FAQ - Clarifications on LTV limits for residential real estate

The Technical FAQ (the FAQ) of the Commission de Surveillance du Secteur Financier (the CSSF) on CSSF Regulation No 20-08 on borrower based measures for residential real estate credit (the Regulation) has been published on the CSSF's website on 21 December 2020. The FAQ clarifies the application of certain Loan-To-Value (LTV) limits introduced by the Regulation and consequently, the own funds requirements applicable in respect of private borrowers.

Scope ratione materiae / personae

The Regulation and LTV limits apply to residential real estate credit for properties located on the Luxembourg territory as of 1 January 2021. Existing credit arrangements will remain unaffected by the Regulation as well as credit arrangements in respect of properties which are not located on the Luxembourg territory.

The FAQ reminds market participants that the LTV limitations set out in the Regulation apply to "private" borrowers. The primary aim is thus private use. This means that residential real estate financed for commercial purposes is out of scope of the Regulation. Commercial purpose in this respect should not be confused with the mere use of legal structures.

Pursuant to the FAQ legal structures are not necessarily out of scope, in particular if they are used to conduct a private use transaction.  Legal structures such as a société civile immobilière , which are often used to complete a "private" transaction are in-scope of the applicable LTV limits. Joint borrowers will also find themselves caught by the measures. In this case, the criteria determining which LTV limits apply to the borrowers will need to be satisfied by each borrower.

The LTV limits will also apply in respect of certain investment credit that is not strictly for residential purposes (i.e. buy to let transactions). As rental property is in principle in-scope it may well be that a borrower shifts from one category of buyer (as further specified under the section What is LTV and what are the LTV limits)  to another. The CSSF helpfully clarifies that the criteria are to be met at origination. Hence, if a borrower moves out of his primary residence to subsequently rent out the property the FAQ confirms that the loan will not need to be reclassified as a buy-to-let and meet the buy-to-let LTV limits.

Furthermore, the LTV limits set by the Regulation apply irrespective of the type of property right obtained in respect of the underlying property. For example a transaction conferring full title ownership, usufruct or leasehold could be subject to the LTV limits.

What is LTV and what are the LTV limits?

The FAQ provides a reminder of the meaning of LTV for market participants. In particular, that LTV is calculated by taking the ratio of the loan amount in respect of the value of the property purchased.

Furthermore, the FAQ clarifies the application of the three buckets of LTV limitations set by the Regulation. In particular:

1. First-time buyers can be subject to an LTV of 100% or less, in principle allowing first-time buyers to fund a property without own funds (at least in respect of the property leg of the transaction);

2. Non-first time buyers of a principal residence can be subject toan LTV of 90% or less, noting that a derogation applies to the LTV limit for this categorisation - allowing lenders to apply a higher LTV limit for 15% of the volume of this category of loans, without at any time exceeding a 100% LTV limit on these loans; and

3. Other residential real estate loans are subject to a LTV of 80% or less.

As stated above, borrowers can in principle shift to category 3 during the life of their loan but this should not lead to reclassification of the loan and applicable LTV limits.

Am I a first time buyer?

The FAQ defines first-time buyers as borrowers that have never contracted a residential real estate loan aimed at financing residential real estate property located in Luxembourg. Joint borrowers must both satisfy the definition criteria in order for the loan to be considered a first time buyer loan. It should be noted that the definition refers to the Luxembourg territory and that loans in respect of property located outside of Luxembourg are in principle not to be considered in this respect.

My property is a ruin, what now? - Renovation and works

The FAQ clarifies the manner in which the property value is determined where a property needs significant renovation. In case of a contemplated renovation on an existing property to be purchased, the lender will need to take into consideration the materiality of the renovations and how renovations will improve the actual value of the property (e.g. a significant decrease in the energy consumption changing the energy class of the property will affect the value).

The lender will need to obtain financial and other information on the prospective renovation from the borrower and follow-up on the renovation progress. It is up to the lender to maintain internal, sound and prudent policies to assess the correlation between renovation works and the increase in value of the property. The FAQ stresses that renovation works can only be taken into account in the property value calculation if they are completed within a reasonable timeframe following purchase. The FAQ applies an 18 month timeframe in this respect. It should be noted that the value cannot be increased with more than 80% of the renovation cost and should not exceed the market price for similar properties in the same location.

For properties to be built, known as vente en futur état d'achèvement, the purchase price of land and the project to be built as set out in the notarial deed will apply. Additional costs may be factored in by the lender by applying the procedure for renovation works to the property to be built.

My property is on the market but not yet sold? - Bridge loans

Bridge loans are permissible under the Regulation and allow for funding to occur on a new property until an owned property has been sold. Bridge loans may not have a maturity longer than 18 months and cannot be renewed.

The FAQ clarifies that in the case of bridge loans two LTV ratios need to be complied with. A global LTV ratio will be applied at origination and represents the ratio of (i) on the one hand, the loan secured by the new property purchase and the outstanding loan amount on the already owned property and (ii) on the other hand, the value of both the owned and to be purchased properties.

A final LTV ratio will be applied reflecting the ratio between (i) the loan secured by the new property purchased minus the own funds arising of the sale of the existing property and (ii) the value of the newly purchased property.

The final LTV is not satisfied at origination but at the time the former property has been sold and the relevant sale proceeds used as own funds towards the new mortgage loan. The FAQ clarifies that the lender must have a contractual claim towards the borrower in respect of the sale proceeds to be used as own funds.

Both the global LTV ant the final LTV need to comply with the LTV limits of the Regulation.

Conclusion

The FAQ clarifies the application of a series of measures taken by the CSSF under the Regulation in an attempt to alleviate excessive household debt and limit further market speculation. These more stringent LTV limits will apply as of 1 January 2021 to borrowers of residential real estate credit and will also require lenders to have adequate procedures in place to comply with the Regulation. In this respect, new contracts entered into as of 1 January 2021 will need to cater for the requirements of and be in compliance with the Regulation.

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