Irish mortgage arrears a source of concern for Commission

Considerable challenges remain in the banking sector, particularly in relation to the growing level of non-performing loans, according to the internal staff report prepared by the EU Commission.

The paper, prepared after the latest review of the Coalition’s performance on the bailout programme, does acknowledge that the Government has stepped up efforts in this key area and welcomes the forthcoming legislation which will remove unintended impediments to enable banks to recover collateral loans in default.

This is a reference to the uncertainty that arose in relation to the ability of banks to repossess properties under 2009 legislation following a High Court judgement in 2011.

The paper has pointed out that half of distressed loans are in arrears for 720 days or longer and it asserts that it is essential that banks engage meaningfully with debtors. It notes the new targets set by the Government last month which will require the main banks to propose sustainable solution for 50 per cent of their 90 day-plus mortgage debtors by the end of this year.

“The key test of sustainability will be whether the terms of the restructured solutions are being adhered to an ongoing basis,” it says.

The paper also says the high level of mortgages in default is a "persistent source of concern" and notes the level is higher than that forecast by the Government's robust stress test in March 2011. It argues that with the sharp increase in problem mortgages there is a need for a new robust prudential capital assessment review (PCAR) to be conducted before Ireland exits its bailout programme.

“The specific features of the methodology for the next PCAR exercise will be agreed with the Troika by the end of June 2013.”

It says the next stress test will be completed by the end of September this year but notes that the Government has not agreed fully to the timing, saying that the stress tests in Ireland should be conducted at the same time as others in the EU.

The staff paper criticised the treatment of restructured loans, especially through short-term forbearance, such as interest only. This arrangement accounts for 37 per cent of all mortgage restructuring. The net criticism is that these loans are classified as “performing” after six months even though there is no evidence the principal (as opposed to the interest) is being repaid.

“This appears insufficiently prudent given the capacity of the borrower to fully honour both interest and principal obligations under the loan would not have been adequately demonstrated.”

Another substantial concern raised by the staff paper is that some aspects of the financial system may be affecting mortgage payment discipline. It is suggested that homeowners are paying off debts such as credit card bills ahead of their mortgages.

“Specifically, banks report that a significant number of consumers are prioritising debt over the repayment of their secure debt," it said. “While this may be an attempt on the part of indebted borrowers to keep access to some source of credit by repaying the smaller debts first, it may also reflect the moral hazard generated by legal uncertainty about the banks’ ability to recover the collateral”.

This is a reference to the Court judgement which cast doubt on the 2009 law used by banks to make possession orders.