Ministers responding to Professor Kelly expressed different ideas around debt forgiveness. Housing Minister Willy Penrose welcomed discussion of the idea, while Brian Hayes and Eamon Gilmore said no to blanket debt forgiveness schemes, and finally Joan Burton said the idea of debt forgiveness should be explored, citing international evidence of programs that were working.
All over the place.
The Government still doesn't seem to know what it is doing, and has kicked for touch by setting up an expert working group to report in at the end of September. This is not encouraging: Solutions for mortgage debt are mooted in the Programme for Government (remember that?), debt forgiveness has been discussed publicly for at least 18 months, and a series of reports on mortgage debt and bankruptcy legislation have already been written.
There is still no agreed definition of what we as a society mean by ‘debt forgiveness’. The common perception is that many of those who speculated in the housing market and lost are now to be allowed to walk away from that loss with the burden to be borne by the banks and their owners, the tax payer. Letters to newspapers rightly complain about the unfairness of such a policy. "I didn't go mad during the boom, why should I bail you out?" is the common refrain. Policy makers worry about 'moral hazard', meaning if I know I'll get away with something like running up debt, I'm encouraged to do it again. Commentators worry about our ability to pay for this as a society. Surely debt forgiveness means higher taxes? Someone has to pay these debts. But we don't have any money. So debt forgiveness is a bad idea.
And yet, no one has proposed such a policy. The debate is moving on, thankfully, but it is still shrouded in emotion, uncertainty, and terminological inexactitude. For example, lots of people worry about negative equity, but negative equity is not the key concern. Actual mortgage arrears are. Most people in negative equity make every effort to keep paying – they want to keep their house. So let's focus on those tens of thousands of homes not meeting their obligations as debtors.
There are several types of borrower we must consider. First, those who will likely never be able to pay their mortgages. Second, those borrowers who can’t meet their current debt service obligations but whose ability to service their debts might be restored with some restructuring, and third, those who can pay, even at some personal cost to themselves, much like myself. They should not be given any relief.
For the first type of debtor, who will never be able to pay the options will be limited, and they will be painful. Either sell the house, give the proceeds to the bank in full and final settlement, and move on, continue to live there as a renter, emigrate, or find social housing.
Reform of bankruptcy laws is the correct mechanism to help the first class of 'will never pay' mortgagees. Our bankruptcy laws are archaic. Any system which sees just nine people a year processed into bankruptcy is not working. New bankruptcy legislation is coming, but so is Christmas. Efficient bankruptcy legislation can help speed people through this very painful process. The staff of 2,100 in the UK's Insolvency Service processed 30,513 individual insolvencies in England and Wales in the second quarter of 2011, with 15 times our population. So it can be done, and done quickly. With the number of homes in mortgage arrears rising steadily, the pressure to introduce this legislation will be extreme.
Just introducing new legislation for bankruptcy lumps the first two types together, harming a large section of Irish society needlessly. A debt forgiveness policy that can differentiate between the two types--those who will never pay and those who might pay--will save the taxpayer in the long run, help the struggling family in questions, and bring clarity to banks' balance sheets.
Think about it in concrete terms for a second. John and Jane bought a house in 2005 for €400,000, now worth €200,000 if they are lucky. They can't service the mortgage. What can they do? They can leave the house, try to sell it, and give the proceeds of the sale to the bank in partial or full settlement of the debt. The bank has to write off €200,000 as a bad debt, and John and Jane either emigrate or become wards of the state that require social housing. John and Jane will likely never borrow again to buy a house. But they will require housing, and that will represent an ongoing cost to the state. John and Jane lose their home. The bank loses 200 grand (but gains certainty about that part of its balance sheet). The state bears the cost of housing them, and of injecting 200,000 into the bank from the €6 billion earmarked for these mortgage losses. Everybody loses.
But imagine John and Jane *could*, with some pain, service a 250,000 euro mortgage. Let's look at making debt forgiveness work. Various solutions could work in conjunction with an efficient bankruptcy system. We can test John and Jane to see if they will be able to pay, based on an affordable percentage of main income earner, then reduce amount owing based on the real value of their incomes over the lifetime of their mortgage.
