Recommendation FMSB/2/2022 on applying measures to contain systemic risks from residential real estate funding31st meeting, March 1, 2022
Systemic risks from residential real estate funding
The FMSB has intensively discussed systemic risks arising from the residential real estate (RRE) segment in recent years and regularly voiced concerns about the buildup of risks related to RRE loans in press information released since 2015. Following initial qualitative guidance in the press release informing about the FMSB’s 9th meeting in September 2016, the FMSB offered quantitative guidance in the press release about the FMSB’s 17th meeting in September 2018. The FMA and the OeNB have likewise stepped up their supervisory communication about the risks arising from housing mortgages. However, in 2020 and 2021, the buildup of systemic risks accelerated visibly: growth of real estate prices and mortgage lending went up further – at a pace that also stands out in euro area comparisons. In Austria, market conditions continue to be driven by fierce competition. The share of variable rate loans remains high, which makes many borrowers vulnerable to increases in interest rates. Furthermore, a considerable share of new mortgage loans continues to be offered at elevated debt service-to-income and loan-to-value ratios1. In times of crisis, systemic risks in this segment may prove critical to Austria’s financial stability – notwithstanding a number of mitigating factors that the FMSB has identified as well. Austria has a well-developed rental market with a high share of nonprofit providers, renting out debt-financed private property plays but a minor role, Austrian borrowers tend to have high incomes and wealth by international standards, and the Austrian banking sector is adequately capitalized, not least thanks to the macroprudential buffers the FMSB has recommended. Still, in the event of crisis, parts of the financial system might have to absorb heightened losses that could trigger negative repercussions for the real economy.
For the above reasons, the FMSB advises the FMA to adopt measures for containing systemic risks arising from real estate exposures under Article 23h Austrian Banking Act for the segment of residential real estate (RRE) loans granted to households. Having evaluated also other property-related measures and in view of the systemic risks outlined above, the FMSB has identified measures under Article 23h Austrian Banking Act as the most effective way of reducing the further buildup of systemic risks related to RRE loans. The use of such measures has been advised also by the European Systemic Risk Board (ESRB), the Organisation for Economic Co-operation and Development (OECD) and the International Monetary Fund (IMF).
Across economies, the measures recommended have proven effective in reducing systemic risks. The measures not only reduce banking sector losses from real estate exposures and the related risks to financial stability and the real economy but also protect borrowers from the consequences of excessive debt. In other words, the intended measures address issues of concern in real estate lending, such as inadequate provision of collateral, excessive debt servicing needs and overly long maturities, while enabling banks to continue lending at sustainable conditions. Moreover, exemption buckets will ensure the necessary operational flexibility.
Specifically, the FMSB advises the FMA to set an upper limit of 90% for loan-to-value ratios2 with an exemption bucket of 20% (under Article 23h para. 2 item 1 Austrian Banking Act), an upper limit of 40% for debt service-to-income ratios with an exemption bucket of 10% (under Article 23h para. 2 item 3 Austrian Banking Act) and an upper limit of 35 years for the maturity of loans, with an exemption bucket of 5% (under Article 23h para. 2 item 4)3. The exemption buckets under Article 23h para. 4 item 2 Austrian Banking Act balance the need to reduce the buildup of systemic risks with the need to offer banks adequate operational flexibility. The FMSB recommends that, over a period of six months, the sum total of all newly extended loans falling into one of the exemption buckets listed above should account for no more than 20% of the new funds provided during that period. Individual borrowers should be eligible for an exemption amount of EUR 40,000 (based on the sum total of their housing loans). Until these measures take effect, credit institutions are expected to comply with the guidance issued by the FMSB in 2018.
1 Between end-2010 and end-2021, real estate prices doubled in Austria whereas they only increased by slightly more than one-third in the euro area. In the period since end-2010, annual mortgage lending growth averaged 4.2% in Austria, compared with 2.6% in the euro area. From end-2019, annual mortgage lending growth accelerated to an average 6.1% in Austria, compared with 4.7% in the euro area. The share of variable rate loans in Austrian banks’ new business has gone down sharply in recent years. Yet, even a ratio of 40%, as measured for the third quarter of 2021, remains high when compared to euro area averages. In the mid-2010s, this share was still above 80%. In the new lending portfolio, loans with debt service-to-net income ratios exceeding 40% accounted for a share of 18% of the outstanding balances in the first half of 2021. At the same time, markedly more than half of these outstanding balances were subject to loan-to-value ratios exceeding 90% or were not collateralized by any assets. The loan-to-value ratio measures the total level of debt in relation to mortgage collateral or other financial assets securing the repayment of debt.
2 The loan-to-value ratio measures the total level of debt in relation to mortgage collateral or other financial assets securing the repayment of debt.
3 Applicable to the scope listed under Article 6a para.1 of the FMA Regulation on Asset, Income and Risk Statements – VERA-V Federal Law Gazette II No. 471/2006, as amended.