Institute of Land Administration - Oda Bultum

University

Property Valuation (LaAd3083)

Compendium: Practice of Property Valuation In Ethiopia
Draft

By: Zelalem Yirga

Preface
There are now numerous texts and sets of readings about the basic definition, concepts and basis,
steps, approaches and techniques of property valuation and their applications. Yet, books are
often silent about the processes and procedures associated with property valuation in the context
of developing countries, particularly in Ethiopia.
In Ethiopia, it appears that simplified methods of property valuation have been used for various
purposes. Property valuation standard or policy guide are still largely under-researched,
developed and insufficiently mainstreamed. It is easy to find example of unusual property
valuation approach and techniques, weak or non- existence of valuation standard, lack of
professional in valuation. The remedies are often difficult to develop over night and still more
complicated to improve.
The idea is to assemble information and then to contribute insight and understanding to the
practice of property valuation rather than to produce a guidebook for the intending valauer. The
aim of this material is to review the common approaches of property valuation used in Ethiopia.
In doing so, the material also aims at identifying challenges that existed for establishing the
system. By reviews and analysis of international practices, this material try to indicate the way
forward in a broader dimension
I am convinced that students with career aspirations in developing standardized property
valuation in Ethiopia will benefit from an understanding of the current property valuation
principles, methods and associated problems. The added value of this material is the way it
shows main problems associated with practice of property valuation and how well developed
valuation standard can contribute to the emergence and establishment of land and property
market. In the end, I hope that this material will be a contribution to a developing literature on
property valuation which will be of interest to undergraduate and postgraduate students as well
as researchers who engage in property valuation applications.

Please note that this material does not presume to cover all topics of interest. The material also
not necessarily comprehensive, complete, accurate or up –to-date and have no official, legal
status. However, I hope it will be of use, as both a reference and a text, to a broad array of
researcher with interests in the area.

It has been a challenging endeavor for me to produce such an extensive volume, and I have
encountered many challenges, some easier to overcome than others .Over the year, many people
have played a part in the preparation of this material. Ito each one I express my deep
appreciation. Dr. Wendey Tilton, Daniel W/Gebreil, Belachew Yirsaw and Wubante Fetene have
made valued contributions, for which I am very grateful. Any errors or omissions are mine. Last,
but not least, I would like to thank Eskedar Birehan (staff in ILA) for her patience with the
preparation and for her continuous encouragement and support.
.

Zelalem Yirga Adamu

Lecturer at Institute of land Administration
Bahir Dar University
 Table of Contents

Preface .................................................................................................................................................... 2
Introduction ............................................................................................................................................. 5
Organization of the Material ................................................................................................................... 6

CHAPTER 1 Purpose of Property Valuation in Ethiopia ............................................ 8

1.1 Overview of Property and Valuation ...................................................................................... 8
1.2 Educational Qualification of “Property Valauer” in Ethiopia ............................................... 10
1.3 Implication and Factors for Consideration ............................................................................ 13
References ......................................................................................................................................... 14

CHAPTER 2 Property Valuation for Expropriation Purpose .................................. 16

2.1 Overview of Expropriation and Compensation in Ethiopia .................................................. 16
2.1 Basis and Methods of Property Valuation for Compensation ............................................... 17
2.2 Property Valuation and Compensation in Ethiopian ............................................................. 19
2.3 Implications and Factors to be Considered ........................................................................... 26
References ......................................................................................................................................... 27

CHAPTER 3: Determination of Urban Land Lease Price ......................................... 29

3.1 Overview of Land Leasehold Tenure System ....................................................................... 29
3.1 Ethiopian Urban land Lease Price Payment .......................................................................... 32
3.1.1 Lease Benchmark Land Price Calculation ........................................................................ 32
3.1.2 Annual Ground Rent Calculations .................................................................................... 35
3.2 Government Opportunity to Retain Portion of Land value Increments ................................ 39
3.3 Determination of Ground Lease Rent Vs Highest and Best Use .......................................... 42
3.4 Implication and Factors to Be Considered ............................................................................ 47
References ......................................................................................................................................... 47

CHAPTER 4: Property Valuation for Taxation Purpose ........................................... 50

4.1 Overview of Property Taxation............................................................................................. 50
4.2 Defining What is Taxed ........................................................................................................ 52
 4.3 Choice of Tax Base ............................................................................................................... 53
4.4 Valuation Approach for Tax Purpose ................................................................................... 60
4.5 Property Taxation and Valuation in Ethiopia........................................................................ 65
4.6 Property Taxation and Valuation System in Urban Area...................................................... 68
4.7 Amhara National Regional State: Urban Area Property Tax and Valuation System............ 70
4.8 Property Taxation and Valuation System in Rural area ........................................................ 75
4.9 Other property related taxes .................................................................................................. 82
4.10 Implication and factors to be considered .............................................................................. 84
References ......................................................................................................................................... 85

CHAPTER 5: Property Valuation for Mortgage Purpose.......................................... 88

5.1 Overview of Mortgage and Valuation .................................................................................. 88
5.2 Basis and Methods of Property Valuation for Mortgage Purpose ........................................ 90
5.3 Mortgage and Property Valuation in Ethiopia ...................................................................... 91
5.3.1 Property Subject to Mortgage ........................................................................................... 93
5.3.2 Financing New Real Estate Development and Improvements .......................................... 95
5.3.3 Leasehold Mortgage ........................................................................................................ 100
5.4 Micro Finance Institutions and Collateral System for Poor Household.............................. 108
5.4.1 Type of Collateral Needed .............................................................................................. 109
5.4.2 Basis and Method of Valuation Used to Determine Loan Size....................................... 110
5.5 Implications and Factors to be Considered ......................................................................... 111
References ....................................................................................................................................... 112

List of Tables
Table 1: Guidelines for Property Tax Systems .................................................................................... 51
Table 2: Valuation bands and rate of taxes ........................................................................................... 57
Table 3: Area-based property taxation and valuation approach........................................................... 59
Table 4 : Summary of Base for property Taxes and Measure used ...................................................... 64
Table 5: Property Tax Base................................................................................................................... 64
Table 6: Critical issues and causes for meager property valuation and taxation system ...................... 69
Table 7: Valuation bands used in ANRS .............................................................................................. 71
Table 8 : Taxable Income from agricultural activity less than $E 1,200 .............................................. 76
Table 9: Taxable Income from agricultural activity above $E 1,200.................................................... 76
Table 10: Agricultural Income Tax per Proclamation No. 8/1995, Oromiya ....................................... 78
Table 11: Rent of Land in Selected Regions (Birr/ha/year) .................................................................. 80
Table 12 : The tax payable on rented houses on income of persons ..................................................... 82

Introduction

As you might remember in this course, property valuation may be considered as the heart of all
real estate activity. Only a practical understanding of real estate values will enable real estate
brokers and salespersons to carry out their functions in a useful and dependable manner in
serving their clients and in meeting their obligations to the general public. Real property buyers
and sellers, brokers, lending institutions, and public agencies should have a good understanding
of: the theoretical concepts of value; the forces which influence value; and the methods by which
such value may be estimated most accurately.

A real estate appraisal is generally performed by a licensed or certified appraiser. The appraiser
shall carry out their professional work with due skill, care, and diligence and with proper regard
for the technical standards expected of them. Licensed or certified appraisers are governed in
their competency by the standard developed by respective authority. The purpose of the
standards is to ensure that valuations produced by members achieve high standards of integrity,
clarity and objectivity, and are reported in accordance with recognised bases that are appropriate
for the purpose. Therefore, well-founded appraisals standard are considered as vital part of most
real estate appraisal decisions.

Despite Ethiopia is characterized by undeveloped land and property market, property valuation is
required for many purposes. In general, real property buyers and sellers, banks, institutions, and
public agencies each use appraisals for their own unique purposes. On the contrary the practice
indicated that, although real estate appraisal is performed by a licensed or certified appraiser, in
Ethiopia it has been at all performed by unlicensed or certified appraiser (in many cases it is
performed by civil engineers not by property valuer or land valuer). Perhaps, there is no
organization which award license and credibility for appraisal. At the same time, there are no
generally accepted standards for appraisal practice in Ethiopia. As I personally observed and
experienced, most of the time the value of real estate estimation is being made by individuals
who do not have direct experience or have inadequate intuition.

It is important to note that complaints regarding real property appraisers are forwarded to the non
professional organization to which licence or certified appraiser not belong.In practice, property
valuation guideline or policy advice that is oblivious of either the complexity of the issues or the
historical and political repercussions of policy interventions in this area has lead to unintended
negative consequences. Research has long pointed to the need for a careful and differentiated
approach as a precondition for making clear standard recommendations in relation to property
valuation that can help improve legal and market transaction of property. Frequently, however,
this message does not seem to have been clearly communicated to policy analysts and decision
makers, with negative consequences.

The goal of this material is to help you understand practices of property valuation in Ethiopia,
while at the same time gaining a better understanding of challenges and proposed solutions. This
material aims to summarize key insights from research and practical experience, not only to
highlight the importance of careful and nuanced property valuation framework advice, but also to
illustrate some general principles for formulating such standard advice

Organization of the Material

We begin with two chapters that discuss purpose and user of property valuation. In this chapter
you will be introduced with educational qualification of valauer in Ethiopia. This chapter is
essential for the rest of the discussion we will have throughout the material. Chapter 2 through 5
discusses specific property valuation for specific purpose. The discussion and the analysis of
each type valuation method rest largely with the features of each type of purpose. The general
principles and approaches of property valuation used to determine amount of compensation will
not be identical to valuation method used to estimate amount of loan or property taxes.

Chapter 2 presents review of property valuation used to determine amount of compensation. .

Chapter 3 will provide a detailed account to method used to determine urban land lease price. It
also addresses the way how leases payment arrangements are established. Chapter 4 presents and
examines property valuation used for taxation purpose. Finally, Chapter 5 concludes with
property valuation used to determine amount of loan.
The contents of the chapters in this material are designed to be accessible and readable.
Undergraduate as well as postgraduate students should find this material to provide useful
coverage of topics that are basic to the field and topics that may be of particular relevance to
their own interests. The same should be true for more experienced researchers, who wish to use
this material as a means of learning about new areas of interest, or getting a fresh perspective on
areas for which they already have some pre-existing knowledge.
As to the format of the material, the chapters are subdivided in to sections and sub sections. Each
chapter begin with an overview of the issue discuss later. Each chapter concludes with
implications and factors to be considered. In doing so, the material aims at identifying the
challenges of property valuation methods used for various purposes and will try to indicate the
way forward in a broader dimension. For each chapter there is implication and factor for
considerations and references.
 1
Chapter

CHAPTER 1 Purpose of Property Valuation in Ethiopia

1.1 Overview of Property and Valuation

eal property represents a considerable portion of the world’s wealth, and its valuation is

R fundamental to the viability of global property and financial markets (Ling and Archer,
2005). Real property has to be distinguished from other categories of property, namely
personal property, businesses, and financial interests. Without further qualification or
identification, the word property may refer to all or any of these categories. It is beneficial at the
beginning to give the different definitions of the term real property as well as some closely
related terms that are used through this material. Hence valuation may be performed for each
property type and characteristics.
In the civil law countries, real property is interpreted as immovable property. The Ethiopian Civil
Code Proclamation of 1960 clearly defined what shall deem to be immovable properties. As per
Article 1130 of the civil code, immovable property refers to lands and anything permanently
affixed to the land such as buildings. The interpretation of this provision is that either land, or
building, or land and building with the same owner are the only conceivably immovable
properties. The federal constitution 1995 on the other hand defines what shall deem to be non-
real property. as indicated in Article 40 (2) of the constitution "Private property means any
tangible or intangible product which has value and is produced by the labour, creativity,
enterprise or capital of an individual citizen, associations which enjoy juridical personality under
the law, or in appropriate circumstances, by communities specifically empowered by law to own
property in common.
In Ethiopia, although valuation of real property has been undertaken, valuers often encounter
assignments involving personal property types - other than real property or properties whose
value includes several property categories, an understanding of each property type and its
distinguishing characteristics is essential. Unless otherwise provided in this material, the term
property is treated as real property or immovable property. Similarly, the term property valuation
refers to valuation of real property or immovable property.
The need for appraisals of real estate arises from the heterogeneous nature of property as an
investment class: no two properties are identical, and all properties differ from each other in their
location - which is one of the most important determinants of their value. So there cannot exist a
centralized setting for the trading of property assets, as there exists for trade in corporate stocks.
The absence of a market-based pricing mechanism determines the need for an expert
appraisal/valuation of real estate property. in Ethiopia, Despite it is characterized by
undeveloped real property market, property valuation is required for many purposes and can be
categorized in to two main types: statutory (Legal transaction) and non-statutory (Real property
market transaction).
The most common occasion that give rise of valauer is the existent of property legal transaction.
By legal transaction, it mean government actions involving real properties , and those private
actions that take place in legal setting or are otherwise regulated by law. Government action
requiring valauer are mainly in four area of public control: expropriation, taxation, loan
foreclosure, and litigation.

i) Expropriation : The state may needs to calculate the amount of compensation for
land and improvement that is compulsorily acquired for public purposes
ii) Taxation: To estimate assessed value for property taxes (federal state is vested power
to levy and collect taxes on income of houses and properties owned by the Federal
Government; it shall fix rents; regional States are vested power to determine and
collect fees for land usufracturay rights, levy and collect taxes on income derived
from private houses and other properties within the State. They shall collect rent on
houses and other properties they own)
iii) Litigation: To estimate value of a property in contract disputes, divorce settlements
iv) Loan Foreclosure: Loan foreclosure is by and large an out of court means of
recovering delinquent collateral by seizing and selling the asset of delinquent
borrowers’ property. It involves a series of legally inscribed condition precedents that
need to be followed in the foreclosure processes.

Another widespread instance that requests professional service of valauer in Ethiopia is market
transaction. In our complex society, most of the market transactions requiring valuers are
connected with the sale, purchase, finance, management, and use of real property. Property
valuers assist buyers and sellers in arriving at a fair and equitable sales price. Valauer also
required estimating the value of collateral offered for a proposed mortgage loan to government
banks since loan must not exceed a given percentage of property value. Perhaps, commercial
banks as well require property valuation to determine amount of loan. Real property developers
often include the rent of land as one of the cost of the finished product, as a result, they, need to
estimate rental value or the equitable return on investment on capital. Measuring economic
soundness of real estate projects involves feasibility studies in relation to financing and credit.
Urban land leasehold tenure system also gives rise to valauer. A regional and city
administrations are vested with the power to determine rental value of public land transferred
through leases arrangement.

In Ethiopia, a number of entities have been using property valuation. The major users of
valuation of property are government authorities such as regional and city administrations,
property tax authority, courts, public banks), real property developer, commercial lenders, seller
and buyer, insurances , income property investors, brokers and other parties . The interaction
between the need of property valuation mentioned above and users of valuation has profoundly
affect valuation approach, techniques and value of real property.
An estimate of value may be required for a number of purposes. The purpose of an appraisal
frequently dictates the valuation method employed and influences the resulting estimate of value.
But, it is important to note that the educational qualification and ethics of valauer has profoundly
effect on value of real property. Appraisal skills are important to every stakeholders involved
with real estate decisions. These skills are particularly important to real estate agents, who have a
fiduciary responsibility to their clients. In general, well-founded appraisals are considered as
vital part of most assignments that require property valuation (Bettes and Ely, 2005).
In Ethiopia, there is neither an independent and developed valuation system, nor are there
available professionals in the field. Thus, lack of adequate professional valuers, skilled man
power (few trained individuals in the field), is the major problem. The current situation show
that there is no open accessible record of property transactions and the market for any given
parcel of land is quite speculative. The Poor legal framework of the country which results
unclear property right (informal property ownership), most of the land/property not
registered/surveyed and imperfection of market is considered as a major challenges of property
valuation. The market for real estate is developing, turbulent, unregulated and non-transparent.
Transaction and other relevant data are not properly collected, maintained and used. Access to
reliable market data is a linchpin for efficient valuation of real estate. It is an advantage if needed
data can be captured from existing registers. But all data that is going to be used for valuation
purpose in Ethiopia can’t be recaptured from and public registration.

In a country like Ethiopia in which it is characterized by poor property information management

system, it is not surprising to find problems or difficulties in estimating the value of properties.
Thus, improving the rules governing land registers and property market should be considered as
a prerequisite for efficiency of both legal and market transaction of property.

1.2 Educational Qualification of “Property Valauer” in Ethiopia

Theoretically, licensed and certified property valauer who meet educational, experiences and
testing requirements set by the state can perform valuation. Appraiser should have extensive
training and experiences and committed to the profession and are being bound to strict
compliance with regulatory requirements and must adhere to risky discrepancy actions, including
possible loss of license (Appraisal Institute, 2001).

Literatures on professional’s qualification of valuation indicated that valuations should be

performed by individual who are experienced with the concepts of valuation. As to the issues,
recent developmental theory has emphasized the role of institutional capacity as a necessary
condition in the developmental process. This is to mean that, legislative statutes designed as
guidelines for valuation, assessment definition and procedures should be on the necessary skills
and support organizations to develop skills and capacity as well as relevant standards for
compensation, assessment definition and procedures. The need for an authorizing or licensing
system for specialist valuers and other experts as well as the creation of independent and liable
professional bodies to inform all parties are imperative.

In Ethiopia, despite valuation is required for many purposes there are no valuers who have
formal education in property valuation. Although the law has not made any explicit reference to
the phrase “property valauer”, its incidence was captured by regulations which give a direction
that the property shall be valued by a committee of experts having the relevant qualification.
However, no law, regulation, directive or practice shall, in so far as it defined what “relevant
qualification” stands for, how they shall be selected and organized, be applicable with respect to
matters provided for such as liability of committee of experts. This has been creating a difficulty
for administration authorities to exercises their mandate of forming members of the committee
(Daniel, 2009). It is important, therefore, that clearly defined qualification or status of
individuals who are entitled to be valauer are in a place and effectively implement proclamation
to ensure that market value of property is determined by relatively by selected professionals.

In Ethiopia, there are no valuers who have formal education in property valuation. Most of the
time valuations are undertaken by committees’ members. Committee members working with
valuation are qualified in civil engineers, rural and urban land administrator, architects,
surveyors and planners and related fields. This committee has acquired valuation knowledge by
way of 'hands on' experience, which is not necessarily adequate. The experiences have shown
that these committees members are largely ignorant of basic approaches of valuation, have no
special training or they have not gone through even short courses or training of property
valuation. Moreover, many of such professionals are providing valuation services, as merely
incidental to their services as land administrator, planner, and engineer or architect (Eyosiyas,
2010, Degu, Muluken, 2011). This has an implication that it could be not fair to use committee
of experts to value the property as they are and difficult to adopt other alternative approach to
valuation.