To pick a few:
1. Debt equity swop. Suppose the €400,000 mortgage is in default. A reasonable mortgage restructuring might be to cut the principal of the mortgage to a serviceable €250,000, and create a €150,000 property appreciation option held by the bank. The borrower agrees to pay off the property appreciation option out of future price increases on the existing home, if any.
2. Partial debt write-down. Does exactly what it says on the tin, but worked out on a case-by-case basis using guidelines from the expert group meeting now.
3. Converting a mortgage to rent. These schemes are running in the UK now. The bank takes on John and Jane's house, and rents it back to them, giving them an option to buy it back in a few years. Here again shared equity arrangements are possible.
4. The Owner vacates house, sells it at market prices, hands the balance over to the bank that accepts the sum in full and final settlement of the debt. Everyone walks away poorer, but they walk away without 200,000 hanging over their heads. This is the US non-recourse option used recently by 5 homes in Ireland.
A key principle here is fairness. The modernisation of debt settlement in Ireland must take account of this and must seek a reasonable balance between the interests of borrower and lender. Burying heads in the sand won't resolve the issue. No debt forgiveness scheme will be perfect, none will be to anyone's liking. But we must do this, or harm our society further.
(Published in the Sunday Independent).
Hi Stephen,
Thanks for a worthwhile and interesting progression of the current debate. You're to be congratulated for raising the profile of the problem of the horrendous burden of debt being shouldered by many in our country. And I see you are centrally involved in the newbeginning.ie initiative to help mortgage payers. Well done.
You mention emigration twice above. Looking back at our history in the past 200 years, the scourge of general emigration is heart-breaking to see in a country which has so many great things going for it. And despite missing out on much of the Industrial Revolution, we have carved out a niche in the Information Age. I sincerely hope emigration is not looked to today as an outlet for our unemployed, to take the strain off the social welfare system. Some emigration is to be welcomed of course, particularly if people return with better skills and a wider perspective, but the one-way tickets of years past should be history.
@Jagdip,
If there was a NAMAWinelake fan club, I'd be it's president. It's right after the FT on my list of things to read everyday. I guess the debate needs to take place, oddly, at 3 levels. The first is personal. There are, honestly, horror stories out there. The second is legislative. You are 100% right that legislative reform of bankruptcy is the first thing we should be looking at, not debt forgiveness. One is a complement to the other, a kind of filter, if you will, for that second type of mortgagee I write about. But nothing should take place in this sphere until we have rock solid bankruptcy legislation. The third level is the macro/banking element, this is where Karl Whelan and Brian Lucey and Morgan Kelly come in.
Emigration is, sadly, the only safety valve we have. I'm one of those who left and came back, I hope that's what we will see in this case. I wonder what the effects of debt forgiveness and bankruptcy will have on people leaving. Perhaps it will release people who just couldn't leave before. Or perhaps it will be the spur for growth again.
Hi Stephen,
Excellent piece and one of the best from today's debt forgiveness avalanche that hit the Sunday papers and I agree with almost every word!
I know this is not the first time we have had this debate here, but there are maybe a few additional points worth raising.
As someone who opposes a general debt forgiveness scheme I am finding it increasingly difficult to determine what is that the pro-debt forgiveness side actually favour.
The Irish Times article by the group of 11 included the following
And also
I know that it has been admitted that the figures are a little off but the general principle of a writedown "of at least 30 per cent of the more recent mortgage amounts" has very little going for it. I am not sure that many of the signatories are still in favour of this.
The recent round of this debate was sparked by Prof. Morgan Kelly's presentation to the Irish Society of New Economists. His scheme was outlined in an Irish Times report on his presentation here.
In my view the cost of a scheme like this would be around €15 billion and is again unworkable and unnecessary.
In today's papers Prof Kelly views have been refined again. And I agree with most of what he says today!
We need a debt resolution scheme for those who can't pay. It doesn't matter whether you forgive the debt or not, they simply cannot pay it. We need to deal with these cases in a much more accelerated fashion.
