99071 MARCH 2015 ABOUT THE AUTHORS FRIEDEMANN ROY Fulfilling the Housing Dreams of is the Global Product Lead of the IFC Housing Finance Advisory Services, Financial Institutions Group and is Microfinance Clients responsible for the Global Housing Finance Advisory Program and Strategy. He has worked in over 50 countries covering areas in banking, Rahees Mohammed and his wife lived in a rented house in a slum and had one housing finance and microfinance. Previous positions held were at the wish—to build a house that would be a permanent home for the whole family. World Bank, Frankfurt School of Finance and Management, Association of Private Bausparkassen and Aadhar Housing Finance Private Ltd. could help Rahees realize his dream by of- Commerzbank AG. In addition, he worked as an editor for the “Housing fering a housing finance product that corresponded to his needs, preferences, Finance International” Journal which is published by the International Union and capacities. This SmartLesson, building on Aadhar’s experience and that of for Housing Finance (IUHF). our other housing finance clients in South Asia, provides a brief overview of SHILPA RAO is a former Associate Operations the dos and don’ts for the implementation of housing finance products. Officer, Access to Finance Advisory, South Asia, who participated in seven IFC projects in housing finance with microfinance institutions and housing finance companies across India. Prior to his service with IFC, Shilpa worked Background on research and policy advocacy projects addressing slum rehabilita- tion, affordable housing, and financial Aadhar offers housing finance loans to inclusion. households earning US$1,200 to $4,800 per year and with no proof of income, SACHIN BANSAL is a former Operations Officer, Access such as self-employed business owners to Finance Advisory, South Asia, from July 2011 to December 2013, who like Rahees. It offers smaller loans for managed 10 projects with banks and repairs or incremental construction as microfinance institutions across microfinance, payments and well as mortgage loans. Aadhar entered alternative delivery channels, and financial awareness sectors in South the housing finance market in 2010 with Asia. IFC’s support. In addition to the financial support, IFC provided advisory services APPROVING MANAGERS Jennifer Isern, Practice Manager, covering market entry strategy, product Finance & Markets, Global Practice, design, sales and market approach as South Asia region. well as advice on the risk management Douglas Grayson, Principal framework. As of June 30, 2014, Aadhar’s Financial Specialist, Housing Finance, housing finance portfolio amounts to Financial Institutions Group. US$ 102.5 million. Why enter the housing microfinance business? Housing microfinance (HMF) is a subset Rahees Mohammed and his family enjoy their new home. (Photo courtesy of Aadhar) of microfinance and fits well into the microfinance mission. It is designed to meet the housing needs and preferences ranges from 24 months to 60 months. of low-income groups, especially those Interest rates in India are from 22 percent without access to the banking sector or to 24 percent. Microfinance institutions formal mortgage loans. HMF is intended require collateral for loans exceeding for low-income groups who wish to US$ 1,500. 80% of Aadhar’s customers expand or improve their dwellings or to have a monthly salary below US$ 550. build a home in incremental steps, relying on sequential small loans. Loan sizes vary For many microfinance clients, the home from US$ 800 to US$ 3,000, and the tenor is also the place of production for their SMARTLESSONS — MARCH 2015 1 micro or small business. Clients who can improve their assess creditworthiness, microfinance institutions can housing conditions experience an increased quality rely on the same methods as for microfinance loans. of life and well-being and, as a result, become more productive, creative, and satisfied. Those clients who 2. Housing needs. Clients may use the loan proceeds take out HMF loans are considered lower credit risks and for home improvement, extension, or appliances more satisfied customers. (such as toilets). HMF also allows microfinance institutions to retain 3. Location. Depending on where the microfinance existing clients or attract new clients. According to institution operates, loan amounts may vary. They anecdotal experience, about 10 percent to 20 percent tend to be higher in urban than in rural areas. of microfinance loans are used for housing. By offering HMF products, a microfinance institution improves 2) Do a detailed market assessment. its risk-management framework (especially through diversification and better identification of risks). The goal of the market assessment is to identify the potential and effective demand: 1) to identify the Because of rising demand for housing finance in potential target clientele, 2) to determine the potential South Asia, entering this market offers an unrivalled demand and the size of the market (effective demand), opportunity for microfinance institutions. They are likely and 3) to ascertain the affordability levels of the target to benefit from enhanced profitability and sustainability segment. Other important aspects of the market of their overall operations. Key to achieving sustainable research are a thorough assessment of the enabling and profitable operations is having the right product and environment (such as economic development, legal right strategy. This includes a good