Borrower Behaviour and Risk

Our MAKAZI BORA housing microfinance pilot program is just about to complete two years of operation in Dar es Salaam. Quite a few clients have paid off their first loans and returned for second home improvement loans to continue with their incremental building activities. As with many microfinance institutions, clients returning for subsequent loans may access larger loan amounts based on their capacity to pay and previous borrowing history. Repeat clients should be lower risk to the institution, but we have occasionally had cause for concern.

Some clients have taken relatively small loan amounts for their first loan with the shortest possible loan term. After paying off this first loan, they have then applied for the maximum loan amount for their second loan. Their intention of targeting the higher loan value is clear. It is not necessarily a problem in itself, but we noticed that the loan performance of some of our initial repeat clients was not as stellar as it had been with their first loans. We have also noticed some miraculous increases in reported income from the first loan application to the second loan application, which clients have attempted to use as a basis to access larger loans. Such clients are viewed with greater scrutiny. Any microfinance financial institution is naturally concerned with decreasing the risk of financial loss due to default in loan payments and must be able to identify such risky borrowing behaviour in the absence of strong loan security.

Fortunately, not all clients exhibit risky borrowing behaviour. In the last few weeks, we have started receiving applications from clients who have paid off their first and second MAKAZI BORA loans and come back for another. These initial clients to apply for their third MAKAZI BORA loans have shown very conservative borrowing behaviour. First time borrowers can access loans up to 800,000 Tanzanian Shillings. Clients can access up to 2,000,000 shillings for their second loan and up to 3,000,000 shillings for a third loan and beyond. The clients who have just become third time borrowers have taken loans as follows:

Unlike the type of client who seeks the maximum loan amount at all costs (and risks), these third time borrowers have always applied for loans significantly below the maximum loan amount. Just as financial institutions must mitigate risks associated with lending, the best performing clients also mitigate risks associated with borrowing. If, for whatever reasons, a client does not pay, he or she risks having collateral seized, having a trusted friend or relative approached as their guarantor or even going to court. These events can be costly to the client and also represent a reputation risk that could damage their social capital. When clients have excellent repayment records and consistently apply for loans with loan amounts lower than the maximum for which they are eligible, MAKAZI BORA deems them to present a much low level of risk to the institution than their neighbours who race for the maximum.

When the institution and the client fully understand each other’s risks and means of risk mitigation, it helps them achieve their objectives on both sides of the housing microfinance loan.

Housing Microfinance Working Group

This afternoon I was honoured to be able to give a presentation at a workship organized by the Housing Microfinance Working Group Tanzania. The theme was: An Introduction to Housing Microfinance and the workshop was  well-attended.  Among the attendees were various financial service providers and stakeholders from the housing sector. Also in attendance was a delegation from microfinance institutions in Kenya, Uganda and Tanzania that was led by Stromme Microfinance East Africa. They were in Dar es Salaam for a field visit to the MAKAZI BORA housing microfinance program that coincided with the workshop.

Following a keynote speach from the Ministry of Land, Housing and Human Settlments' Deputy Director for Housing Finance, the Working Group introduced its member institutions and its purpose and objectives. It then gave brief presentations on What is Housing Microfinance, Housing Microfinance Models in Tanzania and Opportunities and Challenges in Housing Microfinance. It was an exciting event for the Working Group, which is a network of institutions engaging in housing microfinance or housing microfinance-related services in Tanzania. Member institutions contributed to cover the cost of holding the event.

Within the working group, institutions have widely varied means of approaching housing microfinance. There are significant ideological divides over issues such as the role of land, the role of planning and regulations, housing support services, relevance of policy, and other issues. These differences often generate fascinating discussions at Working Group meetings.

Despite diverse and sometimes conflicting models and approaches, the Working Group is united in sharing ideas and promoting the practice of housing microfinance in Tanzania. Several of  non-member institutions who were in attendance at the workshop indicated that they were preparing to develop housing microfinance products and would like to join the Working Group. The workshop appears to have succeeded in its objective of promoting the practice of housing microfinance and bringing more institutions into the on-going dialogue of how the practice can be developed.

"What they need is microfinance...."

I recently got a ride home from a meeting with some colleagues from other institutions offering housing microfinance products. While stuck in a typical Dar es Salaam traffic jam, we discussed product features and approaches. At one point the focus was on whether or not to secure housing microfinance loans and the available mechanisms for doing so. It seems as though quite a few of the institutions offering affordable housing finance in East Africa are securing their loans in one way or another.

Securing the loan by putting some kind of lien on the property is an obvious solution to minimizing risk. With secured loans and relatively higher loan amounts, many of the housing microfinance products emerging in East Africa appear to fall more along the lines of micro mortgages. If asset-based lending is avoided by lending according to client capacity to pay, micro mortgage products decrease risk of default while offering higher margins of return than "typical" microfinance loans. They make good business sense for a financial service provider.

As the discussion continued on various options for securing the loans, someone mentioned that a secured loan can often be difficult or impossible for low income clients to access. Indeed it can! They may not have the requisite land tenure. Even the administrative procedures for securing the loan alone could be a constraint. Typical loan requirements and loan sizes are likely to prevent lower income households from accessing micro mortgage loans. Someone in the car offered an interesting suggestion: What they need microfinance. Perhaps even housing microfinance!

As housing finance develops in East Africa, will it drift toward micro mortgage lending to the detriment of what was once the typical microfinance target group? Will the industry have to come full circle to ensure inclusiveness in affordable housing finance? There is almost a mystique about housing finance. Microfinance institutions can very easily succumb to the temptation to become like mortgage lenders and thus move away from some of the basic microfinance concepts on which they were founded. Although still considered in the same category for most purposes, micro mortgage products and housing microfinance will probably become more differentiated over time as the practices develop in East Africa. While both are needed and diverge from traditional housing finance, they seem to have different characterics and serve different populations.