SHANGHAI—In the latest sign of strain in China's credit markets, a small bank in eastern China said it seized property owned by a government-backed real estate entity after the latter defaulted on loans and interest payments totaling more than 40 million yuan ($6.4 million).

Qilu Bank Co., based in the city of Jinan, said Wednesday on its website that it had sued Licheng District Comprehensive Development Corporation of Urban Construction, which is backed by the city's Licheng district. The bank said it is auctioning off real estate and other assets confiscated from the company after a local court ruled in the bank's favor.

Analysts said that until recently Chinese banks typically rolled over debts by local government-backed entities and didn't usually disclose foreclosures publicly. But a slowing economy, weak property market and tight credit conditions are pushing more distressed asset cases into the spotlight.

Local governments in China aren't generally allowed to raise debt directly, so many created special purpose financing vehicles to fund infrastructure projects. Their lack of transparency and their hefty borrowing has added to worries among some economists of a looming credit crisis.

Qilu Bank said that Licheng applied for a 35.2 million yuan ($5.7 million) loan in 2005, of which 15 million yuan was guaranteed by state-owned Jinan Chengtou Corp., a financing vehicle under the Jinan municipal government.

Licheng was responsible for redeveloping older parts of the city and managing apartments that it rents out, according to public records of the Jinan Municipal Administration of Industry and Commerce.

The loan matured in 2008 and the debt was rolled over, records indicate. The bank extended more loans to Licheng in 2010 to help it repay the original debt. In February 2012, when Licheng defaulted on its repayment obligation, the bank commenced litigation.

The Jinan Intermediate People's Court ruled in March that Licheng had to pay the bank 14.9 million yuan in principal and 2.5 million yuan in interest payments. The court also ruled that the guarantor, Jinan Chengtou, needs to repay the loan.

Even before the ruling, warnings had been sounded about Jinan Chengtou. In a credit-rating report released last year for a bond issue, China Lianhe Credit Rating Co. said that Jinan Chengtou had provided substantial guarantees for other companies and thus presented some credit risk.

In the statement on its website, Qilu Bank said Jinan Chengtou's role didn't amount to a default and said it wants to counter media report suggesting that the case signals broader problems for local government financing vehicles.

Jinan Chengtou and Licheng couldn't be immediately reached for comment.

With the economy slowing, the property sector sagging and capital flows diminishing into the world's second-largest economy, investors and creditors are scrutinizing delinquencies for signs of wider distress.

"The market is starting to price risk more carefully as such individual cases pop up," said Ma Xiaoping, an economist with HSBC. Ms. Ma said that there is still appetite for local government debt in China. "It is normal to see some cases of defaults in an economy that is slowing, but I don't see this as a sign of systemic risk," she said.

—Esther Fung and Liyan Qi