What are mortgage guarantee products?

[ecis2016.org] We explain what a mortgage guarantee product is and how it helps banks and home loan borrowers

As compared to the western markets, where mortgage guarantee products are quite popular, their performance has not been as impressive in India. One could easily attribute the lack of awareness and cost escalations, as the key reasons behind this concept not gaining grip in India’s banking world. Even though it was introduced in the country nearly 18 years ago, this concept is yet to gain much traction. The Coronavirus pandemic might, however, make this product more popular in times to come.

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Data available with private think tank Centre for Monitoring Indian Economy (CMIE) show that 50 lakh salaried people lost their jobs in India in July 2020, as a fallout of the Coronavirus-triggered economic crisis. The total number of people who lost their jobs, because of this global pandemic has hit 1.80 crores since April, 2020. The CMIE said that “While salaried jobs are not lost easily, once lost, they are also far more difficult to retrieve.” With this, cases of non-payment of loans could spike, prompting financial institutions to adopt safer lending strategies, such as mortgage guarantees.

What is a mortgage guarantee product?

Just like a home insurance protects the home owners from loss due to theft, fire or other disasters, a mortgage guarantee protects banks from damage due to credit default by the borrower. Also known as mortgage insurance, a mortgage guarantee is a tool that acts as a cover against home loan defaults. A product meant for lenders and offered by mortgage guarantee companies, mortgage guarantee allows banks, housing finance companies and non-banking financial institutions, to lower risks and increase their portfolios.

How does mortgage guarantee help banks?

If a home loan borrower fails to repay his monthly EMIs against the home loan, because of adverse circumstances, a mortgage insurance will cover the risk for the lender by way of providing access to cash flow on delinquent contracts. That way, lenders are also much better placed to provide loans to new customers. The cover enables banks to venture into newer lending opportunities, boosting their portfolio. If a certain segment of borrowers is not a safe bet, as far as lenders are concerned, this financial tool allows them to service this segment too and create a deeper reach into the market.

In India, a home loan account will be categorised as non-performing, if the borrower continues to default on the payment for 90 days. Once an account becomes non-performing, the mortgage guarantee company would pay up the guarantee amount to the bank. The mortgage guarantee company will continue to pay the EMIs, till the borrower resumes making payments or till the property is sold to recover losses.

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Mortgage guarantee products in India

India’s financial system adopted this concept in June 2012, when the country’s first mortgage guarantor, India Mortgage Guarantee Corporation (IMGC), was introduced. A sole entity in the Indian mortgage guarantee market, the IMGC is a joint venture among the National Housing Board, the Asian Development Bank, the International Finance Corporation and Genworth Financial.

The company currently acts as a service provider to ICICI Bank, LIC Housing Finance, Axis Bank, SBI, Tata Capital, Reliance Housing Finance, Aditya Birla Capital, Bank of Baroda, Shriram Housing Finance, etc.

Who bears the cost of a mortgage guarantee?

The bank buys mortgage security from the mortgage guarantor, right at the beginning of the loan, in consultation with the buyer. Even though banks buy this service from the MGC, the buyer has to bear the cost of the service, as this financial tool is ultimately designed to benefit them. The cost of the cover is added to the buyer’s total home loan and the payment is made through the EMIs.

Advantages of mortgage guarantee products

Apart from benefiting banks, mortgage guarantees also help buyers in various ways. According to the IMGC, ‘Mortgage guarantee is actively used by lenders as a tool to help promote and advance home ownership. Considering the financial constraints of buying a house, the product has been enabling lenders to provide higher loan amounts, thereby, reducing the level of down payment required for purchasing a home’.

Higher loan amount: The first advantage of this security, is that it enables buyers to avail of a higher loan amount than they are typically able to. This is especially beneficial for buyers who do not have enough savings, to make a significant contribution towards the down payment. Your home loan amount could increase by at least 20%, if the bank uses the mortgage guarantee cover.

First-time home buyers, especially in big cities, often delay their purchase plans, because they are unable to arrange the down payment. Through a mortgage guarantee, they can buy their home much sooner, as they can get up to 80% of the property value as loan.

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Even if a buyer can invest more than 20% of the property value as the down payment, it makes better sense to use the extra money in generating income through other assets. It never hurts to keep liquid cash available for personal use anyhow and since property is an illiquid asset, blocking all your money in this is not advisable.

Longer loan tenure: This product also allows the borrower to extend the repayment period. Banks typically want the loan repayment to end by the time the borrower reaches retirement age – i.e., 60 years. That is why someone over, say, 35 years, may find it difficult to get a home loan for a 30-year tenure. Your home loan repayment tenure could increase up to 67 years, if the bank uses the mortgage guarantee cover.

No dependence on expensive funding sources: Those who do not want to wait to buy a property, often apply for costlier options such as personal loans (these could cost between 11% and 20% per annum, as against 6.95% interest in case of home loans) to part-pay the down-payment for property purchase. They also sell assets like gold, to fund the purchase. Both these options are financially imprudent. A mortgage guarantee can help buyers avoid such situations.

Boon for self-employed: Since salaried employment is more resilient to economic shocks, borrowers in this category do not face many hurdles when applying for a home loan. The same, however, is not true for self-employed people. Unlike salaried employees, who are less prone to defaulting, because of the relatively secure nature of their jobs, self-employed people often see their home loan applications getting rejected. Two things that greatly lower their chances of getting their home loan application approved, are the risky nature of their work and the unavailability of documents needed for home loan processing.

Mortgage guarantee supports the largely unserved, self-employed home buyers working in the micro, small and medium enterprises of the country.

Banks that offer mortgage guarantee products to customers

The first bank to launch this product in India was private lender ICICI Bank, which announced the ‘ICICI Bank Extraa Home Loans’ in August 2015. The lender offers mortgage guarantee-backed home loans through a tie-up with the IMGC. Meant for the salaried, as well as self-employed people, the product allows you to enhance your loan amount by up to 20% and your loan tenure period to 67 years of age.

In 2018, India’s largest lender SBI partnered with the IMGC to offer a mortgage guarantee scheme for prospective non-salaried and self-employed home loan customers. The cover allowed a customer to borrow 15% additional money as a home loan. In the same year, India’s third-largest private lender Axis Bank also tied up with the IMGC to offer mortgage guaranteed home loans, offering 20% higher home loan amount. In March 2019, LIC Housing Finance and the IMGC also entered into a partnership to offer this product.

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