The country’s economic managers are mulling over a policy package that includes tax relief and mortgage financing by commercial banks, to kick-start investment for housing development.

Fiscal stimulus is expected to come in the budget for next fiscal to make housing loans affordable for the middle class borrowers. That would also reduce defaults and lenders’ risk. There is also a widespread demand to cut the mark up to a single digit.

A successful housing development strategy can also provide a major thrust needed to realise the country’s economic growth potential estimated at 5-6 per cent. A labour-intensive housing market, served by a network of 38 industries, is seen as a lead factor in economic development by bankers in the absence of new private investment and adequate development spending by the government.

After several rounds of discussions between economic managers, the World Bank officials, the central bank and different arms of the government, a strategic consensus has also emerged that the focus on housing finance development should be the mainstream of the banking system and the capital market. A major constraint in housing development is institutional finance.

In this area, the local bankers can benefit from the experience of East Asia and the United States.

In Malaysia and Thailand, about 60 per cent of housing finance is provided by commercial banks and the rest by specialized financial institutions.

Unlike their giant peers, smaller regional banks in the United States, driven by mortgage financing wave in an environment of falling interest rates, are making handsome profits, avoiding the worst effects of present slowdown in the world’s largest economy.

These regional banks had very little exposure to stock market and to syndicated loans of large American companies, that falsified accounts and went bankrupt.

As the corporate credit demand is low, the banks awash with liquidity, are diversifying their lending to new businesses.Housing holds the greatest promise. Housing loans can be matched by equity support from currently soaring home remittances and reversal flight of capital. For foreign banks so far, housing finance is a retail business. Only the top corporate executives and upper incomes groups are served. Retail banking is different from mortgage financing, says Dr. F. Rabbani, Chairman, Association of Housing Finance Companies (AHFC).

So far, the buoyancy in the housing sector has been sustained (share of dwellings in GNP grew from 4.2 to 6.1 per cent in the decade ending 2000) by investments in the informal sector of the economy. Housing loans, mainly through the HBFC rarely exceeded 1.5 per cent of the total investments in an single year. Two housing finance companies have closed down and the lone survivor is to be merged with a commercial bank soon.

The State Bank had virtually banned housing finance by banks for a number of years, drying up institutional flow of funds to a vital sector of the economy. This policy has been reversed and the ceiling on loans has been raised to Rs5million, a facility now being utilized by foreign banks only.

A recent study for the World Bank by the 21st Century Consultancy and Management Service shows instalments on these maximum loan amounts vary between Rs30,000-40,000 per month. The borrower ends up paying at floating rates of 15-16 per cent. Citibank’s maximum loan to property value is 70 per cent, portfolio average is 46 per cent and maximum loan repayment period is 15 years.

In the budget proposals 2003-2004 sent to the Ministry of Finance, AHFC has recommended that loans should be extended on a single digit mark-up with debt equity ratio of 80:20 and repayments ranging from 25-30 years.

Presently, the HBFC gives loans for a maximum of 20 years and gets a return of 12.5 per cent on its investments, says an HBFC official. The rate of return however varies on the investment volumes, ranging from about 10 per cent for an amount of Rs30,000-60,000 to 16.5-17 on the maximum sum of Rs2 million lent.Since its investment has been made Sharia compliant, the demand is picking up slowly. One-third of the income of individual goes towards repayment.

Among the private banks that took the lead in house finance is Soneri Bank. It’s lending limit is Rs2.5 million, with borrower’s equity of 30 per cent and repayment period upto 20 years. Interest rate is 5.5 per cent above prevailing State Bank discount rate, minimum 13 per cent. The nationalized commercial banks are waiting for fiscal reliefs, before starting house financing operations in first quarter of next fiscal year.

CBR Chairman Riaz Ahmed Malik says that the central excise duty on cement may be reduced. Also, the tax deductible limit on interest payments on mortgage upto Rs 100,000 may be raised. The AHFC, which have among its members foreign commercial banks, wants tax deduction to be allowed on both the principal and the mark up on borrowing upto Rs 250,000 per annum. Finally, the CBR chairman has hinted that the housing sector ancillary industries may get incentives to manufacture affordable products. Prices of building materials have soared, pushing the cost of house construction beyond the affordability levels of many households, says SPDC. The study carried out for the World Bank says overall index of construction cost has gone up by about 250 per cent from 1981 to 2000.

A new recovery law which allows banks to repossess mortgaged property without recourse to courts has been enacted.The repossession is enforced by the courts where delays often occur because of the mindset of the judges and the unhelpful attitude of court bailiffs.

While protecting the legitimate interest of the banks, regulatory authorities need to guard borrowers against predatory lenders. The central bank can draw upon the US experience where predatory lenders exploit the not so knowledgeable applicants. Borrowers are trapped in debt because of the crippling lending rates and exorbitant fees. They are persuaded to take loans priced much beyond their means.

Despite a strong economy and falling interest rates during 1990-1998, the rate of home foreclosures rose fourfold. The US Congress and some state governments are looking at legal remedy to curb predatory lending. In the domestic environment, the danger of loan sharks misusing the repossession law can do a lot of damage not only to their victims but to the economy as a whole.

Apart from housing finance, a vital issue is availability of land at affordable costs. The public sector agencies involved in development of plots have not been able to keep pace with the market demand.In Karachi alone, as many as 200,00 partially developed residential plots have not been completed or outer development has not been carried out. Many housing co-operatives paid money to the Karachi Development Authority several years ago for providing amenities but there has been no outcome so far. Now, the policy makers are looking towards the private sector to take over the responsibility.

A number of other constraints in housing development have been identified so far both by the government and private agencies that need to be removed to create a robust housing industry and push up economic growth.