The other major problem observed related to professionals is, unlike several other countries,
Ethiopia does not have established standards for valuation and accounting of land and property.
In addition to this, there is no any regulatory body to regulate the conduct of valuation
professionals. It is very important to bear in mind that the current selected committees of experts’
are not certified and trained in valuation which result them not to care about ethics. Absence of
standards for valuation and regulatory body to regulate the work done in Ethiopia only adds to
the challenges of valuation of property and market value of land use rights. Valuations are
suffering as current gaps in the system have lead to inadequacy of compensation, corruption,
accelerating number of cases reporting of appeal in courts. The actuality in the ground
demonstrates that there should be a mechanism by which fair property valuation can be carried
out in order to balance the public and private interests (Eyosiyas, 2010) For that reason, property
valuation should be considered as indispensable part of the land administration system and
developmental process.

It is true that professional valuations are vital to a healthy property market and a stable economy,
forming the basis of performance analysis, financing decisions, dispute resolution, taxation and
various statutory applications. However, in the context of Ethiopia, it should be noted that it may
be difficult to have certified private or public institutions or individual consultants overnight. For
the moment, it is not wrong to consider opinion of an expert on property valuation undertaken
through selected committees. However, it should be remembered that selection of committee
member is not an end by itself rather it should be give a hand by further improvements. Selected
committee member valuers before they start the work should be provided with formal training in
the generally recognized valuation approaches, methods and techniques, commonly known as the
body of knowledge. Equivocally to competence requirement, ethics also should be considered in
the selection process that may be based on candidates past society respect and reputation. More
importantly, setting code of conduct and following whether certified committee member valuers
follows an established code of conduct or not is imperatives.

Ministry of Federal Affairs in 2005 has declared that in consultation with the appropriate federal
and regional government organs shall ascertains the creation of the required capacity to take
valuation of property to determine amount of compensation , but until then valuation shall be
carried out by' committees. There is no problem with this provision because by the time when the
expropriation and compensation law enacted in Ethiopian there was no professionals’ in property
valuation and other than accepting opinion of committees, no other relative option was there.
Rather what has been done so far with the goal of increasing the effective achievement of their
underlying objectives shall be one the fundamental question of this material.

If we look at the trend, despite lack of adequate professional valuers in the field is considered as
the major problem, the role of institutional capacity seems somewhat to fall by the sideline.
Empirical evidences pin pointed that in many such areas, neither the Ministry of Federal Affairs
nor Council Of Ministers has ever conducted initial survey, which provide the framework
information for valuation approach. Moreover, responsible organs have not taken any initiative
to improve capacity building on the professionals required for the field.

Whilst the real property industry in Ethiopia is expanding rapidly, it remains largely unsupported
by specialized education at secondary or tertiary levels. This also implies that in the long run,
government should think of introducing a globally recognized professional qualification for
professionals in land, property and construction valuation by opening undergraduate or master
level educational program in higher institutes. Practically speaking, arrangement of study
program or trainings is not only improve skills of valuers but also change improves valuers’
professional ethics. To realize the overall objectives the effort of government should not be
limited to improving capacity building rather again until valuation shall be carried out by
certified private or public institutions, requirements should be set as selection criteria for
committee of experts.

To address the existing dearth of qualified valuation professionals and the lack of adoption of
established standards in the industry, there is the need to set up an international committee of
experts to advise Ethiopian with specific problems. Ministry of Federal Affairs should
acknowledge the fact that its primary role is to set and maintain high standards of professional
practice, education, ethics and discipline. Besides, appropriate federal and regional government
organs should admit that the privileges accorded to professional persons by the community are
accompanied by responsibilities to client and community, which cannot be waived. To do so,
they should be interested in assisting their members to provide high quality professional services
that are relevant to the current and changing needs of clients and the community at large.

To begin with, for instance, Ministry of Federal Affairs in collaboration with appropriate federal
and regional government organs shall pursue a programme of professional learning through
organizing short term or long term training, conference, seminar or workshop in the area of
property valuation. As a preliminary step it is important for a practitioner, committee of experts
who have been practicing the valuation of property to go through structured training and gain
exposure to global standards and practices to distinguish oneself as a professional. I believe that
this kind of arrangement that shall be handled by Ministry of Federal Affairs is the ideal platform
for undertaking the journey of having certified private or public institutions or individual
consultants in Ethiopia.

More importantly, instead of relies only on local committees; there is the need to establish an
international committee of experts to advise Ethiopian with specific problems. It is proper so
long as international committee of experts provide local committees; their international
experiences of how work is done for a legitimate "public purpose" and if the state pays
commensurate compensation. This arrangement, therefore, provides an opportunity for those
with work experience and relevant vocational qualifications to gain recognition of their skills in
the land, property and construction sectors. With the availability of trained commits of valauer,
employers and clients of valuers in Ethiopia will benefit from up-skilled and whose competence
assures quality and mitigates risk.

Having done the basics of improving capacity building, it is also necessary to set up professional
standard committee by both federal land administrator who are responsible for valuation, which
fosters participation in professional activities and educational development. Through this it is
possible to develop standardize manual for property valuation by harmonizing or unifying basis
and methods of valuation formula that should be applicable all over the country. The
international practice indicated that majority of valauer users of valuation services, and
enforcement officials recognize that supplemental standards include laws and regulations.
Valauer must comply with laws and regulations. Thus, professional standard committee shall
continue to establish and use of rules, standards and standards rules, and statements on valuation
standards.

Moreover, professional standard committees based on a certain criterion shall select and develop
a short list of approved committees of expertise that can be used as federal and regional valuers.
This will greatly enhance the quality of valuations and decisions based on qualified valauer will,
therefore, reduce the practices of under or overvaluation. Perhaps, the established standard
should be charged with the responsibility of regulating and controlling the property valuation
practice and committees of expertise shall be bound to strict compliance with regulatory
requirements of the country. Perhaps through these efforts of continuing professional
development and developing valuation standards, as regulatory mechanism, various valuers for
government and non government organization will be emerge and with this, valuation decisions
may be cross checked; the operation done by one valuers by others, may be by independent
valuers.

1.3 Implication and Factors for Consideration

It is true that availability of data is vital to a vigorous property market and valuation system.
Despite Ethiopia is at the early stage of applying modern data base management system, still it
has a room for having adequate and consistent data. For instance, if appropriate body work hard
to shift previous documents in to computer based and make a law that all transaction to have
legal ground should pass through the responsible authorities. Similarly, banks instead of
operating on information vacuum and stick on their own database, it could be good to cross
check with respected authorities and keeping transparency among valuers and banks. In thin
market conditions which are coupled with the given circumstances the operations of banks have
been constrained by lack of access to data sources and transparency. So if responsible organ able
to design a mechanism how to produce data and introduce culture of transparency among
institutions, valuation process will be improved through creating greater efficiency and
confidence among valuers and users. Therefore, the state as well as stakeholders should
investigate the case for a centralized data base across the valuation profession, institutions and
explore in greater depth the practical implications in terms of its credibility, reliability, timing
and financing.

Valuations have been performed by individual or committees who are experienced with the
concepts of valuation in other disciplines than regular program. This has an implication that it
could be not fair to use them as granted. Therefore, state authorities as well as users of
valuations should be seriously working on capacity buildings.

References
Appraisal Institute (2001). The Appraisal of Real Estate. Appraisal Institute, Chicago, Illinois,
12th ed. ISBN 0-922154-67-8.Betts.M.R. and Ely.J.S. (2005) Basic Real Property Appraisal. 6th
ed. Thomson-south western, USA. ISBN: 0-324-20146-X

Constitution of the Federal Democratic Republic of Ethiopia. (1995). Proclamation No. 1/1995.
Negarit Gazeta Year 1, No.1

Daniel, W/G. (2009) Land Valuation for Expropriation in Ethiopia: Valuation Methods and
Adequacy of Compensation, Ethiopia, 7th FIG Regional Conference Spatial Data Serving People:
Land Governance and the Environment – Building the Capacity Hanoi, Vietnam, 19-22 October
2009

Degu, T. (2011) Practices Property valuation for expropriation undertaken in Finote selam.
Bachelor degree thesis, Institute of Land Administration, ILA, Bahirdar University, Bahirdar,
Ethiopia

Empire of Ethiopia. (1960). The Empire of Ethiopia Civil Code Proclamation No. 165/1960.
Negarit Gazeta, Year 19, No. 2, Addis Ababa, Ethiopia.

Eyosiyas, T. (2010) Practice of property valuation and impact of expropriation on livelihood of

rural households: in case of Zenzelema area, BahirDar, Amhara Regional State. Bachelor
degree thesis, Institute of Land Administration, ILA, Bahirdar University, Bahirdar, Ethiopia

Federal Democratic Republic of Ethiopia Rural Land administration and Land Use Proclamation.
(2005). Proclamation No. 456/2005. Negarit Gazeta. Year 11, No.44.
Muluken, F. (2011) Practices of valuation for expropriation: case study of Bahirdar city; Kebele
11, BahirDar. Bachelor degree thesis, Institute of Land Administration, ILA, Bahirdar
University, Bahirdar, Ethiopia
 2
Chapter

CHAPTER 2 Property Valuation for Expropriation Purpose

2.1 Overview of Expropriation and Compensation in Ethiopia

T he right of any land holder not to be evicted is legally guaranteed. Accordingly, no

holding right shall be violated except where there is expropriation for the purpose of
public interest. This fact is manifested on the federal constitution which stipulated that;
the government has the power to expropriate private property on land for public purposes subject
to the payment of advance compensation commensurate to the value of the property (Article
40(8) of the Federal Constitution.)
Modern day Ethiopia is depicted as a country in rapid economic development where massive
constructions of roads, building of hydropower and irrigation dams, renewal and redevelopment
of urban centers, expansion of cities, transfer of large scale rural agricultural lands, zoning of
industrial lands etc are being carried out. Millions of hectares of lands have been taken from
farmers and transferred to foreign and domestic agricultural investors. Thousands of blight
houses rested on hundreds of hectares of land in the city center of the capital, Addis Ababa, have
been demolished to redevelop the areas. Thousands of farmers who used to live on the boarders
of the many cities around the country have lost their land for the establishment of newly emerged
towns or to the expansion of existing ones.
Concerning power to expropriate land holding it is given to Woreda (district) and Urban
Administrations. However, the decision to expropriate may be made by the appropriate higher
regional or Federal government organs although there is no mention of who these “higher
organs” are. The governing law for expropriation and compensation of property in Ethiopia is
Proclamation 455/2005 and Regulations 135/2007 issued at the Federal level. Based on the
Federal law, regional states are expected to issue directives for its implementation. The
compensation for expropriated land holders is the core issue in this process. Ethiopian
constitution calls for commensurate compensation that allows for replacing the assets that are
lost so that people affected are at least as well off after resettlement. However, the experience
indicated that problems with compensation and valuation have contributed to unsuccessful
development-caused forced displacement experiences in Ethiopia. Those problems may be
related to defects in both the legal framework and its implementation.
Ethiopia is not an exception in giving government the power to expropriate private property on land
for public purposes. The most critical point concerning expropriation may be the question of
compensation. Will the compensation legislation, valuation methods and manner really lead to full
and just compensation for those adversely affected? Selection of valuation basis in expropriation
and compensation is the main subject of valuation. According to International Valuation Standard,
compensation for the object shall in the first instance be determined based on market value.
However, market value is not the basis that is most commonly required in property valuation in a
country where negotiations on amount of compensation between parties are not open to market
forces or effective challenge and independent determine.
Conceptually, the compensation shall ensure that the affected party’s financial position is not
weakened and require appropriate alternatives basis to market value. The rules for compensation
depend on the legislation of each country. The main principle in most countries seems to be that
the land owners’ financial position shall remain the same despite expropriation. Based on
constitutional requirements, many countries have developed standards for determining “Just
Compensation1”, “Fair and Just Compensation2”, “Reasonable Compensation3”, “Commensurate
Compensation4”

The international practice on compensation for expropriation showed that if market value cannot
be determined, the compensation for object shall be based on fair value. In fact, most countries
around the world have constitutional and/or statutory standards that call for “fair market value”
compensation for lost assets that the state expropriates. The fair market value is commonly
defined as “the amount that the land might be expected to realize if sold in the open market by a
willing seller to a willing buyer.” The underlying reason for adopting the fair market value
standard is that the market is an objective gauge for assessing the value of the land.
It has to be stressed, however, that covering a broad international situation to apply fair market
value standard must necessarily present a general approach. Specific solutions for the basis for
valuation must therefore be adapted to each countries situation. For instance in a countries where
land markets is weak and doesn’t provide reliable information about value for comparable
assets or acceptable substitutes are available for purchase valuation using the fair market value
standard is impossible. In such countries despite the main rule for the assessment of
compensation is to be “compensation commensurate to the value of the property”, the basis for
valuation is other than fair market value. For instance, in Ethiopia the use of “replacement cost”
method of valuation basis is enormous. Thus, how “fair market value” or “replacement
cost/value” is determined become the basic question.
2.1 Basis and Methods of Property Valuation for Compensation

The value of property may be determined based on various bases, but the most common basis
recognized by the International Valuation Standards and practiced by most countries are market
value, fair value , investment value, and replacement cost. The choice of basis and method used
to determine the value of property will depend upon the purpose for which the valuation is being
prepared. There are three methods of determining the value of the property being appraised.
These are the sales comparison approach, the income capitalization approach and the cost

1
United State, Philippine, Brazil, Australia
2
Cambodia
3
Peoples of Republic of China , Until 2004
4
Ethiopia
approach (Ling and Archer, 2005). To determine which one or more of property valuation
approaches may be applicable in the context of Ethiopia, which has adopted “commensurate
value” as the compensation standard, appraiser should first understand what these approach
means and what is their limitation and strength.

This subsection discusses typical valuation process and valuation methods that have been used
according to the International Valuation Standard (IVS,2007), and Asian Development Bank
policy, 2007 to determine the fair market value or replacement cost of the asset typically
impacted by government expropriations: land, structures on land, crops, etc

Valuation of Land: The typical valuation methods used for Land Valuation are “Sale
Comparable Approach”, and/or “Income capitalization approach.” “Cost approach” cannot be
used to determine land valuation because land has no cost of production.

Valuation of structures: Government expropriations often involve the loss of structures on land
in addition to the land itself. So there is a need to value the structure. Structure or building
valuation is typically achieved through one of the three basic approaches: comparable sales
approach, or capitalization or income approach, and cost approach (Wyatt, 2007).

Sale comparison approach is also a typical valuation method used for structure in countries
where the property market is active and sufficient comparable properties are available. Similar to
land value, the sales comparison approach for structures develops a value for a subject building
by comparing recent sales of similar property (comparables) within the same market area to the
subject building and adjusting the comparables for dissimilarities (Isaac, 2002). If the structures
are primarily for investment or income-producing purposes, the income approach is often used.
The procedures used to determine value of structure using income approach is the same as
valuing land with this approach, i.e. ( first estimate annual income then deduct vacancy and
operating expense to get net operating income that shall be capitalized)

In property valuation, the cost approach is one of the three basic valuation methods that used to
value the structure or building. The cost approach is a method of appraising property based on
the depreciated reproduction or replacement cost (new) of improvements, plus the market value
of the site. It is more important than other approaches to determine the value of the property for
which it is difficult to get comparable sales data and the property is not an income generating
property (Sayce et.al, 2006). This approach has the most validity/reliability when improvements
are new or near-new. For older/aged structures, the cost approach may not be relevant due to the
greater subjectivity involved in estimating accrued depreciation.

Valuation of crops: Valuation of crops is considerably less complicated than land and structures.
Typically, compensation for crops is decided according to the gross market value of the lost crops.
Gross market value makes full provisions for owner or user input already expended (labor, seed,
fertilizer, etc.) in the event that there is a crop in-ground at the time of acquisition or expropriation5.

5
Asian Development Bank policy, 2007
Trees: Where sufficiently developed markets exist, the market value of trees of a similar age and
use should be used in valuation. Where markets do not exist, substitute values must be
determined. For timber trees, the compensation should equal the value of the lumber resulting
from the tree. For fruit trees, the compensation should equal the cumulative future value of the
fruit crop for its productive life along with any timber value. If replacement trees are provided,
compensation should also include the value of the harvests lost until the replacement trees come
into full production6.

2.2 Property Valuation and Compensation in Ethiopian

In Ethiopia, the idea that owners of property should be expropriated and compensated is relatively
uncontroversial when applied to actions in which the government takes physical possession of the
property in question, as when it seeks to build a road, a dam, or mineral extraction, a public
building on private holding land. As a direct result of government action, people lose their home,
their land, and at the same times their means of livelihoods. But the issue of compensation has
become the spirit of expropriation.
Conceptually, compensation is to repay displaced persons their losses, and should be based on
principles of equivalence. The principle of equivalence asserts that displaced persons occupants
should be neither enriched nor impoverished as a result of expropriation. This principle has been
underpins in Ethiopian constitution and a series of federal and regional land laws that support the
payment of commensurate through adopting “commensurate compensation ” as the compensation
standard when the government expropriates land for public purpose . The central issue is therefore
what basis of property valuation is most likely to achieve these objectives of constitutional
requirements in different contexts? In this sub section, this material will give an over view on basis
and valuation method on the payment of compensation with particular emphasis on we follow today
in Ethiopia Property Valuation and Compensation in Ethiopian.
Theoretically, it must be stressed that the choice of basis and method used to determine the value of
property will depend upon the purpose for which the valuation is being prepared. For instance, if
valuation is undertaken for determining amount of compensation up on expropriation, in the
contexts of Ethiopian constitution, the intended basis and method must result commensurate
amount of value as compensation.
Article 19 of Regulations No. 135/2007 that deals with payment of compensation for property
situated on landholding expropriated for public purposes stipulated that there are properties for
which compensation is not payable. So, valauer or appraiser first should know what to be valued for
payment of compensation in Ethiopia. Articles 7 and 8 of Proclamation No. 455/2005 and the
implementing regulations, the federal land administration law, the regional land administration law
and compensation laws reveal that loss of land, structure and permanent improvement (fences,
trees, permanent plants, crops, and grass etc) shall be compensated.
Therefore, this section will focuses on the valuation methodology adopted to value such asset based
on the enabling statute which dictates the basis and method of valuation.

