What Is A Housing Microfinance Loan? How Grameen-Style Lending Works

The dream of owning a home is just a dream to billions of people across the world. Conventional mortgages need credit records, consistent formal jobs, down payments which may surpass a yearly salary and property titles which most low-income households merely lack. But families keep on building room after room and brick after brick, sometimes with no formal financing whatsoever. Introduce housing microfinance: a silent revolution that transfers the concepts of microcredit to the pressing demand of shelter.

Following the Nobel Prize-winning work of Muhammad Yunus and the Grameen Bank, housing microfinance loans are small, short-term, unsecured loans that are specifically aimed at low-income households to construct, renovate, or enlarge their homes. A housing microfinance loan is unlike a regular mortgage where the full-time mortgage funds a completed house immediately. This paper describes the mechanism of these loans, why they are disrupting the conventional housing finance, and whether they actually provide a way out of the slums and into safe and respectable housing.

What Housing Microfinance Loans Are and Why They Matter

A housing microfinance loan is literally just that; a mini- loan; usually of between $500 and $10,000 given to low-income earners who do not have access to formal banking. The reason is solely housing-related: the addition of a room, the use of cement instead of dirt floor, the installation of a toilet, tightening a roof, or the connection to water and power. These are not mortgages to purchase a completed, developer constructed house. Rather they invest in incremental construction, as the majority of poor families have always built shelter: paycheck by paycheck, using whatever construction materials they have at hand. The structure is what is revolutionary in housing microfinance. The property does not have any mortgage.

This loan is normally not secured, in other words no security is taken. The repayment is done in installment of weekly or monthly payments over one to five years and group guarantees are commonly used rather than individual credit ratings.

So what is the point in a world where housing markets are worth trillion dollars? Since the difference between the needs of the traditional bank and the poor family is immense. A street peddler in Mumbai, a sewing machine worker in Nairobi, or a factory employee in Dhaka may make $200 a month. None of the banks will give them a loan of $50,000 to purchase a house.

However, the same family could already be residing in a homemade shelter which they legally own on informally taken land. They were able to substitute a leaky tin roof with corrugated sheets, install a lockable door and construct a basic latrine with a microfinance loan of $1,000. That intervention alone prevents disease, enhances safety, as well as elevates the status of the family in the community. Housing microfinance will not resolve the issue of homelessness in a flash and secondly it deals with the biggest possession that most of the poor families will have in a lifetime and that is the home they live in. And it does not require the absurd--credit history, collateral, or official salary.

The Grameen Bank Model and How It Has evolved into Housing

You cannot think of housing microfinance without understanding the Grameen Bank. Grameen, established in 1983 in Bangladesh by Muhammad Yunus, was the first microcredit organization to introduce the idea of microcredit: small loans (usually less than 100 dollars) to the poor, secured by solidarity groups as the repayment system. Five borrowers are kept accountable to each other; failure by one to make a payment is covered by the other.

This social collateral substituted the old financial collateral with unprecedented success where repayment rates were more than 95. Grammeen initiated Housing Loan Program in 1984 following the observation of families living in extreme levels of poverty in the shelter. The initial loan amounted to 300 dollars- sufficient to purchase a simple tin-roofed house with a latrine. The conditions were quite lender-friendly: one-year grace period, followed by weekly payments during five to ten years, and the interest rate was much lower than on commercial rates.

The Grameen housing model was viral and was adopted by dozens of countries, with the first one being Bangladesh. The philosophy and not only the size of the loan made it work. Grameen realized that poor people were not high-risk borrowers, they were high-effort borrowers who just had no access.

The microfinance products such as business loans, education loans, savings accounts were combined with the housing loans, and so a family could construct their home at the same time constructing a small enterprise. The Grameen housing loan later on changed to permit bigger credits (up to 2,500 dollars today) and to be used more flexibly (such as in home repairs, in some instances to buy land and even to be connected to utility lines). More than 700,000 homes have been funded by Grameen by 2020, most of which continue to stand as testament that poor families can repay loans when provided with a good opportunity.

