Currency risk (foreign currency loans)

The exchange rate risk associated with foreign currency loans refers to the risk that fluctuations in the exchange rate between the loan currency and the borrower’s currency will increase the actual debt burden. For example, someone who takes out a mortgage in Swiss francs (CHF) or Japanese yen (JPY) initially benefits from lower interest rates but bears the risk that, if exchange rates move unfavorably, the loan will become significantly more expensive when converted to euros. This risk has caused serious difficulties for many Austrian and Eastern European borrowers in the past.

How does exchange rate risk arise?

A foreign currency loan is disbursed in a foreign currency and repaid in that currency. If the foreign currency appreciates against the euro:

• The remaining debt amount converted into euros increases
• The monthly interest and principal payments in euros increase
• The effective loan-to-value ratio of the property decreases (property value in euros remains the same, debt in euros increases)

In extreme cases, the borrower can end up “underwater”-where the debt exceeds the value of the property.

The exchange rate risk operates asymmetrically: If the exchange rate moves in a favorable direction (the euro appreciates against the foreign currency), the borrower benefits. If the exchange rate moves unfavorably, the debt burden can potentially grow without limit. This asymmetry is a key difference from other interest rate risks and makes foreign currency loans unsuitable for most private borrowers.

Hedging Strategies: Hedging and Currency Clauses

There are several ways to limit exchange rate risk:

• Forward contracts: Fixing the exchange rate for future repayment installments-protects against appreciation but incurs a premium
• Currency options: Right (not obligation) to exchange at a predetermined rate; more flexible but more expensive than forwards
• Ongoing exchange rate monitoring and opportunistic debt restructuring: Taking advantage of favorable exchange rate periods to fully restructure debt into euros

In practice, very few private borrowers use active hedging strategies-they are costly, complex, and require continuous monitoring. EU regulation takes this into account by largely restricting foreign currency loans for consumers.

Regulatory Restrictions Since 2016

The EU Mortgage Credit Directive (implemented in Germany by Section 18a of the German Banking Act, KWG) stipulates that consumers must be fully informed about exchange rate risk when taking out foreign currency loans. Borrowers also have the right to refinance the loan in euros at any time if the exchange rate deviates unfavorably by more than 20% from the rate at the time the contract was concluded.

This regulation is an important safeguard, but it does not fully solve the problem: With a 20% depreciation, the borrower has already incurred significant losses. While refinancing at an unfavorable exchange rate protects against future costs, it does not eliminate the additional burden that has already been incurred.

The Case Study: CHF Loans After 2015

When the Swiss National Bank lifted the euro peg on January 15, 2015, the CHF appreciated by up to 20% against the euro within hours. CHF borrowers saw their remaining debt and monthly payments in euros rise abruptly by this amount. Borrowers in Austria and Hungary, who had taken out CHF loans en masse in the 2000s, were particularly affected. In Germany, foreign-currency loans for private residential real estate were less common, but even here there are still existing portfolios that concern homeowners.

Practical Tip for Homeowners in Nuremberg and Franconia

In Germany, foreign-currency loans for residential real estate have become rare since the 2016 regulations; in particular, Swiss franc loans from the 2000s are still being litigated in courts. Homeowners in the Nuremberg region who still hold such legacy loans should closely monitor current exchange rate trends. We recommend considering refinancing into a fixed-rate euro loan when exchange rates are favorable-we are happy to connect you with experienced financial advisors who are familiar with such special circumstances and can develop the optimal refinancing strategy.

Frequently Asked Questions

Can a German bank still offer me a foreign currency loan for residential real estate today?

Yes, but only under strict disclosure requirements and with higher creditworthiness standards. In practice, only a few specialized institutions and private banks offer foreign currency loans for residential real estate.

How high was the exchange rate risk for CHF loans following the Swiss National Bank’s decision in 2015?

When the Swiss National Bank lifted the euro peg on January 15, 2015, the CHF appreciated by up to 20% against the euro within hours. CHF borrowers saw their remaining debt and monthly payments in euros rise abruptly by this amount-a textbook example of exchange rate risk.

Is exchange rate risk relevant for tax purposes?

Yes. Exchange rate losses (appreciation of the foreign currency) effectively increase interest costs and thus affect the tax burden if the property is rented out. Exchange rate gains from debt restructuring, on the other hand, may constitute taxable income under certain circumstances.

For whom might foreign currency loans still make sense today?

In the professional and commercial sectors, foreign currency loans can make sense for companies with natural currency hedging (e.g., revenue in the same foreign currency). For private residential property buyers who receive their income in euros, the risks generally far outweigh the potential interest rate advantages.

Refinancing Existing Loans: Practical Steps

Homeowners in the Nuremberg region who still hold a foreign currency loan from the 2000s or early 2010s should consider the following steps:

1. Determine the current outstanding balance in euros: Have your lender confirm the current outstanding balance in the foreign currency and its euro equivalent as of today. Compare this figure with the value at the time the loan was taken out to calculate the exchange rate loss or gain to date.

2. Monitor the refinancing window: Refinancing is particularly attractive when the exchange rate is close to the original closing rate. You can set up exchange rate alerts through a financial advisor that trigger a notification when a target rate is reached.

3. Prepare for follow-up financing in euros: Before you terminate the foreign currency loan, you should have a euro financing offer in hand. The existing mortgage can often be reused without a new deed, which saves on notary fees. The processing time at banks in Nuremberg is typically two to four weeks.

4. Calculate the prepayment penalty: Foreign currency loans taken out before the EU Mortgage Credit Directive sometimes contain unfavorable prepayment clauses. An accurate calculation of the penalty amount is essential before making a decision.

Back to the Real Estate Glossary.