I have been having conversations recently in India and elsewhere with people who believe that micro-mortgages are the next wave in housing finance. I am glad to hear it, since access to mortgage finance is one of the things that divides the haves from the have-nots. But it won’t be easy or risk-free as the US experience has shown (for a little refresher on the dangers, see this article from the New York Times). Coming from a mortgage banking background, I have given this topic a lot of thought and I see three key issues that will have to be resolved before micro-mortgages can become a widespread reality: the cost of homes; providing mortgage security; and savings.
Cost of homes is right now probably the largest impediment to the growth of micro-mortgages. As an example, the Global Housing Foundation, which provides micro-mortgages, estimates that homes for the poor which meet minimum standards cost between $5,500 and $20,000 depending on the country. Using their estimate of poor families earning a minimum of $35 per week, and assuming 25% of income can go to repay home loans, that family would be paying on their home for over 10 years. If the cost of that home could be brought down to $1,000 the loan could be paid off in about 3 years. The good news is that there are exciting efforts to bring down the cost of homes for poor families. I really like the $300 House Challenge, Tata’s Nano House, and Habitat for Humanity Nepal’s Bamboo House. I would argue that these efforts, and others like them, to dramatically decrease the cost of a home, will make more homes affordable for poor families than any other intervention. This, in turn, makes micro-mortgages a real possibility on a large scale.
Mortgage Security is another basic issue that is a major impediment for micro-mortgages. As UN-Habitat points out in their Global Campaign for Secure Tenure “…security of tenure is one of the most important catalysts for attracting large scale capital necessary for comprehensive slum-upgrading but also for the urban poor themselves to invest in their own dwelling and communities“. Most low income people that could consider a micro-mortgage are using some sort of microfinance institution that specializes in unsecured loans. I don’t think there is sufficient recognition of the difference between secured and unsecured loans in the low income finance community (nearly all microfinance is unsecured, and nearly all mortgage finance is secured). Thus, even if the cost of the home is brought down to a level that makes micro-mortgages possible, microfinance institutions will have a steep learning curve before they are able to offer micro-mortgages at scale. I am not really convinced that many microfinance institutions will even want to offer micro-mortgages. Most of those I have spoken with see the home loan as an additional product rather than a replacement for the traditional microenterprise loan (the customer will still need funding for her business even as she builds or purchases a house). This will push most borrowers into the red zone of debt burden unless the loan term is adjusted out (so in our example above, the borrower could repay in 3 years, but the MFI may adjust to 6 years and reduce the payment). The problem is that a longer term unsecured loan for low income populations is more risky for both borrower (who may not be operating under a 6 year time horizon) and the lender (who may not have sources of funding for 6 year loans). Securing the loan with a mortgage reduces the risk.
Savings is the third area that impedes micro-mortgages. Again, we can look to the experience of the real estate bubble in North America where banks were lending the full value of the property. They got burned when those values dropped. Homeowners suddenly realized the banks had more to lose than they did, and walked away from their homes and debt obligations. Granted, that bubble was fueled by lots of complicated and exotic financial instruments, but there is no question banks would have have been in a better position if borrowers had more of their own savings at stake. Likewise, micro-mortgages will be more successful if they are built on homeowner savings. The challenge is how to provide incentives for people to save more, and more quickly, for housing including down payment for micro-mortgages. A recent finding from the ILO’s Microinsurance Innovation Facility reinforces other research showing that simply reminding people to save can result in substantial increases (up to 51% in the ILO’s study). Other posts on this blog, for example here, provide more examples.
I think micro-mortgages hold tremendous potential for helping low income families build assets and live better. I hope those working on the issues of housing cost, land tenure and title, and savings see that their work could be leveraged through these instruments.