understanding of the and institutional framework, housing sector) as well difference between needs, preferences, and capacities as a competitive analysis. The findings of the market as well as clear market segmentation (see Figure 1). research will provide the basis for the final design of the housing-finance products. Figure 1: Illustration of Market Segmentation 3) Do assess institutional readiness and capabilities. Informal income Formal  (tle,   Formal title Informal  income   The goal of this evaluation is to identify the necessary Income   organizational adjustments needed within the institution and the costs of implementation. It should Market   Improvement   Roof,  windows,  etc.   take into consideration the following elements: Housing   segmenta,on   Extension   Addi,onal  floor   needs   criteria   Appliances   Toilet,  A/C   • Interest and willingness to expand into housing Urban   products. To ensure sustained institutional inter- Loca,on   est, it is essential to get support from all key man- Rural   agement, board of directors, and investors. Source: Friedemann Roy. • Financial and operational performance. The institution should already have some experience Lessons Learned: DOs and DON’Ts for Entering with lending operations. In India, the asset base of the Housing Microfinance Market a microfinance institution should be at least $20 million. Prior experience with individual lending The following dos and don’ts for the implementation products is not a requirement; it can be obtained of housing-finance products offer guidance for micro- through the launch of HMF products. In other finance institutions that plan to develop a strategy to regions, microfinance institutions have often used enter the housing-finance market. HMF products to offer loans to individuals. The management information system, however, should 1) Do understand the demand patterns of your have the capacities necessary to process individual customers. loans of longer tenor and larger ticket sizes. • Funding and other resources needed for pilot Depending on the size of the housing project, the implementation and scale-up. As HMF loans demand for financing differs. The three elements listed typically have longer tenors than microfinance below influence customers’ needs (improvement or loans, microfinance institutions should also have extension), preferences (type of material used), and access to longer-term funding in local currency capacities (whether the work will be completed by the to keep asset-liability mismatches at a minimum. customer or by hired professionals): Also, sufficient staff resources should be available or be recruited to ensure smooth implementation. 1. Income and title. Microfinance clients may have a These people should have appropriate knowledge formal salary and an informal title or vice versa. To of banking and housing finance. 2 SMARTLESSONS — MARCH 2015 4) Do build capacity and appropriate incentive systems types of services they prefer, and how much they would for staff involved in housing. be willing to pay for the services. Capacity building of existing and new staff members is 6) Don’t underestimate the aberrations of an critical to a successful rollout of HMF product offerings. uncertain regulatory environment. Also, management should appoint a dedicated and fully empowered project manager (“product champion”) to In countries such as India, where the regulatory be in charge of the implementation process. In South framework for microfinance institutions is still unclear, Asia, microfinance institutions that have invested in implementation success could be negatively affected appropriate capacity-building measures (particularly by ambiguous regulations and directives. Current in individual credit assessment and basic construction regulations of India’s central bank do not allow and technical knowhow)—from the beginning of the microfinance institutions to lend more than 30 percent of implementation process—have demonstrated superior their loan book for non-income-generating loans, which performance. includes housing finance. At present, an amendment to this rule, which envisages a relaxation of this limit, Some institutions expand the duties of staff members is pending approval by Parliament. It is therefore whose current job is handling the group-lending prudent to conduct a thorough review of all the laws portfolio, having them offer housing loans as well. In and regulations dealing with HMF operations. This work this case, management needs to align the incentives and should be covered within the market assessment. targets of these twin goals appropriately. 7) Don’t fail to upgrade internal systems and 5) Do consider introducing housing support services processes. (HSS). Individual lending—and in particular housing finance— HSS or construction technical assistance (CTA) services requires a clear diagnostic and an overhaul of all key are products and services that enable households to internal systems and business processes. The move from improve their houses on their own. They can range from joint-liability-based lending to detailed cash-flow-based providing process support for registering land titles, or assessment necessitates revisiting and modifying (or advice on construction and materials, to community establishing) the following internal business processes: development. There are three broad categories of these products and services: • Technical appraisal. Incorporate technical-appraisal capabilities within the institution to