The Expansion of Collateral in Microfinance

-Expansion of Collateral in Microfinance: Definition of chattels and its purpose.

While researching the loan procedures and requirements of the Kenyan microfinance industry, I discovered that the use and definition of collateral has expanded in most Kenyan microcredit programs. Currently, savings, co-guarantee of other borrowers, and chattels are collateral requirements for a Kenyan borrower to secure their microcredit loan. Chattel is defined as tangible, movable property. Chattels can range from a sewing machine, vehicle, machinery, furniture or household items. Some microfinance programs also allow the use of crops and live stock as chattels to secure a loan.

Currently, 27% of Kenyan financial institutions accept chattels as a form of collateral for a loan. In 2010-2011, an estimated 28,000 chattel documents were registered with the Kenyan chattels registry. The microfinance institutions, for profit microfinance providers, non-profit organizations and commercial banks that I have researched in Kenya require every borrowers to pledge chattels as part of their loan collateral.

-Why expand collateral in microfinance?

The justification for the expansion of the collateral requirements of the microfinance industry is to continue to expand its services to low income clientele who do not have access to traditional forms of collateral such as a property title deed. The borrowers of the microfinance industry are unique compared to the rest of the financial sector, thus they require untraditional loan requirements. The majority of loans are characterized as short term, high cost, and high risk that are used to invest in micro, small and medium sized enterprises. Thus, in theory the use of chattels is supposed to reduce the risk of lending since only a small percentage of Kenyans, to be more specific less than 1% of Kenyan women, can secure a loan with a title deed. By using chattels, the microfinance industry can capture a large percentage of Kenyans who are excluded from borrowing based on traditionally collateral security requirements.

-The challenges of chattels mortgage according to lenders.

While attending the Chattels Mortgage Registry Sensitization Workshop hosted by the Department of the Registrar-General, I learned that there are several challenges regarding the use of chattels mortgages to secure a loan. Even though the use of chattels are meant to decrease the risk of lending, the process of registering chattels items and creating a chattel mortgage transfer has its challenges, thus leaving many institutions frustrated with its use.

In fact, a representative from Faulu Kenya, one of the largest deposit taking microfinance institutions in Kenya, stated that due to difficult and time consuming process of chattels registration and creation of a chattels mortgage, the institution halted the use of chattels to secure loans smaller than 20,000 Ksh. According to lenders at the conference, many are upset that the process of chattels registration and transfer is manual making it difficult to conduct searches to determine whether a borrower is using the same chattel to secure loans in more than one institution. Also, as chattels are a form of collateral that is movable, there is the risk that during the period of a loan the chattels may be damaged or never recovered in case of default. For these reasons, lenders still label microcredit loans as a form high risk lending.

-Repossession: The Ignored Component of Chattels Mortgage.

At the conference, reforms were discussed including the need to computerize the chattels registry and increase fees. One possible reform that was ignored is the need for clarification and enforcement of the repossession process of chattels. At the conference, I argued that the importance of enforcement guidelines and regulation is just as important as the registration process. Why discuss the legal requirements to register chattel and create a chattels mortgage without clarifying how such collateral can be repossessed? There needs to be legal reform and clarification of the Chattels Transfer Act regarding enforcement guidance of chattel repossession. 

Over the last few months of research, many microfinance programs reported vague and often illegal repossession practices according to the Chattels Transfer Act. The timely and difficult registration process often leads many institutions to ignore legal requirements set in place for the use of chattels in lending. Even though chattels are often not registered or a chattels mortgage instrument is not created, a process that lenders in the microfinance industry undertake themselves to create legal means of repossession in case of default, lenders often attempt to undertake repossession. I argue that the department of registrar needs to ensure that borrowers are aware of the legal requirements of registration and repossession, specifically their legal rights as borrowers, by clarifying and enforcing the repossession process of chattels.

At the conference, many lenders proposed a similar initiative stating that their borrowers lacked awareness making it difficult to repossess items pledged as collateral. Borrowers often seek police intervention when a lender hires an auctioneer to repossess chattels in times of default. Thus, lenders also called for the registrar office to increase efforts for the sensitization of borrowers in the use of chattels as collateral. I applaud this notion for the purposes of ensuring that clients are able to hold their lenders responsible for following legal repossession tactics.