Response to consultation on draft Guidelines on ADC exposures to residential property under CRR 3
Q1: What is the materiality of the pre-sale and pre-lease contracts that would not have the expected characteristics of legally binding contract?
The financing of residential developments for (individual) sales is regularly based on binding, notarised sale contracts.
Q2: Do you agree with the approach proposed to specify the term “substantial cash deposit”?
Yes, we agree with the definition of the ratio (cash/sale price). Application of any caps and floors based on absolute amounts would be artificial and it would depend on many factors specific to local market situations.
Q3: Do you consider the 10% ratio to be appropriate for the determination of the ADC exposures benefitting from the lower risk weight?
The proposed 10% ratio goes beyond any legal requirements in Poland in this area for signing the contract. However, from a prudential perspective, this 10% ratio would ensure a satisfactory level of commitment from the prospective buyer to convert the “pre-sale contract” into a “sale contract”.
Q4: Do you have any concerns with applying a single ratio to all ADC projects? Are there any practical options the EBA should consider setting the ratio in a more granular way (e.g., threshold subject to case by case adjustments for either insufficient incentives or for non-enforceability of sufficient incentives but floored at potential market price deterioration over the relevant period) keeping in mind the simplicity of the Standardised Approach and the level playing field across institutions? If yes, please elaborate these options in detail.
No. This one threshold will be easy to implement and we do not identify any specific area where ratio should be set in a more granular way.
Q5: Do you see any drawbacks in adopting the selected option? In case you prefer the alternative option, could you provide the rationale and an example of the calculation and estimation of the net present value of total payments?
The proposed option is similar to pre-sale contract. This is the reason it cannot generate bigger drawbacks. The potential problem can be the level of monthly rent – if all rents are equal during all contract.
Q6: Are there any other practices that should be considered by the EBA?
No, we do not identify.
Q7: Do you have any concerns with applying a single threshold to all ADC projects? Are there any practical options the EBA should consider setting the threshold in a more granular way, keeping in mind the simplicity of the Standardised Approach and the level playing field across institutions? If yes, please elaborate these options in detail.
One single threshold should be applied to all ADC projects.
Q8: Is the relation between the “substantial” cash deposit required for a pre-sale contract and the “substantial” cash deposit required for a pre-lease contract appropriate from your perspective? If, not, please explain why and how this relationship should be adjusted.
No
Q9: Do you agree with the approach of strict equivalence with respect to cash deposit proposed? Do you deem other forms equivalent to the cash deposit from a risk perspective? If yes, please explain.
We recommend considering to add the unfunded credit protection fulfilling the eligibility requirements for credit risk mitigation as specified in Articles 213 and 215 of the CRR could be acceptable, as long as they are granted by banks or public entities. Those guarantees serve as an equivalent mechanism for the cash deposit since they ensure that the guarantor is obliged in guarantee to pay instead of the buyer and the funds paid by the guarantor can later be reclaimed (by the same guarantor) from the buyer or tenant.
Q10: Do you agree in using two different options for pre-sale/sale and pre-lease/lease contracts?
We support the EBA credit-facility-based approach (Option 1) since it ensures a more comprehensive assessment of risk, by measuring the significant portion of total contracts concerning the loan granted is more risk-sensitive and ensures that the RW will be lowered only when legally binding pre-sales and sales amounts reach a sufficient level relative to the loan facility, i.e. when i) the construction risk is mitigated since the residual financing gap is sufficiently reduced and ii) in a material proportion of the loan amount.
In Option 1, for sale contracts, banks should be allowed to use in the numerator the “Value of the sold entities” or the “Sales Price”.
Q11: Do you see any drawbacks related to the proposed options under paragraphs 14 to 16 of these Guidelines?
No, we do not see. From our perspective, Option 1 is the most reasonable approach and, therefore, our clear preference. However, for pre-sale and sale contracts, we consider the proposed ratio of 50% too conservative, which would make it very difficult to comply with it, given current market practices and internal risk policies. We suggest reducing the proposed percentage. The share of 30% would be adequate level for legally binding sales.