improve credit 1. Pure technical information. The lender provides appraisal, disbursements, and loan-use checks brochures, videos, contact lists of masons, and so (preferably with the field-level loan officers). on, to customers. These services can be provided • Documentation requirements and pre-sanction by lender staff. Professional support is required to process. Understand the particulars of legal design the brochures or any other material. documentation for a specific geography and incorporate this learning into loan sanction and 2. Professional services. The lender provides support documentation requirements. for the design and planning process, trainings, • Loan-use checks and repayment processes. Be permit processing, and so on, possibly including sure loan-use checks (such as photographs to visits by technical staff to the borrower’s home. accompany staged disbursements for larger ticket The lender may cover these services through a sizes) are in place; also gear your systems for cooperation agreement with an architect or other monthly repayments, as opposed to the weekly/ service providers. fortnightly collections for a typical microenterprise loan. 3. CTA/engineering advisory. The lender provides • Delinquency management process. Upgrade the onsite support at the borrower’s housing unit, delinquency management process to account ranging from basic (repairs) to structural work for longer-term housing-finance loans as well as (such as masonry or plumbing). Structural work prepayment possibilities. is the most intensive form of housing support services and typically requires the employment of 8) Don’t fail to set up robust responsible lending, an engineer. customer protection, credit bureau reporting, and disclosure practices early on. In determining how to deliver housing support services, it is important to create an effective link between the From the beginning of the implementation process, provision of these services and the HMF offering. Market build a responsible housing-finance framework, research should clarify whether customers would because it will result in enhanced customer awareness consider the availability of CTA an added benefit, which and consequently better risk management. To ensure SMARTLESSONS — MARCH 2015 3 robust credit appraisal and an appropriate product design, it is advisable to embed customer-centric practices across the entire business operations. Such practices include the following: • Clear and full disclosure of housing loan terms (such as interest rate and tenor); • Efficient grievance-handling mecha- nism for individual lending; • Credit bureau reporting, beyond basic compliance requirements, to aid credit assessments of clients; • Staff trainings that incorporate ethical behavior for staff and sales agents; • Customer-friendly collection prac- tices, which could involve exploring electronic transfers; • Raising awareness on documentation requirements, technical assistance, A client of Ujjivan Microfinance Pvt. Ltd., in and so on. New Delhi. (Photo by Shilpa Rao and Sachin Bansal) 9) Do consider scaling up the HMF offering after the pilot and some operational experience. Conclusion Before a nationwide or statewide rollout, Microfinance institutions, such as Aadhar, the HMF product offering should be that have pursued a rigorous albeit flexible tested through a pilot, and the results approach to the rollout of their HMF should be reviewed and adjustments product offering have been quite successful made. According to experience in South and are today’s market leaders. Thorough Asia, the following areas may require market research and internal capability modifications: assessment are critical success factors. The appointment of a staff member as • Loan size sought by customers; HMF product champion ensures a smooth • Down-payment requirements from implementation process—so long as he or customers to ensure their willingness she enjoys the full support of management. to repay the loan; • Disbursement in tranches or in one Another crucial element is a critical review lot. of the pilot to allow for further changes, to hone the product offering and the DISCLAIMER Once the pilot is completed and after a sales and marketing approach. However, SmartLessons is an awards year of operations, management may to retain a competitive edge in the program to share lessons learned in development-oriented consider scaling up HMF operations. microfinance institution’s housing-finance advisory services and investment Within the Indian context, there are the market, management should constantly operations. The findings, following models: review the performance of the HMF loan interpretations, and conclusions expressed in this paper are those portfolio and be ready to make further of the author(s) and do not • Continue with HMF lending within adjustments. necessarily reflect the views of the existing set-up through organic IFC or its partner organizations, the Executive Directors of The growth; World Bank or the governments • Act as a sourcing and collection they represent. IFC does not agent for larger banks or housing assume any responsibility for the completeness or accuracy of the finance companies (HFCs) that plan information contained in this to go down-market; document. Please see the terms • Establish a stand-alone HFC, bank, and conditions at www.ifc.org/ or nonbank financial institution, as smartlessons or contact the program at smartlessons@ifc.org. specific country regulations allow. 4 SMARTLESSONS — MARCH 2015