6
Ibid
 i) Structure or Building
Article 7 (2) of Proclamation No. 455/2005 stated the amount of compensation for property situated
on the expropriated land shall be determined on the basis of “replacement cost” of the property.
Similarly, Article 3(1) of Regulations No. 135/2007 ensures that the amount of compensation for a
building shall be determined on the basis of the current cost per square meter or unit for
constructing a comparable building. Property valuation process for compensation for the structure
shall include current cost of constructing floor tiles, septic tank and other structures attached to the
building; and costs for demolishing, lifting, reconstructing, installing and connecting utility lines of
the building.
These laws clearly stipulated that regardless of the type of property expropriated the amount of
compensation shall be determined only on the basis of replacement cost of the property. These
laws also assumed that the recent catalogue of the costs of structure or building materials is
available since .in calculating the valuation of a building the committee shall take into account the
current market price of construction or utility materials.
The economic interpretation of the above laws implies that replacement cost approach estimates the
present cost of building a structure that is same or similar to the existing structure under
assessment, with a subtraction of accrued depreciation from the total present cost of the substituted
structure. However, there is no provision or laws that indicate how accrued depreciation is
estimated. Moreover, the above mentioned laws do not explicitly put what would be the fate of
value of salvage materials from the destroyed structure: whether to be deducted when this approach
is used for structures or not?
In fact, compensation shall be paid only for the cost of removal, transportation and erection for
property that could be relocated and continue its service as before; provided, however, that such
payment shall be acceptable only where the condition of relocation property conforms with the
requirements of the appropriate rural administration land use regulation or plan.

ii) Valuation of Loss of Perpetuate Use right over Rural Land

As discussed in the class, the typical valuation methods used for Land Valuation are “Sale
Comparable Approach”, and/or “Income capitalization approach.” “Cost approach” cannot be used
to determine land valuation because land has no cost of production. In Ethiopia, statutory
provisions provide property valuation committee to prepare estimates of the land value under
"restricted value" standards. This valuation involves methodologies prescribed by law that result in
a value usually less than full cash value.
It is pertinent to note that the Expropriation of landholdings for Public Purposes and Payment of
Compensation Proclamation No. 455/2005 attaches no value to land as such the value of land is not
added to the Depreciated Replacement Cost of building in the computation of compensation for real
property under expropriation. Hence, article 7 (1) of Proclamation No. 455/2005 stated that a
landholder whose holding has been expropriated shall be entitled to payment of compensation for
his property situated on the land and for permanent improvements he made to such land. This
implies that there is no compensation for the land itself.
However, despite Regulations No. 135/2007 does not recognized sales comparison method or
income approach in compensation valuation for land, there is indirect valuation for compensations
 given in the event of the loss of a perpetuate use rights . This Regulations No. 135/2007 (Article 15
– 18), have put computation of compensation for loss of perpetuate use rights over rural land under
expropriation in different situation.
Value of displacement compensation for loss of a land holding “permanently” is equals to ten times
the average annual income he or she secured during the five years preceding the expropriation of
the land (article 16 &17 for displacement compensation for crops or protected grass and grazing
land respectively) and value of displacement compensation for loss of a land holding “temporarily”
is equals to the average annual income secured during the five years preceding the expropriation of
the land until repossession of the land (article 18). While displacement compensation for
“alternative land as compensation” is equivalent to a replaced plot of land capable of serving a
similar purpose (article 15) plus the price of the annual average yield of crops or protected grass or
grazing obtained from the land; or the price of the annual average yield of perennial crops
multiplied by the number of years required to attain the level of growth of the perennial crops;
Article 16 (1) a & b).
The formula for calculating the amount of compensation payable in accordance with Regulations
No. 135/2007 shall be as follows:
1. Compensation for Crops =

The total are of the land (in square meters)

X Value of the crops per kilo gram

X Amount of crop to be obtained per square

mete

+ Cost of permanent improvement on land

2. Compensation for unripe Perennial Crops =

Number of plants (legs )

X Cost incurred to grow an individual plant

+ Cost of permanent improvement on land

3. Compensation for ripe Perennial Crops=

Annual yield of Perennial crops per Kg
 X Current price of total produce of Perennial
crops

+ Cost of permanent improvement on land

4. Compensation for Protected grass =

Area covered by the grass per square meter

X Current market price of the grass per square

meter
Article 9 of Regulations No. 135/2007 also recognized value calculation of permanent
improvement on Rural Land for compensation purpose. Accordingly, the amount of
compensation for permanent improvement made on a rural land shall be determined by
computing based on considering the current cost of machinery, material and labor incurred for
clearing, leveling and terracing the land, including costs of water reservoir and other agricultural
infrastructure works.
The economic analysis of the recent central land compensation laws of Ethiopia explicitly cap
the compensation for loss of land permanently at a maximum of 10 times of the annual
agricultural yield, leaving virtually no legal basis for farmers to demand a higher compensation,
or a compensation that affected farmers are willing to accept. To the extent that farmers have
perpetual use right and it can be argued that compensation over rural land should reflect land
price which is the capitalization of expected income of land use rights. Because the practice
indicated that, in the meantime, the government is authorized to sell use rights to such
expropriated land to interested entity at a market price that many times higher even than the
maximum compensation paid to affected farmers.
Moreover, at this junction it should be noted that monetary compensation is estimated regardless
of farmers’ long term investment intension in land, location of the land, potential best use of the
land, local demand for such land, and other factors that typically consist of the value of farmland.
It seems that the law calculates value of the land in the assumption that land is possessed for
limited time (10 years) and the benefit lost is also for 10 years. This assumption is, however,
completely wrong because farmers are entitled to lifetime holding rights, the value of land
should be based on the assumption of a life time income derived from land.
A different form of argument may also be given as follows. As already mentioned above, land is
not subject of private ownership and literally has no value to the holder or possessor. In other
words, government is not supposed to pay compensation for loss of land. From the outset
“compensation” is defined in the proclamation as “payment to be made in cash or in kind or in
both to a person for his property situated on his expropriated landholding” (Art. 2.1 of proc.
455/2005.) So what is compensable is the property (private) situated on the land. Not the land.
Therefore, the modality of compensation of loss of rural land in the event of expropriation is
replacement of comparable land or pay the peasant “displacement compensation”. As can be
easily inferred from the name, what is given to the peasant is not compensation for lost private
property (for land cannot be owned privately), but a compensation is paid to assist displaced
person to resettle against the loss of his or her perpetuate use rights over land in another type of
life style.
Although the 10 years’ value of produce has no basic justification, at least it is believed that such
amount of money would be enough to enable the farmer to start a new way of life. But starting
another way of life for a farmer is too difficult to apply and the law prefers first compensating
him through provision of replacement land. If replacement land is found in the same kebele for
the farmer, then there is no need of paying the 10 years displacement compensation. However, as
mentioned above, displacement compensation equivalent to the price of the annual average yield
of crops obtained from the land; or the price of the annual average yield of perennial crops
multiplied by the number of years required attaining the level of growth of the perennial crops
shall be paid ( Article 16 of Regulation No. 135/2007).

iii) Valuation of loss of rural leased land

As you may know, without prejudice to the right of Ethiopian Nations, Nationalities, and Peoples to
the ownership of land, government shall ensure the right of private investors to the use of land on
the basis of lease for limited time. However, there are no rules or policies that provided issues of
valuation and compensation when rural land lease holding is expropriated prior to its expiry date.
In fact, the Amhara regional state guideline for the procedure of clearing landholding for public
interest and compensation payment (2009) stated that when a lessee of rural land, who has
house/store/ barn and other works, is expropriated prior to its expiry date, the lease holder shall, in
addition to expenses incurred by the lessee for the development works undertaken on the land be
refunded for the remaining lease period (for a leased land) (Article 14 (1).
It should be noted that this compensation standard shall apply to any investors who possess a rural
land to engage in agricultural development activities directly from government for a limited period
of time. What about compensation payable to an individual who leased or rented farmland and
lessee landholder?
We know that rural land rental market has been legalized in recent years, i.e., peasant farmers, semi
pastoralist and pastoralist who are given holding certificates can lease to other farmers or investors
land from their holding of a size sufficient for, the intended development in a manner for a limited
period of time determined by rural land administration laws of regions based on particular local
conditions. Again, there are no standard rules or policies that provided issues of valuation and
compensation payable to those who rented farmland and lessee landholder when such land lease
holding is expropriated prior to its expiry date.
However, again the Amhara regional state guideline for the procedure of clearing landholding for
public interest and compensation payment (2009) has explicitly put what to compensate for both
lessor and lessee. According to this guideline sub section (g): Calculation of other compensations- ,
payment of compensation for lessee landholder considered costs incurred by leaseholders for the
agricultural development works undertaken on the land and rent paid for the remaining period. In
other words, compensation payable to lessee landholder is equivalent to expenses incurred by the
lessee for the development works undertaken on the land plus refund the rent paid for the remaining
lease period. The modality of compensation payable to an individual who rented farmland for loss
of rural land in the event of expropriation is replacement of comparable land or pay the peasant
“displacement compensation”

iv) Valuation of loss of Trees

The amount of compensation for trees shall be determined on the basis of the level of growth of the
tree, and the current local price per square meter or per unit. This means that the market value of
trees of a similar age and use should be used in valuation. In other words, Compensation for trees is
equals to (large No. of trees x unit price) + (medium No. of trees x unit price) + (small No. of trees
x unit price).
It should be noted that the federal Regulation No. 135/2007 does not make difference on the type of
trees. Whereas, the Amhara Compensation Directive Art. 14 (2) says compensation for Eucalyptus
or similar tree planted for firewood or construction its price will be multiplied by 3 fold assuming
that it can germinate and produce 3 times

v) Valuation of loss of Fences

The value of fences for determining the amount of compensation shall be determined by
calculating the current cost per square meter or the unit cost required for constructing a similar
fence. Theoretically, replacement cost means the method of valuation of assets which assists in
determining the amount sufficient to replace lost assets and cover transaction costs. Despite
Replacement cost for a property situated on the land and permanent improvements to the land are
somewhat justifiable, land laws that govern land value calculation is based on neither theory nor
fairness assumptions.

vi) Valuation for loss of Burial-ground or Grave yards

According Regulations No. 135/2007 the amount of compensation for a burial-ground shall be
determined on the basis of the estimated costs incurred for removing the grave stones , preparing
other burial-ground, transferring and relocating the corpse and for conducting religious and cultural
ceremonies in relation thereto ( Article 12 (1)) . The regulation also asserts that the amount of direct
and indirect costs for all the activities shall be determined on the basis of the can local market
prices of materials, transport services labor.

vii) Valuation for loss of worship places (eg. Church or Mosques)

- The compensation laws in Ethiopia settings do not provide direction for how compensation is
calculated for special properties like churches or mosques in case of expropriation. Market value or
fair market value is not, and indeed has never been, mandatory in the Ethiopian laws as standard for
compensation of special-purpose properties such as churches or mosques. At the same time, in
Ethiopia both worship places often play a major role in livelihoods. Therefore, not compensating
for the loss of such property would absolutely fall short commensurate compensation and may
bring unforeseen problems.
In theory, the cost approach is most applicable in valuing certain types of properties where the
properties rarely change hands in the market, or the properties is not designed for income
generating. In these circumstances, analysis of prices in the market or considering property income
generating capacity will provide little evidence for a useful valuation. Therefore, the cost
approach is more appropriate to develop an opinion of the fair value or use value of special-
purpose properties such as places of worships. To compensate places of worship such as
churches, mosques, cathedrals, and other, we therefore, recommend appraiser to use a replacement
cost valuation approach. This approach to estimating places of worship replacement costs is
simpler, more precise and provides a greater degree of ongoing consistency with the statutory
mandate

viii) Compensation Payable to a Mining Licensee:

Where land holder is evicted his or her possession for the purpose of operation or activity directed
at extracting minerals from a mineral deposit on or in the earth and water as public purpose it is
subject to payment of compensation. Article 11 of Proclamation No. 455/2005 declared that where
a mining site is expropriated pursuant to the provisions of the expropriation proclamation, the
compensation due to the licensee shall be determined by the relevant mining law. The first modern
mining law in Ethiopia was issued in 1971. However, this was followed immediately by another
law enacted in 1974 that put most mining operations under government control and, as a result,
disable the former laws. Laws have been modified repeatedly in favor of the investor to better
address the interests of investors and accommodate the competitive global environment. Currently,
a new Mining Law called Mining Operations Proclamation No. 678/2010. So, this is the law which
used to refer to determine amount of compensation.
Part six (Article 57 -59) of the new Mining Operations Proclamation No. 678/2010 deals with
compensation for position expropriated for mining purpose. Specifically this proclamation with
three articles tried to explain the condition for expropriation, procedures and process of determining
and payment of compensation. Article 57 (1) concerning condition for expropriation declared that
whenever it is necessary for the conservation and development of these resources to the socio-
economic progress of all Ethiopians, the Licensing Authority may expropriate any immoveable
property on any land and shall cause the payment of fair compensation by the Licensee in
accordance with the relevant laws. In this connection, Mining operations shall be deemed public
purpose within the meaning of Article 1460 of the Civil Code. Without prejudice to the provisions
of sub-article (1) of this Article, any license holder shall be liable for any damage caused to
property in connection with its mining operations (Article 57 (2).
Article 58 declared that any licensee shall negotiate and reach an agreement with respect to the
amount of compensation payable to the owner of the property in accordance with the provisions of
the relevant laws. As soon as the terms and conditions have been agreed between the licensee and
the property owner, the licensee shall provide a copy of the compensation agreement to the
Licensing Authority. Upon receipt of the copy of the concluded compensation agreement, the
Licensing Authority shall forthwith register same. Either the licensee or the property owner may,
where they are unable to reach an agreement on compensation to be paid, request in writing the
Licensing Authority to determine the compensation. In the process of determining compensation,
the Licensing Authority shall allow both parties to present their evidences and arguments (article
59)
Concerning compensation payable to a Mining Licensee Daniel (2012)7 argued that the above three
provision seems problematic since the drafter of the proclamation fails to consider the governing
expropriation proclamation. According to Daniel’s concern issues that may be raised in conjunction
with this provision is that why should the licensing authority being given a special power of
expropriating an immovable as opposed to others who are abide to follow the proc. 455/2005?
Another issue is that is the power of expropriation provided to the authority related only to
immovable on the land or to the land as well? And which laws would it apply to pay fair
compensation? The civil code or the expropriation proclamation 455/2005 this is because it cites
the civil code provision 1460 as a basis to justify mining as one of the activities considered as
public purpose activities. It seems law drafter did not know the existence of such law for they
directly referred to the defunct civil code expropriation provisions. In any case, it must be
understood that when it says that compensation would be paid in “accordance with relevant laws” it
must be interpreted as referring to the proclamation rather than the civil code. Secondly, when it
directly says that the authority might expropriate an immovable…this must has also goes with the
powers provided to the woredas.
Daniel also has a concern on who is entitled estimate amount of compensation? As pointed out
above, compensation must be determined by the valuation committee independent of the
involvement of the investor and the property holder. Of course, owner of property may involve to
some extent where he may able to provide the necessary information during inventory. Otherwise,
the committee should determine the compensation by itself and inform this to the woreda. It is the
woreda that will finally inform owners and payers the amount of compensation assessed. There is
no room for the investor and owner of property to negotiate on the amount of compensation to be
paid.
For Daniel again this provision of the mining proclamation seems to be written on the assumption
of the civil code where land was owned privately. The implication of this provision is that if we
allow people to negotiate on the amount of compensation, this may amount to land sale that
completely excludes the role of the state. He is further commented that it is unlikely for the
licensing authority to be the ultimate judge in determining the compensation amount. First, it has no
necessary expertise to do that (compensation cannot be assessed from office and by referring only
to evidence on papers). Secondly, it takes the power from courts since it is the latter which are
empowered to review any administration decision pertaining amount of compensation.

2.3Implications and Factors to be Considered

Designing a valuation standard for determination of compensation where landholder is evicted is
both socially sensible as well as politically acceptable. It is perhaps more challenging for the reason
that there is virtually no rural land market and it is difficult, if not entirely impossible, to get
relatively accurate market value of land through valuation. Besides, active markets for income
generating structures do not exist in most rural area settings. Thus, the more likely valuation
approach under the current situation is replacement cost.
It should be noted that no matter how commensurate compensation is paid for loss of assets during
lands expropriations, such compensation alone is far from sufficiently restoring farmers’
7
In Daniel, W/G and Zelalem Yirga (2021) Expropriation Valuation and Compensation in Ethiopia A short Training
Material for NYOTA and Oromia Officers. This is unpublished material
livelihoods. In other words, compensation for lost assets, by itself, is not sufficient to address the
losses faced by those involuntarily displaced. In addition to losing assets, involuntarily displaced
people face substantial economic and social disruption and related costs and losses that
rehabilitation and generalized safety net measures must address.
This material is not supposed to provide a set of detailed recommendations to address valuation
problems. However, the traditional replacement cost for the structure is recommended to consider
the following issues.
The traditional valuation basis of the structure is current cost per square meter or unit for
constructing a comparable building and depreciation is deducted from the replacement cost of new.
But, I would like to recommend the replacement cost approach not to deduct for depreciation. The
reason for not including depreciation is that, active markets for structures do not exist in most rural
area settings. So, the more likely replacement option involves building a new structure. In such
cases, compensation that deducts depreciation will not be sufficient to enable the displaced persons
rebuild
In principle, salvage materials should become the property of the acquiring entity. The acquiring
entity should not deduct, however, the value of the salvage materials from compensation. Doing so
would involve substantial complexities in calculating the value of salvage materials not
commensurate with the benefits achieved. It is also a good practice for property valuation
committees to prepare or be provided with update cost manual that includes lists of per square
meter unit cost for each horizontal structural and each vertical component. Besides, property
valuation committees is recommended to prepare cost manual based on updated unit current cost
for machinery, material and labor costs through sample market analysis.

References
Appraisal Institute (2001). The Appraisal of Real Estate. Appraisal Institute, Chicago, Illinois,
12th ed. ISBN 0-922154-67-8.

Constitution of the Federal Demecratic Republic of Ethiopia, Proclamation No. 1/1995. Negarit
Gazeta. Year 1 No.1.

Expropriation of Landholdings for Public Purposes and Payment of Compensation Proclamation,

Proclamation No. 455/2005. Negarit Gazeta. Year 11, No. 43.

