Financing Multifamily Housing in Emerging Markets: Constraints and Opportunities

1. Financing Multifamily Housing in Emerging Markets: Constraints and Opportunities Carol S. Rabenhorst The Urban Institute Washington, DC Presentation for Panel: Affordable Housing Goes Worldwide Institute for Professional and Executive Development Chicago, July 10-11, 2008

2. Background: Linking Housing and Economic Development • “Housing starts” as a leading economic indicator • Construction and manufacturing jobs; labor mobility • Retail sales • Predictor of overall economic health • External growth factors: • Improved living conditions and infrastructure • Motivation to save • Motivation to spend • Labor and social mobility • The demand cycle: • Housing demand → housing finance → financial sector development → economic growth → housing demand • Emerging markets tend to follow the same pattern The Urban Institute

3. Overview of Multifamily Housing in Emerging Markets • Mass privatization of apartments in transition from socialism since early 1990s • High owner-occupancy rates (90%+) • Poor condition → trading up and renovation • Real estate and mortgage markets concentrated in large cities and resort/tourism areas • Housing values higher, for same reasons as developed markets • More people, higher incomes • Few alternatives for private investment • Why apartments? • Mass urbanization • Cost effective land & infrastructure use, lower construction cost • Lower cost to purchaser • Security, particularly in Africa The Urban Institute

4. Examples of Emerging Mortgage Markets • Central and Eastern Europe transition countries • Explosive mortgage market growth • Average growth 75% p.a.; 9% of GDP • Growing secondary market activity • $20.7b in covered mortgage bonds outstanding in 2006 • Southern Africa • More moderate growth • Lagging legal reform – registration, enforcement • Macroeconomic and political uncertainty • No secondary market… yet • Asia • Mixed growth • China: $356b in mortgage debt (from $0 in 9 years) (pop. 1.3b; 11% GDP) • India: $18b mortgage debt (pop. 1.1b; 9% GDP) The Urban Institute

5. Constraints on Financing Multifamily Construction and Sales • Problems relating to registration of title and lien • Problems relating to level of development of construction finance • Problems relating to condominium law and operations The Urban Institute

6. I. Registration Problems • No registration of title or mortgages on future construction • Usually no property identification number until built • Developer’s commercial loan may block mortgage for apt. purchase • Lender’s priority unclear • Undisclosed liens (spousal rights, taxes) • Large percentage of properties not registered at all • Privatized apartments in CEE • Land and buildings, especially in Africa, less so in Asia • Donor-financed registration projects, but slow going • No title insurance; state guarantee but only if registered • Particular problems with condominium registration • Ownership scheme not clear in law • DEVELOPED MARKET MODELS: • Ability to register title or lien on future construction • Completion bonds • Accurate registration of apartments part of declaration of condominium recorded prior to construction or sale The Urban Institute

7. II. Construction Finance Problems • Reasons for lack of residential construction lending • Inadequacy of law, mistrust of courts to enforce rights • Inability to assess/manage completion risk (no insurance) • Lack of standard multifamily loan products • Easier profits elsewhere • No regulation of developers → increases risk • Common method – apartment purchaser pays before construction • Takes all the risk of non-completion, poor quality • All cash, so limits market to upper income • Loans are business loans, not formal construction finance • No developer investment and risk sharing • No schedule of completion payments with holdback • Construction finance not coupled with permanent finance • DEVELOPED MARKET MODELS: • Data for underwriting multifamily construction loans • Presale and release requirements • Evidence of permanent financing The Urban Institute

8. III. Condominium Law Problems • Unclear developer rights and responsibilities • Increased risk for lenders and apartment purchasers • Particular problems with privatized apartments • Unclear ownership rights and responsibilities • Registration and title issues • Transfer of control to owners from developer • Obligations of owners not contractual so not enforceable • Poor management of common areas • Devaluation risk for long-term lenders • Inability to borrow for common area improvements • DEVELOPED MARKET MODELS: • Developers’ rights and responsibilities clear • Owners’ rights and responsibilities clear • Professional property management • Insurance requirements • Borrowing under UCC for common area improvements The Urban Institute

9. Applications Available from Developed Markets • Legal and regulatory evolution • Mortgage and secondary market framework • Enforcement of contracts • Registration of title and mortgages • Condominium development and operations • Policy development • Government macroeconomic policies • Taxation, fee and subsidy structures • Private sector response • Demand driven • Multinational banking → international best practices • Growth of ancillary industries – evaluation, insurance, credit reporting, rating agencies, property management The Urban Institute

10. Conclusions • Desire for better housing is universal human nature, inevitably leads to strong demand for improved construction and financing options • Private sector responds to strong demand • Profit motive • Secure market, if risks carefully assessed • Flexibility • Growing number of multinational banks → experience, skills • Fast growing economies, developing capital markets • Donor support through loans, investments and TA • Government policy slower to develop • Entrenched interests in housing and construction sectors • Economic setbacks • Legal change is evolutionary, as in developed markets • All in all, the future is bright! The Urban Institute

11. Questions? Carol S. Rabenhorst Senior Legal Advisor The Urban Institute 2100 M Street NW – Suite 500 Washington, DC 20037 202 261 5767 CRabenhorst@urban.org The Urban Institute