1. 1 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Franck Daphnis June 2016 Development Innovations Group www.developinnovations.com fdaphnis@developinnovations.com +1 (301) 664 9644

2. 2 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Purpose: Provide an overview of emerging approaches, products, and issues for housing microfinance HOUSING MICROFINANCE

3. 3 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Why Is HMF Important? From a Microfinance Perspective: 1. Reports of microenterprise loans used for housing; 2. An increasingly important part of financial operations for major MFIs 3. Obvious extension of the finance in microfinance 4. Enough experience that best practices can begin to be documented

4. 4 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Why Is HMF Important? From a Housing Finance Perspective: Points to an innovative approach to solving the Housing Finance Problem: “The Need to reconcile three partially conflicting objectives: affordability for the households, viability for the financial institutions, and resource mobilization for the expansion of the sector and the national economy.” (Renaud, 1984)

5. 5 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Why Is HMF Important? From a Development Perspective Applications in the fields of:  Microfinance  Housing Finance  Urban finance (slum upgrading, urban sanitation)  Land tenure regularization

6. 6 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview DEFINITION: A subset of microfinance, encompassing initiatives that: - Target the habitat needs of the poor or the very poor - Extend Relatively small loan amounts based on estimated repayment capacity - Carry a Short repayment period - Are usually not collateralized - Are priced to ensure long term financial viability of the provider - Incorporate systematic due-diligence and follow up procedures

7. 7 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Housing Finance MicrofinanceMicrofinance HousingMicrofinanceHousingMicrofinance

8. 8 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview DEFINITIONS Who Are the Clients? 1. Existing MFI Clientele (economically active poor working in the “informal” economy) 2. In general, low income earning and poor households that do not enjoy access to traditional housing finance

9. 9 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview DEFINITIONS Who Are the Providers? 1. MFIs 2. Home Lenders 3. NGOs 4. Regulated Financial Institutions (banks)

10. 10 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview BANK CONSUMER LENDING AND HOUSINGMICROFINANCE: A COMPARISON

11. 11 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview MICROENTERPRISE LENDING and HOUSING MICROFINANCE: A COMPARISON Typical Microenterprise LoansHousing Microfinace Impacts borrower’s incomeImpacts borrower’s assets base and may impact income May offer very small loan amounts Relatively larger incremental loan amounts May or may not be “fungible” May or may not be. Can be individual or group loans Usually individual loans Repayment capacity based on generation of future income borrower’s current income

12. 12 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Indicators for Organizations with HMF Programs Total OutstandingHousingAvg. LoanPortfolio OrganizationPortfolio SizeRepayment Periodat Risk Banco Sol$140m$30m$1,0003 years< 3% Los Andes$155m$12.18m$2,2003 years< 2.7% MiBanco$200m$30m$8001.5 Years (Ave)< 3% Grameen$420m$4.1m$100-$600Up to 10 YearsN/A

13. 13 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Two Families of Products: n A Word on Mortgages n Linked Housing Microfinance n Stand Alone Housing Microfinance

14. 14 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview STAND ALONE MORTGAGE Definition  Lien on asset (house as collateral)  Long repayment period  Typically finances complete housing solution

15. 15 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview A WORD ON STAND ALONE MORTGAGE Why Are We Discussing it?  Desirable from client’s standpoint;  Desirable from “housing as social good” perspective;  May be relevant in some countries;  Relevant to commercial institutions who already offer mortgages to higher income earning clientele.

16. 16 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview STAND ALONE MORTGAGE Conditions for Success  Long term sources of capital - Securitization or other “bundling” of loans - Institutional investors  Legal Framework

17. 17 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Long Term Sources of Capital: Why: Correspondence between clients’ repayment horizon and Institution’s funding repayment constraints Issue:Sustainable MFIs finance lending through client deposits and commercial loans. Repayment horizon not in sync with 10-30 year loans. Subsidized MFIs also receive soft loans and donor funds; however, opportunity cost of earmarking funds for long repayment periods can be to high. STAND ALONE MORTGAGE: Conditions for Success

18. 18 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Securitization or Other forms of Private “Bundling” What:Loans are aggregated into securities or otherwise packaged and sold to investors. Secondary mortgage markets allow mortgage lending to flourish in the US and other countries with capital markets by finding investors with horizons that match borrowers’. Issues:Mostly relevant to commercial Institutions - In countries where microfinance flourishes secondary mortgage markets typically do not exist - Private investors have yet to see “bundled” housing loans for low income families as attractive - With no investors to purchase discounted housing loans, mortgages (especially to the poor) is typically not an option STAND ALONE MORTGAGE: Conditions for Success

