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SOUTH AFRICA
Challenges in Mortgage Lending for the
Under Served in South Africa
by Noah Kofi Karley, PhD
Introduction very high interest rates of about 20 per cent South Africa is about to sign off on a
a month or more. Unsecured loans are often Financial Services Transformation Charter
Expanding access to finance can play a provided by alternate lenders to low-income that will commit the banks to substantial
very important role in reducing poverty borrowers at risk-based rates of up to 43 lending to low income people for housing.
among underserved communities. Among per cent per annum, which exceeds market But risk associated to lending to the lower
other things access to finance can facilitate interest rates often by several times. These end of the market as the above example has
income-generating opportunities. The poor experiences suggest that it is perhaps illustrated requires partnership with
can also take advantage to build capital and access to credit rather than an affordability government so that risk is appropriately
improve their living conditions, especially if problem, which is the main obstacle for shared and mitigated. In this article we
they are homeowners. This is because housing finance for significant groups in the present further empirical findings on
homeowners are able to accumulate wealth case of South Africa. impediments to institutional lending and
as the investment in their homes grows and household’s predicaments in borrowing in
they enjoy better living conditions. However, there are other issues relating to the context of a case study of Durban and
Unfortunately, financial exclusion is a governance that inhibit lending to low Umlazi in KwaZulu-Natal Province of South
common phenomenon in most developing income people in South Africa. There has Africa. We identify the major constraints
parts of the world, in particular sub-Sahara been a politically motivated mortgage and pointed out what needs to be done to
Africa. In most cases access to finance is repayment boycott in the past, and currently improve institutional mortgage lending and
inhibited by lack of well-developed financial there are instances where banks are unable borrowing by the under-served urban
system, inadequate infrastructure, limited to repossess property in the event of default market. As a prelude to the analysis, the
products, or affordability problems. in certain areas and banks find it difficult to paper provides an overview of the current
use courts to resolve the issues. For situation in South Africa with regard to
Despite South Africa’s relatively example, evidence from the First National demography, dwelling stock and needs and
sophisticated financial system compared to Bank show that some areas in KZN nature of finance.
other countries in sub-Sahara Africa, it province, townships had literally been
appears the housing finance system has not divided into factions so that certain The current situation in South Africa
been able to replicate for the low to potential borrowers are unable to purchase
moderate income families a system that houses in areas of their choice because Demography
allows for their access to adequate formal they are not affiliated to the faction popular
housing finance. Current challenges to in the area. Also the bank stopped lending With a rapidly increasing and urbanising
mortgage lending and borrowing in South to low income borrowers in some society, South Africa’s population of 40.6
Africa cannot be overemphasised. The communities because it was difficult million in 1996 increased to 44.8 million by
issue of affordability is a major constraint, repossessing on defaulted properties 2001 (SSA 2001), and projected to 49.8
but limited end-user finance has also greatly belonging to certain eminent faction leaders million by 2006. The number of households
restricted the level of effective housing in the area. Further more, there are in 1996 was estimated as 9.2 million, 11.2
demand especially in the low-income instances where borrowers stopped paying million in 2001 and projected to 13.1 million
housing market. While evidence shows that their mortgages because of infrastructure by 2006. However, given the rate of
many people are willing to pay the market breakdown in the area. Thus, lenders are HIV/AIDS infection and deaths related to the
interest rate most are unable to access reluctant to lend for purchases in such areas disease in South Africa, the above
funds. For instance, a study of the informal because of potential loses associated with population projections may not reflect the
credit market in South Africa indicates that defaults, and also because intermittent situation on the ground in the next 5 to 10
households seeking credit simply could not service and infrastructure breakdown years. According to Hacker (2002), about
get hold of finance except through the diminish property values in the area. 19.9 per cent of adult population in South
informal moneylenders and pawnbrokers at Africa were HIV positive in 2000. The high
HOUSING FINANCE INTERNATIONAL – September 2003 27
SOUTH AFRICA
Chart 1: Estimates of Dwelling Stock and needs in South Africa (1996–2006)
14
12
10
Housing need
(million units)
Number of 8
dwelling units
(millions) Housing stock
6
(million units)
4
2
0
1996 2001 2006
Year
Source: Own calculations based on 1996 and 2001 data from Statistics South Africa website.
rate of HIV/AIDS related deaths implies the housing stock at a time. Clearly, Chart 1 or more in South Africa is only about 20 per
rate of population growth could decrease by shows a mismatch between housing stock cent. Households unable to access
between 0.6 and 1.5 per cent by 2005, and and housing need, which represents the institutional loans consist of those deriving
3 per cent by 2010. There is substantial housing backlog. The housing backlog of incomes mainly from informal sector.