Payment of Compensation for Property Situated on Landholdings Expropriated for Public

Purposes Regulations No. 135/2007

Ling D.C, and Arecher W.R. (2005) Real Estate Principles: A Value Approach. McGraw- Hill
Companies Inc. New York.
Isaac, D. (2002) Property Valuation Principles. Palgrave Publishers Ltd (formerly Macmillan
Press Ltd). 175 Fifth Avenue, New York. ISBN 0–333–92114–3
IVSC (2007) International Standard Valuation Committee., Chicago Retrieved on May 6 ,2011
from http://propertystandards.propertyinstitute-wa.com/documents/IVSC-3_000.pdf
Expropriation, Compensation, and Valuation: ADB Policy and International Experience, 2007.
Retrieved on May 7, 2011 from Retrieved on May 7, 2011 from
http://www.adb.org/Documents/Reports/Capacity-Building-Compensation-Valuation/chap1.pdf

Sayce.S, Smith.J., Cooper.R., and Venmor-Rowland.P. (2006) Real property Appraisal: From
Value to worth. Black Well publishing Ltd. ISBN: 978-1-4051-0001

Wyatt, P. (2007) Property valuation in an economic context. Blackwell Publishing Ltd, 9600
Garsington Road, Oxford OX4 2DQ, United Kingdom. ISBN: 978-1-4051-3045-5
 3
Chapter

CHAPTER 3: Determination of Urban Land Lease Price

3.1 Overview of Land Leasehold Tenure System

Y ou have already introduced about the meaning and concept of leasehold; why public
leasehold is used as alternative land tenure system; the importance of land lease,
components of land lease hold system; the types of methods for transferring of land use
rights, the legal foundations of leasehold tenure, security of leasehold tenure; etc in the course
lease in relation to development (Laad 461). The major concern of this material, therefore, is not
to explain the above issues again; rather it will give you a high light about leasehold tenure and
then focus on how urban land lease price and payment arrangement is determined in Ethiopian
context.
Land leases, also commonly referred to as ground leases, serve as a mechanism for a land owner
to retain long-term ownership of a particular parcel while at the same time allowing a user to
control the land for a length of time sufficient to make him or her willing to invest in site and
building improvements. The lessor's interest is known as the leased fee interest, while the
tenant's interest is referred to as the leasehold interest. The control of the property passes to the
lessee, who in return agrees to pay the lessor a periodic rental rate for the right to use the
property. At the end of the land-lease term, the control of the property returns to the lessor. Both
the lessor and the lessee enjoy rights and privileges and are subject to obligations and
restrictions, as agreed upon and spelled out in the executed ground lease, and which the courts
strictly interpret. China, Vietnam, Poland, Ukraine, and Ethiopia are some of the typical
transitional countries which had accepted and have implemented land lease policy as the
alternative land tenure system (Chengri and Knaap, 2003; Christie, 2003; Nega, 2005). It should
be noted that leasehold as a form of land tenure is a well known system applied over one
hundred years in Europe (The Development Corporation Amsterdam, 2003).
Scholars and analysts have suggested that public leasehold systems could allow governments to
benefit from a share of future increased land value. Some have even argued that other policy
objectives, including stabilizing land prices, controlling land uses and facilitating land
redevelopment, could also be achieved through public land leasing. Although these proposals are
persuasive at the theoretical level, there is only limited evidence to prove that governments could
achieve these policy goals in practice (Yu-Hung, 1999). Likewise, many of the claims stated in
the urban lease laws of Ethiopia have been heavily questioned by studies that tried to evaluate
performance of Ethiopian urban land lease policy functions.
In the early 1990s, while maintaining public ownership of land, Ethiopia has moved towards a
system in which market forces shape the process of land allocation and utilization through the
establishment of an urban land leasehold system. The Ethiopian urban land leases have the
following general structure. An urban land shall be permitted to be held by leasehold if its use is
in conformity with the urban plan. Land is leased by Region or City Government to a tenant
usually for a period of 15-99 years. The lease includes options to renew as per the agreement to
be reached, unless the urban land is wanted for public interest. Where the lease period is not
renewed upon termination compensation shall not be paid to the lease-hold possessor. A lessee is
given a period of lease payment taking into account the payback period of the investment. A
lessee may transfer his leasehold right or use it as collateral or capital contribution to the extent
of the lease amount already paid. A lessee of urban land shall use the land for the prescribed
purpose within the period of time stated in the lease contract. But the lessee may apply to the
appropriate body to convert the use of the land where it ascertains that it is in conformity with
the land use plan of the urban center.
One of the basic goals of urban lease policy, as stipulated in the lease proclamations is to give
market determined exchange value to land. The public lease policy aimed to turn land from a
timeless and cost less resource into formally exchangeable commodity with both cost and time
limit. With this approach:
i. The government is assumed to generate the required revenue;
ii. Land users are made to realize the cost of urban land and make an efficient use of the
resource;
iii. Land prices will provide a clear signal that leads to efficient land use and allow the
recycling of primate lands for best uses.

In the process of market oriented development strategies, given the key role of providing urban
land market value as a foundation for economic activity and the functioning of market, the way
in which the principles and practice of setting of ground rent and payment arrangement has
established will have far-reaching implications (Hong and Bourassa,2003). The primary purpose
of leasehold in Ethiopia - to keep the value of land in public hands has makes determination of
the land value one of the challenges of leasehold tenure system. There are multiples systems to
value land for different purposes. Thus, determination of value of a land based on the highest
and best use analysis and setting mechanisms to capture an increasing land values is necessary.
While converting an old possessions into lease hold, all land in urban areas shall be identified
and registered by the municipality, and then be named as lease land and the holder shall enter
with the government a lease contract that, among others, includes lease benchmark price, down
payment, annual ground rate payment etc . It is necessary to recognize that although determining
rent and providing land market value raises important technical and procedural questions, it is
ultimately efforts of government related issues, since such values over land cannot be isolated
from packages of action in general made by the government at the ground.
In Ethiopia, due to drawback of the urban land lease proclamation and change in demand of the
society, the first urban land lease proclamation has been revised in 2002. Despite the existence of
improvement in the 2002 revised lease legal framework, most of the objectives were found to be
more difficult to achieve under the prevailing laws. As a consequence, the revised lease
proclamation after being in place about ten years, now replaced by the newly enacted urban lands
lease holding proclamation No. 171/2011. In this regards, it is important to note that lease hold
tenure is not a magic cure however its implementation given the political will, policies and
administrative procedures adapted to cultural views of property rights, require systems in which
those rights in leasehold are accepted in the community, to the realities of local land and property
markets. Beside, to keep the system working effectively it requires administrative capacity and
trust between government and private parties.
A study made by Aneley (2006) showed that urban land management in Ethiopia faces many
interrelated challenges since the coming of leasehold tenure. In spite of the wide range legal and
institutional reforms, the fundamental hurdles encountered in the process of leasehold
implementation are too many with no immediate breakthrough in sight. The most formidable and
decisive challenges is land valuation systems with no clear objectives and implementation
mechanisms as well as institutional capacity constraints. He found that there are inappropriate
guidelines for valuation of public land intended for disposal through auction or negotiation.
There are no experts in land valuation and standard for valuation. Each regional and city
government local office has its own valuation standards. As a result, a number of other problems,
such as allocation of land at below market prices, inability to increase their revenue base,
distortion of urban land market and delays in the implementation of urban development projects
emerge. Moreover, the absence of reliable information especially land related is the most crucial
impediment for the preparation and implementation of urban plans in many urban centers.
Belachew (2010) who tried to evaluate how the Ethiopian urban land lease policy functions and
works in line with efficiency and equitable distribution of land also found that the land lease
policy does not work as per its objectives. His finding revealed that lease towns of Ethiopia, like
most cities in developing countries suffer from land market distortions caused by poor land
development and management policies including poor planning, slow provision of infrastructure
and services, poor land information systems and slow land transaction procedures. Distortions in
the land market often lead to land speculation. He also realized that institutional constraints, legal
gaps and proper land and mortgage registration systems are some of the major area that due
attention so as to get the desired objectives of the lease policy.
Currently, it becomes clear that urban municipalities become inefficient in land delivery.
Artificial scarcity of urban lands for development, market demand is not considered in land
allocation rather land allocation determined by technical, legal and administrative considerations.
Besides, high expansion of informal land markets due to inefficient formal land markets, lack of
alternative investment instrument encourages high demand for urban land by land speculators.
As a result, the government has passed a new urban lease holding Proclamation 721/2011 that
repeals the previous urban land lease holding proclamation No. 271/2002.
Two needs are highlighted by two times revision of legislations. First, it is necessary to assess, in
a comprehensive manner, the extent to which the land reforms implemented so far have given
land market value and enable government to collect adequate revenue. Second, it is necessary to
evaluate alternative government policy interventions to facilitate reasonable land policy
selections in the context of a medium- to long-term development strategy. Both, in turn, need to
be grounded on a good understanding of the current valuation used to determine urban land lease
price and provide an opportunity for government to generate adequate revenue. It therefore
seems worthwhile to explore the actual structure of ground lease contracts to explore the impact
of leasehold system in giving market determined exchange value to land.
In this material, factors and decisions that contributed to the success of urban land lease policy
will be examined, and some of its current shortfalls will be evaluated, all with an aim to increase
national as well as global understanding of the use of such policy to solve an existing deficiency
of government revenue. Based on synthesis of existing international, national, and regional level
literature on land lease policies this material contributes towards that understanding by
characterizing the Ethiopian urban land lease policy on the basis of market economy policies.

3.1 Ethiopian Urban land Lease Price Payment

Urban land lease policy has been one the biggest and most controversial policy in Ethiopia since
1990s.The land lease issue is typically of the contemporary orientation towards a free market
philosophy. In this regards, there are some common key and open questions that usually debated
and discussed. This includes how the leasehold system give market determined exchange value
to urban land, what are the criteria to select winner for bid land, what is the basis and
arrangement of lease rent payment, and how the government capture an increasing land value.
In this material, controversial issue that have been included in the urban lease proclamation,
particularly on land lease price estimation and payment arrangement are highlighted for
discussion to demonstrate the limitations and opportunities of the new land policy. Thus, the
major element or factors considered in the following subsection are: evaluating how the
minimum land lease price or beach mark land lease price determined; manner of fixing annul
ground rent, modalities of lease fee payment and issues of highest and best use

3.1.1 Lease Benchmark Land Price Calculation

In Ethiopia, different ways of urban land use transferring system has been practiced since 1990s.
One of the major modalities of urban land transfer as stipulated in the Urban Lands Lease
Holding Proclamation is auction or tender. According to urban land lease proclamation any
urban land that shall transfer trough tender should reflect the prevailing transaction value of land.
In such case, an appropriate body shall advertise lease tender and forthwith put bid documents on
sale. The bid document also include lease benchmark price and then the highest bidder has been
declared as a winner on the basis of his bid price and the amount of advance payment he offers.
The previous urban land lease proclamations, however, did not make clear how lease benchmark
price for the grant of leasehold is to be calculated or determined. The prevalent benchmark lease
price assessment process across regional municipalities and cities are inconsistent and has
remained unchanged since lease tenure implementation in the early 1990s. The manner of
determination of the lease benchmark price was not also stipulated in regulations issued by
Region or City Government. Available evidence showed that allocation of land through public
tendering has failed to address the demand for urban land and development priorities, requiring
revisions (Yusuf et.al, 2009). Consequently, leasehold tenure system failed to provide
municipalities and cities the ability to collect adequate and proper fees because of personal
interests.
Proclamation No.721/2002 that repealed the first lease law provided three alternatives land
allocation: auction, negotiation and allotment. While in principle, this proclamation has potential
to improve the urban land delivery system, ensure rapid urban development, and provide
equitable benefits to citizens, thereby ensuring the sustainability of the country's development.
Unfortunately, this practice offered inadequate results leading to failure rather than success. In
practice, like the original proclamation, the manner of determination of lease benchmark price
was not included. Under the implementation of this proclamation giving land market value and
increasing government revenue was impossible because negotiation became the dominant form
of land transfer. Proclamation No.721/2002 declared that the rate of rent payable for urban lands
granted through negotiation or allotment shall be low. However, there is no direction or
regulation directly stating what a “low payment” means. The preceding laws did not provide
regulation to describe activities in which lease payments would be low. In this regard, the new
proclamation seems it take considerations of previous challenges.
In this regards, as per one of the major goal of adopting lease policy: giving land market value
and increasing government revenue, there are some major amendment that is observed in the
newly enacted Proclamation No. 721/2011 and it needs to be discussing here.

 The newly enacted proclamation goes beyond its predecessors and incorporates two
important issues that were not covered in the previous lease policy: regularization of
informal settlement and amalgamation of the old possession with a leasehold system.
Accordingly, it declares that lease payment would be made in the event when
informal settlement land is being regularized and old possession and newly leased
land are amalgamated or merged. The effect of transfer of land right or status of
landholding in the event of the above two situations is that people will pay “lease
benchmark price” (minimum lease price). The proclamation clearly defined what a
lease benchmarks price means and how to calculatee it.
 According to article 2(11) of Proclamation 721/2011 “lease benchmark price”
means the threshold price determined by taking into account the cost of
infrastructural development, demolition cost as well as compensation to be paid to
displaced persons in case of built up areas, and other relevant factors. Moreover,
concerning urban land lease price, Article 14 of newly enacted proclamation stated
that every plot of urban land shall have a benchmark lease price. A price map shall
be prepared based on the bench mark prices of different locations computed. The
benchmark lease price shall be updated at least every two years to reflect current
conditions. It declared that conversion of old possessions which includes all plots
occupied through informal settlement to leasehold shall be decided after a thorough
research is conducted in the coming four years. The lease rates applicable to
possessions converted into leasehold tenures shall be the lease bench mark price of
the locality
Article 7(2) of Proclamation No. 721/2011 clearly declares that all urban land areas shall
henceforth be transferred by tender or auction. Upon decisions of the cabinet of the concerned
region or the city administration it may be permitted with allotment provided, however, that
parties granted urban land holding by allotment shall pay land use price. The rationality for
suspending negotiation as means of modality is the fact that by prohibiting allocation of land
through negotiation, it is possible to discourage corrupt public officials seeking to personally
benefit from illicit transactions at the expense of the people.
In accordance with Article 2(11) of Proclamation 721/2011 valuation method for benchmark
lease price depends on where the land leasing is being applied. For example, if land leasing is
being applied to newly allocate vacant lands lease benchmark price determined by taking into
account the cost of infrastructural development. Prior to advertising urban lands prepared for
tender, the appropriate body shall ascertain that the lands are free from legal claims of any party;
are prepared in conformity with the urban plan; and have access to basic infrastructure. In grants
for such land, the benchmarks lease price shall be determined with reference to municipal
development costs including the costs for land. Whereas when an old possession (a plot of land
legally acquired before the urban center entered into the leasehold system) is expropriated for
public purpose it shall automatically entered into the leasehold system and require calculation of
urban land lease price. In grants for such land, lease benchmark price determined by taking into
account municipal or city administration ground preparation costs such as the cost of
infrastructural development, demolition cost as well as compensation to be paid to displaced
persons in case of built up areas, and other relevant factors. The proclamation, however, does not
make clear about what does “other relevant factors” means or includes.
The most important improvement in the newly enacted proclamation is a case that the benchmark
lease price shall be updated. Article 13 (3) of the recently enacted proclamation No. 721/2011
tried to address problems related to change in land market value. It clearly stated that the
benchmark lease price shall be updated at least every two years to reflect market conditions.
Thus, according to my understanding the government plan to update the benchmark lease price
to reflect market conditions can be adapted to the specific needs of lease annual rental payment.
However, the question should be, does this provision has an intention to increase revenue from
raising the benchmark lease price and land values since the proclamation doesn’t has any
indication about indexation provisions or rent reviews. Yet, it set out the possibility of using the
updated benchmark lease price while the period of lease may be renewed upon its expiry.
One can argue that the above amendment reflected in the new proclamation may bring some
improvement which helps government to give land market value. It has to be stressed, however,
that in respect to addressing a broad regional these provisions must necessarily present a general
improvement. Because the same proclamation include provisions that may potential create
problems on against implementation of the above positive provision implementation. Specific
solutions based on them must therefore be adapted to national. For example, the principles for
defining and calculating a benchmark lease price may vary a great deal from one municipality to
another or from one city administration to another. Article 14 of Proclamation No. 721/2011
declared that the valuation method shall be determined on the basis of the objective conditions of
each urban center in accordance with regulations issued by the respective regions and city
administrations.

Until the date of this material is written there is no law, regulation, directive or practice that
made any explicit reference to what method of land valuation shall be applicable and who is
responsible for determining minimum or benchmarks lease price, but the laws provided a
direction that what to be considered in the manner of determination of such price. This may
create a difficulty for region or city government to exercises their mandate of providing every
plot of urban land a benchmark lease price. Hence, there has not been any great uniformity of
city and regional municipal practice in this respect, as was noted by Aneley (2006)). Local
government officials may be interested in improving and updating this assessment process.
However, because such changes would require standard, frameworks and modifications to the
lease law, it is necessary to carefully study the effects that changes to the traditional benchmark
lease price determination model might have on the estimation of land values. Absence of
standards for valuation and regulatory body to regulate the work done only adds to the
challenges of valuation of market value of land use rights. Valuations are suffering as current
gaps in the system have lead to under market value, inconsistency and more complicated
approach.