Q12: What is the materiality of ADC projects with mixed use foreseen? How are these projects structured and whether the proposed options raise any particular issues to be applied in practice?
Projects with mixed use are not material for our market.
Q14: Do you agree with the use of method B1 for the aggregation of pre-sale/sale contracts with pre-lease/lease contracts? Can method B1 be applied in practice using option 1 for pre-sale/sale contracts and option 3 for pre-lease/lease contracts? Is it possible to separately identify the amount of the ADC exposure used for financing housing units for sale or for lease ?
We do not agree with the method B1 proposed in the EBA Consultation Paper. According to this approach, it is necessary to calculate separate thresholds (one for pre-sale contracts and one for pre-lease contracts) and to satisfy both of them, to make banks apply 100% risk weight. We believe that this approach is excessively conservative and risks creating paradoxical effects that do not consider the material risk of the ADC exposure. For example, in an ADC project with 100 residential units, where 99 units are intended for sale and only one for rental, if the ratio indicated in Paragraph 16 for the property to lease is not achieved, even if the other 99 buildings are all sold or pre-sold, banks could not apply the 100% risk weight to this exposure. Consequently, the entire ADC project exposure would be weighted at 150%, despite all other risk-mitigating conditions for the benefit being achieved.
Q15: Are there any other combinations of the options and methods considered by the EBA for aggregating pre-sale/sale contracts and/or pre-lease/lease contracts that are preferable?
Considering the simplicity of the Standardised Approach, also pointed out by EBA in the Consultation Paper, we deem it appropriate to define a single ratio in accordance with the approach proposed in Question 11.
Q16: Which alternative should be considered for assessing whether, for a project where a mixed use is foreseen, the eligible pre-sale/sale and pre-lease/lease contracts are a significant portion of total contracts?
N/A
Q17: Do you foresee any practical impediments to include the verification that the developer only has a residual claim on the property in the underwriting standards? How could this “residual claim” feature be ensured in practice in your jurisdiction (e.g., SPV, pledge, mortgages, …)? Please provide reasoning, taking into account market practices and underwriting standards if you think that an adjustment of the EBA’s definition of obligor contributed equity is necessary.
N/A
Q18: What are your views on the proposed threshold for determining the appropriateness of the amount of obligor-contributed equity? Please provide reasoning, taking into account market practices and underwriting standards if you think that an adjustment of the EBA’s proposal is necessary.
We consider that the threshold of 35% is not aligned with market practices. While we understand that EBA would allow a reduced RW from 150% to 100% as an incentive for the safest transactions, we believe that the proposed level is too high to be reached. This level of threshold is not risk-sensitive enough and would simply disqualify too many transactions from the Level 1 Text derogation based on significant obligor-contributed equity. Therefore, we would ask the EBA to consider a threshold of 25% instead of 35%.
Q19: Do you agree to use Approach 4 for identifying the appropriate amount of obligor-contributed equity? If not, what alternative options should the EBA consider?
N/A
Q20: Do you see any rationale for setting different threshold levels?
N/A
Q21: Do you agree with the adjusted criteria for public housing or not-for-profit entities?
We do not agree with such criteria being applied to the financing of the construction of public housing and advocate for lower and more lenient regulatory requirements for exposures linked to public housing / not-for-profit entities.
In the situation where a developer contracts to sell a full housing development to a public housing or not-for-profit entity, this would typically be considered low risk and aligned with the intention of the regulation to support development of public housing. We would therefore consider it appropriate to reduce this criterion of substantial cash deposit for these situations, not to raise it to 100%. Otherwise, we do not believe that housing bodies or not-for-profit organisations will be able to meet these requirements.
We do not see any problems to include specific approaches to financing ensured in an equivalent manner by considering the specific penalty clauses.