Issue: September/November 09
THE BIG ISSUE
A plea for fresh thinking
Sing...a song of peoples' need
Comprehensive study of pensions-secured housing loans shows the adaptations required for an emerging economy. Retirement savings are for the long term, but many fund members have a much more immediate priority for decent shelter. And a reformed system can significantly stimulate the market for affordable housing.
There are two different ways to look at pensions-backed housing loans. The first is to see them as a valid means for assisting members of retirement funds to access their built-up savings, prior to retirement, in order that they can satisfy the more immediate social need of providing roofs over their heads. The other is that they defeat the purpose of a pension fund in that these loans reduce the ability of the member to provide for old age.
The subject is vexed. It might be argued that a house, built from scratch or improved, will over time appreciate in value so that it will not only be used by the member during his working life but offer an asset that can be realised as substitute retirement funding afterwards. Alternatively, this argument is pie in the sky; it allows leakage from pension funds, capable of misuse for purposes other than housing, and there’s no assurance of it ultimately being used to deflect old-age penury especially where improvements to a shack are unlikely to enhance its capital value.
A hard-and-fast answer is elusive. If a person has a pot of money in a fund but no reasonable shelter, then on what legitimate basis can he be denied getting his hands on the pot to develop his shelter? By the same token, should housing receive a special dispensation when the fund member might be faced with such other exigencies as dependents’ health or education expenses?
It’s made more complex by the SA social milieu, particularly amongst poorer communities. Where longevity expectations are relatively low, where there’s a culture of the older without work being looked after by younger family breadwinners, and where income sources switch irregularly from formal employment, mandatory preservation of savings in pension funds until an arbitrary age of 55-plus is an inappropriate one-size-fits-all imposition.
This is implicitly recognised by the Pension Funds Act. It allows a fund to provide a member with housing finance, either through a direct loan to the member or by extending guarantees to third parties. Generally, funds prefer the latter. But how well does it work in practice?
Refer to a most insightful study recently completed by Linda Sing, a strategy consultant and academic associated with the Gordon Institute of Business Science, for FinMark Trust. The product of extensive research and pre-publication discussion with major participants, it deserves textbook status in industry befuddled by pathetic levels of product awareness, low loan take-up and questionable effectiveness of distribution channels.
In the five years since January 2004, the financial sector has extended 257 000 pension-secured housing loans valued at R4,7bn. These loans, Sing believes, are increasingly critical in the sector’s housing finance armoury. That the average size of these loans is relatively small indicates that they’ve predominantly been applied to home improvement and not new housing.
With the prevailing shortage of housing stock amongst South Africans who can afford housing finance estimated as affecting some 625 000 households, she anticipates that pressures on housing supply will be exacerbated and that “the pension-secured housing product will continue to exert influence on the affordable housing market as a financing option for incremental housing”.
To supply more and better housing, the system must be reformed. Some of the critical issues Sing examines are:
In deciding whether to offer fund members a pension-supported loan scheme, trustee boards often approach their scheme consultants or fund administrators for guidance. Their advice might not be impartial when they have loan providers within their company groupings, although loan providers that are part of employee-benefits organisations contend that full-service arrangements are capable of offering efficiencies that standalone providers such as banks cannot match. Recommended:
Trustee boards usually select at most two loan providers to service the fund. This restricts fund members’ choice of provider and adversely impacts on market competitiveness. Recommended:
Sing contends that implementation of these recommendations would benefit members by
A possible drawback, she concedes, is that fund members negotiating individually on interest rates can lose benefits of volume-driven (bulk) pricing. Loan providers would be more amenable to offering multiple borrowers lower interest rates where providers know that they can expect large numbers of loans written from a single fund. However, experience in the mortgage-bond market points to competitive forces compelling loan providers to drive down interest rates to increase their market share.
A complication is that, legally, the assets of the fund belong to the fund and not to the member who doesn’t own his or her respective proportion of the assets until reaching retirement age or resigning from the fund. So members are not legally entitled to cede their retirement savings as collateral without the trustees’ express consent. Possible solutions:
In her interviews, Sing found industry players bemoaning at length the low levels of awareness about the pension-secured loan product. Fund members did not know about product features, the availability of the facility, and how the loan can facilitate access to housing. “This lack of awareness is thought to permeate throughout the value chain, and is seen as a key factor in limiting the growth of the sector,” she says.
Another aspect not well understood is the risk to fund members’ retirement savings in the event of default, she adds. Clearly, to provide potential consumers with the appropriate product and pricing knowledge will empower them to make more informed choices and address the information asymmetry that will enhance the borrower’s negotiating power.
The study puts the value of the pension secured lending industry at some R17bn. Growth potential is estimated at anywhere between R3,4bn and R18bn, depending on the magnitude of effective demand for housing finance. This refers not only to the number of lower-income borrowers wanting to purchase or improve property, but also incorporates other aspects of what might actually be achieved; for example, available supply of affordable housing (such as land and services infrastructure) and the ability to pay (such as the impacts of interest rates and inflation).
The industry is fundamentally sound, Sing believes, but is “stagnating in moribund thinking, policies and processes”. Apart from the conflicts on interest in the appointment of loan providers, and fund members being precluded the freedom to choose a loan provider, she points to other challenges:
The pension-secured loan is delicately poised as a vehicle to achieve the development imperatives of an emerging economy, while simultaneously constrained by a first-world institutional framework, Sing points out. For instance, it’s argued that the loan should technically not be used to improve a shack in an informal settlement as this is tantamount to trading a future asset (retirement savings) for a temporary structure with little financial value. But, if the loan helps give a family shelter to survive a bitter winter, should the “use of funds” regulation be strictly enforced?
Prudent regulation emphasises the need to preserve retirement savings for fund members’ old age. But what’s the use of being assured a comfortable retirement in years to come if one doesn’t have a roof over one’s head today?
“Unless the regulatory, institutional and operational structures governing pension-secured lending are adapted to meet the real housing needs of the community”, Sing concludes, “it is destined to remain a niche product unable to achieve its true potential as a mechanism to expand access to housing”.
Source: Banking Association South Africa informal poll, 2007.