3.1.2 Annual Ground Rent Calculations

One of the advantages of retaining land in public ownership is to make the community of city
citizens’ benefit from the increase in the land value (Hong and Bourassa, 2003). Similarly, one of
the reasons to establish urban land lease system in Ethiopia is to benefit from the expected
increase in land values and to capture these increases for the community. Calculation of the
ground rent, therefore, has a critical bearing on the success or failure of this endeavor
Ground rent represents the amount paid for the right to use and occupy the land according to the
terms of the ground lease. In a number of countries, ground rental rates are determined by a
variety of processes, mainly administratively, legislative prescription, executive decision,
precedent or customary valuation practice and negotiation. In some other countries setting of
ground rental rates where land is leased from the state, government or municipal agencies, seems
to be partly politically or administratively determined. This is particularly so where negotiations
are not really open to market forces or effective challenge and independent determination
(Jefferies, 2005). The prevalent international experiences indicated that with an increasing
pressure, world-wide, to deregulate government institutions and to let market forces price the use
of capital, pressure has been exerted to remove ground rentals determination from administrative
or prescribed formulae to market based determinations. It is clear from the literature
contemplate that the rental stream should be a ‘mark-to-market rental stream.
One common basic principle is for the value of the land (the ground rent base) to be multiplied
by an interest rate (ground rent capitalization rate) to give the annual ground rent. It is a method
of ground rent capitalization used to convert a single year’s annual rental income expectancy of
the subject urban lease land in to a value indication (Mattson, 1995).
According to this method,

AGR
MVL 
R0

Where MVL represents market value of land, AGR refers to annual ground rent and, R0 refers to
the overall ground rent capitalization rate. In this technique appraiser can determine the market
value of the land by converting the first year ground rent using the market derived capitalization
rate. Most, often since neither base nor interest rate is easy to determine, a host of different
methods have been presented over the years for working out these two factors (Mattson, 1995).
Regarding this, in Ethiopia, the annual ground rent is decided entirely by the amount of down
payment and grace period when parties sign the contract between them. A person permitted
urban land lease holding may be given a period of lease payment taking into account the payback
period of the investment. The amount of down payment, to be determined in accordance with the
prevailing factors of the region or the city administration, may not be less than 10 % 8of the total
8
According to the previous urban land lease hold proclamations the amount of down payment was not be less than
5%
lease amount of the urban land (Article 20 (2) of Proclamation No. 721/2011). The experience
indicated that in grants of urban land through auction for winners the down payment has been
determined with reference to municipal development costs including the costs for land. It has
also been possible for the down payment amount to be determined by negotiation
Once the down payment is paid, the remaining balance of the lease amount shall be paid on the
basis of equal annual instalments during the payment term. The practice indicated that annual
ground rent payment is fixed for the whole lease, which in periods of zero inflation maintained
their value. The annual payment is calculated as9:
Total Lease Amount − Amount of Down payement
Annual Payement =
Lease Period
During the payment term, interest shall be paid on the remaining balance as per the prevailing
interest rate on loans offered by the Commercial Bank of Ethiopia. This implies that annual lease
payment is decided entirely by the amount of down payment and grace period when parties sign
the contract between them. Failure to pay the annual payment in time as originally scheduled
shall result in penalty fee equivalent to the rate of penalty fee imposed by the Commercial Bank
of Ethiopia on defaulting debtors. Where a lessee has failed to make payments within the
specified time limit and accumulated arrears for three years, the appropriate body shall have the
power to seize and sale the property of the lessee to collect the arrears.
The implication of such arrangement suggested that the annual payment remain uniform for the
lease period. The changes in the land value have not reflected in the lease rent or annual rental
payment. In other words, the government arranges a loan for a lessee to make payment of the
remaining balance in which a government as lender gives use right on land to a lessee and the
lessee agrees to return the use right or repay the money, usually along with interest, at some
future point(s) in time.
Currently, it seems inconceivable that lease land routinely let for very significant periods of time
on leases containing no provision for adjusting the level of rent. For example, in Continental
European leases the norm is for there to be indexation provisions or rent reviews to come to
know the open market rental level. Hence, the existence and quality of escalation clauses in
ground leases have a significant effect on achieving the objectives of public leased policy. Rather
the question is which one indexation provisions or rent reviews is appropriate to come to know
the open market rental level and landlord ( state) to benefit from rising rental values. In a
country where there is an shortage of supply of leased land property and an increasing demand
from lessee indexation provisions: upward rent reviews only in which lessor benefit from rising
rental values while being protected from any downturns. Where as in a country characterized by
inconsistent supply and demand of leased land it is recommended to incorporate rent reviews
clauses. So at rent review a higher rent is negotiated if market rents are raising and the rent
decrease if market rents are falling (Hong, Y and Bourassa, 2003).
Based on literature and experience gained in different part of the world, I can argue that
Ethiopian urban land lease proclamation including the newly enacted proclamation has

9
Zelalem Yirga ,The Reporter, English weekly, Saturday, 07 January, 2012
http://www.thereporterethiopia.com/Politics-and-Law/land-lease-a-sources-of-municipal-revenue.html
demonstrates that it is simplistic to think of leasehold tenure arrangement work in black and
white terms to give land market value and increasing government revenue. I have observed at
least two set of structural problems of leasehold system interms of achieving the above
objectives. The first set is comprised of the criteria to select highest bidders. The types of
lease payment arrangement form the second set.

i) Basis of Selecting the Bid Winner

Although several years has been passed from the introduction of market-based land tenure
system, the system and practice of using and managing urban land in Ethiopia have not been
harmonized with the objectives because a great number of basic, conceptual problems have not
yet been solved. These critical problems also found in the newly enacted lease proclamation.
The currently issued federal urban lease proclamations fail to clearly and comprehensively define
the concept of market value. Neither does the concept of competition and highest bidder being
defined. For example, Art 11 (5) declared that the highest bidder is selected based on various
parameters such as “bid price”, “amount of down payment” and “duration of payment”. The
interpretation is despite the bidder has not provided highest bid price, he or she has a possibility
to be a winner based on other criterion (if weight given to other basis as selection criteria is
high).

It should be noted that, such consideration like traditional approaches, seeks to replicate the
“market” in a normative and hypothetical approach since it assumes a willing but not over
anxious leaseholder. Since, the bid prices cannot provide a clear signal of market determined
exchange value to land, it is impossible to have efficient land use and allow the recycling of
primate lands for best uses. Consideration of competitive parameters (duration and amount of
down payment) as a criterion to select winner create unseen problems. For instance, giving
priority for those who can pay the total amount of the lease price at the signing of the lease
contract has created contradiction with objective of the lease policy. It is made clear that once the
full payment is done, no other payment is expected from the lessee until the contract expires.
Although for initial investment, a huge amount of money is required, the problem of encouraging
full payment of the lease price contradicts with the objective of the retention of land in public
ownership.

One-time payments create a very uneven revenue stream for the government and is not
sustainable in long-run, because land for lease is limited and after the most of it is allocated for
long term leases, this source of revenue will dry up. The principle of up-front paying and of
compound interest rate for the unpaid portion is equally disadvantageous for the investors,
especially in the initial phase of their investment. In fact, such modality of payment found to
discourages the initiatives of any investment (Peterson, 2005). In Ethiopia, such simplistic
assumption may have serious negative consequences which have so far not been fully
acknowledged. For example lenders are not voluntary to accept such inflated land price as
market value of land.
The experience shown that the lease benchmark price determined by appropriate is extremely
low. Most people are willing to pay high price for auctioned land because they expect the price
to go up in the future. While waiting for the price to go up. That cause is the confident
expectation of the future enhancement of land values. The lease price is over and above of the
market value of land, and does not show the market value, the borrower (lessee) is expected to
develop the land in order to pledge the land as collateral for loan provision. Unfortunately most
of the lessees take the land through paying higher prices not to undertake development activities
but to sale with higher prices for other land demanders.

Studies have shown that land speculation has been triggered by requirement of annual fixed lease
rent payment and lack of land value taxation. This makes the land price over and above the
market value. In such type of lease price, bankers are not confident to take undeveloped land as
collateral unless the lessee develops the land. It is necessary to recognized that the method of
selecting a winner of urban lands leases use should be evaluated in light of achieving the policy
objectives. The legislature should further think about the mechanism of achieving all of the lease
policies simultaneously.

ii) The Periodic Lease Price Payment

As has already been made clear, the primary purpose of leasehold is to keep the value of land in
public hands. In fact, the main objective of public land lease system is not to produce an
immediate financial return for the municipality but to capture increasing land values through a
periodic rise in ground rents. Hence one of the advantages of retaining land in public ownership
is to have the increase in land values accrue to the community at large calculation of the ground
rent, therefore, has a critical bearing on the success or failure of this endeavor (Mattson, 1995).
Adjusting the ground rent according to the changes in the land value captures this increase. It
generates a stable stream of income for the municipality. It is also important to remember, that
the main objective of public land lease system is not to produce an immediate financial return for
the municipality but to capture increasing land values through a periodic rise in ground rents.
Therefore, the contract between lessor and lessee concerning calculation of the period lease rent
payment has a critical bearing on the success or failure of public lease hold system

Examples of methods of determining marks to market ground rents are: a graduated schedule of
future increases on a lump sum year-by-year basis, or increases by a cost-of-living index, or
increases based on the results of future appraisals. The experience has shown that the norm of
periodic lease payment is to be indexation provisions. In practice, it is impractical to adjust the
rental payment annually based on an index value that reflects the underlying value of the land.
In fact, most leases mark to market every five or ten years, at a minimum, because the cost of
determining the market lease rate is excessive. Often a ground lease contract will include a
clause which specifies the procedure for determining market rent at the time of adjustment.
Experience of most countries which use public lease policy and intended to enable the lessor to
appropriate to the increasing price of land, the leases have been granted either with indexation
provisions or periodic rent reviews (David, 2000).
It should be noted that principle of land lease rate payment in Ethiopia definitely contradicts with
objective of the lease policy. It is therefore necessary to recognized that the method for setting
rental rates for urban lands leases and payment arrangement should be evaluated in light of
achieving its objectives and; the legislature should further think about the mechanism of
achieving its goals.
 3.2 Government Opportunity to Retain Portion of Land value Increments
Legal scholars have treated property in land as a bundle of rights. According to this perspective,
the government can retain the right to own land and assign to a private party the right to use,
develop, transfer, inherit and benefit from land. The private party can enjoy the land rights only
for a specified time and as stipulated in the land contract. Theoretically, because the government
is the landowner, it could retain a portion of the land value increments by asking a lessee to pay:
 A lump sum of money-called down payment at the beginning of the lease,
 An annual ground rent that will goes with market,
 A premium when the lessee modifies lease conditions to acquire additional rights for land
redevelopment, and
 A premium for renewing the land rights when the lease expires
 More important, the money collected from leasing is not a substitute for property taxes;
Owners of residential and commercial properties must pay property tax

The Ethiopian leasehold system seems capable of helping the government recoup a large portion
of development windfalls from landholders. As said, a person permitted urban land lease holding
shall pay down payment at the beginning of the lease and the remaining balance of the lease
amount on the basis of equal annual installments during the payment term. Besides, a
government can get premium when the lessee apply to convert the use of the land. Hence, the
period of lease, performance of payment and other conditions shall be depends on the prevailing
condition. Moreover, the period of lease may be renewed upon its expiry on the basis of the
prevailing bench mark lease price and other requirements.
Although these proposals are persuasive at the legislative level, there is only limited evidence to
prove that Ethiopian governments could achieve these policy goals in practice. The use of urban
land leasehold system as a source of public funds may require re-thinking and administrative
capacity. The practice revealed that government has been relied heavily on down payment
(initial land premiums) since the highest bidder shall be declared a winner on the basis of his bid
price, the amount of advance payment he offers and period of payment. An individual who is
willing to make high down payment and finish the remaining balance with short period shall be
selected as winner. It seems demanding premiums from lessees during land use converted as per
a permit granted has proven to be administratively and economically difficult10. In addition, it is
too early for government to collect a premium for renewing the land rights when the lease
expires since leasehold system is adopted since 1993. As for the annual land rent, since 1993 the
amount of annual rent paid by lessees has been fixed and has no relationship with increases in
land value.
In Ethiopia, available evidence suggests that both the down and periodic payments are payments
made for the advantage of occupying and using the land, and they do not reflect the service
burden placed on the community. In other words, the money collected from land use fee is a
substitute for property. As a result, the government is unable to utilize this method fully to

10
Perhaps the newly enacted proclamation 721/2011does not address issues of premium when the lessee modifies
lease conditions. Rather article 21 stated that the lessee may apply to the appropriate body to convert the use of the
land and the appropriate body may authorize the proposed land use where it ascertains that it is in conformity with
the land use plan of the urban center.
recoup land value. These difficulties have encouraged the government to retain land value at the
beginning of the lease.
The point here is that, if the government is intended to generate the required revenue with public
ground lease approach, there should be better understanding that governments may not raise
enormous revenues from transactions of land use rights, in part because the current mass
disposition of public land is no longer responsive to present and future need and government
could not generating a stable and secure stream of income from land. Besides, lessees’ payment
does not include the cost of their public services usage and in part because adjusting the annual
land rent according to the changes in the land value has not been acknowledged. Moreover, the
experience of also showed that officials could not tried to avoid problem of retain a portion of
the land value increments by relying contract modifications and the annual land rent than on the
initial assignment of leases to capture land value. The central suggestion in this material is
therefore the fact that there is a need to examine how urban land leases holding system in
Ethiopia most likely is used as financial instrument and also adopt other approaches that may
contribute to the contemporary fiscal systems.
Of course, there are arguments that support the idea of retaining a portion of the land value
increments by asking a lessee to pay a high lump sum of money or down payment at the
beginning of the lease. Hence, to recapture land value in the future, first of all municipalities and
city administration should invest in their town and cities, in its public area, to make it an
attractive place for economic development and for living and working for their citizens. Private
persons benefit from these investments: their property increases in value. To do this at early
stage municipalities may find their financial sources limited. In case of these challenges
collecting high initial premium (lump sum) through lease can be an efficient and interesting tool.
Through time, it is interesting to spread the income from land: not cashing the revenues at one
moment with the risk of spending all the money at once, but generating a stable and secure
stream of income. Yet, this method can work only if land administrator lease land slowly to
private developers. A rapid disposition of land when its value is low would impede the
government's ability to recoup land value in the future. Restrictions on land supply, however,
have encouraged private land banking and property speculation, leading to high land and
property prices and making lease town the most expensive cities.

While urbanization has led to significant improvements in the welfare of the Hong Kong11
people, it has also placed enormous pressure on Hong Kong’s leasehold system. The experience
of high-premium-low-rent structure in Hong Kong has shown the following consequences:

 Only a handful of large developers have big enough balance sheets to afford large-scale
projects on their own, reducing competition;

11
Hong Kong Land Lease Reform, in 2010; Retrieved on March, 20, 2011 from http://webb-
site.com/articles/leases1.asp
  The Government receives lump-sum revenues in return for future land use, rather than
recurrent ground rents which would smooth out revenues and allow it to match future
expenditure with income;
 As a result, the Government piles up cash and then invests it in the markets, creating
conflicts of interests;
 The Government earmarks the land premiums in a separate account called the "Capital
Works Reserve Fund", and then feels obliged to spend it on infrastructure projects
regardless of their economic value, rather than booking ground rents to general revenue
and spending it on recurrent items such as education, welfare and healthcare; and
 Businesses and individuals have excessive amounts of capital tied up in properties, rather
than paying less up-front and carrying obligations to pay future ground rents.
 Because getting onto the property ladder is so capital-expensive, many residents and
business settle for renting property on short-term leases from landlords rather than having
the security of tenure provided by a government lease, and suffer disruption every time
they have to relocate.

Hong Kong Land Lease Reform in 2010 takes in to account the above problem; the balance
between land premiums and ground rent. As a solution, it introduced lease structure
characterized by low -premium- increasing - rent structure. The following are included in the
reform:

 The up-front premiums to develop properties are reduced, lowering the barriers to entry
and increasing competition;
 The Government would receive smaller premiums, but would build up a recurrent
revenue stream of ground rents which would smooth out revenues and match future
expenditure with income
 Less money would pile up in the reserves, so the Government would not have to invest it
in the markets, and might even draw down on the reserves to fund a planned cash deficit
due to lower premium income until the stream of ground rents had built up.
 Higher ground rents would go to the general revenue account rather than the Capital
Works Reserve Fund, reducing wasteful infrastructure projects
 Businesses and individuals who own the leases would have less capital tied up in
properties, and instead would pay higher ground rents to the Government
 More people and businesses would be able to owner-occupy government leaseholds
rather than rent properties from landlords
 In order to eliminate inflation from the equation, the ground rent should be expressed as a
percentage of adjustable rentable value. This means that in times of economic slowdown,
when rents fall, ground rents would fall in line, as rentable values are reduced.

The experience of other countries also showed that officials could avoid problem of retain a
portion of the land value increments by relying more on lease renewals, contract modifications
and the annual land rent than on the initial assignment of leases to capture land value. The
plausibility of doing so, however, remains an empirical question. The experiences of Hong Kong
suggest that such an attempt could encounter strong public resistance and high negotiation costs
(Yu-Hung, 1999)
It is also argued that despite the motivations of the lessee are somewhat more complex in light of
the fact that a ground lease is almost always more complicated than a straight fee purchase, it is
to avoid the upfront capital cost of purchasing land or property. Thus, in land lease the holding
rent (down payment) shall design to facilitate development and reduce out-of-pocket costs of the
ground lessee during the pre-development, development and construction periods. The down
payment is the least risky ongoing revenue source for the lessor. This component of the rental
stream should yield the equivalent of a relatively low risk return for the term of the lease. The
actual payment should be computed on a notional amount equivalent to the land value in highest
and best use (presumably the existing use) at the time the lease begins. The annual ground rent
may adjust periodically (usually every five or ten years). The adjustment should be triggered by a
change in the value of the land. Such changes in value are normally determined by an appraisal
although some creative draftsmen have tried to finesse the need for valuation to trigger changes
in the annual rent (David, 2000)

3.3 Determination of Ground Lease Rent Vs Highest and Best Use

The ground lease payments are typically determined by establishing the current value of the
property and adding an appropriate interest factor for the payment of such value over the ground
lease term as a result of highest and best use. Hence, the actual lease payments should be
computed on a notional amount equivalent to the land value in highest and best use (presumably
the existing use). The Appraisal of Real Estate (2001) offers the definition for highest and best
use as:
“The reasonably probable and legal use of vacant land or an improved property, which is
physically possible, appropriately supported, financially feasible, and that results in the
highest value”
The best use of a parcel of land, known as its highest, best and most profitable use, is that which
will most likely produce the greatest net return to the land over a given period of time. This net
return is realized in terms of money or other amenities. The application of this principle is
flexible. It reflects the appraiser’s opinion of the best use for the property as of the date of his
appraisal. At one period of time, the highest and best use of a parcel of land in a downtown
business district might be for the development of an office building; at another time, a parking
lot may be the highest and best use. A single-family house on a commercial lot may not be the
highest and best use for the site. A detached house located at the center of the city may probably
not the long-term highest and best use of the land (Capozza and Sick, 1991).
One of the typical examples that we can easily observe consideration of basic highest and best
use assumptions in Ethiopia is the fact that government has expropriated urban land in the name
of public purpose. Urban centers of Ethiopia have, from time to time, been growing and the
number of urban dwellers has been increasing and thereby land redevelopment for the
construction of dwelling houses, commercial business district, infrastructure, investment and
other services have become necessary. The experience indicated that the value of the vacant
urban land exceeds the value of the improved property (including demolition costs), highest and
best use have usually dictated improvements to be demolished. Urban land administration have
decided to expropriate a landholding provided that it should be used for a better highest and best
use and payment of advanced compensation.
In this scenario, what is more needed to be considered is that land offers certain attributes that
some developer or commercial users (the acquiring agency ) find more beneficial than the
current holder. Therefore, when holder of urban land is evicted and granted for the acquiring
agency through leasehold arrangement actual new lease payments should be computed on a
notional amount equivalent to the land value in highest and best use. The most common question
about such leasing is: What compensation is made? How the value of the highest and best of land
is calculated. What determines the value of land for the new land users?

