Project

PROJECT REPORT

SUBMITTED BY

NAMRATA MAKHIJA

B.COM ( Hons.)

College Roll No.: 195

Shri Ram College Of Commerce

University Of Delhi

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THE INDIAN HOUSING

FINANCE SECTOR

Mentor- Mr. Vikas Madan

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DECLARATION

I declare that the form and the contents of the project are original to the best

of my knowledge and also assure that this work has not been submitted for the

work of any other degree course or the work of any other university.

ACKNOWLEDGEMENT

No small task however can be completed without proper guidance and

encouragement. It gives me great pleasure to express my deep sense of

gratitude and reverence to every person who directly or indirectly has helped

to create a congenial atmosphere for successful completion of this project

report.

I express my sincere gratitude and thanks to my Mentor Mr. Vikas Madan

who has been a constant source of encouragement and under whose guidance I

have completed my project.

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INTRODUCTION

Land is a critical resource for a densely populated country like India. There is no denying

the fact that India faces a huge housing shortfall, with the shortage being in the vicinity of

20 million homes, not to mention the poor quality of the existing dwellings. The expected

investment needed to set things in order is ascertained to be approximately Rs.1, 000

billion for housing and another Rs.2, 000 billion for supporting infrastructure. With only

25% of this requirement expected to come from the formal sector, a growing role for the

housing finance sector is visualized.

India’s housing finance sector has emerged as one of the outstanding successes over the

last decade, second perhaps only to the country’s software industry. From a macro

perspective, the availability of cheap credit is helping to plug the long-standing inequity of

the ages – expensive real estate manifested in a low property ownership ratio and home

ownership within a small cross-section of India’s population. Since the housing sector

interacts with all the other sectors of the economy, governmental support is assured. It is

estimated that it supports about 280 other industries or services in the economy through

employment and other commercial opportunities. A recent study indicates that out of

every Rs.100 spent on housing, Rs. 11.40 is returned back to the national exchequer by

way of stamp duty, registration and taxes.

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OPPORTUNITIES AND THREATS

Opportunities

The biggest opportunity for housing finance companies arises from the vast gap that exists

between demand and supply. The increased affordability of housing finance and the

continued stability in property prices are strong growth drivers. Interest rates have fallen

to a 30-year low and a drop in every percentage point in interest rates translates into

more than proportionate increase in loan off take.

Besides, the relationship that exists between investment in housing and national growth

makes it a prioritized item on the national agenda. For instance, it is estimated that every

rupee invested in housing translates into a 78 paise increase in the country’s Gross

Domestic Product (GDP) through an increased demand for construction materials

(cement and steel), and the generation of skilled and unskilled labor employment.

Threats

This fast-changing environment has had a telling impact on housing finance companies:

spreads (the difference between interest income and expenditure) have come under

pressure. With their wide geographical presence and customer knowledge, the housing

finance companies are now tapping new opportunities to enhance their data.

EVOLUTION OF HOUSING FINANCE

PRESENT VIEW

Despite considerable investment and efforts over successive Plan periods, the housing

problem continues to be daunting in terms of the large number of homeless households,

rapid growth of slums and unauthorized colonies, spiraling prices and rents of land and

houses, rampant speculation, deficient availability of water, sanitation and basic services

to bulk of the population and the increasing struggle of the poor and vulnerable sections

to secure affordable and adequate shelter.

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The housing shortage was estimated by the National Buildings Organization in 1991 to be

about 31 millions units, composed of 20.6 million in rural areas, and 10.4 million in urban

areas, with; The rapid growth of urban population and its concentration in 300 cities with

a population exceeding 0.1 million has led to increasing congestion and overcrowding in

small houses, steady growth of slums and informal settlements and severe pressure on

civic services, in the context of the inadequate supply of affordable housing by public and

private sector and acute shortage of funds of the development of settlements and extension

of city level infrastructure.

STRUCTURE OF HOUSING FINANCE SECTOR

The housing finance institutions can be segregated into three categories:

Public Sector Finance

Banks

Private Sector Finance

Public Sector Finance

HUDCO (Housing and Urban Development Corporation Limited)

Incorporated on 25th April, 1970, HUDCO is an influential Government of India

Enterprise. With the main aim of funding state governments for infrastructure

development HUDCO was an expression of the concern of the Central Government in

regard to the deteriorating housing conditions in the country and a desire to assist various

agencies in dealing with it in a positive manner.

HUDCO extends assistance benefiting the masses in urban & rural areas under a broad

spectrum of programmes as:

Housing

Urban Infrastructure

Consultancy Services

Building Technology

Research & Training

GICHF (General Insurance Corporation Housing Finance)

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GIC Grih Vitta was incorporated in 1989 and acquired its present name of GIC Housing

Finance (GICHF) in 1993. The General Insurance Corporation of India and its

subsidiaries along with the Unit Trust of India, Industrial Finance Corporation of India

and the State Bank of India promote the company. The primary business consists of

granting housing loans to individuals and persons engaged in construction of houses/flats

for residential purposes. etc.

