COVID-19 Principal and Interest Repayment Deferral... Will a 'Delinquency Rate Illusion' Trigger a Bad Debt Bomb in Q4? (Comprehensive)

Financial Sector's Involuntary 'Evergreening'
6-Month Postponement of Loan Repayments for SMEs and Small Businesses Affected by COVID-19
Non-Bank Financial Institutions and Consumer Loans Expected to Show Signs of Delinquency from October

Due to the impact of COVID-19, the wrinkles of small business owners and self-employed people are deepening, and on the 30th, the kitchen street in Hwanghak-dong, Seoul, is quiet. Photo by Mun Ho-nam munonam@

[Asia Economy Reporter Kwon Haeyoung] Concerns are emerging that from the fourth quarter onward, financial sector insolvencies caused by the six-month principal and interest repayment deferral for small and medium-sized enterprises (SMEs) and small business owners affected by COVID-19 will become visible. The government’s loan principal and interest repayment deferral, implemented across all financial sectors for companies and self-employed individuals, may create an optical illusion that conceals rising delinquency and insolvency rates in financial institutions. Amid worsening domestic economic conditions due to increased unemployment and business closures caused by COVID-19, it is pointed out that from October, when the repayment deferral ends, the secondary financial sector and unsecured loans could become triggers for insolvency.

According to the Bank of Korea’s Financial Stability Report on the 20th, the proportion of low-income self-employed borrowers who were delinquent on loan principal or interest payments for more than 10 days stood at 4.1% at the end of the third quarter of 2019, up 0.5 percentage points from 3.6% at the end of 2018. Among them, the proportion of long-term delinquencies exceeding 90 days rose from 1.8% to 2.2% during the same period. Other self-employed individuals with middle to high incomes also saw their delinquent borrower ratio jump from 1.8% at the end of 2018 to 2.2% at the end of the third quarter of 2019.

The financial sector views the government’s directive to all financial institutions to grant principal and interest repayment deferrals to SMEs and small business owners affected by COVID-19 as likely to cause involuntary “evergreening” by financial companies (extending loan maturities to carry non-performing loans).

The government issued a common guideline across all financial sectors requiring at least a six-month loan maturity extension and interest payment deferral starting this month, provided there is no insolvency such as principal and interest delinquency, capital erosion, or business closure. For personal unsecured loans, if repayment is difficult due to income reduction caused by COVID-19, only interest payments are required, allowing principal repayment deferral for more than six months. Accordingly, opinions suggest that financial institutions’ insolvency will be deferred (extended) due to COVID-19 damage.

An official from a commercial bank said, “During the principal or interest repayment deferral period, signs of insolvency will not appear, but there is a high possibility that deferred insolvency will suddenly surface when this program ends. Although it is difficult to gauge the expansion of insolvency caused by COVID-19, since the timing of insolvency occurrence is being extended, the principal and interest deferral measure is being implemented as a form of shared pain and coexistence.”

Compared to banks used by high-credit borrowers, insolvency in the secondary financial sector?such as savings banks, card companies, and capital companies, which are mainly used by middle- and low-credit borrowers?is likely to rise noticeably. The interest repayment burden ratio relative to income for low-income self-employed individuals was 23.9% as of the end of September 2019. This means that for every 100 won earned, about 24 won must be paid as interest. The proportion of borrowers whose interest burden exceeds their income is 3.9%.

Since the secondary financial sector lacks deposit-taking functions, liquidity difficulties are expected. According to a stress test conducted by Korea Credit Rating on capital companies with more than 20% of operating assets in personal business loans, the debt-to-asset ratio for assets maturing within one year could drop from an average of 119.3% to as low as 70.3% due to the implementation of the current principal and interest deferral measure.

The key to future financial institution insolvency is expected to be whether the COVID-19 crisis prolongs. A Financial Supervisory Service official said, “If the COVID-19 crisis continues structurally, it will lead not only to simple extension of insolvency but also to an increase in insolvency. However, if COVID-19 subsides around the second half of the year, borrowers who survive may normalize through the principal and interest repayment deferral measure. As large-scale policy funds are supplied for SMEs and small business owners and companies and small business owners begin to endure, the scale of deferred insolvency could vary greatly depending on how many actually apply for the principal and interest repayment deferral.”

This content was produced with the assistance of AI translation services.