You highlight some useful processes that could be used in these instances. I think #4 is the most clear cut, while #1 has some merit. I am not sure how #3 work but could be useful. I would oppose #2. We cannot just write down debt with no contribution from the borrower.
They must cede full or partial ownership in order to participate in the scheme.
I think your example of "John and Jane" was useful, but I would make a couple of archane points that the space here allows.
1. It is unlikely that John and Jane bought the house with a 100% percent mortage in, say, June 2005. 100% mortgages were just coming onto the market in the summer of 2005. It is possible that they did, but it is more likely that they had a 5-10% deposit. 5% means an initial mortgage of 380k.
2. They will have made some repayments on the mortgage since. If we just assume a 4.5% interest rate over a 25-year term the mortgage would have reduced to around €325k by June 2011. Of course, as John and Jane are in arrears the mortgage will be greater than this but there will have been some repayment.
3. The best measure we have of house prices is probably the CSO's Residential Property Price Index. Between June 2005 and June 2011 this index is showing a decline of 26%. If this index is correct then a €400k house in June 2005 would have been worth around €295k in June 2011.
With a non-functioning housing market there are plenty of reasons to believe that the price is actually lower but using the above three assumptions it is possible to show that John and Jane could be 30k in negative equity rather than 200k.
If the mortgage is unsustainable and can't be repaid the loss might not be a bit smaller that most would think. The length of time in arrears and the fact that true prices may actually be lower would increase the loss.
The March 2011 data from the Financial Regulator shows that the average size of the 49,600 mortgages in arrears is €193,500. Relative to where house prices are this is not a scary number. I don't know how many of these are unsustainable but it is likely that the average balance on those that are is higher. Even if it is €250k, the average gap between the mortgage and house value may be no more than €80k.
The June 2011 mortgage arrears numbers are due to be released tomorrow. I am expecting two things.
1. The level of mortgage arrears to continue to deteriorate.
2. The outstanding amount of mortgages outstanding to decline.
In September 2009, there was nearly €119 billion owed on mortgages. In the 18 months to March 2011 it had fallen to €116 billion. The Irish Banking Federation data show that there was very little new mortagge lending in Q2 (c.€350 million) so it will be interesting to see the effect repayments are having on the overall amount owed.
A fall of €650 million would indicate that over €1 billion of capital repayments were made in Q2.
Overall, I think the debt-forgiveness debate has moved forward in the past few weeks (though this comment has contributed very little!). I hope the concept of a "blanket" scheme is being moved to the side and that a targetted process for those who can't pay can be introduced.
For those who might be able to get back on track an immediate option to move to interest-only should be available for all borrowers. Some may require additional assistance but if they cannot meet the interest payments on the loan in the medium the loan should be deemed unsustainable. In time, those borrowers who moved to interest only can resume capital repayments.
Given some of the recent moves on the pro-debt forgiveness side I am hopeful that the above suggestions can be put in place.
There is so much to be said about this.
First, agree 100% that clarity about the term "debt-forgiveness" is essential.
Second, the common assertion that it is "not on" for anyone having even a minor release of their mortgage debt to remain owner of the mortgaged property, is legally & economically "illiterate". This is just what happens frequently in bankruptcy situations, which the same voices "like" as part of the solution.
FERGUS O'ROURKE
President
NWLSC
🙂
Seamus, all apologies, I didn't see this comment until today because of all the links! All good points, I think the most important thing now, as I say, is clarity with regard to terminology and fairness of outcome. I was never for a blanket write down, on fairness grounds if not on simple cost grounds. I do think that write downs of some shape or form are likely at this stage. But, the mechanism has yet to be specified. Here's what I'd ideally like to see. A guidebook set out by the DoF and the Regulator for each of the banks--covered and non covered-- with several proscribed 'paths' the various types of borrowers fall into and along might make lots of sense, connected to funding pots accessed by the banks as and when required. The banks should be the filter, and debt write downs, etc, only put in place once all other options like arrears and interest only and all of that are exhausted. The borrower must be given every chance to get back on track as normal. We need only help those in real need, I feel.
Sorry, that should be NWLFC 🙂