So far the practice was to take inadequate properties as a security interest. While the market was developing, no one was asking questions, it was important to make turnovers of capital and gain profit. What was actually taken for the security interest, by whom and how were they evaluated, were just some of the questions that were going to be asked, certainly when things would go wrong on the market. This time has come. Big changes in economy and financial markets show us that rules of the game we know have changed. Will those big changes in economy, where the Serbian market is no exception, affect valuation field as well, by reforming it?
The ultimate users of valuation reports are financial institutions, first of all - banks. Until two years ago, the main goal of banks in Serbia was to provide the sufficient assets in order to obtain the best position to the market. The first months of crisis were a struggle for market liquidity, because of an increased deposit withdrawal. Part of 2009, as well as the following year brought modifications in credit loans and sales of mortgages of smaller number of clients that haven’t had any possibility of recovering. After bank having these experiences regarding sales of properties under mortgage, I expect for the new credit period to bring a range of qualitative changes when it comes to treatment of property as an asset of insurance.
Unfortunately, quality of valuations in Serbia is pretty low, property valuations are unreliable, while the factors that affect value and positions on the market are not mentioned or explored at all. Additionally, the eligibility of the property for the purpose of security interest is estimated based on inadequate valuation reports by the banks’ employees that don’t have the full understanding of valuation process, reports on valuation and of property.
The current situation
Overall, for valuation of properties in Serbia, certified experts are court artificers with civil engineering background. Artificers work with civil engineering though, not with real estate. It’s a fact that in Serbia there are no professional evaluators, nor standards of valuations. Valuations field in the state of The Wild West – a lot of frauds selling anything that a buyer can think of. Miss-outs in valuation reports can be meaningless and easy to spot, as well as enormous, that can be detected only by an experienced professional.
Having inadequate property as security interests for loans in Serbia, resembles the US scenario. Everybody were making profit, all the regulations were respected and everybody hoped this will last forever. Still, banks are those who suffer the biggest damage from having inadequate property for security interest. There is a whole type of properties that’s considered inadequate for the needs of getting a loan. These are called specialized properties.
Specialized properties are sold very rarely, almost never, except along with the whole business or company that owes them. Reason for this lies in their characteristics: specialized use, design, configuration, size, location... Examples of specialized properties are specialized factories, refineries, plants, docks, public institutions, etc. Since usually there are no market for this type of improvements, they are ineligible as security interest for loans and evaluators have the instruction simply to estimate the value of the ground, and avoid further involvement. This goes for the countries that have evaluators and standards for valuations of course.
I had the chance of seeing mortgages used for loans of multimillion amounts of money, even when they were mortgages for the mere parts of a specialized property–industrial complexes, that even in total worth much less, without contract with cooperators in production and delivery of auxiliary goods. It is unknown what are the actual amounts of loans obtained based on specialized property mortgages. Regarding the fact on how much are they being estimated, this amount is probably several hundreds of millions of euros. Besides the fact that even individual cases get high loans, they are usually part of the same mother company, so domino effect is quite possible.
It would be logical for the banks to learn on their mistakes and take the relevant steps on their own, in order to protect their interests. The essential protection might be a request that only agencies having professional indemnity insurance (PII) can do valuations for bigger loans. PII is not so available to frauds because insurances do care what and whom they insure. The second degree of protection is education and training of employees to make decisions based on the knowledge of real estate. Training set would be quite sufficient for the emloyeer to obtain a good level of understanding and a clear image of what they should know before they make a decision.
The highest level of protection would be having professional’s support available, in the bank or out of it, which would provide the assistance needed to the employees regarding the dilemmas about properties, reports of valuation, values, position on the market, etc.
So far the practice was a bit different. Even business banks’ directors that knew that most security interests are inadequate, have taken little or no steps to prevent loans being issued. Since we don’t have proofs that business banks will terminate their opportunistic behavior, and there are no professional evaluators or valuation standards, the only short-term solution is National Bank of Serbia’s intervention.
In my opinion, NBS can intervene in two ways. The first is to make classification of improvement on its own and this way to determine what can and what can’t be used as security interest. This is simple and quick solution. Nevertheless, this solution generalizes things that are individually quite specific, and leaves room for speculations of nonprofessionals to find „holes in the system“. Also, NBS employees will be making decisions that are out of their field of expertize.
The second solution is far more elegant. The NBS should determine the limits of loan given without valuation – everything over that amount requires reports by certified agencies for property valuation with professional indemnity insurance. This way it will achieve secure mortgages, clarify what can be used for loans and what can’t, based on the valuation of experts whose expertize is guaranteed by an insurance as well. The amount of loan over which the valuation must be done by professionals and the value of a professional insurance policy must be determined based on the analysis of banks’ market positions. This decision should refer to a smaller number of clients of the banks, that make a significant part of their portfolio. It should be avoided, at least in the beginning, for this decision to refer to a bigger number of clients because professional indemnity insurance can be provided only by companies that deal with real estate on a professional level, and those are very few. In time, the number of companies that deal with real estate professionally would be increased, as well as their capacities. Professional indemnity insurance is a precondition for companies on the west to do valuation processes for the banks.
Regulations for the valuation field by financial institutions can only bring temporary solutions, by the time a profession of evaluators will be formed in Serbia. It is clear that forming this profession as well as an association of evaluators will be long process that will require a lot of volunteering and struggle against the established values. Several qualified evaluators from renowned consulting agencies, with the help of professors from Civil Engineering Faculty, should represent the group to carry out the whole process. What’s expecting us is to start the whole procedure from the standstill, and time will show how successful we are going to be.
Nebojsa Nesovanović MRICS,
Co-Head of Valuations Department
King Sturge Ltd. Serbia