uncertainty about effect of HIV/AIDS on about 3.3 million units in 1996 would Approximately 45 per cent of these
population growth and demographic trend increase to about 5.2 million units in 2006. households earn gross income of less than
in general. The implications on housing The consequence of housing backlog is R2500 per month, about 25 per cent earn
demand and finance provision in South physically reflected in overcrowding and between R2,500 and R3,500 per month,
Africa cannot be overemphasised. But prevalence of squatter and backyard and about 20 per cent earn R3,500 or more.
these issues are beyond the scope of this buildings especially around urban areas. Currently about 70 per cent of households
paper and would not be discussed. The scale of the housing backlog and the in urban South Africa are not able to access
rapid growth in housing need presents institutional finance. New evidence from
many challenges to all aspects of the Moss and Pillay (2000) suggests that among
Dwelling stock and need housing market - demand and supply. households unable to access institutional
finance, 41 per cent were not provided with
Taking the size of housing need as the mortgage loans mainly because of their low
equivalence of total number of households, Housing finance incomes and about 30 per cent were unable
South Africa’s housing need of to access credit because they were
approximately 9.2 million units in 1996, is Generally, lending institutions in South informally or self-employed. Also, 29 per
projected to 13.1 million in 2006. The total Africa consider gross income of less than cent could not access credit partly because
housing stock consists of formal and R3,500 per month (at 2001 rate of £1~R12) of over-indebtedness. In most urban areas,
informal housing. From an estimated level of as inadequate to support a basic mortgage low and moderate-income households are
5.9 million units in 1996, it is estimated that loan. However, there are numerous housing self-employed, and their incomes vary
the housing stock would be 7.9 million units loan initiatives as presented in Table 1, and greatly and can be infrequent. This results in
by the year 2006. We define housing products for income groups R1,500 to a lack of interest by commercial financial
backlog in simply terms as the difference R7,500 are currently being considered. But institutions to lend to this market.
between the housing need (effectively, the the proportion of working households
number of households) and the total earning gross income of R3,500 per month
28 HOUSING FINANCE INTERNATIONAL – September 2003
SOUTH AFRICA
Table 1: Types of housing loans in South Africa and their attributes
Loan characteristics/ Main purpose of loan Requirements and terms Loan size and subsidy
Loan type eligibility
Conventional loan – Provided by banks and – Mainly offered to those earning – More than R50,000 loan;
other major lenders for above R3500 per month; – Borrower not eligible for
purchase of formal houses – First lien on house; government subsidy.
up to 80% LTV. – 20% down payment or
employer guaranteed;
– Self amortisation over 20-30
year
– Mainly variable interest rate
between 14 and 15%.
– Foreclose on default.
Affordable loan – Provided by banks and – Borrower must usually earn – Up to R50,000 loan;
alternate lenders to bridge R2500 or more, but lower – Could get government up
gaps between what a Income may qualify; front subsidy up to R23,100
household earns, deposit – Pledge provident or pension; (depending on income).
and monthly repayments. – Employer guarantee;
– Up to 100% LTV. – 20 years term;
– Variable and fixed interest rate;
– Up to 35% household
payment-income ratio;
– Foreclose on default.
Non-mortgage loans – Mainly offered by small – Generally for low-income – Up to R20,000 loan;
banks and micro lenders earners in formal employment; – Could get up to R23,100
for incremental house – Pledge of provident fund, government subsidy
building. payroll deducted; (depending on income).
– 2-5 years term at risk based
pricing 13% above traditional;
– Provident fund taken on
default.
Individual unsecured loans – Usually offered by alternate – For very low earners; – Usually very small loan
for the informally employed and micro lenders to – Very short term (cash loan of 1- (<R6,000);
informally employed to 3 months); – Could get up to R23,100 in
build their houses. – Risk based pricing/up to 40 per subsidy.
cent over conventional loans;
– Defaulter denied further loan.
Unsecured micro – Usually grant or soft loan – Recipient must qualify – Amount varies from donor to
loans and grants for from benevolent according to donor means test donor and according to
informally employed from organisations to vulnerable and policy and eligible for recipient situation;
NGO’s or needy people to provide government subsidy – May be eligible for
housing requirements – Recipient enthusiasm to government subsidy up to
– May be group based. commit labour to programme; R23,100.
– Small interest rate may apply;
– Defaulter denied further loan.