PNBHFL (Punjab National Housing Bank Housing Finance Limited)

PNB Housing Finance Ltd. (PNBHFL) is a wholly owned subsidiary of Punjab National

Bank, one of the largest nationalized banks in India engaged in providing housing loans

PNBHFL offers the Apna Ghar Yojana for construction or buying a house. It also offers

the Ghar Sudhar Yojana for renovation or repair of house or flat. It has home loan

facilities for NRIs and Line of Credit Facilities for companies to give loans to their

employees for construction or renovation of a house.

LICHFL (Life Insurance Corporation Housing Finance Limited)

LIC Housing Finance Limited is the second largest housing finance company in India.

Promoted in 1989 by the Life Insurance Corporation (LIC) of India, the largest life

insurance provider in the country, the company went public in 1994.

LIC Housing Finance provides long-term housing finance to individuals and corporates

for the purchase and construction of new flats and houses, as well as for the repair and

renovation of existing ones. Some of the schemes that LICHFL offers are the Griha

Shobha, which is for NRIs, Griha Sudhar, where one can apply for a loan for renovations

and repairs in existing houses. Green Channel Facility is meant for professionals like

practicing doctors, CAs, computer engineers, etc.

Can Fin Homes Ltd.

Can Fin Homes Ltd (CFHL), jointly promoted by Canara Bank, Canbank Financial

Services Ltd., UTI, HDFC, and ICICI, was incorporated on 29th October 1987. CFHL

commenced operations in January 1988 with the main objective of providing Housing

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Finance. It provides long-term housing loans to individuals or corporate bodies for

construction or acquiring houses/flats.

Others The other major players in the public sector are the Indbank Housing, Corpbank

Homes, Cent Bank Home Finance Limited, etc.Banks Almost all the banks throughout

India provide housing finance, except a few small branches. The major banks that

provide loans for housing are Bank of Baroda, Bank of India, Bank of Maharashtra,

Bank of Punjab, Canara Bank, Cooperative Banks, Citi Bank, Corporation Bank, Dena

Niwas, HSBC, ICICI Bank, IDBI Bank, IndusInd Bank, Lakshmi Vilas Bank, Punjab

National Bank, SBI (State Bank of India), UCO Bank, and many others.

Private Sector Finance

HDFC (Housing Development Finance Corporation)

With the objective of augmentation of housing through the stipulation of housing finance

HDFC was established in 1978 with the support of the Industrial Credit and Investment

Corporation of India (ICICI), the International Finance Corporation (IFC) in

Washington and the Aga Khan Fund. It has become one of the largest home loan

providers in India.

DHFCL (Dewan Housing Finance Corporation Limited)

Dewan Housing Finance Corporation Ltd. is one of the finest institutions in private

housing finance sector. Since 1984 in the market, today it has 22 branches all over the

country. Union Bank of India has obtained an equity involvement in DHFCL's capital

composition.

DHFCL offers a Double Protection Plan in form of 'Free' Accident Risk Cover + Property

Insurance to the extent of the loan liability to safeguard the interest of the borrower.

GHFCL (Global Housing Finance Corporation Limited)

GHFCL a syndicate of reputed builders, incorporated in June 1994, offers Individual

Home Loan Scheme and Home Improvement Scheme. Oriental Bank of Commerce,

one of the leading nationalized banks, also participates in the equity of the company.

BHFL (Birla Home Finance Limited)

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BHFL offers Easy Title for registration of the property or land purchased, Easy Upgrade

loans for renovation of the existing house, which has been purchased or constructed at

least one year ago., Easy extend loans for extensions of an existing house, Easy Home

loans for outright purchase of a ready built house, Easy Build loans for construction of

house on self-acquired or inherited vacant plot of land, and Easy Bridge Loans for

purchase of a ready built house, when an individual already owns a property.

In 2001-02, the incremental disbursement of housing finance companies is estimated to

have increased by 17.3 per cent over 2000-01, to Rs 148.05 billion. The disbursements of

leading HFCs like HDFC, LIC Housing Finance and Canfin Homes increased by 31.3 per

cent, 25.5 per cent and 28 per cent respectively over the previous year.

In 2001-02, the aggregate market share of all HFCs in aggregate retail disbursement

declined by 9.1 percent, to 59.2 per cent. Most HFCs lost their market shares to banks.

However, the largest losing segment has been the small and medium size HFCs (other

HFCs). This segment is estimated to have lost their market share by 7.2 percentage points.

Market share of HDFC, the largest player in the home finance market, declined from 31.4

per cent in 2000-01 to 30.5 per cent in 2001-02.

In 2001-02, total outstanding loan of HFCs is estimated to have increased by 19.8 per cent,

to Rs 385.73 billion. However, the outstanding assets of other HFCs is estimated to have

increased by only 9.5 per cent, due to lower incremental disbursements in 2001-02 coupled

with existing borrowers opting for refinancing from other aggressive players, like banks,

as a result of a decline in interest rates.

During the 2000-01 to 2001-02 period, banks have increased their focus on retail finance

market, particularly in housing finance due to lower NPA levels.

BANKS

In 2001-02, the incremental direct disbursement of banks (after adjusting for indirect

disbursements such as loans to HFCs, investment in NHB/HUDCO bonds and housing

loans to their employees) increased by 91 per cent over 2000-01, to Rs 86.91 billion.

