Datio in Solutum (1). Down Payments

by Steven van Groningen on 5 February, 2016

Datio in Solutum is a Latin legal term. It means “giving in payment” and it refers to the situation in which someone with financial difficulties and debts gives something else he owns instead of money to repay his debts. An example I remember from not too long ago in Romania was a bank that could not repay its depositors and offered to large depositors the ownership of their branches instead of their deposits.

Darea in Plata

At this moment the discussion in Romania is not about a bank that offers a depositor real estate instead of his money, but about bank clients who transfer the ownership of their apartment or house to the bank as repayment for their loans. This could be an acceptable solution if both parties would agree to this but that is not what the legislator intends. The proposed law – unsurprisingly called Darea in Plata – would give anybody with a loan that is guaranteed with a mortgage on a house, apartment or piece of land the right to repay the loan in full by transferring the ownership of the guarantee to the bank, at any time, regardless of the value of the loan.

Nowhere in the World

Although, as the London Economics study prepared for the European Commission suggests,  the principle of Datio in Solutum is centuries old, and many countries acknowledge it as a method of voluntary debt settlement, no country in the world has implemented this as a mandatory solution (a so called “strong” datio in solutum). The only country that has implemented a form of “weak” datio in solutum is Spain and this is extremely limited in its application.

In the USA are examples of mortgage contracts where payment in kind is included in the contract but this is in no way imposed by law.

What is the Impact ?

So, Romania intends to become the first country in the world to introduce a “hard” datio in solutum. You might wonder why, if this is such a good idea, no country in the world has introduced this. You also might expect that the initiators have produced an impact study showing all the pros and cons of such an approach …

Indeed, a major criticism has been that no impact study whatsoever was made and that the law was rushed through Parliament for reasons that I can guess, but am not going to comment on.

There are many aspects of this law that deserve a bit of attention and if I find the time I’ll write about these.

Credit Risk

For now, let’s consider what will change in the relationship between bank and borrowers in case this law would come into effect.

Until now, a bank grants a loan to a person and that person is obliged to repay the full value of the loan and interest. The borrower is personally liable for this and if he does not pay his creditors can gain access to his assets through legal procedures. Before granting a loan bank will analyse the financial situation and history of the borrower and assess the risk of non-payment. On the basis of this the bank will be willing to lend a certain amount under certain conditions to the borrower.

Under the proposed Darea in Plata law this all changes. The borrower can at any time repay the loan by transferring the ownership of the house/apartment to the bank. So, when assessing the risk, the bank needs to look at the risk that the borrower will stop repaying and “send the keys to the bank”. This risk depends mainly on the value of the apartment in relationship to the outstanding of the loan and less if the borrower can pay or not.

From Lending to Asset Financing

Simply put, the bank doesn’t grant a loan to an individual anymore, but finances an asset, and the main risk is not the individual borrower and his or her financial situation, but the value of the asset. This is a totally different risk and it would be naive to think that this would not be expressed in the terms and conditions of mortgage loans.

In order to assess this risk, the bank will look especially at the value of the financed apartment/house and make an assessment of the potential fluctuations in value and the discount that needs to be applied if the bank would have to sell the asset, once given in payment. There are all sorts of methods for this and there is no need to go into this now.

Down Payments

This is the simple reason why we decided to increase the standard down payment for mortgage loans from 15% to 35%. This is a simple matter of cause and effect. If the risk is increased, the prudent thing is to take measures to limit the risk to acceptable levels. That is what banking is about and what the bank I referred to at the beginning of the this post did not do very well.

Is This What We Need?

Increasing the down payment will limit access to mortgage financing in Romania. The effects of this can be dramatic in a country that has already the lowest number of m2 per inhabitant in Europe, where access for young families to good housing is limited and too many of them leave the country to search for a better life abroad.

Whose Interests?

The initiators of the Darea in Plata law are apparently not bothered by such details and see no need to address these by producing an impact study. According to Law 24/2000 on the legislative technique norms, any law draft must be accompanied by impact studies, along with the memorandum of reasons and the substantiation report. One might be forgiven for wondering whose interests these parliamentarians represent.

As always, this post expresses my personal views.

Romanian version is available here.


{ 5 comments… read them below or add one }

Vasile Coman February 6, 2016 at 11:35

Do you agree this law gained large popularity as banks failed to address CHF loans issue?

Reply

Steven van Groningen February 6, 2016 at 19:31

Certainly an element. Banks did not succeed in communicating very well with their clients and the society. This was/is exploited by other groups. Not only about the CHF loans issue.

Reply

Vasile Coman February 7, 2016 at 12:26

The real problem is not communication but solutions for clients in destress after crisis. What banks should have done after CHF surged by 80% while salaries and house prices went down? Rise interest rates, as contracts stated, after a promotional year? (As they did?) And when the clients protested by paying in coins, call the Police is solution?
Of course it’s easier for banks to do charity, sports or cultural events, but their real social responsability work should be focused to their client problems and needs, a much harder enterprise probably inescapable also for big banks in the future.

Reply

jean February 15, 2016 at 11:02

The real problem is that you are right ,, but then you get no answer from Steven van Groningen. the truth hurts.

From 2008 there are problems. the bank does not do anything . than politics intervenes and then you come on your blog with a personal opinion … what a bad comedian you are.

Reply

Iulian February 8, 2016 at 11:56

Crystal clear, as always.
I look forward to the promised sequels.

Reply

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