HOUSING FINANCE INTERNATIONAL – September 2003 29
SOUTH AFRICA
The Durban-Umlazi study employed might behave differently when for mortgage loan and the outcome. Each
attempting to access institutional finance group is identified by attributes that
This is an exploratory study of mortgage because unlike public employees, their jobs determine level of affordability and/or
lenders in Durban and borrowers in Umlazi may not be secure and they may have accessibility applied by the various
Township, which is part of Durban limited or no employer assistance. institutional lenders, which include
Metropolis in the KwaZulu-Natal Province of income/employment requirement, savings
South Africa. It must be pointed out that the and deposit, collateral requirements, credit
findings presented relate more to sub urban The Evidence record, family size, other credit
housing and its financing. Housing finance commitments and level of subsidies and
in rural South Africa could well be different. Data and analysis employer support. Based on these
The study involved a sample of 198 conditions affordability ranges highest from
households made up of key workers in the The basic criteria for lending that lenders group 1 down to the lowest in group 5.
public sector, including teachers, civil generally establish are that certain basic However, it must be noted that, although we
servants and police personnel selected from requirements are met. Thus, the potential have classified respondents into five
Umlazi, an area occupied by blacks, and the borrower must pass the five C’s (Character, groups, there is no sharp demarcation
main five mortgage lenders in Durban: Capacity, Capital, Collateral and Conditions) between the groups; rather, there existed
ABSA Bank; First National Bank; Natal assessment test. In simple terms this means certain overlapping elements.
Building Society; Standard Bank of South an attempt is made to establish that the
Africa; and Nedcor Group. The findings are potential borrower is a person of good From Chart 2 the proportion of successful
based on a sample of households. The character who will pay back the loan; has mortgage applications decreases as one
target household is the one that seemed to capacity to pay; demonstrate capital and moves to the right from group 1, an
have adequate income but found it difficult wealth to have a financial stake in the indication that lenders perceive higher
to enter the formal housing market because property; show evidence of collateral probability of default as income decreases
of the lack of access to private institutional security; and be able to honour the and/or when other requirements are not fully
finance. We focused on public sector mortgage agreement in all conditions under met. The proportion of Failed applications
employees because, a priori, they appear to the terms. also decreased as one moves from group 5
offer better security and less risk because of to the left, confirming lenders consistent
relative job security and government Households in the study are classified into lending criteria. Detailed analysis of the data
assistance, yet many seemed not to be five groups as shown in Chart 2 and suggests households with multiple earnings
getting access to institutional finance. analysed according to three categories gained significant access to institutional
Private sector employees and the self- based on whether or not they have applied finance. Although households in groups 1 to
Chart 2: Group classification by outcome of mortgage application (n=198)
100%
90%
Never applied
80%
70%
Failed
60%
Percentage
50% Successful
40%
30%
20%
10%
0%
1 2 3 4 5
Groups
30 HOUSING FINANCE INTERNATIONAL – September 2003
SOUTH AFRICA
3 met the income requirement, about 30 per which were required by lenders as security especially to low income borrowers and
cent in group 3 and 4 per cent in group 2 for mortgage loans. that the transaction cost of lending for
were denied loans because their income low income is uneconomical.
derived from informal sources were not From the survey, about 95 per cent
considered by lenders in determining expressed interest in becoming
access to finance. homeowners, yet nearly a fifth never applied Borrowers’ perspective
for mortgage loans. Among those who
All successful applicants indicated that they never-applied, over 70 per cent are between • Households seeking credit simply can
obtained employer support in the form of 22 and 39 years, which is the age group that not get hold of formal finance except
down payment (deposit guarantees). institutional lenders are comfortable to offer through the informal moneylenders and
Although many respondents were observed loans. The data further show that the pawnbrokers at very high interest rates;
to have household sizes greater than the income (from all sources) of most of those
• Household income is underestimated
average, the data show that some of such who did not apply was sufficient to pay the
because income from informal sources
respondents were successful in accessing minimum monthly instalment required by
(though often quite substantial) are
institutional finance. Thus, it suggests that a lenders. Thus, most are potentially capable
excluded from mortgage evaluation
large family size per se, does not inhibit of accessing institutional finance. The
process;
access to institutional finance, especially problem, however, is that lenders do not
where incomes are relatively high. Many consider incomes from informal sources as • Household ability is further
successful respondents felt they were viable. Furthermore, due to the lack of underestimated because while
granted mortgage loans by banks because knowledge many had never applied for loan. estimating household expenditure
of government interventions, such as the They had learnt from people that banks estimates lenders include total
provision of guarantees and the introduction provide mortgage loans to only rich and expenditure relating to all members of
of mortgage indemnity, which encouraged mainly to white people. the family, the income does not take
lending to areas previously perceived as account of incomes contributed by all
posing risk to lenders. In particular, few In a nutshell, while lenders aim to run low members of the household;
respondents indicated that in the past they cost and low risk business in order to
• Inadequate borrower records and a rigid
could not access mortgage credit although survive in the market, borrowers tend to
evaluation process makes it appear as
their income was similar to their colleagues believe that they are not provided the
though low-income and unsophisticated
of other racial groups who had been needed assistance to achieve their housing
applicants are not creditworthy; and
granted institutional mortgage loans. needs. From above analyses lenders and
borrowers perspectives can be summarised • Many people are not aware of the
Detailed examination of the data show that as follows: implications and conditions of mortgage
many of those denied loans had larger loan or fully understood the concept of
families. This is probably because they homeownership through debt.