That success encouraged hundreds of other microfinance institutions (MFIs) in the world, such as BancoSol in Bolivia or BRAC in Uganda, all trying to adapt the Grameen principles to local housing requirements.

Key Features That Make These Loans Work for the Poor

Microfinance loans in the form of housing are barely similar to a conventional mortgage. To begin with, they are small. Very small. The global average housing microfinance loan is approximately 1,500 -3,000 dollars. This is the same as the real incremental cost of construction: a room, a roof, a floor, a toilet. Borrowers are not supposed to construct a Western house immediately. Rather, they borrow a loan to make one enhancement, pay it in another loan, and borrow another to make another enhancement.

This is what is referred to as incremental housing and it is the same process that low-income families have been using to build all along the only that credit now smooths out the bumps. Second, the loan is not secured. There is no title deed needed since a majority of the borrowers reside in land that they do not possess. MFIs employ other credit measures: it is home visits, verification of small daily savings, and group guarantees. In case the group guarantees you, then you qualify.

Third, the schedules of repayment are made on irregular cash flows. A vendor on the street is not able to pay a mortgage bill of 500 dollars in a month, but he can pay 5 a week. Microfinance loans are usually housed through weekly or bi-weekly installments that are made at group meetings. This minimizes the urge to default on a payment and enables the lender to identify issues early. Fourth, interest charged is more than traditional mortgages, average is 12 to 24 percent per year since the administration cost of thousands of small loans is costly.

This is however much cheaper than informal moneylenders who charge 100 percent or higher, and the overall interests charged on a loan of one thousand dollars in two years may be as little as 200 to 300. Lastly, such loans are practically always accompanied by non-financial services: technical support on how to build safely, advice on how to acquire land rights, connections to cheap suppliers of building materials. This is the reason why default rates remain low even in the absence of legal collateral.

Who are the greatest benefactors of Housing Microfinance Loans?

The main beneficiaries are the families, who occupy the two-thirds of the income pyramid, or those with average incomes ranging between \2 and 10 per day. They are not the poor homeless sleeping on the sidewalks, but they are the working poor who already have some sort of shelter but are frightened of collapsing, flooding, or eviction.

A common borrower may be a lady who operates a small food stall, a day labourer or a domestic worker. In most programs, the main borrower of the loans is women due to their higher chances of investing in home upgrades that are beneficial to the health and education of children. Research indicates that when a woman gets a housing microfinance loan the money has much higher chances of being expended on latrines, safe cooking spaces and clean water storage all of which help to lessen childhood diarrheal diseases and respiratory illnesses.

It is not only to individual families but to whole communities. In a neighborhood where several families replace the dirt surface with cement flooring, parasitic infections reduce significantly. Homes whose roofs and doors are secured are less susceptible to theft and weather catastrophes. Children are given a quiet place to do their homework thus enhancing performance in school. And since the microfinance loans are issued through village banking groups, the procedure enhances social bond and discipline in finance.

Neighbours who can ensure they secure loans to each other become more cooperative over other issues of the community, such as collection of garbage and street lighting. With that said, not all people qualify. No regular income at all families, aka the extreme poor, normally require charitable housing grants, not loans. And families residing on land which is actively either contested or slated to be demolished cannot do so, as the chances of loss are too high. Microfinance is best suited to the stable poor: the ones with a steady (though small) income, a home to stay that they own, and a desire to save and pay in the long run.

Real-Life Cases and Stories of Successes all over the World

The independent assessments revealed that waterborne illnesses decreased by 40 percent, household injuries (collapsing roofs or open fires) decreased by 60 percent, and the number of children attending school increased by half, all because they had a table and a light to study with. In Mexico, Compartamos Banco, a microfinance institution, provides a housing improvement loan, Mejora tu Casa (Improve Your Home). In peri-urban settlements loans have been used to add concrete floors, plastered walls, electrical wiring to self-built houses.

A single mother of three, Maria, who borrowed a loan of 500 dollars, used the loan to install a metal roof on a cardboard roof. Previously, her family was ruined every storm season because of rain. She later borrowed more to construct her own shop facility which was attached to her house after she saved enough funds to grow her small grocery business.

