How should home mortgages be dealt with in the new insolvency legislation?

[Brendan Burgess]

There seems to be disagreement between the Department of Justice and the Department of Finance on how mortgagages will be dealt with under the new insolvency legislation.

|John
unsecured debt |€30k
House worth|€200k
Mortgage|€300k
Net deficit|€130k

First of all, if John is earning €60k a year, he will be well able to repay his debts over time and would not need to avail of debt settlement.

However, say John's income is only €30k a year. He needs some form of debt settlement.


Option 1 - write off the negative equity

It seems that the Department of Justice are suggesting that the €100k negative equity will be treated as unsecured debt.
The €30k unsecured debt would be written off and John's mortgage would be written down by €100k.

John will be left with his home of €200k and a mortgage of €200k.

This is great for John. But totally unfair to someone in the same position but who has an income of €60k and is paying off her loans.

If this was allowed, It would result in a lot of people artificially reducing their income to avail of debt write off. After the settlement period, they would start earning more again and would end up owning their own home free of debt.

While the public reaction might be this serves the banks right, given that the taxpayer owns half the mortgages, it effectively means the taxpayer forgiving John's mortgage. It would also mean the lenders would be very reluctant to give out new mortgages if the borrower was able just to write them off.


Option 2 - Write off the unsecured debt - leave the mortgage as is

If John can pay the interest on €200k of the mortgage, he should do so and the unpaid interest should be deferred.

|John
House worth|€200k
Mortgage|€300k
Net deficit|€100k

If John is able to pay the interest on €200k, this is the fairest option.

John stays in his house.
The interest he can't pay is deferred under the Deferred Interest Scheme
If John's finances improve or if the value of the house rises, he may be able to clear his debts in time.

Of course, John would prefer Option 1, but this is totally unfair to the bank/taxpayer.

Option 3 - Surrender the home and write off the shortfall and unsecured debt

If John can't pay the interest on the current value of the house, then he should not keep his house.

Many people will object to John even being allowed to be forgiven the shortfall. But in reality, the bank is never going to get paid this anyway, so they may as well write it off and let John have a fresh start.

 

[Brendan Burgess]

There is a widely held view that a borrower must pay off the capital on their mortgage over 30 years. The question is asked, what happens after 30 years if John still has a mortgage as he would have if he is deferring some of the interest?

The ideal situation is that someone pays off their mortgage and becomes mortgage free after 20 or 30 years.

But the ideal is not always possible. Many people never get to buy a house and enter retirement still renting, either privately or from the local authority.

It is wrong to suggest that the only acceptable solution for John is to own his €200k house mortgage free after 30 years.

In our example where John defers the interest he can't afford, many positive things can happen over the next thirty years.

• John's income can improve and he can start repaying the deferred interest and the capital.
• House prices may recover and the value of the house may exceed the outstanding loan leaving John solvent again
• John may get someone in to share the house and the cost of the mortgage
• John may get a gift or an inheritance or redundancy to help reduce the debt.

Bad things can happen to.

• John's income can decline and the situation gets worse
• The house falls in value over the next 30 years leaving the deficit even higher.

Maybe after kicking the can down the road for 5 years, John has an unsustainable mortgage and has to sell the house and write off the shortfall. But at least he will have been in the house for 5 years and the government will have been saved the cost of housing him for those 5 years.

 

[Wipetheslate]

I agree with you Brendan , lots of us in trouble just want to stabilize our lives according to our current financial means ,if this means paying interest only for 5 + years and only chipping away at the capital when you can afford it , inflation over say 20-30 years can diminish the debt ,if a lot of flexibility is available to people in trouble I'm sure many people would carry on ,that goes for businesses with commercial property loans too. Society would benefit from this .The only question is will the banks be willing to let people on .75% above ECB do this while it costs them more to fund it. Also debt forgiveness is not a new concept to this country , remember when all us law abiding tax payers forgave unpaid taxes in the amnesties.

 

[Brendan Burgess]

The only question is will the banks be willing to let people on .75% above ECB do this while it costs them more to fund it.

This is a valid and difficult point.

A fair test would be to see if the borrower can pay the SVR on the current house value.

House|€200k
Mortgage|€300k
Tracker rate|2%
Annual interest on mortgage|€6k
Standard Variable Rate|4%
SVR interest on house value|€8k

The lender could repossess and lend out the money again at 4%. So they lose a lot if they are limited to charging 2% on €200k.

The lender would also be better off because they presumably would lend at 80% LTV so they would have better security and would be able to get capital repayments.

I think a fair solution here would be that the inherent value of the cheap tracker to the borrower should be recognized by the bank.
The shortfall should be written off.
The loan should be switched to SVR.

Brendan