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Securing a 2Million Loan with a 200Million Property, Be careful!

By any measure, a bank shouldn’t be worried about a customer defaulting on a Shs 2m loan.

More so if the bank is still holding onto hugely valuable collateral: an 8.5-acre piece of land with 1,200 pine trees, 700 eucalyptus trees, stocks of cassava, and maize in Hoima district. But when, mid last year, Centenary bank was faced with such a case concerning farmer Jacob Muhumuza, the bank did not see it that way.

Troubled by Muhumuza’s persistent failure to service his Shs 2m loan, which was supposed to be paid back in nine months, Centenary’s Hoima branch sold off the security in July to recover its money. This was after Muhumuza had gone nine months without paying any money to the bank.

The problem was that the bank – for some reason – sold the land for a song, Shs 5m, took off its cut, and deposited the rest in Muhumuza’s account. Muhumuza, late last year, decided that Centenary bank would not get away with it; he dragged the bank to court for the “irregular, grossly undervalued, and fraudulent” sale of his property – the details of which have just emerged, and point to an embarrassing situation that Centenary finds itself in.

At the centre of the court case is the valuation of the land, after the bank apparently failed to contest the charge of “unlawful” sale of the land. Muhumuza, according to court documents seen by The Observer, contends that the value of the land is at least Shs 296m. Infact, a valuation report by Hoima district’s forest department puts the value at Shs 308m.

Centenary thinks the price is lower than that. It is understood that the bank hired an independent valuation team from Bageine and Company Limited, which came up with a figure of Shs 20m. Muhumuza’s lawyers, M/S Sekabanja & Co. Advocates, have rebuffed this figure. Sebalu & Lule Advocates represent Centenary.

The case was first heard by a mediator early this year, who failed to get the parties to a common conclusion. Now, the case is before Commerscial Court Judge Christopher Madrama, who has asked both parties to come up with a joint independent valuation team before the end of this week.

The bank had wanted to return the land back to Muhumuza but changed its mind. “…the bank now proposes that the proposal to return the land be substituted with one to have the parties agree on what it should have fetched if the sale had been based on a professional valuation availed by Bageine & Company Limited… And the bank shall pay the costs of the suit,” wrote Penninah Kasule, Centenary’s corporation secretary, in a letter dated February 27, 2012.

However, according to our sources, the person who bought the land for Shs 5m, Julius Balongo, is hesitant to sell it back to the bank. And in any case, according to sources, Balongo is said to want a lot more than the Shs 5m that he paid for it less than a year ago. Yet, even if Centenary bank manages to buy back the land, Muhumuza is said not to want it back; he wants the money.

Whatever amount of money that Centenary bank pays, it will not place a huge hole in its capital reserves. However, the case is huge negative publicity for the bank, and stains the banking industry’s image in how it handles situations during financially difficult times for borrowers.

Civil suit 415 of 2011 in the High Court is a good representation of just how far some banks are willing to go to recover their debts; a typical example of the aftereffects of a breakdown in relationship between financial institutions and borrowers; and a perfect reminder of the need for a strong consumer rights body to support borrowers who find themselves in a situation like Muhumuza’s but cannot afford the legal fees to recover their property.

To get a better understanding of this particular case, it is important to note what a bank needs to do to recover its money from defaulters. In Centenary bank, according to a former banker conversant with the loan operations there, a customer who borrows Shs 15m and above is supposed to issue the bank with security plus an independent valuation report of that security.

It is from this valuation report that the bank would derive the price to sell the property in the event of default. But since Muhumuza borrowed only Shs 2m, there was no need for a valuation report. Then, in the event of a default, the bank usually writes a warning letter to the borrower. Sensing that the borrower is not budging, the bank will then write a letter threatening to sell off the property.

But when the bank finally runs out of patience, it may sell off the property. There are conditions, though: it must carry out an independent valuation and then sell to the highest bidder, usually not less than the forced resale value. The forced resale value should not be less than 75% of the market value. Selling the property to the highest bidder would have even required an advertisement calling for buyers.

Centenary bank failed on most of these key banking tenets – a huge error in judgment for a bank known to understand and appreciate Uganda’s lowest tier of customers.

The Observer Newspaper

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