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.