The gross disbursements (including indirect disbursements) of leading banks like SBI

(including associate banks) and ICICI Bank (post merger) increased by around 115 per

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cent and 600 per cent, to around Rs 45 billion and Rs 22 billion respectively over the

previous year. However, few other banks like Bank of Baroda, Corporation Bank, IDBI

Bank showed significantly higher growth rates, although on a lower base.In 2001-02, the

aggregate market share of all banks, in incremental direct disbursement, is estimated to

have increased by 10.1 per cent, to 34.8 per cent. The growth has been largely driven by

the cost advantages of banks over HFCs and lower credit off take from the corporate

segment.

Some HFCs also lend to corporates and state governments (LIC Housing Finance) for

their housing projects. Around 26 per cent of HDFC’s incremental disbursements are

estimated to be loans to corporates for housing purposes. The incremental disbursement

to individuals (excluding loans to corporates and government bodies) is estimated at Rs

180-190 billion

Future of Private HFCs

Most private HFCs (excluding HDFC) do not enjoy the highest investment grade rating

by credit rating agencies, which further increases their cost of funds. As a result, HFCs, in

general, either have lower spread as compared with a bank or are not able to match rates

with banks. In future, there is a possibility of degradation in asset quality of the small and

medium sized HFCs if they are not able to price their home loan products competitively.

In general, Mortgage Backed Securities (MBS) enjoy AAA credit rating due to

structuring and credit guarantee by NHB. As a result, the cost of funds through the MBS

route tends to be 75-200 basis points lower than that by the other routes for an HFC. In

the medium term, the large and medium sized HFCs may survive the competition from

banks through the securitisation route as well as by selling financial products of other

companies (mutual funds, insurance).

Housing Sector in India to be on a Growth by 2015

Housing Sector in India is likely to witness a revolutionary change from an earlier phase

of seemingly stagnant

demand to a period marked by rapid increase in housing demand.

Indian industry body, asserts that housing demand is poised to see a growth of around 80

Million for the lower-income and the lower-middle income groups. Housing Sector in 10

India is also likely to generate around 4 Million new jobs within a decade with a whooping

investment of US$ 670 Billion. It’s also expected that housing and real estate sector will

undergo a revolutionary transformation to grow at around 14% annually. Presently, the

contribution of Indian Housing to the country’s GDP is modest at less than one percent.

It was also estimated by a research firm that by 2010 the demand would further grow to a

massive volume of around 400 Million Units. This will necessitate a minimum outlay of

US$ 890 Billion. There is a shortage of more than nearly 20 Million housing units in India

and this is a positive sign of the untapped opportunities for this sector.

Experts highlight that for every unit added as expenditure, there are rippling effects on

income generation capacity, with an increase of approximately 400%. Looking at the

impressive pace of the Indian economy in general and housing sector in particular, it can

be fairly concluded that the housing sector will grow at around 14%. The sector will also

contribute to employment generation with a capacity of creating roughly 3.2 Million new

job opportunities in the coming decade.

The research report also addresses the issues and facts that are critical to business

success:

- The factors contributing to the growth of the Housing Industry in India.

- The regional distribution of housing demands by the year 2010.

- The reasons for slower growth of housing sector in India.

- The role played by housing finance companies in India.

- The share of India in Asia’s Real estate industry.

DEMAND DRIVERS FOR HOUSING AND HOUSING FINANCE

In a mature market, growth in the housing finance industry is largely a derivative of

growth in housing stock. However, in an underdeveloped market like India, apart from

the addition in housing stock, factors like increasing credit penetration is playing a major

role in driving the overall demand for housing loans.

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Some of the factors that are expected to drive the credit growth in the housing sector in

the medium to long term include

Household formation

Access to finance

Increasing homeownership

Easier transaction

Increasing median home size.

TYPES OF HOME LOANS

There are three types of loans in the housing finance market:

Loans to individuals

Loans to builders

Loans to corporates, who, in turn, provide subsidized loans to their employees.

During the 1995-96 to 1997-98 period, many small HFCs provided loans to builders at

high interest rates. With the subsequent decline in property prices, the builders were

unable to repay the loans, thereby affecting the financial performance of these

HFCs.During the 1998-99 to 2001-02 period, loans to individuals were the fastest growing

segment in the housing finance market. Banks and HFCs usually provide loans to

individuals for:

Purchase of property

Construction of property

Site loans

Extension of property and

Repairs and maintenance.

The rates of interest, terms and conditions applicable for the various types of finance are

different. Typically, a loan for purchase and construction of property is priced lower as

compared with the other kind of loans.

FACTORS AFFECTING HOUSING FINANCE

MACROECONOMIC FACTORS

POLITICAL AND LEGAL FRAMEWORK

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Regulations -- the impediments to growth

Construction industry (housing in particular) has been one of the most highly regulated

sectors in India. Dubious land record, high transaction taxes and various real-estate

regulations have combined to keep a large portion of property transactions out of the

formal market

Despite the boom in housing finance, there are some legal and administrative

impediments which are acting as hindrances to the further development of the market.

