Short sales – solving the problem of negative equity?

With perhaps as many as 150-200,000 householders presently in negative equity and with some pundits forecasting negative equity may grow to affect 350,000 householders if prices drop 45% from peak (we’re presently 35% off peak) and with negative equity averages estimated around €50,000, our State might consider the application of a procedure which is growing in popularity in the USA which has its own serious problem with negative equity.

Short sales – this is where a householder with negative equity agrees with their bank on a sale price which is less than the amount outstanding on the mortgage. The property is offered for sale at that agreed price and if achieved, the bank writes off the loss. Eg John buys a property for €300k with a €200k mortgage. Prices collapse and John wants to sell. John agrees with the bank a selling price of €175k and the property is sold at that. The bank writes off a loss of €25k. Now the bank may in some US states try to get you to make up the €25k loss – in other States the bank must take the loss. In the US short sales affect credit ratings like foreclosures. By avoiding foreclosure the property should not be seen as distressed and may achieve a better price. What’s in it for John? He gets to move on with his life without having a debt over his head. What’s in it for the bank? They get to sell the property in a non-distressed state which should see a better price and they may realise more cash than if John was to be bankrupted. What the State gets is a freeing up of the housing market and a quicker consumer economy recovery as John’s life and his spending isn’t blighted by negative equity that may last a decade. You can find further information on property short sales here and here and here. Commentators estimate that short sales may comprise one fifth of all property sales in the US today.

Now in Ireland banks generally have the right to pursue a borrower for the full amount of a loan even if the bank has foreclosed and sold the property. So in the above example John would remain in debt to the tune of €25k even after selling the property. However part of the deal is that the bank writes off part of its debt with the intention that John can start his life anew.

At 350,000 mortgages in negative equity with an average negative equity value of €50,000 banks would be exposed to €17.5bn of write-offs if all of the losses were to be realised at once. The average home fell by an average of €3,500 per month in January, February and March 2010 (based on the Permanent TSB/ESRI index falling a national average of 4.8% over the first quarter of 2010 on property which on average was worth €213k at the end of December 2009). Average national rents are about €1000 per month. It has been estimated that upto 90,000 mortgages are presently impaired to some degree – officially 30,000 mortgages have been restructured and are operating in compliance with new terms and 30,000 others have some degree of impairment – less than 500 properties have been repossessed (foreclosed).  Unfettered short sales in Ireland could well see an overwhelming burden on banks already struggling with the prospect of €40bn of losses on NAMA-bound loans in addition to other provisions for impairments. However if realistic projections of property prices can be produced (which in turn will need realistic projections of demand and wage levels as well as a proper audit of overhang) then a scheme could be put in place which might allow a gradual realisation of negative equity losses over a manageable timeframe and those losses would hopefully be mitigated by a recovery in prices. The alternative is the prospect of a lost decade, according to the ESRI, as negative equity scotches consumer spending, labour mobility and a free-flowing property market.

The bottom line with short sales – banks would mitigate losses by avoiding firesales of distressed assets and will profit from a quicker recovery in the consumer economy and property market. Those in negative equity will regain financial freedom and will not rein in spending to the extent it causes permanent damage to the economy. The State benefits from unblocking the severe problem of negative equity in the economy. The downside? Banks may end up realising losses before the possibility of a full recovery of the debt if the borrower doesn’t default and property prices improve. Whether the advantages outweigh the disadvantages is worthy of study, but I leave you with this thought – if the US, probably the most business-centric and entrepreneur-friendly society there is, has adoped short sales then shouldn’t we at least be considering it.

Advertisement

Read Full Post »

Transferring assets to spouses, deferring repayment until the market improves, personal guarantees (including lost ones and allegedly altered ones), dyslexia

With NAMA leading the way on declaring judgement day on borrowers, a spate of loan recovery cases is hitting the courts.

A recurring theme with NAMA’s objective of doing all it can to recover loans is the issue of borrowers transferring assets to their spouses, relatives or related parties including companies. NAMA has stated that it will seek to have transactions set aside where it feels the object of the transfer was to avoid the loan liability. As stated on here before, for example here and here, NAMA may ultimately have to discontinue actions because of lawful methods adopted by borrowers. In proceedings apparently admitted to the Commercial Court yesterday, AIB and Bank of Ireland are pursuing two separate cases in which borrowers are alleged to have transferred assets to spouses. According to the report in the Independent, there is an allegation in at least one of the cases that the transfers were executed with the intention of defeating claims by creditors. Progress in these two cases might give an insight into issues that NAMA might face. UPDATE: 16th May, 2010, The Sunday Business Post examines this subject in more detail and suggests tsome smaller developers whose loans are NAMA-bound may have been involved in transferring assets to family members or offshore, sometimes acting upon advice from the professions. The article claims that “well-placed sources” have said that the top developers are not suspected at this stage of having transferred assets to avoid their obligations.

