The roster of homes seized and listed for auction leaped 43% last year, according to official data. Numerous Chinese banks have disclosed increases in mortgage defaults during the first half of this year. The downward spiral in apartment prices has since accelerated.
The legal system is struggling to keep up with evictions. In some cities, like Qingdao, foreclosed apartments are being sold at auction before the occupants have moved out. The buyers must persuade them to leave, finance and foreclosure specialists said.
The increase in evictions and foreclosures, although still modest by American standards, piles onto pressures on China’s banks. They face other losses related to the real estate meltdown, including on loans to local governments, property companies in default and buyers of unfinished apartments that developers never delivered.
To make matters worse, corporate borrowers in China have long posted real estate holdings as collateral. Bank managers are finding that the collateral is worth much less than when the loans were extended.
The Chinese government is urging banks to lend more to real estate developers and other borrowers as part of its economic stimulus measures since late September. But the lenders themselves face difficulties. “Banks have long been the best ally and instrument of Chinese policymakers, but could soon become their largest problem,” said Alicia García-Herrero, the chief economist for Asia at Natixis, a French financial institution. China’s mostly state-owned banking system has plenty of money, earning over $600 billion a year in profits before setting aside reserves to cover losses on unpaid loans. That means the banks can slowly write off their losses against profits.
“They’re going to gradually recognize the losses over the years,” said Yan May, a China banking analyst at the lender UBS.
But China’s banks play a crucial role feeding revenue into the national government’s budget. The lenders pay income taxes, transaction taxes and dividends to the finance ministry equal to about 1% of China’s economy. Heavy losses would hit bank profits and government revenues.
Foreclosures are a particularly sensitive subject in China, where the government keeps a tight grip on society. Regulators pressure banks to avoid taking actions against homeowners that might set off public protests.
In a country with 90 million empty apartments after a decades-long construction boom, however, the evictions do not seem to be causing homelessness. Many foreclosures involve second homes, often occupied by friends and relatives of the owner, and seldom involve the primary residences of families.
Four years ago, the country adopted stronger legal protections for homeowners against evictions. At the time, China’s real estate market was surging and banks were initiating practically no foreclosures.
Those new rules are now making it hard for banks to evict some homeowners who have defaulted. Bidders who buy apartments in foreclosure auctions must often purchase the apartments sight unseen and then work with neighborhood officials to persuade the occupants to leave, said Martin Zhang, an adviser to buyers of foreclosed properties.
That has made many homebuyers wary.
“Unless there are no other suitable options, they generally won’t choose foreclosed properties,” said Zhang, who is based in Qingdao, a port city in Shandong province.
But the supply of apartments going up for auction keeps rising. Many have to be auctioned twice. Banks initially try to sell them at a government-regulated discount of 20% to the current appraised value. If no one bids, the banks try again at half price.
Last year, the number of residential properties auctioned after mortgage foreclosures in China — 389,000 homes — was roughly similar to the number of foreclosures in the United States, which has a quarter of China’s population. The United States had over 2.8 million foreclosures in 2009 and again in 2010, the worst of its housing market collapse during the global financial crisis.
In China, the question facing banks and the government is how much worse could the problem get?
Real estate prices have fallen almost 30% from their peak in 2021.
In addition to the rise in foreclosures, at least 7 million apartments sit unfinished across China. Analysts at UBS recently estimated that 4 million of these apartments were bought by Chinese households that took out about $350 billion worth of mortgages.
That works out to nearly 7% of all the mortgages on the balance sheets of China’s banks. Regulators have encouraged them not to foreclose on mortgages on unfinished apartments.
One factor that might contain the foreclosure problem over the next several years is that many homeowners have prepaid part of their mortgages or made large down payments. Even after the big drop in apartment prices, many people still own apartments that are worth more than the remaining balances on their mortgages.
Lin Chen, 32, paid $200,000 to buy his apartment in Qingdao in 2017. By his estimate, it is worth $135,000 to $150,000 now. But he owes only $84,000 on the apartment because he has paid down the mortgage whenever he has had extra cash.
Chen, a chemicals salesperson, is envious of older relatives and neighbors who bought apartments 20 years ago and are still sitting on big gains. He said he planned to keep his apartment and hoped the price would recover.
“Those of us born in the ’80s and ’90s, we are the unlucky ones,” he said.
Paying all or part of mortgages before they are due often makes financial sense in China. Mortgage interest rates were close to 6% until recent rate cuts.
Many Chinese have used money they have borrowed through their small businesses at low rates to repay their home mortgages. Regulators have been leaning on banks to lend more to small enterprises because many are failing during the economic slowdown.
But the use of small-business loans to repay mortgages has made bankers and regulators nervous because lenders typically obtain little collateral from business borrowers.
If a foreclosed property is auctioned for less than the balance due on the mortgage, the borrower is personally liable for paying the difference. But banks and regulators, fearing social instability, have been wary of requiring individuals to pay up in these cases unless the borrower has been involved in speculation or fraud.
In the West, many borrowers have mortgage insurance, which requires an insurer to pay the difference to the bank when a foreclosure auction falls short. But in China, fewer than 1 in 200 mortgages is insured. That could leave banks very vulnerable if real estate prices fall further and foreclosures surge, as many economists predict.
Even with the government’s steps, the real estate market in places like Qingdao, on China’s coast, could face years of reckoning. Before their recent tumble, apartment prices there doubled from 2016 to 2021 as speculators bid for vacation homes. A local lender, Qingdao Rural Commercial Bank, has reported sharp jumps in mortgage defaults.
One Qingdao homeowner, Lei Wang, said he regretted ever buying an apartment.
Wang, a chemicals salesperson, said his apartment had lost a fifth of its value since he paid about $300,000 for it just four years ago.
“I thought I bought the apartment at a reasonable price, but I didn’t expect the real estate market to decline so much,” he said. “If I hadn’t bought an apartment and the housing prices were like this, I think it would have been better to rent.”
This article originally appeared in The New York Times.