These include: Urban Land (Ceiling & Regulation) Act, 1976

The Urban Land (Ceiling & Regulation) Act, 1976 (ULCRA) was a central act on a state

subject. ULCRA was enacted under Article 252 (1) of the Constitution after the

legislatures of 11 states passed resolutions authorizing the Parliament to enact a law on

their behalf. This act failed to serve its purpose. Out of 220,674 hectares of land declared

surplus under the Act, only 19,020 hectares could be taken for construction of dwelling

units. The remaining area was locked up in litigation leading to scarcity of land and

increase in land prices.

Rent Control Acts

Various states and union territories have enacted their own Rent Control Legislations

basically to regulate the chargeable rents, recovery and possession of property and

tenancy rights. These laws acted as a disincentive towards investments in housing for

rental purposes.

Registration fees and stamp duties

Most states in India charge very high registration fees and stamp duties on property

transactions. As a result, a large portion of the real estate market does not remain in the

purview of formal housing finance sector (banks, HFCs and institutions).

REGULATORY & POLICY FRAMEWORK

The governing act of the housing finance sector in India is the National Housing Bank

(NHB) (Amendment) Act, 2000. The Act empowers NHB to issue guidelines to HFCs for

supervising them. The guidelines include deposit acceptance rules, prudential norms for

income recognition, asset classification, and capital adequacy, investment norms and asset

liability risk management. The Bank is also empowered to launch with schemes such as

Refinance scheme for HFCs and issue of Mortgage Backed Securities.

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Establishment of national housing bank

To give a boost to the housing scenario in India and to narrow down the margin between

the housing demand and the availability of houses, the National Housing Bank was set up

in the year 1988. Even though there were a large number of agencies/institutions

providing direct finance to individuals for house construction, there was no organized

housing finance system as such before the establishment of National Housing Bank. This

was done by keeping in mind that a home seeker though does have a desire for a house

but lacks the resources for construction or buying it. To give an enhancement to private

housing finance institutions the National Housing Bank came into the picture. It is a

principal agency to promote housing finance institutions both at local and regional levels

and to provide financial and other support to such institutions. It is important to keep in

mind that the National Housing Bank itself does not give loans or finance individuals or a

party as such.

ECONOMIC FACTORS

Level of Economic Growth

Income levels

Rates of interest

Price of land/property

Decrease in Corporate borrowing

Drop in Mortgage rates

Rise in Construction

Tax Benefits

SOCIAL AND DEMOGRAPHIC FACTORS

Decreasing aversion to debt

Increasing Urbanization

TECHNOLOGICAL FACTORS

Mortgage lending was once, and generally remains a national business. However, the

Internet is having a major impact on how business is originated, processed and funded, as

well as helping to erode national boundaries. Significant advances can be expected over

the next several years, and understanding the trends and options is key to preparing for

the future of mortgage lending.

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MICROECONOMIC FACTORS

The competence of the housing finance industry to enhance shareholder value across the

long-term are explained through the following points:

NEW ENTRANTS

In the financing business, since entry barriers are low, the threat from new entrants is

high. This is particularly so in India’s housing finance sector. The industry space is highly

competitive with banks and financial institutions keen to capture market share.

BARGAINING POWER

In the housing finance industry, the customer possesses considerable bargaining power: a

diverse list of companies providing finance at varying interest rates. This broad horizontal

and vertical choice enables customers to migrate their selection of housing finance

providers within minutes on the basis of a lower cost.

SUBSTITUTE PRODUCTS/SERVICES

In India, there is a deep-rooted aversion to taking debt to finance acquisition. As a result,

prospective customers generally opt for self-finance. However, over the last few years,

there has been a change in the customer psyche: interest rates declined even as a better

range of real estate options has emerged.

SUPPLIER POWER

Thanks to a supply-side liberalization, the bargaining power of those who supply funds is

low. Banks and financial institutions are being increasingly preferred by individuals as

havens of capital, where savings can be parked for safety and liquidity. Besides, there is

another pull at work: the supplier must disburse loans to housing finance companies

because they represent low-risk and priority investment.

RISKS INVOLVED IN HOUSING FINANCE

CREDIT RISK: Loss from loan default

To prevent this from happening, the companies conduct a detailed verification before

issuing any loan to their customers. The prospective customers are interviewed and their

existing income levels are verified.

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The loans made to salaried individuals should be backed by the issue of post-dated

cheques for 12 months, In the case of a default in payment, legal proceedings must be

initiated for taking over the possession of the mortgaged property. This includes:

1. INTEREST RATE RISK: Mismatch of assets and liabilities with different interest rate

sensitivities.

2. LIQUIDITY RISK: Funding long-term assets with short-term liabilities.

3. OPTIONS RISK: Reinvestment risk from early repayment.

HOUSING FINANCE IN INDIA

The housing finance market has recorded growth in the last five years, clocking about

40% between FY 1999 and FY 2004. Residential mortgage debt as a % of GDP was a

mere 0.58% in 1994 which has moved upto 2.21% in FY 04. Falling interest rates in

housing loans 17% (1996) to 7.5% (2004) combined with increasing loan tenures,

increasing loan to value ratio and rise in the installment to income ratio are precipitating

high growth rates in the housing finance market.

Traditionally housing finance was dominated by a handful of private sector institutions.

These Housing Finance Companies commended 70% market share in FY 1999, which has

subsequently fallen to 50% in FY 2004 as a direct result of policy changes that permitted

the entry of this bank into this industry. banks now control 40% of this market and

continue to show explosive growth.

