyers of the loan books are generally looking to make a profit and, depending on how they measure this, an early redemption at a small profit over cost will work better than a slower result. Not surprisingly, the challenge for the borrower when negotiating with a new owner of debt typically requires the borrower having to come up with the money to pay the new owner.
New debt is available in the market, albeit at relatively low loan-to-value ratios of up to about 60pc on investment property. That means the borrower will have to fund the balance from other sources. However, most borrowers do not have significant cash reserves available.
We are now seeing many borrowers engaging with their 'new bank'. Where the borrower is not in a position to refinance they can try to 'back-to-back' a sale of the property in a three- way deal where a property purchaser effectively redeems the loan and the original borrower extricates themselves from the loan and the property altogether. Tripartite deals are always more challenging – but can be done.
We expect that the buyers of these loans will aggressively deal with the loans through insolvency, debt forgiveness and refinancing which should bring greater activity into the market.
With property markets becoming more predictable and appearing to have found a bottom, in many cases borrowers and insolvency practitioners should be able to move forward with greater confidence.
Duncan Lyster is investment director, Lisney