Devil in the detail in debt write downs

(this article appeared in the Sunday Business Post on the 23rd of March)

The banks are starting to write down debt. Should we be surprised? Recent news of large write downs on home loans by AIB has left out some of the necessary detail to add context to the story. The lender has equally shied away from confirmation of what happened, making it all a bit opaque.

Why would a bank choose to offer a capital reduction by writing off part of a mortgage? An alternative is to split the loan into a part which the customer can afford to pay and another part which is ”warehoused. If zero interest is charged on the warehoused part, then the affordability for the customer can be the same as if this part is written down, even if the psychological impact is different.

It is likely that there are peculiarities in the cases where debt has been written down, which means this will only happen in the minority of cases. For example, if a loan was on a one off house with a …

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Details of the new AIB debt write-down scheme

The information available at present is limited and the only thing we were able to obtain in terms of hard fact is that people on trackers won’t lose their tracker in this process.

Background info:   This is a variant of our split product and it can provide for upfront partial compromise of principle debt and a right sizing of the loan. It will contain features that incentivise and reward repayment of the loan B in advance of maturity.  It will also provide an opportunity for the customer to earn a ‘reward’ in the form of principle debt reduction if they keep to the terms of their A loan.     There is security of tenure built in as a feature for as soon as the borrower lives in the property.   Key details:     This is not a self-selected product. It will suit a certain, limited cohort of borrowers for which standard forbearance does not work. If standard forbearance works it will not be offered.  This split represents a final attempt to keep people in their homes where there is …

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Banks don’t offer ‘solultions’ they just say ‘no’

Something that people find really frustrating is how they look to a bank for a solution and are simply told ‘no’, there is never any mention of ‘what will work’. Imagine going into a negotiation where you have no idea of what is acceptable to the other party (short of full repayment), or even where full repayment can get rejected!

How are you meant to find any answer -given that all solutions are unknown and unknowable – if there is not at lease some kind of counter offer? Imagine doing this in any other area of your life…

You: I’d like to buy these shoes, how much are they? Shopkeeper: That depends. You: I’d be happy to pay €50 for them, will that work? Shopkeeper: No. You: What will you accept? Shopkeeper: That really depends. You: Do you want more or less or am I even in the right ballpark? Shopkeeper: Hard to say, it really depends…

(then go back to third sentence of conversation and LOOP UNTIL runtime error)

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The first rule about debt deals is ‘we dont talk about debt deals’

Due to disclosure requirements I can’t actually tell you much about dealing with banks when it gets to the specifics of some cases, what I can say is that should a person get any debt write down of the type that banks are not doing that you will be asked to sign something like the letter to the left (click for full version).

What we do find frustrating is that there will be an insolvency register where people are named, but that you can’t find out what kind of restructure took place or what creditors accepted.

This is almost like having an absence of case law with which to go to court. It’s a huge oversight and will reduce the effectiveness of advisors who will all act in a common arena totally blind to what all of the others are doing.

As for specifics, this means you can’t ever talk about getting a write down or even a non-write down advantageous re-arrangement. You can be asked to destroy all of the evidence you have referring …

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Mortgage to rent in as bad a shape as the mortgage market

I think Ciaran Lynch hit the nail on the head when he said the ‘mortgage to rent’ scheme risks ‘becoming a flop‘. The issue here comes down to the creditors treatment of borrowers.

We have already posted a letter from Pepper showing how they are willing to do write-downs for customers. This is there for anybody to see, it isn’t here-say or rumour. In that case the loans of GE Money (a sub-prime lender) were sold to another company at a big loss.

The buyer of the loan buys it for say, 36c on the Euro meaning a loan for €100,000 is purchased for €36,000. What happens next is that they write to the borrower and say ‘hey borrower, if you pay me €50,000 and make all of your payments then we’ll call it quits’.  Meaning the borrower gets a €50,000 debt write off for either paying their loan or selling up.

This is a strong incentive to do the right thing, and it …

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AIB debt writedowns? What does it mean?

The Irish Times carried an article that stated that AIB would write down some mortgage debt. What does this mean though and who will be the beneficiary?

To begin with, the write-downs should be no surprise, that is what the provisions AIB have been putting aside for several years are for, in fact, to date it’s almost like they weren’t playing fairly because they were booking provisions but not actually using them for what they were for.

Secondly, there are 33,000 AIB mortgages with problems, of these about 10,000 are ‘unsustainable’ and for those mortgages there will be losses booked – that is the ‘writedowns’ they are talking about in the main, but on the end of whatever solution comes out of if the person may not be the owner of the home.

Several solutions are things like ‘split mortgages’ which require no writedown, others will be ‘mortgage to rent’ which will, because in that process the ownership will change and that means crystallizing the loss. How many of the 10,000 will come out …

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Is getting a debt writedown a gift? Would you have to pay tax on it?

The US model of ‘short sales’ has a hidden sting in it that often gets lost in the noise, namely that the reduction of your debt is often considered a gain and it needs to be reported on your IRS Form 1099 (as opposed to a W2 or 1040) which covers income outside of wages/salaries/gratuities.

Which means that if you sold your property (we’re assuming it is in negative equity) for a €50,000 loss and the bank write that off, that in effect you have a non deductible loss which you didn’t pay and therefore you pay the tax on it (their equivalent of capital gains).

Like the US, Irish investors can offset capital losses against capital gains, in the case of your own home this doesn’t apply. In the American example a write-down creates a tax liability, although not in every state (my home-state of California being an example). This was becoming such a problem that the IRS brought out two special tax codes called ‘The mortgage forgiveness debt relief act …

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Debt relief without moral hazard.

I put on my thinking caps last week and drafted a paper called ‘Designing a Debt Relief programme with minimal moral hazard to address the Irish household debt overhang‘.

We were every happy with the write up it got in the Sunday Independent via Carol Hunt.

There is far too much talk of ‘moral hazard’ in the public debate to date, instead we should be also considering ‘separating equilibrium’ (which is kind of the opposite of moral hazard – it’s the ‘pain’ that comes with moral hazard ‘gain’).

To do this you have to create a programme which works within some of the parameters of the existing laws (new legislation must still take account of what exists before it), look at the operational aspects of the scheme (how it functions in real life), design a general algorithm of the process and most importantly have an ‘incentive alignment’ which means that neither party voluntarily makes an action to the intentional detriment of …

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The ‘Cost’ of Regulation

David McWilliams hit an interesting point in today’s piece in the Independent about having ‘too much regulation’, and how it may repel new banks from coming here.

in late 2009 I was picked as part of a team that approached PostBank with a view to turning it into an SME business bank – our proposal never even made it as far as board meetings because they were determined to close down rather than continue, we found the whole process perverse at best.

Instead the same investor group will be setting up in the UK, meaning SME’s in Ireland lose out on funding.

It isn’t that new banks don’t want to come here, it is that they are routinely put off from doing so via the Central Bank and the way in which we grant banking licences in this country.

The other regulatory issue is Basel III.

Asking a bank during a time like this to …

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