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New rules on personal insolvency leave banks facing legal challenge

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THE Government's new personal insolvency rules have left banks facing into a legal minefield that could force them to take back some of the €8bn of "securitised" mortgages that have been sold on to new investors.

Senior finance sources have confirmed to the Irish Independent that institutions could be forced to buy back mortgages that are reduced under newly designed Personal Insolvency Agreements (PIAs).

The range of circumstances where banks would have to take back bad loans is expected to be small, but there is significant uncertainty among the institutions about how the situation will play out.

The issue affects about €8bn of mortgages -- or more than 40,000 accounts -- that have been "securitised" by Bank of Ireland, EBS, Permanent TSB and Ulster Bank. Under the securitisation deals, new investors take over the mortgages' risk, but the bank continues to collect the loans. The vast majority of affected homeowners don't know their loans have been sold on, but can find out by asking their lender.

Both the Central Bank and the Department of Finance have insisted that banks will be required to treat securitised mortgages in exactly the same way they treat "normal" ones under the new insolvency regime.

Write-downs

But banks are conscious that they may face legal challenges if they accept write-downs on loans that they no longer own, and that they may be forced to "swap" the bad loan that's being written down for a good one in their 'main' portfolios.

The chances of having to swap a good loan for a bad one are particularly high if the person applying for debt relief has several loans, some of which are being paid and some of which aren't. Lenders could agree to write off debt in a way that made the entire portfolio of loans more sustainable, but would not necessarily be in the best interests of every loan.

"In this case, the decision to enter into a PIA may be outside the conditions set out in the prospectus and thus the lender would need to swap this particular loan out of the securitisation pool," said one finance source.

"This will mean that the bank will have to replace that mortgage in the securitisation pool and incur any capital cost and economic loss associated with the loan that was originally securitised."

Other sources suggested the issue could be more widespread, though they stressed that this would depend on how individual securitisation deals were structured.

One source said most agreements only mandated banks to act "prudently" with respect to their securitised loans, which would not appear to rule out agreeing a PIA provided it were in the best interests of the lender.

But he admitted that any write-offs could be the subject of legal challenge from aggrieved securitisation investors.

A senior source from another bank said that there were certainly "issues" around securitisations and the new personal insolvency rules.

The Department of Finance said the "potential interaction between securitisation and proposed reforms" had been "carefully considered" when the new personal insolvency rules were drafted.

Sources also pointed out that the new rules were still in draft form, and may be further fine tuned. Bank of Ireland, Permanent TSB, EBS and Ulster Bank all declined to comment.

Irish Independent