Barclays' case can boost local mortgage sector

Last week Barclays Bank won one of the region's first foreclosure cases. The process took about three months from filing and was facilitated by the mortgage-specific law passed in 2008. This development is positive and is crucial for lender confidence and the development of a more risk-adjusted lending model. This in turn may help restart the local mortgage market.

Despite being the most advanced in the region, the UAE mortgage market is still very immature by international standards. The freehold property law in Dubai was only passed in 2006 and was the first in the region that allowed non-citizens to purchase homes. Given the relatively high proportions of stable expatriate populations across the six countries of the Gulf (30 per cent-70 per cent), the law opened the floodgates to home ownership and a subsequent boom and bust in prices. Nonetheless, it is still a relatively small market with mortgage origination volume at five per cent of gross domestic product, compared with the 40 per cent-80 per cent ranges in more mature markets. Around 75 per cent of purchases are funded without debt.

The infancy of property-related legislation has meant that foreclosure processes were untested. As no cases had been heard, there was uncertainty regarding the "theory versus practice" of repossession in the courts. Combined with the recessionary and constrained funding environment, this has meant underwriting had largely ceased, further hindering a recovery in house prices. Despite falls in mortgage finance rates elsewhere, rates in the UAE have remained high, partially to help compensate for the repossession uncertainty. This has elevated mortgage payments for existing borrowers and has deterred new buyers.

Lenders previously derived comfort from another regional phenomenon: writing a cheque with insufficient funds to honour it (that is, a 'bounced' cheque) is a criminal offence in the UAE.

As such, it is common practice for lenders to take receipt of such "security cheques" for the full balance of the mortgage, providing both a legal claim for the amount upon default and a very strong moral incentive against default.

However, while this practice provides a very strong incentive against default, it is ultimately non-productive for banks. Once incarcerated, the borrower's ability to repay is further diminished and the lender may face other legal impediments in realising its security over the property.


- The author is Vice-President – Senior Credit Officer at Moody's Investors Service

 

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