In Spain, where home prices have fallen 22 percent with another 20 percent drop expected, new accounting rules will force banks to make provisions for bad loans after 12 months instead of the 72 months as it sits now.

Rules changes will also require lenders to account for changes in the value of certain assets held longer than two years. As a result of those rule changes, lenders will dump depreciating property assets into an already distressed market. 

Please consider Foreclosed Homes for Sale in Spain May Triple in 2011

The number of foreclosed homes for sale in Spain may triple next year as new accounting rules prompt lenders to dump their depreciating assets, according to the co-founder of a website that advertises repossessed properties.

Spanish lenders have a total of 181 billion euros ($242 billion) in “troubled” construction and real estate loans, the Bank of Spain said last month.

Under the changes introduced by the Bank of Spain in September, lenders must take account of a drop in value of at least 30 percent if they keep the assets for more than two years. They must also make provisions for bad loans after 12 months, rather than as long as 72 months.

The new rules will lead to an average increase in provisions for 2010 of 2 percent, the central bank said in May. They will also knock off an average of 10 percent from the pretax profit that lenders generate from their Spanish businesses, the Bank of Spain said.

“By changing the rules on provisions, the central bank has really put a shotgun to their heads,” said Fernando Rodriguez y Rodriguez de Acuna, founder of Madrid-based property adviser R.R. de Acuna & Asociados. “The banks will have to cut their price expectations more aggressively to reduce their stock of homes.”

Property values will fall 20 percent over the next five years, Rodriguez y Rodriguez de Acuna estimates. Most of the declines will come in 2011, he said. Since the Spanish market’s peak in April 2007, home prices have dropped 22.5 percent, according to a survey by real-estate website and IESE Business School.

Comments From Steve Keen on Foreclosures Down Under

In response to US Foreclosure Inventories 7.4 Times Normal and Rising; In OZ ‘Low-Doc’ Home Owners Hit by Rising Rates; US vs. Australia Progression of Rot Steve Keen pinged me with a few thoughts I would like to share.

From Steve …

Australia is unlikely to have the same level as foreclosures as the USA, because borrowers continue paying their mortgages over here and blow out their credit cards instead if they can’t make ends meet.

Consumers can easily take out another credit card when they reach the limit on the first given our absence of thorough credit card reporting and the fact that lenders make a killing on the interest charges here.

After borrowers have maxed out 3 or 4 credit cards and find themselves with $40-60K of card debt in addition to mortgage payments they struggle to meet, the borrowers seek advice and are told that the only way out is to sell the house and eliminate the mortgage.

In this scenario, borrowers become distressed sellers rather than foreclosure sales as happens in the US. Since we don’t keep figures on that, we can’t tell which sales are distressed versus standard “upgrade” dynamics etc.

However, you can see an increasing volume of houses on the market along with a large and growing supply-demand imbalance. The gap between the flow of new buyers with mortgages and the flow of new sellers plus the stock of unsold properties shows increasing stress in the property markets.

What Happens In Bankruptcies?

I asked Steve Keen what happens to mortgage and credit card debt in bankruptcies down under. Steve replies …

In a bankruptcy, mortgage debt is wiped out, but not in a “mortgagee in possession” sale as it’s called here. A “mortgagee in possession” sale is often a prelude to bankruptcy, but if the mortgagee sale returns more than the debtor owes, then bankruptcy is avoided.

If on the other hand the sale realises less than the debt, then technically the lender can go after the debtor for the difference–via a court order to garnishee wages, or a bankruptcy with sale of the debtor’s remaining assets.

However, practically speaking, it’s not worth the bank’s effort to do that unless the debtor has other assets worth pursuing. A hedge fund I spoke to told me of a distressed-debt buyer who purchased outstanding post-mortgagee sale debt from a bank for 1 cent on the dollar. It turns out that buying debt at 1 cent on the dollar was such an unprofitable purchase, the distressed-debt buyer said he wouldn’t do it again.

Credit card debt is actually easier to go after. Credit card debts are frequently smaller amounts and more easily pursued. That’s why most debtors eventually fall over and sell the house due to credit card debt rather than mortgage debt directly.

A wage garnishee order against a credit card debt adds stress to borrowers who were already failing to meet their costs beforehand, and now must use a fraction of their wages to pay credit card debt off at penalty rates.

The only way out becomes selling the house, renting instead, and drastically reducing living costs since renting is much cheaper than servicing a mortgage.

Cheers, Steve

Happy Thanksgiving Mates!

Mike “Mish” Shedlock
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