A brief look and analysis of consumer lending in south africa

1. 2011
Credit: A Game of
Risk- Mortgage
Lending in South
Africa.
Consumer Credit
A look into some aspects of consumer lending – Mortgage Lending in South
African market. Assessment of mortgage loans and a preview of how consumers
fall into arrears.
B.Matanda
B.Matanda
11/17/2011

2. Credit – A game of Risk : Mortgage Lending in South
Africa.
National Credit Regular Consumer Credit Report, reports that as at the end
of March 2011 there were 1.8 million mortgage accounts, amounting to over
R770 billion and that accounts for 64% of all consumer credit.
The same report reveals that only one in every eight (12, 5%) home loan
applications processed is successful, meaning the remainders of the
applications do not get registered at the deeds office.
It is clear that residential mortgage credit contributes significantly to
consumer credit both in value and in numbers. For many people, home is
the most significant investment of their life.
Why is it that only 12.5% of mortgage loans applications are
successful? Have Mortgage Financiers taken a conservative approach
in their lending?
Looking back to the past 7 or so years ago or pre National Credit Act the
home loan approval ratio was over 80%, and from that past experience
mortgage financier have seen impairments rising as more and more clients
fail to meet their mortgage repayment commitments. This has not only been
restricted to mortgage loans but also to other credit products. Mortgage
financers are currently sitting on billions of non-performing assets –inform of
repossessed properties. And because of that experiences financers have
taken a cautionary and conservative approach to their lending , attention
has shifted from mass market to high value and low risk clients to safeguard
their investments .They say sometimes its better to own 2% of an elephant
than to own 100% of a rabbit.
Over the years mortgage financers have devised system based Risk
Assessment Tools that has defined parameters on pre-assessing client
applications, before they reach the credit personnel. To clients and other
stakeholders, this has the effect of getting system based decisions on
applications such as decline, approval and or referred for manual
assessment. Much depends on what has been fed to the system.

3. Two key parameters of the Risk Assessment Tools are based on;
(i)Affordability –Can the client afford the mortgage loan taking into
account the current monthly installment repayments on existing debts and
living expenses?
(ii) Risk factors – Internal risk based ratings/scoring, this works well
when the client has an existing relationship with the credit provider such
transactional account or a credit facility and External risk based ratings
taken from credit bureau scoring.
If one in ever eight applications is successful how do the seven become
unsuccessful? (a) Firstly some of the applications are declined upfront by
the system based assessment tools – the system based tools will decline the
application basing on information fed to the system, client payment behavior
and affordability of the loan, however clients always have the opportunity to
appeal the decision (b) some of the applications are declined by credit
personnel for various reasons. (c) some of the applications are granted with
conditions which clients may fail to meet and as a result the mortgage bond
will never get to registration. Conditions placed may force the client to sale
existing property that the client owns and some will be unwilling to sale the
property. A deposit of say 5%-50% may be required from the client and the
client may not be in a position to raise such an amount and the transaction
does not proceed.
If credit personnel and Risk Assessment Tools have been effective
and in use why has the level of impairments been on the rise in
recent years? And what can be done to mitigate credit risk?
Most of the non-payments being experienced today are as a result of
mortgage loans granted in previous years and looking back at those
delinquent accounts there are various reasons that can be drawn from that;
(1)Additional debt
After mortgage loan is granted, some clients have a tendency of increasing
their debt without having their income proportionally increasing. Soon after
a mortgage loan is granted and well before it’s even registered some clients
have a tendency of going for additional debt by borrowing more e.g.(motor
finance, personal loans, credit cards etc). If these debts had been incurred
before the mortgage loan was granted, the application would have been

4. declined for affordability. From experience most additional debt is on the
personal loans product, in my opinion clients would borrow to finance
registration costs as well as deposit. Currently banks are reluctant to grant
100% mortgage finance. Yesteryear banks used to grant up to 108%
finance, such products have been discontinued/suspended because of
experience and current economic conditions.
To mitigate such risks, mortgage financers can take a quick snap shot at the
clients’ bureau profile before the bond is registered. Normally registration
attorneys advice financers when they are about to register the bond so that
the funds can be released. It is at that stage financers can quickly relook at
the client bureau profile to see if the loan is still affordable to the client. If
the situation has changed for the worse new and latest documentation in
form of pay slips and bank statements etc can be requested by the financer
to have a better picture. If the client is unable to afford the mortgage loan at
that stage, the application can be terminated. Certain clauses and conditions
may need to be inserted in the loan contract to accommodate any legal
implications that may come out.
(2)Fraud
In a broad strokes definition, fraud is a deliberate misrepresentation which
causes another person to suffer damages, usually monetary losses. Most
people consider the act of lying to be fraudulent, but in a legal sense lying is
only one small element of actual fraud.
Fraud has been a major problem for mortgage loan providers in the past
years. In most cases mortgage transactions granted at the back of
fraudulent documentation are of high value in size.
This normally occurs when a client submits fraudulent documents such as –
pay slips, bank statements, identification documents etc in order to obtain a
loan. Some of these clients may temper with their pay slips to reflect a
higher income so that they can afford a higher valued residential property
and some may not even be employed or working for themselves. Clients who
these mostly it’s for speculative purposes -to resale the property at a profit
within a short period of time. Should the property market remain stagnant
as it is, those clients will walk away from the property as their needs can not
be met. Some of the transactions will involve related members selling to
each other and at the end bank is left with the asset in their books.

