With sales of new properties screeching to a halt, some of

Cambodia’s more ambitious developers – and the banks that lent them

money – are starting to wear worried looks

Foreclosure is usually the last thing in a prospective property owner's thoughts when buying a property on credit. It is the worst-case scenario and typically an unplanned event for a property borrower, especially in a healthy economic environment.

Unfortunately, the world has changed, and so even has Cambodia. There is now increasing risk for banks as a growing number of property borrowers start facing economic and business challenges that are impairing their ability to meet their financial obligations.

Property borrowers must always be cognizant that at the time of the loan they agreed to a mortgage.  The home and land are used as collateral on the loan, and there is a transfer of interest from the owner to the mortgagee - the lender - on the condition that the interest will be returned to the owner of the property when the terms of the mortgage are fulfilled.  

If the borrower fails to make timely payments of principal and interest, the borrower will be in default. A default is legally defined as "failure to perform a task or fulfill an obligation, especially failure to meet a financial obligation".

In the case of default, the mortgage agreement will allow the mortgagee - the bank or lender - to foreclose on the property to which it has a security interest.  In Cambodia, a mortgagee is registered on the hard land title and will have rights to the security under the 2001 Land Law.    

Foreclosure is the legal proceeding in which a mortgagee - the bank or lender - obtains a court-ordered termination of the borrower's equitable right of redemption.  In the context of Cambodia, the bank may foreclose by asking the court to sell the mortgaged property by auction or tender and claim repayment of the debt owed from the sale proceeds.  The property is usually sold to the bidder who offers the highest price, although the court may set a minimum price.  The mortgagor may not bid on the property auctioned.

Historically, most foreclosures have involved business disputes, divorces and criminal cases, but that is expected to change with a growing number of borrowers facing challenges. Anticipation is also growing that banks will begin looking more closely at using foreclosures to mitigate their risk and avoid losses.  

Know your options

A borrower in distress needs to both handle the situation professionally and be aware of the various options they may have. First and foremost, a borrower should contact the bank as soon as they realise they have a problem.  Being responsive to the bank's calls and notices creates an environment of cooperation. The borrower also needs to realistically assess the situation in order to have a healthy and progressive dialogue with the bank and be aware of their financial responsibilities.  

Prior to discussion with the bank, the borrower may consider selling other assets, such as other properties, a car, jewellery or a business, in order to avoid default on the mortgage or loan.  

Increasingly, Cambodian property owners are considering renting or leasing. They have historically purchased property as an investment rather than a cash-flow generating asset, but given the present illiquidity in the property market, property owners are increasingly renting or leasing their properties to generate the cash-flow required for loan repayments.

Talk it through

If these options are not available to the borrower, then constructive dialogue with the bank would be the next step.  A bank may consider a temporary agreement that delays principal payments for a short period of time if the borrower can realistically demonstrate that funds will eventually be acquired, usually through a business, property or asset sale in a very advanced stage. This is known as "forbearance".

Modification of the loan may be another possibility if the borrower can provide firm evidence that the cash flows and capacity are available to repay the loan through its terms.  The most common modification is lowering principal payments through extension of the term of the loan.  This may involve an increase in the interest rate, fees and further pledging of collateral.  

In some countries borrowers may execute a "short sale", in which the proceeds from the sale of the property fall short of the balance owed on a secured loan on the property.  The bank usually agrees to discount the loan and the homeowner turns over the proceeds of the sale in either partial or full satisfaction of the loan.

Finally, there is the refinancing option.  If the distressed borrower is able to persuade another bank to assume the loan, then the present bank can be taken out.  An industry of non-bank lenders such as friends, family members and neighbourhood associates is emerging, offering loans typically at rates of three to five percent a month, usually on a collateralised basis.  If the borrower is having difficulty meeting the bank's loan repayments, which would be on more favourable terms, then it is unlikely they will be able to fulfill their obligations under much stricter terms and loss of property may be more probable.  Thus, this alternative is discouraged.

Foreclosure is an unpleasant option for both the bank and the borrower that both parties wish to avoid.  Banks want borrowers not properties and, as such, prefer to see borrowers hold on to their land and buildings.  Early, realistic and constructive dialogue is the first step in creating a progressive environment to develop a solution to meet the obligations under a mortgage and avoid the worst possible outcome.

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Anthony Galliano is head of corporate and

institutional banking, ANZ Royal Cambodia.

Should you wish to contact Anthony,

please send an email to [email protected].