Bank of Russia raises macroprudential requirements for mortgage loans

Effective from 1 May 2023, the Bank of Russia is going to raise risk-weight add-ons for mortgage loans. This measure is aimed at mitigating risks for borrowers and banks.

In making this decision, the Bank of Russia Board of Directors was guided by the following.

The mortgage lending segment maintains high growth rates. In January 2023, due to a seasonal slowdown in lending, the growth of outstanding loans was 0.6%¹ (3.3% in December 2022²). In annualised terms, the above growth totals 25.7% over the past three months. The dynamic growth of mortgages is accompanied by a considerable deterioration of lending standards: key risk indicators have reached their all-time highs. In 2022 Q4, the proportion of mortgages issued to borrowers with DSTI (debt service-to-income ratio) exceeding 80% reached 44% (36% in 2022 Q3). This is higher than in unsecured consumer lending, though mortgage borrowers have traditionally been characterised by much lower levels of debt burden. The proportion of mortgage loans with a low down payment (below 20%) is also growing: from 48% in 2022 Q3 to 53%³ in 2022 Q4. In the primary housing market, the proportion of loans with a low down payment has reached 69%.

In addition to deteriorating lending standards, the market of financing under equity construction contracts continues to be dominated by joint programmes of banks and developers, which involve an increase in housing prices relative to the purchase of the same property without a loan. In December, the average interest rate in the primary market was only 3.5%, whereas the interest rate under the subsidised mortgage programme was 7%. To compensate banks for the shortfall of interest income on mortgage loans, housing prices in the primary market for mortgage deals under the joint programmes of banks and developers were overestimated by 20–30%. The difference between the overestimated and market price of apartments is paid by developers to mortgage banks. As a result, with a down payment of 30%, the loan to value ratio is 90–100%, and with a down payment of 20%, this ratio reaches 100–115%.

The spread of joint programmes of banks and developers has led to a general increase in housing prices in the primary market and has widened the price gap with the secondary market. According to Rosstat, at the end of 2022, this gap was the highest at 30%.⁴ In some regions, the difference is even greater: for example, in the Moscow Region, at the end of 2022, it stood at 55%.⁵ If a borrower wants to sell an apartment, he/she may incur losses, as prices are lower in the secondary market and the value of the apartment may prove insufficient to cover the mortgage debt. Moreover, the down payment will be lost in this case. Banks’ risks are increasing on mortgage loans issued in the primary market, as borrowers in default will not be able to sell apartments at primary market prices.

To mitigate the risks of borrowers and banks, the Bank of Russia will set add-ons on mortgage loans secured by claims on equity construction contracts effective from 1 May 2023. These add-ons take into account the overestimated cost of apartments bought under mortgage loans in the primary market. In addition to increased provisions for loans with extremely low interest rates, which compensate for banks’ interest rate risks over the life of the mortgage loan, macroprudential buffers will help banks accumulate capital buffer to cover the risks associated with the price gap between the primary and secondary housing markets.

Values of risk-weight add-ons on mortgage loans issued after 1 May 2023 and secured by claims under equity construction contracts⁶

Also, from 1 May 2023, add-ons will be set for mortgage loans secured by residential real estate. Since the overestimation of the cost of housing is much less typical of the secondary market, add-ons will be raised only for loans with LTV from 85% to 90%, which will be differentiated depending on the DSTI level. Higher add-ons will prevent further deterioration in lending standards, specifically, an increase in the proportion of loans with high DSTI.

Values of risk-weight add-ons on mortgage loans issued after 1 May 2023 and secured by residential real estate⁹

Higher add-ons may cause a certain slowdown in mortgage growth, yet the eventual result will be a more balanced growth in the housing market, the reduction of price bubble risks, and the formation of capital cushion by banks in case of rising losses on mortgage loans.

As part of its supervisory activities, the Bank of Russia will monitor the correctness of banks’ assessment of the value of collateral for residential real estate under mortgage loans for the calculation of the LTV ratio.

If the application of risky schemes in mortgage lending stops and lending standards improve, the Bank of Russia will be ready to consider reducing the level of add-ons.

The reference to the Press Service is mandatory if you intend to use this material.