Mortgage money will silence leaking toilets

RIGA - A 1997 housing survey showed that 75 percent of Latvians want better housing but don't have the money. Neighbors from across the Baltic Sea have come to share a time-tested means to raise money and make investors and bank shareholders smile.

Danish advisors helping to build Latvia's housing strategy expect the rebirth of a mortgage banking system late next summer for individuals and businesses to borrow money with long-term loans at fixed interest, possibly 10 percent, for real estate spending.

The architecture will follow Denmark's model in use since the 18th century. When borrowers can file the first loan applications depends on the Latvian government's progress in passing legislation following Danish financing laws and EU practices.

The Danish mortgage credit system that will be Latvia's template has not in 200 years seen a bond holder fail to receive payment on his mortgage bond because of mortgage bank's inability to pay. Advisors working out of the World Bank Technical Unit want the Latvian system to be as sound.

"We have to be careful here," said Christen Boye Jacobsen, a Danish attorney with the mortgage project who is helping to draft laws. "Nothing must go wrong from the beginning. The trust in the capital market would be spoiled If the mortgage bank fails, you won't see a new market system for 10 years."

The Latvian government has demonstrated a political focus on housing, loans for which, seen from banks' point of view, are less risky than for business projects, said Peter Munch Eriksen, mortgage project manager. The mortgage bank and the commercial banks will decide which sectors of the housing markets they will service.

"The minimum segment is private, but they could decide to go into other areas," Eriksen said. "The government can neither require they move into the commercial segment or abandon it either."

Mortgage proceeds will be noticeable in new construction but have an even wider effect in insulation and upgrades to shut winter out of existing buildings and to improve living conditions. Necessary improvements would be to enclose balconies with windows, insulate and resurface roofs and facades, install modern plumbing, upgrade heating systems and install thermostats, gas meters and water meters to control and fairly measure use of utilities.

Selected Latvian commercial banks will work with a refinance fund, a mortgage bank deriving from the sale of mortgage bonds, nominated in lats, on the Riga Stock Exchange.

The Danish government is underwriting the cost of a technical advisory project. Its main work is to advance passage of enabling legislation and to set up the mortgage bank, an intermediary between those wanting to borrow and those wanting to invest money. The project stems from an agreement signed between Latvia and Denmark in July 1998.

As Latvia moves further away from a controlled economy toward an open market, one of the big jobs remaining is to build a commercial housing finance system. Absence of such is one of the problems most transitional economies must overcome. The housing situation in Latvia has seen denationalization, privatization of apartments and land reforms. Latvia still needs ownership reforms, housing finance policies and the redesign of housing subsidies. Money is a missing ingredient.

The Danes opened their first mortgage bank to finance rebuilding after a fire took out Copenhagen in 1795.

For mortgage banking to emerge phoenix-like from the old Soviet system, certain laws need to be on the books to shape the new sector. Jacobsen has been helping to design laws for the Parliament's consideration. One example is On Condominiums, a law needed to answer the questions on how a loan collateralized by an apartment is repaid and who manages the common areas. Another requirement is a real property registry system, a Land Book institution. Similar to the Danish system, no mortgage proceeds will be released without the mortgage and the real property registered in the Land Book to protect it from third-party claims. Parliament is currently considering Land Book legislation put before it last month.

With mortgage bonds secured by registry and security in real property, the client's ability to pay is the central issue. The mortgage system will grant loans only in the amounts that people have the ability to repay.

"Banks will do a more careful than usual appraisal of individual income to protect themselves and to protect the whole society," Eriksen said. The commercial bank may already know the client and his ability and willingness to pay.

The participating financial institutions will have incentives to shepherd their customers through loan transactions. Among these are fees for appraisals and applications, the use of clients' monthly payments into a budget account from which the bank will disburse insurance payments and semiannual payments to the mortgage bank, and part of a proposed 2 percent spread for providing a guarantee for the top-25 percent risk of the loan.

The application fee hasn't been set, but 100 lats ($175.4) is being discussed, Eriksen said, of which 80 lats will go to the commercial bank and 20 lats will stay with the mortgage bank. Tentatively, the mortgage bank and the commercial bank will divide the 2 percent spread equally. Because the commercial banks will not carry the loans on their books, but only 25 percent of the risk, for which Latvian law requires a 10 percent solvency, the proposed 1 percent from the commercial bank's share of the spread means that they could possibly realize a 40 percent return on their equity.

"A major incentive is that participating financial institutions will be able to expand their services to their clients and make more money," Eriksen said.