Just before Christmas, the German cabinet resolved to put the brakes on residential property mortgage finance – and at the same time, is also giving it added momentum. However, while the credit brake will only come into effect once it is actually activated by the German Financial Supervisory Authority (BaFin), the refinements to the residential property mortgage directive are likely to directly eliminate the associated imbalance in property lending.
The residential property credit directive which was introduced in March 2016 greatly vexed banks and savings banks, since the transposition of the 2014/17 EU directive into national law was more stringent than the European Parliament had provided for. The creditworthiness assessment regulations provoked the greatest consternation. In accordance with the provisions, the assessment will no longer be based mainly on the collateral of the property to be financed, so that in future, mortgage finance can only be granted if the borrower is likely to be able to repay the loan in full out of his income. At first glance, this appears sensible, but it does raise a number of issues in more than a few cases. In effect, these regulations would exclude two customer segments: firstly, young families, where the flow of income might fluctuate in the future, possibly by the arrival of offspring, and secondly, this provision would exclude mortgage loans to older people wanting to finance the rebuilding of their own mortgage-free homes to accommodation more suited to their age. Although in the latter case, income is fairly predictable, the repayment of a loan might not be guaranteed in the remaining lifetime of the borrower.
If the recently passed new regulations had already been effective from the outset, this would have avoided many of the mortgage loan applications from March 2016 onwards being rejected. This is because the exception specified by the EU now also applies in Germany, and according to this, a loan may be secured against the property if the mortgage is intended to serve the building or renovation of a residential property. Moreover, further clarification will be given. To this end, the German Ministry for Finance and Justice has been instructed to prepare guidelines on the assessment of creditworthiness. Nevertheless, this does not mean that all the issues have been dealt with and so the question remains as to how the banks are supposed to deal with their checks for follow-up finance.
The credit brake which the government has resolved has not been greeted with joy by the increasingly strongly regulated lending industry. The idea behind the macro-prudential instruments is to put the brakes on the granting of loans in an effort to avoid property bubbles, which might negatively affect the stability of the financial system. The main argument of the opponents is that the intended upper limits on lending, the amount of credit and the ability to service the debt are not necessary in Germany, because lending to date has been conservative and has a proven track record on its ability to weather a storm. While this has been true up until now, nobody knows what challenges the future might bring. With the knowledge of the disastrous effects of burst property bubbles in many countries in recent years, it does not seem to be an error of judgment for the financial supervisory authority to take preventive action in good time. However, as long as no corresponding developments arise, there is also no need for the BaFin supervisory authority to activate the brake mechanisms by issuing a general ordinance. This means that, for the time being, the granting of loans is unlikely to change as a result of this resolution.
However, one aspect should not be forgotten. Applying the credit brake too prematurely or enforcing regulations which are too stringent may not only jeopardise the business operations of the banks, but could also constitute a trigger for a real estate market correction.