Mr Justice Peter Kelly was having a busy day in the Commercial Court yesterday when ACC Bank were in action against brothers Tom and James Considine in relation to a €6.9m loan for a development at Deerpark, Headford, Galway. The Independent reports that an application was made on behalf of the brothers to defer the matter for a year to allow property prices to recover and the development then to be sold. The judge refused the application and set out directions, including the disclosure of documentation by Tom Considine to demonstrate how the loan could be repaid. In Court it was claimed that the brothers had considerable net assets.

Also in the Commercial Court yesterday, ACC Bank (again) were in action seeking a summary judgement against a Sligo woman, Mary Gilmartin, for €47m being €37.3m in respect of a loan to a building company of which Mrs Gilmartin is a director and upon which she had allegedly given personal guarantees and a further €9.58m is being claimed in respect of loans to Mrs Gilmartin personally for the purchase of property. The case was deferred by Mr Justice Peter Kelly to Thursday this week when Mrs Gilmartin is expected to outline any defence. UPDATE: 13th May, 2010, Mrs Gilmartin consented to the Orders for judgement. Apparently ACC Bank are currently seeking documentation from Mrs Gilmartin’s husband concerning their company’s developments.

UPDATE: At least ACC Bank didn’t seem to have any problem locating paperwork supporting Mrs Gilmartin’s guarantees. In the Commercial Court on 13th May, 2010 according to the Irish Times, Bank of Ireland “admitted it has lost the actual guarantee but insists it can produce evidence Mr Lennon [Neil Lennon, acting manager of Glasgow Celtic Football club being pursued for €3m relating to a loan to a building company] signed it at Dublin airport in February 2006.” A full hearing of the case is expected after July 12th, 2010.

UPDATE: On 14th, May 2010 one of Ireland’s busiest judges, Mr Justice Peter Kelly was in action again. This time Anglo were seeking judgements in respect of two businessmen, Denis Collins and Michael Kiernan. The judge found that the guarantee document was “clearly altered” in an apparent “high-handed” way, without recourse to Mr Collins, according to the Irish Times who reported the case.

UPDATE: 18th May, 2010 – And finally a case where the judge has granted judgement to the bank to enforce personal guarantees. According to the Irish Times, today, Mr Justice Peter Kelly in the Commercial Court granted summary judgement orders in favour of AIB in their application in respect of  €8m of personal guarantees by Donagh Barry and Michael McCarthy. The guarantees were apparently given in respect of their company, Central Plaza Properties Limited, which has unpaid loans of €18m from AIB. The Irish Times states that personal guarantees “up to €8m” were provided by the pair, which begs the question – what security does AIB have in respect of the remaining €10m? The loan was apparently to help develop a site in the Mahon district of Cork City.

The fate of Jim Mansfield Junior who, along with others, was reported to have been  pursued by AIB for the repayment of  a €6.28m loan for a development remains unclear. On 30^th April, 2010, the Mansfield case hit the headlines partly because of Jim Junior’s famous dad, hotelier Jim Mansfield but mostly because Jim Junior’s defence seemed to focus on his poor ability to read (dyslexia was claimed) or to comprehend the nature of the loan documentation. Jim Junior is, apparently, a qualified pilot and his defence attracted amusement from some quarters. UPDATE: 3rd June, 2010, RTE report that the Commercial Court has granted judgement against the four defendants including Jim Junior. Although the judge, Mr Justice Peter Kelly accepted that Jim Junior had a disability and a reading age of 7 (apparently he could get ‘the cat sat on the rug’), the judge did not accept that the defendants had made an arguable defence and awarded judgement to AIB. It was also claimed that although Jim Junior could fly a helicopter he was unable to get a licence. UPDATE: 22nd June, 2010. The judgement in this case has now been published, and it makes exceptionally interesting reading, and is available from courts.ie here.

As debts related to property unwind, either through NAMA or in the courts, I have no doubt that defence law precedent on debt will be enriched in the coming years. UPDATE:  Whilst it appears the case that statistics as to volume and value of cases are not available from the Commercial Court, it appears that these recovery cases coming to court are picking up pace with another case reported by the Irish Times today where AIB is seeking a €18m judgement from a borrower, Joseph Joyce and Cahermorris Developments Limited, whose business interests include development . Of note is the bank’s papers in support of its application appear not to have been in order but the judge, Mr Justice Peter Kelly,  has apparently rescheduled the case for Thursday this week. UPDATE: May 15th, 2010, The Irish Times reports that Joe Joyce consent to summary judgements totalling €1m against himself and his company, Cahermorris Limited. Of note in the case is the judge, Mr Justice Peter Kelly said  it was right that the bank was not seeking additional interest or costs against the defendants because of, what the Irish Times describes as “admitted defects in the bank’s legal documents”.

Read Full Post »