19. 19 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Institutional Investors What:Governments, public agencies and pooled investment funds (pension, social security or other mandatory savings systems) provide long term housing loans for families. Issues:Loans tend to be provided post-construction and require the presence of a developer with bridge financing Programs tend to be bureaucratic and are not necessarily models of efficiency and fairness Loans are subsidized (from the standpoint of interest rate) and long term availability of programs seems tenuous STAND ALONE MORTGAGE: Conditions for Success

20. 20 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Legal Framework  Laws must allow MFI to secure a lien against the asset financed  Asset should be be transferable - Land tenure - Eviction laws  Court system must be reliable enough that mortgage contract can be enforced in case of default STAND ALONE MORTGAGE: Conditions for Success

21. 21 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview As Part of Linked Steps in Financing of Micro-entrepreneur Why Are we Discussing it?  Relevant to institutions already involved in microfinance: Meets the “Are MFIS Currently Doing it?” Test  Even when MFIs are not consciously doing it, there is strong anecdotal (and some documented) evidence that loans are diverted towards housing purposes  Microfinance leaders, including Grameen, BancoSol, SEWA, MiBanco have developed products

22. 22 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Why: -Fits mindset that micro-financing is incremental with income generation loans as steps towards asset building -Can be a powerful tool for client retention - Client’s history with MFI (through loans or savings) offers good proxy for capacity to pay analysis What:-Provides housing loan as part of a “graduation” process after client has established a lending or savings history with the MFI -Can be a longer term loan financing a complete core house or a home improvement loan; As Linked to Other Products Offered by MFI

23. 23 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Source: Housing Microfinance Initiatives. USAID/DAI, June 2000 As Linked to Other Products Offered by MFI

24. 24 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview As Stand Alone Incremental Product What: -Provides housing loan based on generally accepted microfinance principles(short repayment period, relatively small amount, based on repayment capacity, market rate) and independently of prior history with MFI Why : -Works within a vision of housing as one of many products MFIs can offer the poor alongside more established products -Can be a tool for diversification (and retention) of clientele - Can help with risk management by diversifying product line Issues:-Client qualification must be rigorous as there is no prior history with MFI

25. 25 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview

26. 26 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview As Stand Alone Incremental Product: KEY CHARACTERISTICS: - Purpose: Typically Improve condition of existing structure - Repayment Capacity: Periodic payment no more than 25% of income, total debt service no more than 40% - Repayment Period: Generally one to three years

27. 27 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview KEY CHARACTERISTICS: - Loan Amount: Based on cost, repayment capacity, repayment period, market interest rate ($250-$4,000); - Security: Secured through collateral substitutes (mostly co- signers) or actual collateral for larger loans; no “mortgages”. - Product Design: Basically an individual loan product. -Savings. If capacity to pay is borderline for stand alone product, a savings requirement could be introduced. As Stand Alone Incremental Product:

28. 28 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview EMKAN $3,000 18 months 2 co- signers None No Variable No TAMEER $3,500 36 months 2 co-signers None No Variable Yes MFL: COMME PRODUIT AUTONOME FD

29. 29 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview As Stand Alone Incremental Product: EMKAN $3,000 18 months 2 co- signers None No Variable No TAMEER $3,500 36 months 2 co-signers None No Variable Yes

30. 30 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Loan terms  Repayment period - One to three year for stand-alone product - Longer term for linked product  “Market” Interest Rate - Priced to include administrative expenses (AE), Loan Losses (LL), Cost of Funds (CF), Desired Capitalization Rate (K) and investment income (II). R = [(AE+LL+CF+K)/(1-LL)] – II † ; or priced using the Microfin Loan Projection Model  Other Factors (commission, etc,) † Rosenberg. CGAP, 1998 Key Concepts: Affordability

31. 31 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview When compared to mortgages, - Based on how targeted clientele build; - More in line with target clientele’s cash flow; - Better correlation with banks’ traditional sources of financing; - Can be implemented parallel to existing consumer product line. Incremental Housing Microfinance Products

32. 32 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview KEY SIMILARITIES WITH MICROENTERPRISE LENDING PRODUCT: - Similar clientele; - Small loan amount: affordability a function of borrower’s capacity to pay, loan terms and cost; - Relatively Short repayment period; - Similar financial viability considerations.

33. 33 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview DIFFERENCES WITH MICROENTERPRISE LENDING PRODUCT: - Client selection based on current cash flow; - May require additional technical assistance to borrower; - Impacts borrower’s asset base rather than her/his income; - Basically an individual loan product.