If we look at experience of China, where land is public-owned; cannot be traded and the primary
land market is monopolized by the government, the urban expropriation laws provide equal
negotiation power to the acquiring agency (either a private developer or a public entity) and
holders of urban land who would be evicted for purpose of public use in determining amount of
compensation. The law requires that both parties enter in to an agreement on all relevant
arrangements, including amount of cash compensation, size, and location of resettlement home,
moving date, and transitional arrangements. The law also requires the government to safeguard
holders of urban land who is evicted during negotiation with trusted and experienced officials
who are supported with all the power and resources of government (Chan, 2006). The
experiences of China showed that the expropriation and compensation law considers the highest
and best uses principles and land market price. Usually when compensation is negotiated in case
of expropriation, it is in the interests of both the landholder and the new ground tenant for the
land to be developed to the highest and best use. Land compensation is based on the price of land
use right granting. This has never been the experience in Ethiopia. As a result, exploring rate of
lease payment base, valuation basis and techniques used to determine land highest and best use
after expropriation is extremely important for improving land market function.

In Ethiopia, expropriation is an activity dominated by the government. The urban land

expropriation law declared that when urban land is expropriated, the rate of compensation would
be determined based on the appropriate law. In other words, compensation is not determined
based on the interest of the two parties (a person being evicted and acquiring agency).The
experience indicated that problems with compensation and valuation have contributed to
unsuccessful development-caused forced displacement experiences in Ethiopia. In this regards,
you should be aware that the intension of this material is not to investigate problems associated
with valuation and compensations. Rather it is intended to explore weather government adopt
alternative contractual arrangements which may lead to behavior on the part of the new lessee
that is more consistent with the highest and best use or not . To answer these issues we need to
examine the experiences of government who has been granting urban land use right for new
developers after expropriation.

If the lease permits changes in use, consideration should be given to whether rent should be
adjusted based on the economic value of the changed use. The government shall be protected so
that any changed use that diminishes the economic value does not adversely affect the
government. On the other hand, if a changed use results in increased economic value, the
government shall share in that increase. Consequently, a ground lease should be carefully drafted
with due consideration to the basic issues of highest and best use. Considerably, urban land has
been mostly happens to be expropriated for big projects, private real estate investments, and so
on which automatically increase the value of land. Simply granting urban land for developers
with the assumption of current use and ignoring the highest and best use of a specific parcel of
land being expropriated has a negative consequence on function of urban land market (David,
2000).
The empirical study indicated that a federal or regional authority acquire land from the urban
poor with inadequate compensation and then transfer landholding right to diasporas or a
particular developer for construction of leisure hotels or residents houses. The government has
been engaged in land market acting as both monopoly (only seller of land) and monoposony
(only buyer) and making high profit at the expenses of the societies. Hence, the government has
been taking land in the center at a cheap price (buy land by offering low compensation payment)
and then transfer through high lease price (Daniel, 2009). It has to be stressed; however, that
despite the action taken by government undermines the role constitution that promises to pay
commensurate compensation, on the other hand the practice showed that government has
considered the highest and best use of the land while it is granted for new urban land developers.

Perhaps, expropriation of urban lands may, upon decisions of the government authorities of
region or the city administration shall be undertaken for development activities that benefits
public since 1993. The Region or City government regulations declared that land obtained
through expropriation for such development activity such as social service-rendering institution,
low-cost housing, and private dwelling houses may be permit for lease payment down to low or
nil. The preceding laws did not provide regulation to describe activities in which lease payments
would be low or nil. In this regard, the new proclamation seems it take considerations of
previous challenges. Proclamation No. 721/2011 provided detail lists that can request for urban
land lease holding through allotment that may require expropriation. Under this law, except
urban land holdings granted by allotment for two entities,” the budgetary government and
religious institutions”, all other users of the land granted through allotment are required to pay
land use rent as those granted use rights through auction. It is noted that a budgetary government
entity or religious institution provided with an urban land allotment will pay an amount
equivalent to the compensation paid in the course of clearing the land (lease benchmark price).
so the question is does urban land authority consider the highest and best use of a specific parcel
of land while determine the lease benchmark price and transfer land through auction?

In the real property arena, the highest and best use of a specific parcel of land is not determined
through subjective analysis by government (a landlord), developer, real estate agent, or
valauer/appraiser; but rather, it is a use shaped by the competitive forces within the market where
the land or property is located. Determining highest and best use includes assessing potential
possessor /users’ motives, the existing use of the property, the market’s behavior, community or
environmental factors, and special conditions or situations which come to bear on appraisal
conclusions of value. Usually when a ground lease is initially negotiated, it is in the interests of
both the landlord and the ground tenant for the property to be developed to the highest and best
use. That is, the use that yields the highest land residual or the most profitable use. The landlord
has the leverage to have the site developed at highest and best use because the landlord can
withhold from agreeing to a contract with any party that will not commit to the development the
landlord believes is the highest and best use. However, once the site has been developed, time
has passed and market conditions have changed, depending on the terms of the contract,
redevelopment may not be optimal for the ground tenant even if there is a higher and better use
for the site. The motivations of the ground tenant will be driven by the terms of the ground lease
(David, 2000).
For example, a lessor who intended to retain a portion of the land value increments because of
change in land use to highest and best use, the lease agreement has to presume that the lease will
be re-negotiated with a clause addressing this issue. During the lease term granting right for
lessee for redevelopment towards highest and best use benefit both parties. A lessee has an
option to convert the type of development or service in respect of the market that benefit him
most. For lease revenues to track highest and best use values, it would be necessary for the lessor
to ask a premium and to readjust periodically to some ratio of the unobservable market value of
the property resulted from highest and best use. Even, the lease can be renegotiated and a new
agreement drawn up to specify the new terms and conditions while it expires. Therefore, because
of the long term nature of the lease, it is important to the landowner that the contract contains
incentives that cause the ground tenant to maximize the net present value of the underlying asset
at the outset and throughout the life of the lease (Capozza and Sick, 1991).
It is important to note that granting a lessee right to re-negotiation to redevelop and when the
lease expires is not an end by itself to motivate the ground tenant to continuously redevelop
(convert) the land to its highest best use. Consider the following lease law that stipulate: Where
the lease period is not renewed upon lease expiry (termination) compensation shall not be paid to
the lease-hold possessor. Such lease contract directly discourages the redevelopment decisions
faced by a ground tenant. First, the lessee has no rights to the property at the termination of the
lease. That is, the terminal value to the lessee is zero. Second, during the life of the lease, the
redevelopment option is less valuable to the lessee because any capital expenditure has zero
terminal value.
Regarding this, a study made by Capozza and Sick (1991) and David (2000) provides valuable
and practical insight into alternative contractual structures. The key alternatives they consider are
the option to extend the lease and the sharing of the residual claim at the termination of the lease.
In the former case, they propose a contract that is automatically extended by the number of years
elapsed if redevelopment occurs. In the latter case, they consider entitling the ground lessee to a
payoff equal to the market or depreciated value of the improvements to the land (the building).
They find that both these alternatives enhance the value of the redevelopment option to the
ground lessee and result in redevelopment that is more consistent with that which the fee owner
would have undertaken.
In a country where there are growing city, the probability that the highest and best use of a
particular site will change is relatively high over that long time frame and ground lease contracts
should provide incentives that encourage lessees to behave more like fee owners. Thus, in this
material, I tried to explore Ethiopian context contractual alternatives to the ground lessee’s
decision about the timing and intensity of redevelopment and the ground lessee’s residual claim
where the period of lease is not renewed.
As said before, during the lease period if the lessee find that the current land use is not the
highest and best use, it may be converted as per a permit granted in writing by the appropriate
body after application to convert the type of development or service in respect of which lease-
hold of the urban land has been permitted is received. In this case, period of lease, performance
of payment and other conditions shall be varied upon the conversion of the land use. Under this
situation, the government also can retain a portion of the land value increments by asking a
lessee to pay a premium when the lessee modifies lease conditions to use land the highest and
best use.

The urban land lease policy since 1993 stipulated that period of lease may upon the termination
be renewed for the lease-hold possessor as per the agreement to be reached, unless the urban land
is wanted for public interest. The assumption is that unless the ground is needed for public
interest the municipality shall renew the agreement. The terms of agreement especially the rent
and manner of payment as well as other conditions shall be based on the prevalent condition at
the time of renewal. However, like any contractual agreement the expiry of the lease contract
may be a reason for termination of the lease hold right. Urban land lease proclamation provides
three basic reasons for the termination of the contract:
1) Where the lease-hold possessor has failed to use the land in accordance with the contract;
2) Where it is decided to use the land for a public interest; and
3) Where the period of lease is not renewed
In the first and second case; termination of lease contract is subject to payment of compensation.
In the third cases however there is no any compensation to be paid. Where the lease period is not
renewed upon termination on account of the land being wanted for public interest however,
compensation shall not be paid to the leasehold possessor.
It should be noted that, despite termination of leasehold have not appeared at large to the more
city government so far , the terms of the lease contract have a great deal to do with the value of
the leasehold interest and the timing and intensity of redevelopment that would be contemplated
by the ground lessee. The implication is that the current Ethiopian urban lease contract does not
simulate the redevelopment decisions faced by a ground tenant and increase land value. A lessee
may not use the land to the highest and best use if the terminal value to the lessee is zero. If
compensation is not paid for residual value up on termination, this would create insecurity upon
lease holders which would again discourage them from making additional investments on the
ground land they leased. In other words, within lease period, the redevelopment option for a
lessee may be less valuable because any capital expenditure has zero terminal value.
In most countries, the municipality is obliged to pay lessee the residual value on land, if the
lease contract is not renewed. The reason behind protecting the lease hold possessor is that
because of the investments already made on the ground. This approach is well known in different
countries such as Netherland, Finland, South Africa (The Development Corporation Amsterdam,
2003). Therefore, considering these facts and putting clearly the suspicions in advance in
Ethiopia will protect both parties in the future. I hope that this concern will call attention to the
possibilities of improving the prevalent problems and therefore will be a source of inspiration for
those who are involved in urban land development and governance. The issue of considering
changes in land values caused by public and improving this simplifying structure of lease
payments in Ethiopia should be considered seriously. There should be a mechanism that reserves
municipality’s right to benefit from increase in land values and claim substantial proportion of
future increments in the capital value of land at the end of the contract.
 3.4 Implication and Factors to Be Considered
The Ethiopian urban land lease issue is typically of the contemporary orientation towards a free
market philosophy. It was within this reform framework that the first urban land leasing policy
and legislation was promulgated and put in to effect in 1993 and then revised in 2002 and 2011.
Despite one of the objectives stipulated in all urban land lease proclamation is to give market
determined exchange value to land, land users have not been made to realize the cost of urban
land and make an efficient use of the resource; and land prices does not provide a clear signal
that leads to efficient land use and allow the recycling of primate lands for best uses.
Importantly, the reasons to establish a lease system are to benefit from the expected increase in
land values and to capture these increases for the community. But the practice indicated that
there is no mechanism designed in such a way that the increased value of the land can be
captured by municipalities. There are simplistic assumptions and formulation on the laws which
limit government to give land market value and collect adequate revenue.
The government should admit the fact that lease hold tenure is not a magic cure; however,
implementation of a lease system by a city administration or municipality requires trust between
government and citizens at the real estate market, and persistence. Today, the mechanism of
setting minimum lease price and ground rent seems simplistic, incomplete and distorted, and it
does not contribute to a rational use of urban land. For market oriented economy policies,
strategy and program a workable and operationally efficient system is crucial. The sustenance of
a robust free market economy and for building transparent and accountable land administration
system is a foundational for revenue mobilization from public land. In Ethiopia the urban land
market is undeveloped, therefore basic regulatory mechanisms and institutions and updated
means of financing the urban land development are necessary. The following are not all but some
of the major issues that need attentions:

 Calculation of the lease benchmark price and ground rent based on highest and best use
has a critical bearing on the success or failure of giving land market value and getting
adequate revenue from it;
 Government highly rely on down payment (initial land premiums) as source of revenue
than an annual ground rent that will goes with market , a premium when the lessee
modifies lease conditions and for renewing the land rights when the lease expires should
be re considered;
 The option to redevelop a property is valuable, but a premium, period of lease,
adjustment for annual ground payment and other conditions shall be seriously
considered;
 Lessee’s right of getting compensation for the residual value in case of the contract not
renewed is inevitable;
 An economic differential tax on leaseholds should be developed to encourage more
efficient land use and discourage speculation.

References
Aneley, A. (2006 ). Synoptic reflection on urban land administration Issues in Ethiopia. Land
Administration Decisions Makers Meeting, Windhoek, Namibia, 7-8 December 2006
Appraisal Institute (2001). The Appraisal of Real Estate. Appraisal Institute, Chicago, Illinois,
12th ed. ISBN 0-922154-67-8.

Belachew, Y. (2010). ‘Urban Land Lease Policy of Ethiopia: Case Study on Addis Ababa and
Lease Towns of Amhara National Regional State’, FIG Congress 2010, Facing the Challenges
Building the Capacity Sydney, Australia, 11-16 April 2010

Capozza, D. R. and G. Sick (1991) Valuing Long Term Leases: The Option to Redevelop. The
Journal of Real Estate Finance and Economics 4, pp. 209 – 223

Chan, N. (2006) Recent reform of China’s rural land compensation standards. Pacific Rim
Property Research Journal, Vol 12, No. 1.

Chengri , D and Knaap, G. (2003). ‘Urban Land Policy Reform in China’, Land Lines: April
2003, Volume 15, Number 2

Christie L.B(2003) Earning from Louisiana, leasing military bases Leasing public Land: Policy
debates and International Experience, Cambridge, Massachusetts, p.225

Daniel W/G (2009) Land Valuation for Expropriation in Ethiopia: Valuation Methods and
Adequacy of Compensation, Ethiopia, 7th FIG Regional Conference Spatial Data Serving People:
Land Governance and the Environment – Building the Capacity Hanoi, Vietnam, 19-22 October
2009

David, D, J. (2000). Long Term Ground Leases, the Redevelopment Option and Contract
Incentives. Marshall School of Business, Lusk Center for Real Estate University of Southern
California January, 2000

Hong, Y and Bourassa, S. (2003). Why Public leasehold? Issues and concepts. In: Hong, Yu-
Hung / Bourassa, Steven (editors). Leasing Public Land – Policy debates and International
Experiences. Page 3 – 38.

Jefferies, R. L. (2005). Developing a Ground rental Indifference Valuation Model. Discussion

Paper No. 102 Commerce Division Lincoln University, Canterbury Massachusetts, p.256

Mattsson, H (1995). ‘Site leasehold in Sweden: a tool to capture land value.

Nega, W/G. (2005). Who are benefiting? The Urban Land Lease Policy: case study Addis
Ababa. Master thesis, Lund, Sweden, 12 September 2005

Peterson G (2005) .Report and Recommendation on Municipal Finance situation in Amhara

Region. Discussion draft, June 2005.

The Development Corporation Amsterdam. ( 2003 ). The Use of Public Ground Lease in
European Cities. Development Corporation Amsterdam European Affairs PO Box 1104 NL-
1000 BC Amsterdam
Yu-Hung H ( 1999) Myths and Realities of Public Land Leasing: Canberra and Hong Kong .
Working Paper, Lincoln Institute of Land Policy, March 1999
Yusuf, B, Tefera, S and Zerihun A. (2009). Land lease policy in Addis Ababa. The Addis Ababa
Chamber of Commerce, Addis Ababa, Ethiopia, 2009
 4
Chapter

CHAPTER 4: Property Valuation for Taxation Purpose

4.1 Overview of Property Taxation

G
overnment intervention in the supply of public goods is inevitable and can only is done if
the public pays taxes for the production and supply of such goods is high. Taxes may be
levied on consumption tax (Value-added Tax)) and income tax (corporate income tax,
tax on capital income) and Property tax. Generally, the first two kinds of taxes is not our
concern. It is property tax which is our centere of discussion. Property tax discussed in this
material refers to the taxes imposed on the holding of property, including both residential
property and business property. Property tax has been a very old tax, prevailed in the time when
it consists of the main part of wealth of the taxpayer. In modern society, although most country
has turn to finance their public expenditure by income tax and/or consumption tax, In many parts
of the world, property tax is still still been a major source of the revenue of local governments.
However, it is not an easy-administered tax (Wensheng, 2012).

Currently, the potential significance of property tax is considerably higher for developing
countries which adopted decentralization policies. However, dissemination of clear and accurate
information on the land taxes, and how the revenues will be used, is finding to be necessary for
public support and prevent abuse. In addition, impact assessment should be undertaken on new,
expanded or improved land and property taxes to identify how different target groups will be
affected by proposed changes to the tax system.
Land and property tax systems vary from country to county and change constantly even in a
short time. But, the following broad principles are generally associated with a good tax system
(Adam, 1776; Musgrave, 1989)
 Canon of Equity: the distribution of the tax should be equitable, in other words every
taxpayer should be expected to pay a fair share of the tax;
 Canon of Fairness: the tax structure should endeavor for fair and non-arbitrary
administration. It should also be understandable to the taxpayer;
 Canon of Economy: when compared to the revenue collected, the administration and
compliance cost of a tax should be as low as possible – in other words it must be
economical to collect ;
 Canon of Benefit : tax obligations should be based on benefits receivable from the
enjoyment of public services ;
 Canon of Convenience : tax should be levied at the time, or in the manner which is most
likely to be convenient for the taxpayer; and
  Taxation should as much as possible avoid creating ‘excess burdens’ that would interfere
with the efficient functioning of the host market.