Microfinance bank Jamii Bora in Kenya began a housing microfinance program to serve slum dwellers in Nairobi in the Kibera slum, one of the largest informal settlements in Africa. Loans of as little as $200 were given to the borrowers to replace mud walls with more permanent timber and iron sheet walls. More importantly, Jamii Bora also assisted the residents to create savings cooperatives to jointly acquire small parcels of land in the city outskirts, and construct whole new communities with microfinance loans at every incremental stage. One of these communities (Kaputei) was founded on bare land and has expanded to a 2,000 home town, room by room, using successive loans.

In Peru, Mibanco (Banco de la Microempresa) observed that housing microfinance borrowers raised the value of their home by an average of 150 per cent in five years- much higher than the interest paid. These tales have a single unifying theme: small, patient capital distributed via trusted local networks, can tap into the massive productive potential of poor families who desire no more than a safe place to sleep.

Before Borrowing, Limitations and Challenges to Be considered

Housing microfinance is not a panacea. The most obvious constraint is size of loans. Most of the cities do not allow you to purchase a finished house or a legal plot of land with a loan of 2000 dollars. In low-income neighborhoods, the cost of land alone is often more than 10,000.

This implies that microfinance is only effective in making incremental additions to the existing shelter and not in absolute home ownership. When a family is renting on land which they do not have control over a landlord may increase the rent they pay or even evict them when they have already used their loan to make some improvements a crippling blow. Most MFIs hence demand evidence of secure tenure, which is hard to find in informal settlements. Borrowers are never safe without legal title and lenders are reluctant to pay.

The other significant challenge is affordability. Even at 20-30 percent of interest on a small loan, it is a huge burden to a family on $5 per day. When a family is already struggling to pay food and medicine, an extra loan payment every week will drive them into a debt trap. Good MFIs do a thorough cash-flow analysis and would never loan out more than a family can comfortably repay. However, there are predatory players, particularly in markets that are not well regulated. Borrowers should be trained in financial literacy to be able to know the overall cost of the loan and not to take two or more loans at the same time with various lenders.

Also, housing microfinance fails to solve the primary causes of housing poverty, such as affordable land, corrupt building permits, and exclusionary zoning. Not a thousand scrawny loans can be of use when the city comes to bulldoze your house due to building it on a floodplain or a controversial piece of land. Housing microfinance is thus most effective within a larger ecosystem of secure land rights, basic infrastructure and disaster resistant building codes. It is a great weapon, yet a weapon only.

Conclusion

The Housing of microfinance loans, which was based on the Grameen Bank concept, has revealed that poor families can be credit worthy when loans are packaged to suit their realities. Millions of families on the dirt floor, to cement, leaky roofs to secure metal sheeting, to open defecation to sanitary latrines, have risen by small and unsecured short-run loans to make minor home improvements.

The model is effective since it substitutes collateral with community, credit score with savings discipline, and fixed monthly payments with flexible weekly payments. The women, who are the major administrators of domestic refuge, are the major borrowers- and they pay back at incredibly high rates. Nevertheless, having microfinance in place is not an alternative to affordable housing policy. It cannot create land titles like magic, and it cannot use a loan of 2000 dollars to construct a mansion. It is an iterative solution to incremental builders.

When you are thinking about a housing microfinance loan, you need to ask yourself three questions. The first question is whether you have secure possession of your land, either as an owner or on a long-term lease, or as a holder of customary rights.

Second, is your family stable enough in its income to afford to save weekly payments without going hungry of other needs? Third, does the microfinance institution have a good reputation, does it disclose any charges, and does it offer technical advice on safe construction? When you say yes, then a housing microfinance loan just might be the most radical financial product you will ever use. It will not enrich you, yet it may bring you as good a thing as money can buy, a house that is not leaky, a floor that is not muddy, and a door that shuts. It is not a trifle to billions of people. It is everything.

Also Read: Advancing Housing Microfinance through the Microbuild Fund