Key Takeaways
- A regional Irish Circuit Court recently approved a personal insolvency arrangement (PIA) that included a provision for the borrowers to be offered a 2.5% fixed-rate mortgage for 25 years. If this decision serves as a precedent, forcing third-party servicers to provide fixed rates to PIA applicants, servicers may be unable to effectively service loan pools backing Irish reperforming securitizations.
- Soaring interest rates have left many Irish reperforming borrowers on floating-rate mortgages well in excess of typical fixed rates. Servicers of these loans do not grant fixed-rate products and borrowers can't resort to refinancing elsewhere given their past arrears history.
- About €3 billion of Irish owner-occupied mortgages (across about 17,000 unique borrowers) are serviced by third-party servicers across nine reperforming transactions that we rate. Lower fixed rates for borrowers in Irish reperforming pools could lead to both liquidity stresses and interest rate risk due to a lack of hedging.
- Whilst the uptake of PIAs has been relatively low, this ruling may encourage certain borrowers to avail of this option, regardless of the legal uncertainties. It is something we will continue to monitor as the situation evolves.
All Irish borrowers are facing a significant cost of living squeeze due to continuing inflationary pressure. Legacy mortgage loans in reperforming transactions are particularly vulnerable to rate increases as the borrowers in these transactions predominantly pay a variable rate of interest (see "Cost Of Living Crisis: How Bad Could It Get For Irish Reperforming RMBS?," published on Oct. 25, 2022). Chart 1 shows the recent total arrears of reperforming loans trending upwards compared with prime loans in transactions rated by S&P Global Ratings.
Chart 1
Over 90% of borrowers in these transactions are currently on, or will soon revert to, a variable rate well in excess of the fixed rates being offered in the market. The original lender sold these loans to a third party, who in turn engaged a specialist mortgage servicer to manage the portfolio. Under the terms of the mortgages and the RMBS transaction documentation, the servicers are contractually obliged to pass on rate increases. These servicers do not grant fixed-rate products and borrowers cannot resort to refinancing elsewhere given their past arrears history.
For some borrowers in financial stress, a personal insolvency arrangement (PIA) is an option when their debts are no longer manageable. Borrowers who enter into a PIA will incur costs and must agree to make monthly payments, resulting in consequences such as their credit rating being impaired for a period of time. A recent Circuit Court ruling may increase the appeal of PIAs for struggling borrowers on high variable rates, including those in reperforming RMBS transactions. As coupon rates are passed on and interest rates increase, a PIA can become more of an option. Chart 2 shows the recent increase in the weighted-average coupons on Irish reperforming transactions compared with prime transactions.
Chart 2
Specifically, the court's ruling included a provision for the borrowers to be offered a 2.5% fixed-rate mortgage for 25 years. The rate prescribed is below what is available from any of the lenders in the market and the term is far longer than for a typical Irish mortgage generally and certainly for a borrower with recent negative performance history. The servicer in the case was Pepper Finance Corp. (Ireland) DAC and although it had argued that it should not have to give the borrowers a fixed rate, the court ruled otherwise. It is unknown if this decision will be appealed by Pepper.
Although, historically, the uptake of PIAs has been very low (2022 approvals were down to 808 from 925 in 2021, according to the insolvency service of Ireland) and the servicer in this instance did not agree to this PIA, the uptake of PIAs will potentially increase as a result of this ruling.
Overall, we expect the effect to be limited to reperforming transactions with third-party servicers, as bank servicers have more options at their disposal when dealing with similar situations.
Our analysis shows that, despite headwinds, the performance of these reperforming transactions has been relatively stable in recent months. Obviously, a reduced rate may improve the likelihood of the loan being fully repaid, but this is offset by the reduction in excess spread in these transactions. The deferability of the junior and mezzanine notes mitigates the reduction in cash flow receipts. Although the senior notes cannot defer, the ability to borrow principal to pay interest together with internal sources of liquidity means there is some structural protection in place.
Nevertheless, this ruling is noteworthy and places third-party servicers in a challenging scenario whereby the local laws are at odds with the transaction documentation. It remains to be seen how the ruling affects servicers currently contracted to service reperforming transactions. Specifically, it's uncertain to what degree the ruling will affect servicers' willingness to continue in the role of servicing certain RMBS transactions and to what degree it would affect an issuer's ability to find a replacement. We will monitor the number of borrowers availing of PIAs as the situation evolves.
This report does not constitute a rating action.
| Primary Credit Analysts: | Darrell Purcell, Dublin + 353 1 568 0614; darrell.purcell@spglobal.com |
| Rory O'Faherty, Dublin +353 1 568 0619; rory.ofaherty@spglobal.com | |
| Secondary Contact: | Matt Cosgrove, CFA, Dublin +353 15680613; matt.cosgrove@spglobal.com |
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