China’s Foreclosure Surge: The Growing Strain on Homeowners and Banks Amid a Housing Market Collapse

The increasing rate of foreclosures on apartments across China highlights a severe issue in the country’s real estate sector. With numerous homeowners unable to meet mortgage payments, Chinese banks are foreclosing on an escalating number of properties, placing additional strain on the financial system.

Foreclosures and auctions have risen significantly, with official data reporting a 43% increase last year. Many banks have acknowledged the surge in mortgage defaults throughout the first half of the year, a trend exacerbated by the rapid decline in apartment values. The legal system faces challenges in managing the growing number of evictions; in some cities, such as Qingdao, properties are sold at auction before occupants have vacated. This leaves new buyers in a difficult position, having to negotiate with the current occupants to leave the premises.

Though modest compared to other countries, the increase in foreclosures adds pressure on Chinese banks, already dealing with the repercussions of a struggling real estate market. In addition to the rising mortgage defaults, banks are confronting losses from loans issued to local governments and real estate companies, as well as from unfinished apartment projects that were left incomplete by developers. Compounding these challenges, many corporations used real estate as collateral for their loans, only to find that this collateral has significantly depreciated.

The Chinese government has encouraged banks to continue lending to real estate developers to stimulate the economy. However, as Alicia García-Herrero, chief economist for Asia at Natixis, suggests, the relationship between banks and policymakers is becoming strained, with banks potentially transforming from policymakers’ primary support to their biggest challenge.

While the majority of China’s state-owned banks remain financially strong—posting $600 billion annually in profits before setting aside reserves for unpaid loans—their pivotal role in supporting the national budget remains under scrutiny. Banks contribute significantly to government revenues, so substantial losses could affect both bank profits and the financial health of the state.

Foreclosures are a sensitive issue in China, where authorities strive to prevent any measures that could lead to public dissatisfaction. However, due to decades of rapid construction, there are around 90 million empty apartments, so foreclosures generally do not result in homelessness. Many of the foreclosed properties are second homes, often occupied by family or friends of the owner, and rarely affect primary residences.

A few years ago, China implemented laws to provide homeowners with greater protection against eviction, which has complicated banks’ efforts to reclaim properties. Prospective buyers in foreclosure auctions often purchase apartments sight unseen and must work with local officials to persuade occupants to move out, a deterrent for many buyers.

Despite these complications, foreclosed properties continue to flood the auction market, often requiring multiple attempts to sell. Banks start with a 20% discount on the current appraised value but may have to offer a 50% discount if the property doesn’t sell on the first attempt. Last year alone, 389,000 homes were auctioned due to mortgage foreclosures—a number that approaches foreclosure levels in the United States, despite China’s larger population.

With real estate prices in China falling by nearly 30% from their 2021 peak, the number of unfinished apartments has also climbed. UBS analysts estimate that four million of these unfinished properties were purchased with approximately $350 billion in mortgages—amounting to nearly 7% of all mortgages on Chinese banks’ balance sheets. Regulators are pressuring banks to avoid foreclosing on these properties.

One factor that may alleviate some pressure is that many homeowners have made large down payments or prepaid parts of their mortgages, meaning their properties may still be worth more than the remaining mortgage balance despite falling prices.

Paying down mortgages early has been a common strategy, especially given that mortgage interest rates were around 6% until recent cuts. However, the trend of using small business loans to pay off mortgages raises concerns among banks and regulators, as these loans often lack sufficient collateral.

When a property sells at auction for less than the outstanding mortgage balance, the borrower is still personally responsible for the difference. While banks could pursue these funds, concerns over social stability often prevent them from doing so unless the borrower was involved in speculative or fraudulent activities. Mortgage insurance, which covers such shortfalls, is uncommon in China, exposing banks to potential losses if property values decline further.

Even with government intervention, cities like Qingdao may face a prolonged recovery period. Real estate prices there rose dramatically from 2016 to 2021, spurred by speculative investments. Now, however, prices are in sharp decline, leading to increased mortgage defaults reported by local banks, such as the Qingdao Rural Commercial Bank.

For homeowners like Lei Wang, who purchased an apartment just four years ago, the loss in property value has been disheartening. Many individuals who once viewed homeownership as a secure investment now find themselves reconsidering, wondering if renting might have been a more financially prudent choice.

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