5. To combat this financers need a collaborated approach and effort in some
areas of common interest such as share information particularly to their
clients’ banking information. Banks should be able to freely exchange clients
banking information and to authenticate clients’ transactions were necessary
unlike in previous years.
Banking staff should continuously be diligent and look-out for such
suspicious transactions and confirm employment and banking transactions
with respective employers and banking institution as per current status.
Culprits should be listed on common data base for the benefit of other users.
With time and improvements in systems mortgage financers should come up
with a central banking data base where bank personnel and other authorized
users can access clients banking transactions therefore eliminating the need
for client supplying physical bank statements. Although this might be a
costly project in the long term it may help to mitigate the credit and
operational risk aspect. Consensus is also required between players in the
banking industry as they all provide different credit products.
(3)Unforeseen circumstances
These are losses accumulated as a result of death, retrenchments, loss of
jobs, transfers amongst others.
Clients should be encouraged and in some cases forced where possible to
take respective insurance covers to guard against this.
(4)Unreasonable living expenses declared.
As per National Credit Act, the applicant should fill in the application form
and should do that to the best of his knowledge and in honest. When
carrying out assessments financial services providers use the information
declared by the applicant before making a decision to grant or decline the
application. If information provided is found out to be untrue, legally it
becomes the clients’ fault. In some instances a client can declare
unreasonable living expenses such as R200 monthly food. The question is
should financers take this amount as true and correct and carry on with the

6. assessment or should they add on reasonable figures such as say R1000?
Again the question is where is the R1000 being derived from? Or should
there be a rule of thump to say if unreasonable living expenses are declared
then a certain number or percentage is applied depending on salary, age etc
This remains a debatable issue by I guess credit providers have some ways
of going around that issue.
(5)Rise in Interest Rates
The prime rate is currently 9% per annum a level last seen in May 1974. In
August 1998 it was 25.5%. This implies that a new mortgage bond of say
R1 million at current prime (9%) requires a monthly repayments of R8,998
whereas in August1998 it would have been R21,387. The effects of rising
interest rates have a negative effect on the repayment ability of clients as
was seen around 2008/9 when interest rates were on the rise.
Residential mortgage providers are faced with a difficult task of predicting
the future, where will the interest rate will be in the next 5, 10 years to
come? Currently economists predict that in the few years to come interest
rates will be on the rise because of mounting economic pressures on the
global market.
When assessing loan applications mortgage providers can stress test their
clients and see if they will still be able to afford the mortgage repayments
today if interest rates are to go up by say 1%, 3%, 5% and so on. For
example if client is priced at 9% then the finance provider can stress test the
client and see if he/she will still be able to afford mortgage repayments if
interest rate is to rise to 10% ,12% ,15% etc.
The question that arises is, should the client fail to afford the bond after a
stress test of say 3%, should the financial institution decline the bond now?
In my opinion this need a holistic approach by looking at how much is the
shortfall on the income, targeted time frame (2% interest rise over what
period) and to consider approximate salary increments in the same period
before a credit decision is reached.

7. (6)Loss of property value
Currently residential property market remains a suppressed market, it’s a
buyers market and mortgage financers’ are taking a conservative approach.
With current property and market forces, property values continue to be
subdued.
Over the past years property value has fallen faster than the outstanding
mortgage loan. In some instances clients are currently sitting on higher
mortgage debt than the current market value of the property.
For newer residential mortgage loans of 5 or so years old, some clients may
find it difficult to dispose their properties and recover equivalent or more
than their mortgage outstanding balance because of depressed property
market values. If the client is desperate to sale at depressed prices, the
client is still left with a balance to repay to the mortgage financiers. This
scenario tempt client to “dump’’ the property back to the bank especially
those who may have more than one property (mostly for speculative) or
looking for quick sales.
Mortgage Financiers can ask clients to contribute towards their investments
by requesting deposits of say 5% - 50% to cushion themselves and guard
against loss of property value and also to make clients more committed to
their long term investments.
(7)Internal Assessment Tool
In earlier years there used to be weaknesses in internal risk assessment
tools. The focus of financiers was driven by volumes and market share
instead of quality, quality lending is now the focus of mortgage financiers.
The chase for market share might have overshadowed the need for strong
assessment tools and current delinquent accounts are a result of yesteryear
poor assessment tools. However, the focus has changed from quantity to
quality.
As internal risk assessment tools are the first line of defense there has been
a great change and improvement on that aspect in an effort to make correct,
logical and consistent decisions. The introduction of the National Credit Act
has also helped that cause.

8. Conclusion
Looking forward, mortgage providers especially the debt collection
departments should breathe a new life as the emphasis is on making the
correct decisions.
For time to come the market will remain slowly picking up although the
majority of clients may find it difficult to successfully acquire mortgage loans
unless they adopt a saving habit (for deposits required), reduce credit
appetite, improve on current debt repayments (NCR reports indicate that
currently more than 56% of people who are in debt they have at least 1
account in arrears), and an improvement on conducting bank transactional
and credit products.