Fitch: Basel Foreclosure Proposal May Push EU Insolvency Reform

The Basel Committee on Banking Supervision's proposal that only mortgages backed by easily realisable collateral should benefit from low risk-weightings might encourage insolvency regime reform in the EU, says Fitch Ratings.

Mortgage lending represented 22% of total non-defaulted exposures extended by a large sample of EU banks. Timelines for real-estate foreclosure and liquidation vary significantly between EU countries, and even within countries, depending on insolvency proceedings and court efficiency. If banks operating in countries with long timelines were forced to hold more capital against mortgage loans, albeit after an extended transitional period, this might encourage insolvency law reform. This would fit with the European Commission's efforts to harmonise national insolvency and restructuring laws, as part of its drive to foster growth and investment and facilitate the free flow of capital.

The Basel Committee says that banks should demonstrate that property collateral for mortgages can be foreclosed within 'a reasonable period of time' if they are to continue to benefit from preferential risk weightings under the standardised approach to credit risk. This is because lengthy debt enforcement and foreclosure procedures complicate the disposal of impaired assets. If this cannot be achieved, risk weights should rise to 100% for owner-occupier mortgages and 150% for buy-to-let mortgages. The Committee published its proposals to revise the standardised credit risk approach in December 2015 and the comments period closed on 11 March.

We estimate that typical residential foreclosure timelines for 'northern' EU countries - Denmark, the Netherlands, UK and Germany, for example - are between one and two years. For Spain, Portugal and Italy, we estimate it takes between four and five years. In Greece, we estimate that residential foreclosures can take up to eight years and this is after legislation dealing with restructuring and insolvency was updated in December 2015, as part of the conditionality for continued disbursements under the country's third bail-out programme. Liquidation proceedings were streamlined and stricter timeframes for bankruptcy proceedings were set, giving creditors more certainty on timelines.

Some other countries have already taken steps to reform.

In April 2015, the Cyprus parliament passed new corporate and personal insolvency laws, providing more flexibility for debtors and creditors to reach agreement and avoid formal bankruptcy and insolvency. This might reduce the high levels of impaired loans held by Cypriot banks.

In August 2015, Italy passed a decree law shortening bankruptcy procedures, simplifying forced sales of collateral procedures and allowing tax deduction of loan loss provisions. This should encourage banks to write off NPLs and might make it easier to achieve the government's ambitious target to securitise EUR70bn NPLs out of a total of EUR200bn held by Italian banks.