The above conditions for a good tax system were meant to apply to taxes in general and therefore
also with regard to property and land taxes. Of course, Slack (2001) provides the basic principles
for the efficient property tax system based on the traditional principles of taxation as shown in
the following table:

Table 1: Guidelines for Property Tax Systems

Fairness Based on benefits received- Property taxes should reflect the benefits received from
government expenditures

Based on ability to pay- The tax levels should be related to individual’s ability to
pay in terms of both horizontal and vertical equity. Thus property owners with
similar value properties taxes, whereas taxpayers with high value properties should
pay relatively higher taxes.

Neutrality Property tax should not distort economic behavior of individuals. For instance the
tax should not affect decisions about where to live and work, and also the type of
improvements to make to one’s property.

Accountability Property taxes need to be designed in ways that are easily understandable. Clear tax
structures provide room for policy makers and tax authorities to be held
accountable.

Ease of Property tax systems need to be simple such that it is easy to administer the tax and
administration cheap to collect.

Source: Slack (2001)

According to Lymer & Hancock (2002), the most important objectives of property taxation in
most of countries are government financing for public expenditure, redistribution of welfare,
allocating market resources efficiently and control of money in circulation. When it comes to
implementation, there are some central policy questions that must be addressed in designing
effective land and property taxation system
 What will be considered taxable property
 What standard of value shall be used
  What valuation approach will be used

In principle the law that authorizes land and property tax should embody and reflect the cultural
understanding of land and property rights. The law must articulate precisely what is taxable. Will
only land be taxed, or will the tax cover land and immovable improvements, or just the
improvements? Or the law should state whether the land and improvements are to be taxed as
separate objects or in combination as a single unit. In addition to describing precisely what will
be subject to the tax, the law must set out the standard of value that is to be used. Land and
property can be taxed based on its capital market value, annual rental value, or based on property
attributes. The law that authorizes land and property tax should also stipulate which techniques
will be used to determine property value for taxation purpose.

As a result, exploring tax base, valuation basis and techniques used to determine property value
for taxation purpose is extremely important for improving taxation system, regulating real estate
market and subsidizing the local government revenue. The following sub section address these
issues

4.2 Defining What is Taxed

There are strong theoretical and policy arguments for taxing land only. And there are good
practical reasons to tax both land and improvements. Public finance specialist around the world
argues that land provides the most economically efficient tax base. The supply of land is
relatively fixed and land is immovable so applying a tax to land will promote its efficient use and
will minimize economic distortions in the larger economy. If we tax houses, there will be fewer
and poorer houses; if we tax machinery, there will be less machinery; if we tax capital, there will
be less capital. But if we tax land values, there will be no less land. On the contrary, the taxation
of land values has the effect of making land more easily available by industry, since it makes it
more difficult for owners of valuable land which they themselves do not care to use to hold it
idle for a large future price. Moreover, if the land and property tax is intended to capture part of
the increment in value, taxing land is essential (UN-HABITAT, 2011).
The idea of land value taxation has a long and varied history. It has operated, in a limited and
varied fashion, quite well in USA (Pittsburgh and Scranton, Pennsylvania). In these state, land is
taxed at a separate rate from improvements. Land value taxation also operates in parts of
Australia, New Zealand, Denmark, Jamaica, as well as in several African countries (South Africa
and Kenya). However, there is an argument against single tax; only land tax. One of the
arguments that are often made against taxes on land is that as land taxes rise, the selling price of
land falls, eliminating the base of the tax, so that only modest taxes on land are feasible. It is
sometimes suggested that collecting all of the rental value of land is not feasible because it would
bankrupt the financial system, which uses land as collateral for loans (McCluskey, 2000).
On the other hand, it can be very attractive to tax immovable improvements to land. If there were
no improvements on the land, there would likely be little need for the services that must be
funded through taxes. Further, to the extent that extensive improvements require more public
services, a tax tied to the value of improvements more closely approximates a benefit tax in that
the taxes paid are roughly proportional to the benefits received. However, it should be noted that
taxing improvements may tend to discourage investment. Land owners who think their taxes will
increase if they improve their property may think twice before making the investment. Suppose
skyscrapers reflect enormous capital investment, and this expenditure is warranted because of the
enormous value of locational sites. By taxing buildings, however, we impose a penalty on their
optimum development as well as on the incentives for their maintenance.

The prevalent experiences showed that the best land and property tax design will be based on the
specific local context created by combination of current property rights, land registration
systems, property markets and administrative capacities. Theoretically, the same revenue can be
generated from a tax on land only, improvements only or a combination of both. As a result, in
many instances the theoretically preferable may need to give way to the administratively
practical. Hence, despite the fact that people need to pay property taxes based on rationales of
vertical and horizontal equities, it is not always the case that tax systems are comprehensible and
transparent for tax payers. Property tax systems are usually not elaborated after proper
consultation with the community. Since the community do not have simplified access to and
clarification on information of the tax laws, they lack awareness on tax rules and regulations and
this has an impact on the practicability of the regulation. If the local authority is taxing just land
or just improvements, the taxpayer may be unable to judge the accuracy or fairness of the tax
being assessed. And quality tax administration is enhanced if taxpayers understand how their bill
is being calculated and can check its accuracy for themselves. Taxing both land and
improvement, on the other hand, overcomes all these obstacles (UN HABITAT, 2011)
There are strong arguments related to tax transparency in favor of taxing both land and
improvements. When real estate transactions involving improved property take place in the
private sector, there is generally very little effort to distinguish between the price of land and the
price of improvements. Thus, when the land owner or occupant receives a tax bill, the taxpayer is
generally able to compare his or her personal knowledge of the market value, construction cost
or rental value of the property with the tax assessor’s estimated value if the value concepts are
the same. A further argument in favor of taxing both land and improvements is the availability of
market data. Precisely because most real estate transactions involve both land and improvements,
the details of such transactions are more readily available to tax administrators than are
transaction details involving just land or just buildings.
Currently, in many countries, both land and improvements are taxed (but not always at the same
rate). However, what is taxed among the component of real property depends on the choice by
the respective country government as established in the law that governs property taxation.
4.3 Choice of Tax Base
There is no uniform tax base that applies everywhere. In some countries, the property tax is
based on property value as determined by capital or market value and rental value. In other
countries, the tax is based on building area and property area - this is referred to as unit value. In
a few countries, a mix of these approaches is employed.

According to McCluskey (2000) taxes on property (including land) can be classified in three
main categories depending on the choice of tax base. These categories are the following:

 Taxes based on Capital Market Value or Annual Rental Value (i.e. ad valorem);
 Taxes based on Valuation Band (i.e. classification of property value); and
 Taxes based on Unit-value or area assessment (based on size of property and buildings)
 Each of these systems is considered below.
Taxes Based on Capital

These are also known as ad valorem taxes. An ad valorem tax can be levied on an annual basis
with reference to the rental or capital value of the property (e.g. a property tax). However, there
is a slight difference between taxes based capital value and rental value.

Most jurisdictions presently levying a property tax use the capital value (i.e. market value) of the
property for assessing tax liability. In capital market value based systems, usually market value
of the property is considered. The most widely accepted definition of market value is:
Market value is the most probable price, as of a specified data in cash or in other
terms equivalent to cash, or in other precisely revealed terms, for which the
specified property rights should sell after reasonable exposure in a competitive
market under all conditions request to a fair sale with buyer and seller each
acting prudently, knowledgeably and for self interest, and assuming that neither is
under undue dress (Betts and Ely, 2005).
Capital market value represents the approach taken in many advanced economies. It requires
active markets for rental properties, access to information on those markets and up-to-date
information on who is in possession of the property. Land and property taxes based on capital
market value has its own advantage and disadvantage. One distinct advantage of capital market
value as the base for the land and property taxes is that as communities grow and develop, land
values generally increase and the capital market approach has the capacity to identify such
increases and build them into the tax base. The result is a tax base that tends to grow with the
local economy.

The system of assessment based on Capital Value has its own share of problems. In the absence
of a free open market in land and property transactions, the purchase value of the property,
particularly in metros, does not reflect the true “use” value of the property, but is more a
speculative price. The concept of capital market value is not concerned with what a landowner
actually paid for a property or how long it has been in the owner’s possession. The standard it
seeks to find is what the property would sell for on the open market on the designated tax date.
As a result the capital market approaches unrealized gains in property value.
Taxes Based on Annual Rental Value

Rental value is the fair market value of property while rented out in a lease. More generally, it
may be the consideration paid under the lease for the right to occupy. In the science and art of
appraisal, it is the amount that would be paid for rental of similar real property in the same
condition and in the same area. Annual rental value is thus clearly related to market conditions,
but it reflects current land use rather than how the property might be used if sold on the open
market.
Rental value taxes are usually based on the net annual rent. In this case, a yearly rent that the
property would most probably generate is determined. This we may call the gross annual rental
value. From this statutory deductions or out-goings for maintenance, insurance, management
costs etc. are made, resulting in a net annual value that is subject to tax. Taxable value is
determined by the annual rental value of the property. Annual rental value is defined as the
typical rent for similar properties. Jurisdictions that have an historical tie to some European
countries often employ this approach to value.
Example: Suppose a particular office building being assessed for taxation purpose has 75 m 2 in
size and the municipality sets tax rate of 15 percent. Given that taxable value is determined by
the annual rental value of the property, calculate the tax due of subject property.

We know that annual rental value is defined as the typical rent for similar properties and require
assessors to gather information on comparables. .Suppose the appraiser found three comparables
office building which have rented very recently in the market where the property subject to tax is
located. The comparables like the subject property have no vacancy and found to be equally as
good as to the subject property. The survey result on existing rents of the comparable is given as
follows

Comparable 1 Comparable 2 Comparable 3

Area (m2) 78 75 74

Rent /m2 per year 7.25 6.5 4.25

Operating expense (% of PGI) 13.75% 12% 10.25%

Analysis of market data indicates that an office building in a given neighbourhood rent for 6/m 2
per year and that typical rental expense for landlords is 12 percent of gross rent. Thus, the gross
annual rental value of the subject is calculated as 75 m2 multiplied by 6/m2 or 450. The net rent is
450 less the allowed expenses of 54 (12% of 450) or 396. If the tax rate is 15 percent, the tax due
is 59.40
The advantage of rental value tax is that it is applicable whether the rent is realised or not in any
one particular year. Even if the property remains unlet for a whole year, the tax is still levied
because it is based on a hypothetical other than actual rent. It involves ease of assessment, as
rents in one locality are comparable in a market situation. Its disadvantage on the other hand is
that it has allocation defects. It may discourage investment in real property with investors
preferring to invest in untaxed land uses or in the capital market. There is also difficulty in
arriving at hypothetical “rent” in the case of self-occupied properties, particularly residential
properties which have never been rented out. Problems of assessing properties like educational
and medical institutions, clubs and entertainment places, hotels and guest houses is also problem
associated with annual rental value.
In conclusion, an ad valorem tax that can be levied on an annual basis with reference to the
capital or rental value of the property (e.g. a property tax) has the following general advantages:
 It encourages physical development in urban centres;
 It discourages ownership of land for speculative purposes;
 It is a simple tax to levy without many technical and administrative challenges; and
 The amounts to be raised can be determined in advance and therefore used for
purposes of certainty in budgeting.
However, an ad valorem property tax has been subject to certain criticisms especially regarding
its regressive nature:

 It is difficult to determine how much of the land value is derived from the site or location
value and how much from the reproducible assets and entrepreneurial expertise;
 It is regressive in terms of residential development because taxpayers with a lower
income spend a higher percentage of their income on housing than do those on higher
incomes. Subjecting them both to ad valorem tax therefore does not conform to the
principle of equity
 It is also regressive in terms of methods of assessment that tend to favour the rich against
the poor; lower priced properties are many and change hands more frequently; assessors
therefore may be inclined to assess high-priced properties more conservatively than low-
priced properties because sales comparables are scarce for high priced properties that are
owned by high-income earners; and
 It favors large-scale development against small-scale development (such as owner-
occupier home developers), who receive no income from the subject properties that they
can in turn use to pay the tax;

Taxes Based on Valuation Band

In this approach, instead of estimating the actual market value or annual rental value of each
property, all property are placed in a number of value clusters called bands based on a judgment
of the approximate value of the home. This valuation band approach is common in United
Kingdom (UK). It should be noted that application taxes based on valuation band is limited to
residential properties. Commercial and industrial property in the UK is valued using annual
rental value. All homes in the same value band within a given local municipality pay the same
annual tax. Homes in the same value band in different localities may face a different tax since the
tax rate is set by the local government. Homes which undergo extensive renovation may be
moved to a new band (McCluskey et.al, 2002)
For example, in England there are eight value bands so each dwelling is placed on a valuation list
in one of eight valuation bands, ranging from A to H. This list shows only the band that has been
allocated to the property not its actual value. The value is based on the capital value of each
dwelling. The capital value was arrived at by estimating the amount that each dwelling might
have been sold for on the open market, subject to certain assumptions. As all valuations are
based on the assumed market value at date of assessment (let us say April 2005), any increase or
decrease in value caused by fluctuations in the property market after this date will not affect
them.
Valuation bands have the following advantages.
  It is a quicker process, when timing is important
 It is a cheaper process, when costing is important
 It makes the valuer’s task easier;
 It is a robust, simple system that was expected to be capable of containing value
movements within its broad framework
 It allows for a process of competitive tendering by using the expertise of the private
sector.
 It does not need an explainable mass appraisal model or a defensible value estimate. But
rather, evidence to substantiate the property has been correctly banded.

Despite its apparent advantages (one of which must be its absence of public criticisms), banding
as basis for levying tax has its drawbacks. Some relate to the principles of the tax. As noted
earlier one of prerequisites for a good tax system is “Fairness” in land and property taxation:
horizontal and vertical equity. However, both horizontal and vertical equity are difficult to
achieve with valuation banding. To see how valuation banding is against Canon of Equity,
consider the following table
Table 2: Valuation bands and rate of taxes

Valuation band Range of values

Band 1 < 130,000

Band 2 130,001 – 154,000

Band 3 154,001– 172,000

Band 4 172,001 – 194,000

Band 5 194,001 – 200,000

Band 6 200,001 – 214,000

Band 7 >214,000

The above table shows a hypothetical seven value band that is used by country XXX. To see
how valuation banding is against Canon of Equity, let us consider two properties, one (property
X) whose market value in 2011was 153,000 and a neighbouring property (property Y) valued at
154,000. Property X would fall in valuation band 2 while property Y would be placed in
valuation band 3.

Now suppose the local municipality determined that a tax of rate of one percent of the average
value within each band can provide collection of tax equivalent to amount of total budget needs.
Even though property X and property Y are separated by less than one percent in market value,
because they are in different valuation bands they would face very different tax obligations.
Property Y would owe almost 15 percent more tax than property X (163, 000 compared to
142,000). If we further consider property Z in the same community with a market value of
171,500 in 2011 vertical equity can also be a problem with valuation bands. According to the
value banding property Z falls in valuation band 3 with property Y, and consequently would be
obligated to pay the same tax as property Y even though it is over 11 percent more valuable.
Of course, it is possible to reduce problem of equity issues by increasing the number of value
bands. But issues of equity cannot be eliminated completely through this. The only way to
completely overcome these equity issues is to adopt a capital market valuation standard, which in
many cases is simply not practical. It is important to note that it has been argued that the other
advantages of valuation banding may outweigh equity issues. Valuation systems should be
selected because they are simple enough to be implemented and fairly administered, and
transparent enough to be explained and understood by taxpayers. In this regard valuation bands
are certainly attractive even though they may bear little connection to capital market values.
McCluskey et.al (2002) argue that value banding for property tax purposes could have a wider
application in terms of its usage within transitional and developing countries. It is considered that
a banded approach, if designed to reflect both the structure of the property values and the cultural
and social expectations of the taxpayers, in terms of the number of bands, size of bands, tax
structure etc. can overcome those technical and administrative valuation-based issues typically
found in most developing and transitional countries. This will ensure that investment in property
tax reform will be rewarded with a more stable and predictable tax yield. The necessity of having
simple, cost effective solutions to the ad valorem problem will lead to enhancements in the
system and ultimately to the potential to introduce more advanced assessment approaches, if
required. Banding allows the establishment of different value bands (and therefore the imposition
of differential tax levels between different types of property) between different jurisdictions.
Taxes Based Unit-value or Area assessment

The other tax base is area of the property. It is perhaps the least demanding in terms of data and
expertise, and it makes the fewest assumptions about the maturity of local real estate markets.
Area and location based system is preferred if it is not possible to use the market value of the
property in tax assessment. Under area based property tax systems there are several variations,
but all involve defining the base for the land and property taxes in terms of the physical attributes
of the property. If only land is to be taxed, then some combination of land area (m2), location and
land use will define the base. If improvements are to be included as well, the building area or
volume is added to the list of defining characteristics. Under the area-based approach to land and
property tax, the tax due is calculated by multiplying the measured land area (and often the
building area) by a per unit assessment rate (McCluskey, 2000)
 Example: Assume a city where zoning is the most important method of land use regulation
undertaken by local governments. In this city officials determine that a city consists of six zones
based on land use patterns: Central Business Zone, Transitional Business Zone, Residential
Zone, Commercial Zone, and Industrial Zone, and all other land including agricultural land.

Table 3: Area-based property taxation and valuation approach

Land use patterns in the city Property Rating Tax due

attributes

factors

Land Building Build Land Build. Land Total

Area

Area area Area

2
(m ) (m2)

Central Business Zone 250 300 2.5 1 625 300 925

Transitional Business Zone 270 300 1.5 0.75 405 225 630

Residential Zone 130 150 1 0.5 130 75 205

Commercial Zone 140 160 1.25 0.75 175 120 295

Industrial Zone 150 170 1.75 0.85 262.5 144.5 407

Other Zone 100 100 0.25 0.05 25 5 30

In such city, land area and building area is being used to determine taxable value. The rating
factors are set as shown in the table, and the tax is calculated by multiplying the rating factors by
the property attributes.