Reveals the impressive growth of 39.33% shown by commercial banks.

PROBLEMS AND ISSUES WITH THE HOUSING FINANCE INDUSTRY IN INDIA

The housing sector is witnessed varying standards and practices among the lending

community, be it in origination and documentation or monitoring and supervision.

Variation in standards across the industry imposes systematic risks, which can be a

potential threat.

Aggressive approach may lead to defaults

Growing competition coupled with reduction in risk weights on housing loans has led the

lending institutions to adopt aggressive practices including very high loan has led the

lending institutions to adopt aggressive practices including very high loan to value loans,

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softening of collateral requirements, competitive pricing etc. with such an aggressive

approach being followed may lead to increase in the default rates.

Cost of funds

The prevailing interest rate has resulted in constant downward revision of interest rates.

Further, the spreads are increasingly becoming thin as the lending rates are fast nearing

the cost of funds. while during 1993-94, the interest rate on housing loans were in the

range of 17-18% the same right now are in the range of 7%-8.5%. this may lead to

erosion of profitability in the long run.

Many primary lending institutions are making terms and conditions of sanction flexible

and liberal, thus enabling the borrowers to avail the loans even more than value of

security for long tenure of 20 to 25 years. The large quantum of institutional finance in the

property transactions may lead to the problem of security deficit. Logically, the RBI has

stipulated higher risk weightage of 75% as against 50% in November 2004.

Increasingly, there have been instances of dilution in due diligence on the part of lenders.

Sometimes, loans are sanctioned without strictly complying with laid down rules, systems

and procedures. This situation arises primarily out of fierce competitive pressures. It is

observed that the growing customer expectations force the PLIs to compromise due to

diligence, field verification process and appraisal norms, in a rush to sanction the loan at

the earliest.

Lack of Uniformity of norms amongst industry players

While banks and HFCs are the prominent players, HFCs face few constraints. The

regulatory norms stipulate 10% capital adequacy for banks whereas the same is 12% for

HFCs. Further, banks have access to lower cost retail funds compared to HFCs.

Uniformity in norms and hence a level playing field has to be ensured for a healthy

housing finance system. These are newer challenges which need to be addressed and

resolved in times to come.

Industry Fragmentation

The fragmented nature of the housing finance industry is a major impediment for its

further growth. Despite this, the industry has managed to grow mainly due to consistent

decline in interest rates, tax incentives given by the government and changing income

profile of the Indian middle class population.

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Conflicting Interests

While the private housing finance institutions are required to abide by the guidelines of

the NHB, the general financial institutions, which include the commercial banks, follow

the guidelines set by the RBI. Today, both these sections are competing with each other

for the same housing pie but their functioning and lending practices seem to bear no

similarity.

Asset liability mismatch is one of the biggest risks housing finance institutions are

confronted with. Funding of long term loans with short term deposits, leads to a mismatch

between assets and liabilities that can be overcome by adopting appropriate asset liability

management (ALM) techniques.

FDI Constraints

FDI guidelines for real estate development have come under a lot of flay. Guidelines

requirements such as a minimum capitalization of US$10 million for a wholly owned

subsidiary and US$5 million for joint ventures with Indian partners, development of a

minimum area of acres, a minimum lock in period of 3 years from completion of

minimum capitalization before repatriation of original investment, act as constraints to

foreign investors.

PROPECTS AND RECOMMENDATIONS A FUTURE OUTLOOK

Though Indian housing finance system has got its own share of problems, given the huge

tapped housing loan market, government support and favourable macroeconomic

environment, reasonably resilient banking system, the industry has got excellent growth

prospects. The present growth rate at about 40% +, appears to be sustainable in the

foreseeable future.

The tenth plan has estimated the urban housing shortage at the level of 8.9 million

dwelling units. The tital investment required for the above is estimated at the level of Rs

4,15,000 crore. And such a huge amount cannot be raised by the Central and State

Governments alone. Rather active private sector participation is very much essential for

achieving this goal, atleast partly.

Thus, there is a need for following measures to help the market perform more

efficiently:-

Adoption of uniform practice by the housing finance industry relating to matters like 18

appraisal and documentation, prepayment of housing loans, conversion of fixed rate loans

into floating rate loans etc.

Greater transparency in dealings with the borrowers to enable them to exercise informed

choices about products and lending institutions.

In the budget 2002-03, the FM announced that NHB would launch a mortgage credit

guarantee company will work to achieve the following goals:

Generate a greater volume of mortgage lending in the Indian market

Lower down payment requirements to as low as 5%

Broaden the eligibility for mortgages; and

Extend mortgage repayment periods upto 25 years.

These changes will facilitate capital market development by promoting securitization and

increasing home ownership. Further, measures to promote residential mortgage backed

securitization market in India can further strengthen our housing finance system and

make it more competitive.

In order to address the issue of rising incidence of frauds in housing finance, section 20 of

the SARFAESI Act introduced the provision of setting up a central registry to provide a

statutory backing to the security interest created in favour of banks and financial

institutions and enabling them to claim priority over other claimants while enforcing the

securities. Introduction of such a registration system would be conducive to credit would

become easy resulting in competition amongst lenders and better interest stared for the

borrowers.

