Legal Issues for Development of the Mortgage Market In Armenia Carol Rabenhorst The Urban Institute, Washington, DC AIPRG Workshop on Financial Sector Development Tsakhkadzor, Armenia - 29 May 2005

2 Highlights Strong interest in residential mortgage lending among banks and credit organizations Primary market legal framework is strong –Basic enabling laws are in place –Enforcement laws are market-oriented Credit bureau activity is underway (but no separate mortgage reporting to CBA) Good credit culture But: Lack of preparation for secondary market

3 Basic Enabling Laws In Place No Mortgage Law per se – mortgage provisions in comprehensive Civil Code Clear ownership and other property rights Immovable property transactions well described Use of property as collateral well defined Titling and lien registration working effectively

4 Market Oriented Enforcement Laws Non-judicial foreclosure Non-judicial auction sales after foreclosure Secured lender has first priority claim to sale proceeds –No individual bankruptcy –Mortgaged property not exempt in bankruptcy of legal entity Debtor must vacate property within 30 days (some exceptions) High degree of lender confidence in laws But: procedures are largely untested

5 Fine Tuning of Laws Needed Registration –Apartment building land plots not registered –Mortgage on future interests not covered –Incomplete construction not covered Statutory use or succession rights may impede eviction Excessive discretion in enforcement of judgments Sales other than by auction not permitted

6 Relevance to Secondary Market Past performance of loans and success of loan recovery procedures help determine quality and pricing of bonds or securities Rating agencies review primary legal framework Due diligence includes evaluation of legal framework Bottom line: without strong deterrent to default and predictable access to collateral, locked out of secondary market

7 Taxation and Fees Low loan origination fees Reasonable transaction, registration and notary fees No deduction or credit for interest paid on loans Interest on savings and dividends taxed –In general, good fiscal policy, but carefully targeted incentives might be considered to encourage long term deposits, investment in bonds, or to increase financial intermediation among underserved sectors of population

8 Status of Auxiliary Activities Real estate profession well developed Appraisal industry developing, low cost (but no law) Deposit insurance Notaries private, regulated by MoJ Execution officers – employed & regulated by MOJ Credit bureau – CBA and private

9 Insurance Insurance sector inadequately developed –None required by law –Banks generally do not require property insurance (structure or liability) –Life or disability insurance not readily available, not required by banks for mortgages (CO requires life) –No mortgage default insurance –No insurance against construction delays Should be required as business practice and by regulation

10 Preparation for the Secondary Market No push from banks for secondary market - strong deposit base, large spreads, low l-t-v But - banks have limited access to long-term funding No mortgage bond issuances, but market probably there No Law on Mortgage Bonds or Securities

11 Regulatory Framework Required Standardization of underwriting, servicing, documentation requirements –To insure quality of loans Specialized regulations of issuers for bonds –Cover, balance, reserve and capital treatment, insolvency of issuer Regulations on operation, supervision, taxation, registration of secondary market transactions