couldn’t provide enough evidence of Lenders perspective
financial security to the lender in view of In order to ensure that institutions provide
their financial needs (large households) and • Character: that many potential the needed funds affordable to borrowers it
capabilities (low incomes). However, most borrowers are unaccustomed to formal is imperative that these divergent
of them derived additional income from credit and financial obligations. Thus, requirements are reconciled.
informal sources, could provide additional they have no credit record for proper
income security for institutional loans. But assessment;
the banks do not consider informal income
• Capacity: that most have low and Reconciling the divergent
in evaluating affordability. Some of those
informal incomes, and in relation to price requirements: Policy suggestions
denied mortgage loans indicated that they
of dwelling it implies high default rate
were victims of circumstances. That is, in The issues emerging from the study shows
and insecurity for mortgage loan;
spite of their high incomes, their perception of risks and costs associated
creditworthiness was affected because • Capital: that there is general lack of with lending especially to low income
banks did not have adequate records and savings to fulfil the initial deposit people can lead to financial exclusion.
information to evaluate their applications requirement; Given volatility in employment, affordability
properly. Some of the failed applicants also problems, and the complexity of the
• Collateral: that prevalence of slums and
indicated that they had wanted to use their conventional mortgage product, it would
backyard houses posed collateral risk;
land as collateral for the bank loans, but appear that the conventional mortgage
lenders were reluctant to accept it because • Conditions: that macroeconomic instrument is not appropriate for low income
most of the land is communally owned and volatility creates cash flow and inflation people and that some of the non-
did not have well-defined freehold titles, risk and limits long-term lending conventional housing loan initiatives
HOUSING FINANCE INTERNATIONAL – September 2003 31
SOUTH AFRICA
presented earlier in Table 1 could be more We pointed out earlier that governance and or market coverage, there would be a
appropriate for lower income people. other non-commercial reasons which inhibit corresponding increase in understanding of
However, if conventional mortgages are housing finance needed attention. Although the functioning of supply and demand
desirable, and given the divergent for South Africa as a whole, less than 5% of factors as well as of risk. As risk is better
requirements, perhaps programs that can subsidised houses are credit linked, understood, it can be either eliminated or
reduce lending risk can assure lenders that evidence from the case study area shows better managed. This has a direct
informal and low incomes are viable and that government guarantees helped in implication for cost reduction, improves the
can sustain mortgage repayment. attracting the private sector funding for inflow of capital, increases the availability of
Government could deal with the conditions, many house purchasers. Thus, given that products and improves the prospects of
which affect access to finance but the role many potential borrowers have inadequate homebuyers and market participants
of lending institutions cannot be incomes to fulfil the down payment (deposit) through lower costs and greater availability.
overemphasised. Policy makers need to requirement, it would be a worthwhile effort Given the different levels of data and the
consider carefully deficiencies in the market for government and/or employers to capital required for development of such an
place, and the potential and limits of develop guarantees for such households. infrastructure, specialised institutions (both
market-driven needs of lending institutions. But such programmes should separate private and public) must be mandated to
beneficiary groups facing different collect such data. Perhaps government
Lenders in the study area exclude formal challenges in accessing finance and direct participation in such venture would be
incomes from the mortgage evaluation develop different interventions for each. necessary.