Reverse mortgages reverse mortgages are a financial tool to enable consumers and

investors tap this source of funds for more productive usage. It is an arrangement wherein

once the monthly installments, a lump sum amount or a line of credit. The present

circumstances like higher life expectancy, growing nuclear families, house rich but cash

poor populations suggest that the time is just right to introduce this instrument in India.

Techniques and schemes should be put in place for a proper asset liability management

and explain the generally followed ALM techniques to counter an issue that could

threaten the very existence of an institution.

We propose to the banks through RBI, to undertake lending for housing purposes as it

will provide a remunerative avenue. The RBI has permitted banks to grant loans for

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housing schemes upto certain limits from their own resources. Introduced stipulations

regarding maximum loan amount and margins, charging of penal interest, security, term

of the loan, graduated installments (where installments are progressive), etc. for PCBs

housing loans.

Interest rates not too much of a concern

Both the banks and HFCs are increasing their business at the stake of decreasing returns.

However, a consoling factor is that mortgages are just 2% of GDP and about 10% of the

advances of the banking sector. Hence even if the bubble were to burst, it may be

withstood by the country.

HOUSING FINANCE-AN OPPORTUNITY KNOCKING?

Macroeconomic stability (or instability) and performance of the housing sector are

inextricably linked. However, in contrast, while economies in South Asia have performed

strongly in recent times, the consequent effect of this growth has failed to filter down to

the housing sector. In India, which is the one of the most advanced economies in South

Asia, the mortgage to GDP ratio (ratio of outstanding home loans to GDP) is estimated at

2%. In Pakistan, it is less than 0.5% and in other countries of South Asia, mortgages as a

percentage to GDP are almost insignificant. As against this, the ratio for the US stands

over 51%. Nevertheless, even if one were to benchmark with more comparable

counterparts, the ratio ranges between 15%-20% for South East Asian countries. The

penetration level of mortgages is miniscule when compared with the shortage of housing

units.

Nevertheless, the housing finance sector in India has undergone unprecedented changes

over the past five years. The importance of the housing sector in India can be judged by

the estimate that for every rupee invested in the construction of houses, Rs 0.78 is added

to the gross domestic product of the country and the real estate sector is subservient to the

development of 269 other industries The real estate sector is also the second largest

employment generator in the country.

Increasing share of banks

Banks, despite being late entrants in the housing finance segment, have overtaken

established HFCs (Housing Finance Corporations) over the past 4 years. This is indicated

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by the fact that share of banks has augmented from 43% to 69% of the housing loan

market over this period.

KEY SUCCESS FACTORS IN THE INDIAN HOUSING FINANCE

SECTOR

Access to low cost of funds

Accessing low cost funds is a key success driver for HFCs. The lending rates are close to

being market determined and larger HFCs have managed to reduce their borrowing costs

through fully hedged international borrowings.

Leveraging on Information Technology

Use of sophisticated computer networks by a HFC brings in the following benefits:

Speedier customer servicing

Reduction in operational costs

Reduction in administrative costs

Markets serviced

Yields on housing loans are slightly higher in smaller cities than in bigger cities, without

much additional credit risk. Some of the niche HFCs have been able to get higher yields

than market leaders due to servicing less developed/competitive markets.

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Processes and systems

Increasingly, HFCs are outsourcing many functions. Some companies are even

outsourcing core functions such as title investigation and property valuation. This can

have adverse impact on profitability due to an increase in non-performing loans

Structuring of Assets and Liabilities

In India, HFCs do not increase the Equated Monthly Instalment (EMI) of the variable

rate loan in response to a rise in rates - rather they increase the tenure of the loan. This

lengthening of tenure can bring loan servicing in conflict with other obligations of the

borrower.

Trained personnel in the housing Sector

The key personnel in a HFC must have the requisite experience in the sector. Attempts to

transplant skills from corporate lending to the housing lending sector are unlikely to

succeed.,

PERFORMANCE OF HFCs

Based on certain parameters as mentioned below:

Growth in Assets

All the HFCs under consideration increased their asset base during FY2004 considerably,

with CanFin Homes increasing their assets by 6.50% -- almost five times – as compared to

1.40% increase in FY2003.

Income

Total Income

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TOTAL INCOME

(Rs. Million)

  2004 2003 2002 2001 2000

HDFC LTD. 3078 2976 2700 2382 2016

Growth(%) 3.44 10.20 13.34 18.20 -

LICHFL 985 1014 882 746 643

Growth(%) -2.83 14.97 18.25 15.99 -

CANFIN HOMES 129 140 140 128 113

Growth(%) -8.11 0.52 9.30 12.63 -

SUNDARAM HFL 56 41 22 7 1

Growth(%) 38.26 83.51 222.93 371.92 -

While interest income of HDFC increased 7.00% during FY2004 (13.40% during FY2003)

to Rs. 2405 million, other income declined by 7.50% during FY2004 to Rs. 673 million

(Rs. 728 million last year).

Total Income/Average Total Assets

Total Income as a percentage of Average Total Assets decreased for the HFCs during

FY2004. A pattern can be seen in the figures, in that they have been consistently declining

since FY2002.

