Property investors need to focus on the implications of a recent ECJ verdict on mortgages
How will a recent ECJ judgment on the purchase of mortgage loan portfolios impact consumers, asks corporate lawyer Pedro Marques de Gama of Pérez-Llorca.
The recent judgment of the European Court of Justice of 21 December 2016 is generating considerable controversy and uncertainty. As is well known, the ECJ has found that imposing time limits on the obligation to reimburse amounts unduly paid by consumers under unfair mortgage floor clauses are incompatible with European regulations. A mortgage floor clause is a contractual provision included in mortgage agreements, which prevents variable interest from falling below a certain minimum threshold.
A number of questions arise from the judgment. What is the possible impact of the judgment within the context of the sale and purchase of non-performing mortgage-backed loans. In particular, will it allow consumers to claim back the amounts unduly paid to banks under unfair mortgage floor clauses from the investors which purchased their mortgage-backed loans?
It is common knowledge that the transfer of these loan portfolios has become a very useful and necessary tool for the restructuring of the balance sheets of financial entities in the last few years. These transactions have allowed the banks to reduce their exposure to real estate risk by improving their capital ratios and cutting down their collection management costs. This is something that is facilitating the flow of credit into the economy, which ultimately benefits all economic operators. From the buyer’s perspective, these deals are highly attractive to investment funds as they are able to generate profits by engaging servicing companies which are capable of recovering part of the credits using flexible and professional collection management policies.
In this context, we need to remember that the judgment only applies to mortgage-backed loans taken out by persons that may be regarded as consumers. The Spanish Consumer Protection Act defines consumers as "individuals who act with a purpose other than their commercial or business activity, trade or profession." This definition leads us to conclude that usually an individual who has taken out a mortgage will be a consumer. According to said law, "legal persons and non-legal entities that act without being profit-oriented in an area outside a commercial or business activity" may also be considered consumers. Although companies can theoretically be considered consumers, the situations in which they have been able to benefit from this protection are relatively rare.
Another important aspect to take into consideration is whether or not the sale and purchase of credits was made through (i) a contractual amendment of the loan by means of which the investor has assumed the creditor's contractual position (article 1,203.3 of the Civil Code), or (ii) a direct transfer of credits in the sense provided for in article 1,526 of the Civil Code.
The first case is characteristic of transactions in which the investor acquires performing or sub-performing loans, where the investors become the actual lender in lieu of the bank, replacing the bank in terms of all contractual rights and obligations. In these situations, we understand that the debtor should be able to claim for a refund of these amounts directly from the investor. This circumstance would allow the debtor to reduce the unpaid balance held with the investor by exercising this offset right.
Alternatively, these transactions may involve the acquisition of only the loan, without the Investor assuming the position of the bank under the relevant loan. This structure is usually used when an investor is acquiring non-performing loans (ie when the loan is already in default and has been accelerated by the bank). In these situations, one might think that the debtor would not be able to claim repayment from the investor of the amounts collected by the bank under the unfair mortgage floor clause. However, we need to take into account article 1,198 of the Civil Code which allows a debtor who has not agreed to the assignment of the loan to use any offset rights that it would otherwise have against the original lender against the investor.
In another words, if the assignment of the loan takes place without the debtor’s consent , which is by far the most common scenario, the debtor may be able to reduce the unpaid balance by exercising these offset rights against the investor directly. In loan agreements where the debtor has expressly given its consent in advance to the transfer of the credit in the loan documentation, the investor could argue that the debtor is not entitled to such compensation. However, it is likely that such a clause could also be considered as abusive, which could potentially restrict the use of this line of defence by the investor.
In conclusion, investors that have acquired mortgage loans from consumers are not protected from the consequences of the judgment. They might actually see their investments affected as a consequence of debtors exercising those offset rights against them, regardless of whether the acquisition of the mortgage credits was structured as a replacement of the position of the original bank or a direct acquisition of those credits.
For upcoming NPL transactions, the due diligence on the portfolio of loans takes on a special importance in order to determine, quantify and discount the risk resulting from mortgage floor clauses in the context of these transactions. If this risk cannot be discounted (or is not advisable to do so for commercial reasons), the investor will need to deal with this risk in the sale and purchase agreement.
Pedro Marques de Gama is a corporate lawyer at Pérez-Llorca