Polish banks face higher provisions as ECJ adviser backs Swiss franc borrowers

Polish banks are poised to book higher provisions and losses on their Swiss franc mortgage portfolios than they first expected after the European Court of Justice's adviser ruled in favor of borrowers in ongoing disputes with local lenders.

The ECJ's advocate general said Feb. 16 that borrowers may assert additional claims against banks for compensation on paid installments on Swiss franc mortgages — which Polish courts invalidated due to unfair contractual clauses — opening the route for more disputes. The advocate general also denied banks the right to seek additional remuneration, including loan interests, on such mortgages.

A bank's inability to claim remuneration for the use of capital is not a surprise, but "opening such a possibility for consumers is a novelty," Maciej Marcinowski, deputy head of the research department at Polish brokerage company Trigon, said in a note. The maximum level of provisions in the event of cancellation of all Swiss franc mortgages in Poland could increase to roughly 115 billion zlotys ($25 billion), according to Marcinowski. Poland's Financial Supervision Authority earlier estimated total losses for the sector stemming from such an unfavorable ECJ ruling to reach 100 billion zlotys.

"We understand that the opinion is more adverse than the banks anticipated," rating agency Moody's said Feb. 17, adding that the latest development is credit negative for Polish lenders. The opinion increases loss severity on current and future lawsuits regarding Swiss franc mortgages and could prompt more borrowers to sue the banks, even those that have already paid back their loans, the rating agency said.

The advocate general's opinion on the issue, which dates back to the early 2000s when borrowers were encouraged to take out mortgages in francs but were left with higher repayments when the currency value spiked, is not binding. Rating agencies, however, expect the ECJ's final decision, to be issued later in 2023, to be in line with it.

Hiked provisions

ING Groep NV's Polish unit has moved to set aside extra money following the opinion. ING Bank Slaski SA retroactively increased 2022 fourth-quarter Swiss franc mortgage-related legal risk provisions almost five-fold to 293 million zlotys on Feb. 22, up from 63 million zlotys originally set aside.

Bank Millennium SA and mBank SA, the lenders with the highest proportion of franc loans, had already increased their provisions in the fourth quarter, setting aside 478 million zlotys and 430 million zlotys, respectively, to cover a potential fallout. Other large banks, including PKO Bank Polski SA, Bank Pekao SA, Santander Bank Polska SA and BNP Paribas Bank Polska SA, made similar moves.

"We expect a continuation of legal risk provisioning by the affected banks, while the total volume and provisioning path will depend on the ECJ's final ruling and its implementation by Polish courts," S&P Global Ratings said.

In the short term, mBank could be hardest hit if the ECJ's ruling is in line with the advocate general's opinion as the lender assumes in its models a high probability of receiving remuneration for capital provided under invalidated Swiss franc mortgages. "Resetting this probability to zero … may cost the bank an additional 1.3 billion zlotys," according to Trigon's Marcinowski.

The seven banks in the analyzed sample declined to comment on the implications of the opinion or did not respond to requests for comment.

The aggregate legal risk-related coverage ratio on Swiss franc mortgages for the seven banks analyzed by S&P Global Market Intelligence was almost 58% following ING Bank Śląski's latest provision hike. ING Bank Śląski and Bank Pekao had the highest coverage, exceeding 80%, according to Market Intelligence's calculations.

Time on banks' side

While acknowledging that developments following the opinion will likely accelerate provisioning and could lead to higher overall provisioning needs, rating agency Fitch does not expect this nor the upcoming ECJ ruling to have a significant near-term impact on banks' credit profiles. If the final ruling follows the opinion, it will take time for Polish courts to assess whether customers have a right to additional claims under Polish law and to work out an approach on how to deal with such claims.

This will give banks time to build additional provisions for legal risks and strengthen their capital through earnings retention, unless auditors require immediate recognition of losses, Moody's said.

"If banks are allowed to spread the costs over the next 1.5 years, we see no threat to the stability of the sector," Trigon's Marcinowski said while warning about a potential large wave of new lawsuits the sector could face due to the recent developments.

Polish banks could strengthen their capital ahead of the ECJ's ruling via parent support, wholesale capital markets and from higher interest incomes, and Polish authorities could also offer regulatory forbearance to reduce pressure on the sector's capital, Market Intelligence analyst Pedram Moezzi said in a Feb. 22 report.

Profit pressure

Polish banks face other challenges that could affect their profitability in 2023, including the risk of the Polish government extending the existing mortgage repayment deferral scheme, the growing cost of risk and the gradual reduction of net interest margins over the coming quarters, Ratings said. However, operating profit should provide a strong buffer to absorb extraordinary costs this year.

Bank Millennium, mBank, ING Bank Śląski, Santander Bank Polska and Bank Pekao saw an increase in their operating profits year over year. The Polish units of Banco Santander SA and BNP Paribas SA also noted strong year-over-year growth in 2022 net profits, while mBank and Bank Millennium reduced their annual losses amid the high interest rate environment.

PKO Bank, Poland's largest bank, will report its 2022 earnings later in March. According to the S&P Capital IQ consensus GAAP estimates, the lender is poised to post a drop in its full-year profit.

As of March 3, US$1 was equivalent to 4.44 Polish zlotys.