Interest Income/Average Total Assets

Interest Income as a percentage of Average Total Assets decreased for the HFCs during

FY2004. A pattern can be seen in the figures, in that they have been consistently declining

since FY2002.

Gross Interest Spread

Contrary to general perception, the gross interest spread of the major HFCs went up in

FY2004, as was the case in FY2003. Due to intense competition, the average interest rate

on housing loans had fallen sharply.

Expenses

Operating Expenses

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Average Assets Deployed

Employee Expenses

GROWTH TRENDS

The Indian housing finance industry has grown by leaps and bounds in the past few years.

Total home loan disbursements by Banks and Housing Finance Companies (HFCs) has

risen from Rs. 29359.29 crores in 2001-02 to Rs. 51672.7 crores in 2002-03 witnessing a

phenomenal growth of 76% during this period. While the growth in fresh purchase of

housing assets may be lower than the disbursement growth because of the increasing

incidence of loan takeovers (by competitors), it still remains high.

There has been a significant change in the structure of the mortgage industry in the last

four years, with banks gaining market share in the direct housing finance segment. The

share of commercial banks in direct housing finance rose from 27% in FY2000 to 57% in

FY2003. This increase in banks’ share has been the result of a steady deposit growth for

banks, poor corporate credit off take, perception of low credit losses, and higher

profitability in the mortgage loan segment. All this has been facilitated further by RBI

regulations prescribing 50% risk weightage on mortgage loans, inclusion of qualifying

housing loans under priority sector lending, and maintenance of a minimum housing

finance allocation of 3% of incremental deposits.

LAW REVIEW

Involving the private sector in housing finance

For the past decade, the Government of India attempted to strengthen the housing sector

by introducing various loan schemes for the rural and urban population. The first

attempt in this regard was the National Housing Policy (NHP), which was introduced in

1988. However, the growing realization of the insufficiency of public funds to meet the

demands for financial schemes in the housing sector is evident in the aims of the 2007

policy. Innovative financial instruments that will spur the flow of funds from the private

sector is one of the focal points of this policy. Until now, most financial companies were

reluctant to lend to low-income groups because the small amounts do not justify the costs.

Profit is the overarching goal, and these institutions try to efficient in the mobilisation,

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disbursement and recovery of funds. Finance companies are able to mobilize funds from

shareholders and investors by offering competitive rates of interests. These funds will be

disbursed to those who are deemed eligible, after assessment of application forms and

personal interviews. There are difficulties in assessing credit risks and a lack of clarity on

recoveries, land title and possession. These problems have led to a scenario where the

popular perception was that the requirements of low-income housing were incompatible

with formal housing finance.

Whereas today, in low-cost housing, the government is the sole financier, the Ministry of

Urban Development is exploring a new financial architecture that will make loans for low-

cost houses affordable for both the lenders and borrowers. Despite the frenetic pace of

growth in housing finance over the past 5 years in India, mortgage penetration as a

percentage of GDP continues to remain low, at 4 percent. This means that there are

considerable growth opportunities in housing finance. This is further corroborated by the

fact that despite the impressive rate of growth in the housing finance sector in the recent

period, financing through the organised sector continues to account for only 25 percent of

the total housing investment in India.

The lending criteria set out by formal financiers are more appropriate to the life style of

the middle-level income group. To obtain a housing loan, a combination of conventional

(assets that can be mortgaged) and non-conventional collateral such as peer pressure is

required. Lack of mortgage insurance is also a reason why the private formal sector

bypasses the low-income segment.

DEVELOPMENT OF HOUSING FINANCE IN INDIA

The early development of housing finance in India is a result of the housing policies

implemented by the government. In the first Five Year Plan (1951-56), housing was

introduced into the policy framework at the national level. Affordability was emphasized,

and government support through subsidies and loans were deemed necessary. This plan

in fact became the benchmark for subsequent Five Year Plans for the next two decades.

The second plan (1956-61) strengthened the schemes of the first plan by expanding

coverage, and gave rise to State Housing Boards that still remain in existence. Despite

these efforts, by the fourth plan (1969-74), the government was faced with the dual

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problem of a rapidly growing population and a slow growing housing stock. For the first

time, the government decided to encourage private and co-operative housing schemes by

providing financial assistance. However, the majority of activity still remained within the

public sector. The government also recognized the need to provide housing finance to low-

income groups and thus set up the Housing and Urban Development Corporation

(HUDCO) in 1970. HUDCOs mandate was to provide such groups with loans below peak

interest rates and with longer repayment periods.

It was during the fifth plan (1974-79) that as a completely private sector initiative, in 1977,

the first retail housing finance company, Housing Development Finance Corporation

(HDFC) was set up, seeking to provide financial assistance to individuals, groups, co-

operative societies and companies for staff housing.

During the Sixth Plan period, other housing finance companies also entered the market.

