Have you ever wondered what happens to your money once it is deposited in a bank? Well, banks accumulate money from depositors and once the fund is big enough, your money along with others are lent to create more funds to pay you off with interest as agreed upon. The money is lent either to big industries for expansion, or to individuals like you and me who need it for the construction of new, or refurbishing of existing homes, or to start up a new business, or even buy a new car.
This is the irony of our own money that we put in banks in savings deposit and earn for us not more than three percent per annum. Of that interest income, the government gets 20 percent withholding tax. When we take loans from banks, they charge as high as 15 percent per annum. It looks unfair but that’s how banking business thrives.
Banks, however, do not just lend out money without asking the borrower to put up collaterals whose value is large enough to cover for the amount to be borrowed. This is how banks do its business. But in doing so, banks also run the risk of owning large tracts of properties if the borrowers fail to pay up.
When banks do not earn out of these properties and remain idle, they become non-performing assets (NPAs) or non-performing loans (NPL). It is not financially sound for banks to maintain idle assets in its portfolio. Thus, these NPAs are then auctioned off to raise money so that banks can maintain certain amount of liquidity to service us depositors (with the promised interest) and keep liquid the entire financial system as a whole.
This is how the financial system’s life cycle evolves. It has to run its entire course without a glitch. Otherwise, the whole banking system will be at risk. How? What happens if a large number of borrowers fail to pay their debts? Banks have no other recourse but to foreclose properties that are attached to the loans as collaterals.
This means that banks will end up owning properties which it may, or may not be able to liquefy or sell to recover exposure to loan, if not at least for profit. When banks fail to sell or dispose these NPAs, they turn too toxic to alter the system’s life cycle. In such a scenario, banks may stop their lending activities altogether, and worse, it would not be able to service us depositors. Such a bankruptcy situation could trigger panic and affect other banking institutions.
This precisely happened in the United States that triggered the global financial crisis last year. And we are now seeing its dire consequences of unemployment, inflation and worst, recession! Commerce as we know it will ground to a halt.
I did not make it up. It’s how the real world of banking works. Actually these NPAs, defined as NPLs — combined with foreclosed assets or real and other properties owned or acquired (ROPOA) — is now about P540 billion. With roughly the 50-50 sharing of NPL and ROPOA, this constitutes about 14 percent of total banking assets. In 1997, NPAs share to total banking assets only stood at four percent. Of the total NPAs, close to 90 percent are in the books of commercial banks, while the rest are shared between thrift banks and rural banks.
One trend that is worth noting, though, is that even as NPLs have gone down starting in 2002, the amount of ROPOA in the banking system continued to go up. In 1997, the ROPOA constituted only a quarter of total NPAs. Now, it is close to 50 percent. One reason for this trend is that banks have converted unpaid loans into foreclosed assets. They kept them in their books without necessarily bringing down the level of the entire NPAs in their accounts.
Considering that more than 60 percent of bank lending is secured lending, of which, nearly 50 percent is collateralized by real estate properties, banks’ ROPOA would indeed increase as borrowers are unable to pay up their loans.
The Special Vehicle Purpose Law (SPV) RA 9182 which took effect in January 2003 was precisely passed into law by the previous Congress to address this particular problem about the ballooning portfolio of NPAs in the country’s banking system. It was designed and crafted to encourage financial institutions to get rid of NPAs so that there can be liquidity and use it to generate economic growth and rehabilitate distressed businesses.
The SPV or its affectivity has been brought to fore by the suit filed by businessman Vic Vic Villavicencio against officials of Philippine Investment Two (SPV-AMC) Inc.’s [PITwo], which acquired his Mandaluyong properties from the former Equitable Bank via the SPV. His properties were mortgaged to and foreclosed by the bank after he failed to pay some P400 million in loans.
The properties in this case happened to be a part of the NPLs which PITwo bought from the bank. Villavicencio tried but failed to buy back the property from PITwo for a much lower value than the loan he mortgaged the properties for. He retaliated by suing PITwo officials for anti-dummy law. PITwo which promised to launch a ‘vigorous defense’ is a joint venture controlled by Argoman, a highly regarded Philippine company controlled by A. B. Colayco. He is the company’s president while lawyer Leonardo Siguion Reyna, owner of a respected law firm bearing his name, is its chairman.
The issue is of utmost importance in the wake of the recent US recession (coincidentally triggered by accumulated toxic assets in its property sector) and natural calamities that visit the Philippines with seeming regularity. Now, the court has been tasked to decide on whether the banks can still rely on the SPV law to detoxify them from toxic assets.
Are banks amply protected against suits from borrowers who refuse to let go of their mortgaged properties? If my assumption is correct that PITwo’s acquisition of Villavicencio’s properties went through all the legalities needed to perfect the sale, something else must be done to shield banks and NPLs buyers from suits.
The suit has stirred a hornet’s nest in the banking industry and many are afraid that the suit may trigger copycats. According to my sources from the banking community, many bankers are nervous that those NPLs sold by other banks (the bigger bulk coming from the LandBank of the Philippines) may also be challenged.