‘Keys for the debt’ – how such a product should be constructed in order to bring benefits for both the borrowers and the banks

Coronavirus pandemic and suspended business activity as a result of a global lockdown raise questions about the future. Crisis seems to be unavoidable, but the scale of it is hard to predict yet. On the mortgage market, problems with debt servicing during the following six months will be covered by an option to suspend the whole instalment or its part. But what if some borrowers will not be able to repay their loans after that period? Termination of loan agreements, enforcement proceedings, bailiff auctions? Or maybe a takeover of a property in return for release from a debt?

In 2019, Polish Financial Supervision Authority introduced a draft amendment to the Recommendation S, including possible transfer of the real estate ownership right to the bank in exchange for releasing the borrower from a debt, commonly referred to as a ‘keys for the debt’ option. At first it was planned to be obligatory for banks, however finally it remained an optional solution, recommended to be introduced to the banks’ offer. The idea of mandatory implementation was rejected because it could potentially entail imposing new regulatory obligations for banks, related to new type of loans. A similar situation occurs today in case of the fixed interest rate loans, which due to high risks are much more expensive that those with variable interest rate and in consequence not very popular.

For many years some institutions, including banks, have actually provided services involving the property ownership transfer in order to cover the debt and therefore avoiding potential problems concerned with enforcement proceedings. However, as there are no official guidelines for proceeding such transactions, including most of all conditions to be fulfilled for the effective property takeover, the volume of that type of cases is still small. Currently, the whole responsibility and risk related to the operation in every case lies on the creditor’s representative. Due to lack of regulations and legal framework, in case of any failure, the transaction may be recognized as deliberate actions detrimental to the credit institution.

Implementation of the ‘keys for the debt’ option as an alternative to existing recovery process should be followed with an obligation for the banks included in amended recommendation to introduce necessary procedures of the real estate ownership transfer in exchange for releasing a borrower from a debt and provide recommended framework for such procedures. Furthermore, the idea of assigning the ‘keys for the debt’ option to the particular bank product should not be pursued. Disbursement date or the type of granted loan is not crucial from the perspective of the borrower’s financial problems and increasing loan arrears.

The most important factor, determining the success of the whole operation, is the ratio of the debt value to the value of the collateral. LtV ratio should not exceed 100% of the property value in case of standard real estate such as flats, especially those located in big and medium cities, where market liquidity enables quick sale for the price close to the value determined by a certified valuer. The maximum LtV ratio not higher than 80% should be mandatory in case of takeover of flats located in small cities or towns, where low market interest may result in sale price below the property value. LtV ratio at the level of max. 80% should also be obligatory in case of detached houses and commercial premises in big cities – despite large market, its’ sale may be influenced by indicators not easy to assume at the beginning of the sale process, such as aesthetic and functional issues. As far as commercial premises are concerned, local market and profitability of the property is always the unknown. The last group of properties, in case of which the LtV ratio should not exceed 70% for possible takeover, are rural housing properties located a long way from urban centres. Sale of such real estate due to limited number of potential buyers may last quite a long time and involve cost related to maintaining the property in good technical condition.

Terms such as takeover of the property or the ‘keys for the debt’ option are not precise and simplify the complexity of the process. Verification of the property value and the LtV ratio is just a beginning. The second step is to examine the mortgage and land register. In case of entries related to the borrower’s liabilities toward other entities or to initiated enforcement proceedings, the borrower should be obliged to provide a statement on the liabilities amounts. If outstanding loan amount and the amounts of the other liabilities exceed the assumed risk level, takeover of the property will not be possible, otherwise bank should include the sums of other liabilities in the takeover calculations. Another important thing to be done is verification of the borrower’s financial standing in information bureaus, such as BIK and BIG, in order to estimate the risk of new creditors’ entries into the mortgage register. The greater risk, the faster and more decisive measures should be taken by the bank to take over the property.

Value of the property should be determined by a certified valuer. In addition, the bank’s representative should visit the property in purpose to verify the real estate technical condition and to estimate costs of work necessary to prepare the property for sale (including cleaning up the property or protection against devastation, if required).

The borrower, who is willing to transfer the ownership right to the property to the bank, will have to set up all necessary documents, including certificate confirming no registered residents, and in case of buildings – an excerpt from the land and building register. The complete technical documentation of the house is also important for smooth and successful sale process, so the borrower should be obliged to deliver it as well. The borrower should also be ready to leave the property, so additional costs related with moving out and renting new dwelling should also be taken into account. If the bank is willing to cover part of those costs, the borrower’s decision on entering into a transaction will be easier to be taken.

Transfer the ownership right to the property is nothing but a sale transaction – in this case the borrower sales the property for the amount equal to the outstanding debt value and the creditor ‘pays’ with debt remission, additionally bearing the notary costs and cost of the 2% tax on documented legal acts.

Obviously, every case is individual and each bank acts in accordance with its unique procedures, but the wide group of customers, who can avoid long and expensive enforcement proceedings, is fundamental for the ‘keys for the debt’ option. From the borrower’s perspective, the possibility of a new start with no ballast of the bad credit history and liabilities to be repaid for years. Those banks, which will take real actions and implement the ‘keys for the debt’ option as one of instruments of a pre-trial debt recovery, have a chance to significantly accelerate the whole recovery process, diminish the level of obligatory minimum reserves and to increase the level of recovery rate.

Jakub Kaczor
Platform of Mortgage Borrowers Support Coordinator