Towards the mid and late 1980s a few housing finance companies were set up either as

private limited companies (e.g. Dewan Housing Finance Limited) or as a joint venture

with partnership from the state government (e.g. Gujarat Rural Housing Finance

Corporation) or bank sponsored housing finance companies (e.g. Can Fin Homes, SBI

Home Finance, PNB Housing Finance). Even state owned insurance companies like the

Life Insurance Corporation and the General Insurance Corporation of India set up

housing finance arms. The seventh plan period saw the UN Global Shelter Strategy, of

which India subscribed to, being passed in the UN General Assembly in 1988. This gave

the impetus to the drafting of a National Housing Policy for the first time. Another major

reform that took place at the time was the founding of the National Housing Bank (NHB)

in 1988. The NHB was founded to promote and regulate housing finance companies and

to mobilize additional resources for housing.

The National Housing Bank (NHB) was established in July 1988 under an act of

Parliament viz. the National Housing Bank Act, 1987. The act empowers the National

Housing Bank to first, issue directions to housing finance institutions to ensure their

growth on sound lines. Secondly, make loans and advances or render financial assistance

to scheduled banks and housing finance institutions or to any such authority established

by or under any central, state or provincial act and engaged in slum improvement. It may

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also formulate schemes for the purpose of mobilisation of resources and extension of

credit for housing.

Public housing finance corporations have schemes that encourage beneficiaries to invest

their own money in their dwellings, but do not offer opportunities for beneficiaries to

deposit savings. The beneficiaries are granted larger housing loans, than what may be

available from informal sources. To make housing loans affordable for the urban poor,

direct subsidies are given for construction cost (e.g. the VAMBAY scheme) and/or

indirect subsidies on interest rates are provided. The latter could be in the form of the

interest differential subsidy amounts being remitted directly in the HFC loan accounts of

the borrowers, so as to bring down their loan liability. These loans are characterised by

conventional mortgage lending, have a longer-term tenor and repayments are in equal

monthly installments (EMIs).

The eighth plan recommended that reforms be made on both, the financial and legal

aspects to allow the mortgage market to develop further. It laid special emphasis on

government incentives to enhance the flow of credit to the housing sector through housing

finance institutions. Both the ninth (1997-2002) and tenth (2003-2007) plan recommended

further reforms to enable the government to play its role as a facilitator and encourage

the development of the mortgage market. Emphasis was particularly laid on market

friendly reforms for improving both taxes and infrastructure to help increase investments

into housing. The ninth and tenth five-year plans are also characterised by the aggressive

entry of commercial banks into housing finance.

DEVELOPING A FINANCE MARKET FOR LOW INCOME HOUSING

These are a few prerequisites for a well functioning housing finance system, which are

universal requirements for any country:

Sound macro-economic policies: Low mortgage interest rates triggered by sound

macro economic policies are more important in developing mortgage markets than tax

incentives and subsidies.

Keep transaction costs low and mortgage registration systems efficient.

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Concentrate on getting the primary market right, e.g. transparent property rights,

mortgage and credit registration, efficient mortgage collateral and repossession

procedures, before creating a secondary market to finance those loans.

Create transparent markets for lenders through approved valuation methods, house

price indices and data on mortgage industry.

Protect and inform the borrowers, for instance, by helping them compare

mortgages products.

Access to long-term funding sources and other instruments such as covered bonds,

mortgage backed securities.

Need for Self-Regulation: Attempts to devise a model code of conduct are still in a

nascent stage. Some of the issues that are trying to be addressed include transparency and

full dissemination of information to customers. Many financiers have been lobbying for

developers to move towards a mandatory rating of builders and development projects.

Such a move would have a two-fold effect. First, it would make it easier for a consumer to

know which builder is credible and would help the financier to ensure that the borrowers

project will not get stuck in needless litigation or land acquisition issues. This would

enable financiers to identify riskier propositions early on and pre-empt a possible default.

Secondly, it would force builders to be much more forthcoming about their projects and

financials, thus allowing only viable projects to attract investment.

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Mortgage Insurance:

Mortgage insurance, mandatory in some countries if the loan to value ratio is high, is

completely missing in India. Mortgage insurance would enable the customer to get funds on

easier terms, without putting high down payments on the mortgage. In India, there are no

regulatory restrictions on loan to value ratios. When done with ratios as high as 90-95 percent,

lending poses a major risk to financiers if the borrower defaults. Further, most mortgages in

the Indian market are given primarily to salaried individuals. Mortgage insurance could enable

financiers to tap into other categories like low-income groups or self-employed individuals.

Secondly, in some countries where mortgage insurance is available, those mortgages generally

attract a lower risk weight. Lower risk weights would help financiers have more resources to

lend out. Even though the National Housing Bank has initiated the process of setting up a

Mortgage Credit Guarantee Company, the Reserve Bank of India is still examining the

regulatory framework and risk norms. Unfortunately, this has been pending for several years

now.

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BIBLIOGRAPHY

The Economic Times, July 16, 2004, “Home Mortgage Market Rises 45% in ’03-04”

http://www.ficci.com/ficci/general/new_addition/ housing_highlights.pdf

http://www.bseindia.com/downloads/HomeLoans.pdf http://www.housingfinance.org/IndustryInformation/Asia_In

dianHousingFinanceSystem.pdf http://www.indiainfoline.com http://www.hdfcindia.com/FinancialRes2004.htm http://www.businessworldindia.com http://www.debtonnet.com/research/evolution.pdf http://www.thehindubusinessonline.com http://www.economictimes.com http://www.prdomain.com

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