process in part because they believe that This should be guided by principles of
incomes pooled through informal sources efficiency. That is, it should aim at achieving The absence of adequate and credible
are irregular and unreliable. Moreover, most lowest cost per beneficiary and maximise information and records to properly assess
informal businesses are not legal entities; beneficiary contribution to avoid replacing affordability and credit risk imply that
therefore lenders are reluctant to accept the the expenditures recipient would make lenders could be taking significant risk,
proceeds in legal mortgage contracts, as anyway. Such initiatives could encourage which is reflected in their styles of lending. It
they perceived the related credit risk to be beneficiaries to contribute from own is therefore may be necessary to introduce
high. Most individuals derived much of their sources by for example, making own an insurance or guarantee scheme
incomes from informal sources, but they are savings a criterion to qualify for a subsidy. (particularly from government) to help
reluctant to register their businesses mitigate the risk associated with lending to
because of tax requirements. Financial The absence of adequate information and households in the study area. Developing
institutions would be persuaded to believe records on potential borrowers had been a insurance/guarantee schemes, particularly
that informal incomes are viable if they can major impediment for the mortgage for the self-employed, or informal earners
be assured that such incomes would evaluation process and therefore the and low-income borrowings, might be one
reliably provide adequate security for the expansion of institutional finance. Investing approach to reducing the risk perceived by
loan. One approach for government might in a mortgage asset requires that borrowers lenders. The basic argument here is that the
be to allow micro enterprises to operate understand much the same information that guarantee, especially by government, might
without tax obligations, at least for some the lender must understand. The lender be ‘cheap’ and could help households
time, which would encourage the requires understanding about the attributes nowhere near the margin. Insurance is
recognition of such incomes as formal, of the property that serves as collateral and critical to mortgage development and the
making them more acceptable by lenders. the market in which it resides, since the needs of the real estate market in the study
This will make a significant improvement to collateral will be received as security in the area are considerable, covering
affordability for many potential borrowers event the borrower defaults. The lender also unemployment and death as well as political
and also improve the working of the needs sufficient information about the ability and investment risk. The primary issues for
informal business credit market. and willingness of the borrower to repay the development of insurance programmes
Contributions from extended family loans in order to form expectations include developing data for actuarial
members are not considered in determining regarding risk and profitability of the assessment and developing markets.
household affordability. But in an investment. It is therefore important to Significant health data could be gathered
environment where extended families are develop an infrastructure for the collection, from the government. Some western
common, such earnings constitute a standardisation and dissemination of insurers are already in South Africa, but their
significant part of household income. Thus, household and property data, for the benefit activities are limited to the upper part of the
acceptance of such earnings would of participants in the mortgage market. The market. This could be expanded to other
enhance affordability. This could be made benefits of standardisation of data segments of the housing market with
possible if legislation allows such family collection and dissemination, or at least the government providing credible support.
property to be available for foreclosure promotion of it, are clear. As available data Credible government guarantees can
when necessary. increases in accuracy, quantity and activity greatly reduce the risk of default. In general,
32 HOUSING FINANCE INTERNATIONAL – September 2003
SOUTH AFRICA
if the guarantee is not acceptable to the counselling should almost certainly be an References
lending institutions for any reason, the essential part of mortgage finance process.
housing debt will not be and no private A homebuyer programme might be Haacker, M. (2002) The Economic
institution would be willing to provide funds established by institutions to help educate Consequences of HIV/AIDS in Southern
required for house purchases. and counsel potential homebuyers who Africa, IMF Working Paper No WP/02/38.
intend to borrower from lenders. The
Moss, V. and M. Pillay (2000) ‘End User
The problem of accessibility, as revealed by approach could be supported by
Survey and Studies’, NHFC Research
the study suggests that inadequate government, which appears to have great
series, Johannesburg.
property rights militate against the desire to confidence among the people so that they
expand institutional finance. Moreover, may accept it. This programme could work RDP (1994) ‘White Paper on Reconstruction
slums and backyard houses that pose risk in different ways, particularly through one- and Development Programme: A
to the property sales prospects are to-one with a professional credit Strategy on Fundamental Transformation’,
prevalent in the study area. If a clear policy representative who could help resolve credit Pretoria: Government printer.
on land title were established, it would help issues. Potential borrowers could be helped
to ensure that private property rights are to establish saving plans and budget for Statistics South Africa (SSA)(1996) The
recognised. This would generate a deposits or connected with down payment People of South Africa Population
significant improvement in accessibility of assistance programmes. The programme Census, Report No. 03-01-11(1996).
institutional finance because lenders would could also aim to educate, guide and Statistics South Africa (SSA) (2001): website:
be assured that the property had legal title. prepare potential homebuyers for the http://www.statssa.gov.za/
Also landowners could borrow from banks responsibilities of owning a home. The SpecialProjects/Census 2001
by using their own land as collateral benefits of such a scheme are the
securities for the loan. expansion of home ownership opportunities
and the provision of financing solutions for Dr. Noah Kofi Karley is Research Associate
Finally, given relatively low levels of those who couldn’t afford it. This could help Heriot Watt University, Edinburgh, UK
knowledge with respect to housing finance make the dream of home ownership a reality Tel: +44 131 451 8182.
in the study area, borrower education and for many more people. N.K.Karley@sbe.hw.ac.uk
HOUSING FINANCE INTERNATIONAL – September 2003 33
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