34. 34 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview ASSESSMENT OF POTENTIAL DEMAND Estimated Demand Documented Need for Home Improvements Documented Willingness to Borrow Affordability Capacity to Pay Cost of Home Improvement Loan Terms

35. 35 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Capacity to Pay: n Defined as the ability to meet periodic (usually monthly) loan payment n Housing payment no more than 25% of monthly income n Debt burden no more than 40% of monthly income n If income is $100 and debt is $25, capacity to pay is $15 a month n If capacity to pay is borderline for stand alone product, a savings requirement could be introduced. POTENTIAL DEMAND ASSESSMENT: Affordability

36. 36 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Loan terms  Repayment period - One to three year for stand-alone product - Longer Term for “Linked” product  “Market” Interest Rate - Priced to include administrative expenses (AE), Loan Losses (LL), Cost of Funds (CF), Desired Capitalization Rate (K) and investment income (II). R = [(AE+LL+CF+K)/(1-LL)] – II † ; or priced using the Microfin Loan Projection Model  Other Factors (commission, etc,) † Rosenberg. CGAP, 1998 POTENTIAL DEMAND ASSESSMENT: Affordability

37. 37 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Individual Lending: Product Design Interest Rate: R = (AE+LL+CF+K) – II Example:36.73%= (18% + 2% + 8% + 8%) - 0 (1-LL) (1- 2%) All variables expressed as percentage of portfolio outstanding ($1m) Administrative Expenses (AE = $180K), Loan Losses (LL= $20K), Cost of Funds (CF = $80K), Desired Capitalization Rate (K = $80K) and investment income (II = $0). † Rosenberg. CGAP, 1998

38. 38 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview Minor Improvements Major Improvements I. Finishing work: carpentry, plastering and painting, and installation of doors, windows and security bars. II. Major renovation or addition of bathrooms, kitchens and living space. III. Energy efficiency improvements: installing insulation and double paned glass. IV. Retrofitting homes with hurricane resistant technology. V. Water, sewer, and electric connections. VI. Major repairs or replacement of walls, floors, roofs and sanitary fixtures. Table 5. Examples of Improvements

39. 39 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview

40. 40 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview  Target Clientele: Working poor  Affordability: capacity to pay; loan terms; cost  Maturity: 1-5 Years (3 is recommended maximum for stand alone product; More if housing product can be sequentially linked to other products)  Security - For linked product: accumulated savings as collateral, or group members, or at least two co-signers; no collateral required - For stand alone product: at least two co-signers; collateral on high-end loans; do not take house as collateral  Sustainability: Product should always be priced so that MFI is financially viable in the long run  Non-financial Assistance: Depends on perspective; should bring real value added; could be offered as option PRODUCT DESIGN: Summary

41. 41 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview PRODUCT DESIGN: NON-FINANCIAL ASSISTANCE TO CLIENTS In addition to credit analysis, housing microfinance products may require construction assistance. This assistance can include: Evaluating the technical feasibility of the proposed improvement. Preparing cost estimates. Providing technical assistance as needed in improvement design and construction. Providing construction oversight.

42. 42 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview PRODUCT DESIGN: LAND ISSUES Land Security vs. Land Tenure If formal title cannot be produced, land security can be demonstrated by: n Written agreement between buyer and seller of land n Long term rental agreement between client and government n Based on local laws, years on the property qualifying as de facto ownership n Accepted tax payments on property

43. 43 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview CHALLENGES  Opportunity Cost: Is this the best use for the provider’s funds?  Liquidity: Will longer term loans create a liquidity crunch?  Construction Services (TA) to Clients: When should it be provided? What is the value added? Will clients pay for it?  Institutional Adjustments: Can the organization handle the organizational, personnel and methodological adjustments?  Legal: Land, construction permits (if applicable), and asset repossession  Pricing: Will the new Product siphon clients away from existing product line if loan terms are more attractive ?

44. 44 Daphnis; DIG 2016 Housing Microfinance: Introduction and Best Practice Overview CONCLUSION  Do not rush: Understand the clientele and what its demands are before introducing a new product  Design the product well so that it is financially viable on its own and works within the offerings of the organization  Ensure that the appropriate managerial, operational and technical structure and systems are designed to support the product  Monitor and evaluate product performance and be ready to adjust terms to meet clients’ demands  If “finance” in microfinance means providing for a range of the financing needs of the poor, microfinancing housing is a very logical next step.