The area-based property tax has been gaining influence in developing and transitional countries
around the world. While an area-based property tax is advocated for its simplicity and
transparency, it is often criticized as being unfair because assessed values upon which property
tax liabilities are based are not related to market values. The primary advantage of area-based
tax system is it is simple to administer than a value-based property tax system by requiring only
area measurements and eliminating the need for costly collection and analysis of market data and
revaluations; and may be equitable in terms of an individual's tax burden in proportion to the
amount of benefit received from the property. In addition, the measurement of area is more
objective than estimations of property market value because assessors make judgments about
comparable properties when estimating market value.
One disadvantage of an area-based system is its inability to generate adequate revenues to fund
locally provided goods and services compared to a market value-based property tax. A value-
based property tax also scores better on ability-to-pay equity grounds. An area-based assessment
results in a relatively greater burden on low-income taxpayers than high-income taxpayers when
compared to value-based assessment. This is because average household incomes in high-value
neighborhoods are higher than in low-value neighborhoods. in an area based system taxes all
properties that are the same size equally, regardless of whether they are in high-income or low-
income neighborhoods will be charged equally. If all that is known about two properties is their
similar size and the fact that they are in the same city zone, both will be charged about the same
amount of tax when in fact they may differ markedly in desirability. In other words, highly
desirable properties pay the same taxes as undesirable properties. Finally, since the taxable value
under the area approach is based on physical attributes, the taxable value will change only if
property attributes change or if the tax authority explicitly adjusts the rating factors (UN
HABITAT, 2011)

In conclusion, to determine which options for valuing the base for any land and property tax is
best not easy. Understanding broad specific national or regional situation is necessary. For
example, annual valued based assessment systems and market value, more specifically, are
deemed to be superior to area based systems in countries where there are fully operational
property or real estate markets. Here, market values can be determined. If real property markets
exist but information is not readily available or if staff capacity is limited, a banding value
approach should be used. Where property or real estate markets do not exist or where there are a
number of impediments to their operation, area based assessment is likely to be superior
(Kitchen, 2003)

4.4 Valuation Approach for Tax Purpose

At the beginning of this course, you have introduced that value is a subjective rather than an
objective term. A property might be more valuable to one person than to another, because
different people may derive different utility from the same property. The value of real property
can depend upon the purpose for which it is being used or will be used. Thus in this material our
focus is on assessed or taxable value. Taxable value is a value that is based on definitions
contained within applicable laws relating to the assessment, rating, and/or taxation of property.
Although some jurisdictions may cite market value as the assessment basis, methods used to
estimate the value may produce results that differ from market value .Therefore, assessed or
taxable value cannot be considered to comply with market value unless explicitly indicated to the
contrary.

There are three basic valuation techniques used by appraisers to estimate the value of property.
These include the sales comparison approach, the income approach and the cost approach. To
decide which one of the three valuation approach is best for assessment for taxation purpose,
knowledge of what is the basis for determining the tax (capital/market or rental value of land and
property or physical characteristics of land and property) are important.

i. If taxable value is determined by the capital market value of the property

If taxable value is determined by the capital market value of the property, all three approaches
(comparable sales, cost and income) can be used. But it is clear that all three approaches are not
equally important for the given property assessed for taxation purpose. Income approach, for
instance, is imperative for valuation of income-producing property because this approach is
based on principle of anticipation and basic investment analysis methods. This does not mean
that the sales comparison and the cost approaches are no good for valuing income properties.
Sales comparison and the cost approaches may also be used to estimate the value of income-
producing properties, but they are usually not considered as relevant or reliable as the income
approach. They are usually weighted less in the final estimate of market value of income
producing properties. Nevertheless, the cost approach and the sales comparison approach should
be used when reliable data can be obtained.

ii. If taxable value is determined by annual rental value of the property

If taxable value is determined by annual rental value of the property, annual rental value is
estimated using the combination of sale comparison and income approach. As discussed before
annual rental value is defined as the typical rent for similar properties; so in this case the premise
of the sale comparison approach is that determining annual rental value involves comparing the
subject property with similar properties that have rented in the neighbourhood, or general area,
within a recent time frame. It also involve involves estimation of rental value per square foot of
each comparables and then adjustments are made to the difference for the comparables. Income
approach involves estimation of per square foot rental value of each comparables and an average
rental expenses. Calculate the gross rental value of subject property using average rent for
comparables per m2 per year and then adjust the gross rental value for rent-related expenses
based on the typical or average rental expense for landlords in the neighbourhood. Finally,
multiply the tax rate by the adjusted net rental value to obtain the tax due of subject.

iii. If taxable value is determined by valuation band

If taxable value is determined by valuation band, rather than estimate the actual market value of
property the council tax establish value band where each residential property to be placed. The
point is that value bands are clustered based on the capital value of each dwelling. The capital
value can be arrived at by estimating the amount that each dwelling might have been sold for on
the open market. If the basis of tax is the capital market value of the property, all three
approaches (comparable sales, cost and income) can be used.

Perhaps, the sales comparison approach is the technique best suited for determining the value of
residential properties. This involves comparing the subject property with similar properties that
have sold in the neighbourhood, within a recent time frame (such as six months). Adjustments
are made to the prices paid for the comparables, compensating for any differences between the
subject properties and the comparables. Ideally a minimum of three appropriate comparables are
used, and their sale prices averaged to determine the estimated value of the subject property. This
is the price the buyer actually paid for the property, not the seller's asking price. Tax assessor
uses this approach, which is referred to as a comparable market analysis, when helping clients to
know their property when list in one of valuation bands.

iv. If taxable value is determined by area (the physical attributes of the property)

If taxable value is determined by area based, there is no need of estimating capital or rental value
of property. In this approach what is important is determination of the tax rate because under the
area-based approach to land and property tax, the tax due is calculated by multiplying the
measured land area (and often the building area) by a per unit assessment rate. There are two
important policy considerations related to tax rates: what the rate or rates will be and who will
set them? I would like to remember you the fact that, last year in the course PROPERTY
MARKET (Laad 342), under sub section “Government and Real property markets”, we have
discussed who will determine tax rate and how property tax rates is set. Do you remember?
Property tax rates may be determined by local or central governments. In many countries local
governments levy rates that differ by property class. Different tax rates may be imposed for
different classes of property (residential, commercial, and industrial, for example). The
experience also shows that tax rate may be determined based on budgetary needs. In this case,
there is some information required to determine property tax rate such as the amount of total
budget of administration, total amount of estimated non-property tax revenue and the amount of
total assessed value are needed. The basic formula for determining the property tax rate is

EB  I O
RT  ( )100
VT  V X

Where R T denotes the tax rate; E B the budget expenditures; I O the income from sources other
than property tax; VT the total assessed value of all properties and V X the value of property
exemptions.
It should be noted that little can be learned by looking at a countries property tax rate determined
based on budgetary needs unless the definition of the land and property tax base is also
considered. For example to apply the above formula we need to have total assessed value of
properties that may be estimated based on capital market value or annual rental value. So,
determining rate will thus depend heavily on how the land and property tax base is defined and
what the revenue target is. In countries where taxable value is based on area, attempting to base
the tax rate using the above formula will in all likelihood is meaningless and lead to frustration
for both tax administrators and taxpayers.

Number Capital Land and Annual

of Land Improved Improvements Improvements Rental Flat
Region Countries Value value (Separately) Only Value Area Rate
Africa 23 1 8 3 4 7 11 6
Caribbean 13 4 4 2 0 8 5 0
Asia 25 2 6 2 0 11 12 0
Oceania 7 6 2 0 0 4 0 0
Western
Europe 13 0 9 0 0 6 0 0

An important point to bear in mind in this regard is that in a country where taxable value is
determined by area the specific procedures for determining tax rate are generally left to
administrative rules. The regulation may stipulate that the land and property tax rate
determination is to be based on land area (building area), location, and area of development, land
use, but leave the determination of how these factors are to be calculated and used to arrive at the
tax rate to administrative rules. The idea is that administrative rules tend to be more easily
updated than laws and can therefore be more readily adapted to changing standards and evolving
agency capacity.
Eastern
Europe 20 1 6 0 0 0 15 0
Central and
South
America 16 2 14 1 0 1 1 0
North
America 3 0 3 0 0 0 0 0
TOTALS 122 16 52 8 4 37 44 6
Source: McCluskey and Bell, 2010
Table 4 : Summary of Base for property Taxes and Measure used

McCluskey and Bell (2010) provide information on how the property tax is administered in 122
countries. Table 1 provides their summary of property tax practices around the world.
According to McCluskey and Bell, fifty-two countries tax capital improved value as the base of
their property tax and 16 countries have some form of unimproved capital value as the base of
their property tax. In addition, eight countries tax land and improvements separately, while 4
countries tax improvements only. The next most popular approach is the area-based approach
used in some form in 44 countries. Finally, 37 countries rely on annual rental value to determine
the base of their property tax, while 6 countries apply a flat rate tax to property. .
Table 5: Property Tax Base

Tax base Definition Measure Used

Capital value Price struck between a willing buyer and sale comparison,
seller in arm’s length transaction costs and income
approach

Rental value Value in current use Net rental income

Unit value / Area Size of property adjusted to reflect Square meters of

Assessement

location, quality, or other factors land and building

 area, adjusted

Source: Enid Slack (2001), “Alternative Approaches to Taxing Land and Real
Property”, a paper prepared for the World Bank Institute, Washington, D.C., p. 15

McCluskey and Bell identify several regional variations that emerge from the data they collected.
Of most interest here is the fact that nearly half the countries in Africa and Asia reported in Table
1 rely on some form of area-based tax and three-fourths of the countries in Eastern Europe rely
on some form of area-based property tax.

Of course, Comparative analysis by Connolly and Bell (2009) of the 38 countries using an area-
based property tax suggests that most of the countries that rely on area-based valuation do not
have the administrative capacity to maintain updated cadastres with the information necessary
for market valuation or they are in the process of building a cadastre. Some countries lack
property markets and others have institutional barriers that obstruct market based valuation.

Countries using area-based assessments of land span five regions: Central and Eastern Europe
(Albania, Bulgaria, Croatia, Czech Republic, Hungary, Poland, Romania, Slovakia, and
Slovenia), former Soviet Union countries (Azerbaijan, Belarus, Georgia, Kazakhstan, Kyrgyz
Republic, Lithuania, Moldova, Tajikistan, Ukraine, and Uzbekistan), developing countries in
Africa (Burundi, Cameroon, Eritrea, Ethiopia, Kenya, Lesotho, Namibia, Nigeria, Rwanda,
Tunisia, and Zimbabwe), Asia (India, Israel, Lao), and the Caribbean and Latin America (Chile,
Dominica, St. Lucia, St. Vincent & the Grenadines, Trinidad & Tobago).

4.5 Property Taxation and Valuation in Ethiopia

In Ethiopia, the concept and practice of taxation dates back to ancient times. For example in the
Axumite kingdom, there were a practice of traditional taxation such as collection elephant teeth,
salt, honey and labor. Early 1990s new proclamation was adopted. It declared that 11/10th of
income from the land should be paid as tax. The most important features of the traditional
taxation system have continued during the relatively modern administration of the Emperor Haile
Sellaise regime (1930-74). The tax system of this era comprises property tax. The freehold land
was sold and bought, inherited, collateralized, given as gift etc. There was some sort of crude
titling legalizing ownership and land tax was levied. Of course, building tax was also levied.

During the derg regime (1974-1991), there was an increase in the coverage of the bases and tax
rates owing to the need to raise more revenue to support the government. Yet, the experience
indicated that socialist government had been highly relies on non property tax income. Having
no revenue from land and only nominal property tax and no policy of renewal and upgrading, the
construction work in the expansion area only exacerbated the problem by creating massive
demand for infrastructure. Income tax from these sources was not adequate to run public services
and infrastructures

The advent of civilization and sophistication of public administration changed not only the
way taxes have been levied (in-kind payment gave way to levies in paper money), but also
enormously increased the type and nature of human endeavors that have been subjected to
taxation. For centuries, therefore, governments at various levels have assessed and levied
actual or perceived incomes arising from labor (employment), capital, land or property. This
has given rise to the prevalent various forms of tax bases in Ethiopia that can be classified in
to three (EIA, 2010):

i) Direct Taxes: includes tax on income from employment / personal income tax,
business profit tax, tax on income from rental of buildings, tax on interest income on
deposits, dividend income tax, tax on income from royalties, tax on income from
games of chance, tax on gain of transfer of certain investment property, tax on income
from rental of property, rendering of technical services outside Ethiopia, agricultural
income tax, land use tax.
ii) Indirect Taxes: it includes, turnover tax, excise tax, value added tax and customs
duty.
iii) Stamp Duty: most often stamp duty is charged on instruments. Instruments
chargeable with stamp duty includes : memorandum and articles of association of any
business organization, cooperative or any other form of association; award; bonds;
warehouse bond; contract and agreements and memoranda; security deeds; collective
agreement; contract of employment; notaries acts; power of attorney; and documents
of title to property

For purposes of the discussion that follows, the focus will be on direct tax that includes land and
improvement since the coming of the current government (1991). Hence property tax in urban
area had not been considered as major sources of revenue in the previous regimes.

One of the policy measures that would have been taken by the present government of Ethiopia is
adopting urban land lease holding system. One of the basic objectives of legalizing leasehold and
rental market is to give land market value and with this approach government is expected to
generate required revenue. Currently, all regional state and city government are making use of
some form of property and land taxation in either urban or rural areas. However, these
assumptions are convincing at the hypothetical level, there is only limited evidence to verify that
governments could achieve this policy goal in practice. On the other hand, empirical studies
assured that revenue from property tax is minimal. For example, a study made by Aneley (2006)
which tried to assess the situation of urban land administration systems in Ethiopia found that the
amount of revenue collected from property tax is very low as compared to other sources of
revenue. But, problems on collection of revenue and allocation of land's income and abuse
property tax are getting more and more obvious. Among them, lack of professionals in the field
of property taxation, lack of standards, lack of completed and updated cadastral map, the tax
base, valuation methods are the core issue of the land and property tax.
Theoretically, it is assumed that land leasehold systems could allow governments to collect
adequate revenue to to meet their extensive expenditure assignments. Besides, it is expected that
government revenue would increased from property through adopting property taxation system
which based on assessed value of the land or property. Nevertheless, due to specificities of land
ownership, transitional economies face a unique context. This makes it more difficult to
implement western models of property taxation which generally rely on the premise of private
ownership of land. With the onset of a market economy, leasing hold tenure system has been
advocated as a viable land tenure option for former socialist countries and other transitional
economics. However, due to the fact that land is state-owned under leasehold systems, the
acceptability of imposing a tax on land that is not privately-owned and for which lessees have
already paid, is in question (UN-HABITAT, 2011).

In contrast there are strong arguments that property taxation in leasehold systems is plausible.
Under leasehold type of land tenure system, in exchange for the right to occupy and use land a
lessee may pay a lump sum down and annual land rent fees payment to government. While these
rental or lease payments are recurring, it is important to distinguish them from a tax. A lump sum
down and annual land rent fees payment are payments made for the privilege of occupying and
using land, and they do not reflect service burden placed on the community. Whatever uses the
lessee makes of land, that lessee will also use public infrastructure and public services and cost
of that public usage is not reflected in the land rents. This does not in any way suggest that land
rents and leases are unimportant sources of revenue in communities where they are used. The
resulting revenue can provide important capital for urban development. The point here is simply
that paying ground rent and paying a tax based on land are not incompatible and such an
arrangement does not represent double taxation.
The important point to be made is that the design and implementation of a property tax system
under leasehold tenure needs to go hand in hand with land reforms. In addition, property
valuation is an important issue that needs to be considered when implementing a tax system,
especially in a public leasehold system. In western countries where land is privatized, the issue
of ownership as an obstacle to the imposition of land taxation would be overcome. In these
countries, usually property taxes are based on the estimated market value of property. But this
may not be the case in countries where land is owned by state and there is imperfect real estate
market. Thus, property valuation may be considered as the heart of government who is ambitions
to collect adequate income from property tax under leasehold system. Only a practical
understanding of property values will enable government to used property taxation as main
sources of revenue. This implies that issues of property valuation for taxation purpose are
critical for Ethiopia which has adopted leasehold tenure system since 1993.
In Ethiopia, the reality shows that issues of land and property tax policy are still largely under-
developed and is insufficiently mainstreamed. In the current research realm , most of the
empirical evidences focus on analyzing Ethiopian’s property tax reform theoretically and only
give some instructions on the design of tax base and tax rates, barely dare to provide some
interesting assumptions of property tax design, and even more less papers estimate the effect of
the property tax proposals on regional and city local governments to generate revenue that
provides incentives for local governments to provide basic amenities and services, which in turn
enhance property values and subsequently raise tax revenue. Therefore, there is a need to
undertake comprehensive study throughout the county that explores the gap, inconsistency and
limitations as compared to the discussion we have made. Hence, exploring the immature
property taxation and valuation system is extremely important for improving taxation system,
regulating real property market and subsidizing the local government revenue.

Federal Democratic Republic of Ethiopia government has two separated land law: rural and
urban land laws. So, definition of property tax - taxable object, tax rate, approach to value
property for taxation purpose vary from rural to urban area and region to region. It is therefore
worth to discuss Ethiopian property tax and property valuation system in both urban and rural
areas. This material provides the general concepts of property taxation and valuation system both
in urban and rural area of Ethiopia.

4.6 Property Taxation and Valuation System in Urban Area

Urban land leasehold system has become an integral part of Ethiopia’s regional decentralization
efforts since 1993. Ethiopian land policy attempts to tie land-leasing revenue directly to
municipal infrastructure investment. Re-enactment of Urban Lands Lease Holding Proclamation
No. 272/2002 stated that 90% for the purpose of financing the expanding infra-structures shall be
drawn from leasing urban land. As witnessed then after, the government had shown efforts to
create a source of revenue for the purpose of financing the supply of dwelling houses and
infrastructure through an effective and dynamic land lease policy. However, by international
standards, and estimated percentage, of course, the revenue generated from land leasing in
Ethiopia is meager. This entails that the potential exists for further revenue mobilization through
land leasing in cities where population is growing and municipal management has an
entrepreneurial mindset (Peterson, 2005).

The central issue is therefore does the prevailing urban land lease holding system in Ethiopia
most likely achieve this objective? How the government could assume to generate the required
revenue through such policies?

In Ethiopia, the enabling law for the leasehold system is adopted by the same legal authority that
authorizes other tenure system. The federal government has granted each regional state and city
government substantial autonomy over administrating and developing urban land including land
and property tax. Land and property taxation has become practice of generating local and/or
regional revenue from land and property holders or users.

Unfortunately, land and property taxation patterns have not always been accompanied by
appropriate reforms in policies, laws, and institutions. Hence, documentary analysis shown that
there is no legislated specification of precisely what will be considered taxable property, how
will the taxable value of the land and property be determined, how will tax rates be established,
and what valuation technique shall be used to value real properties for taxation purpose. As a
result, currently, the manner of defining taxable property, taxable base, tax rate and valuation
approaches has been determined in accordance with land and property tax regulations issued by
each regions and city governments. Regions and city governments on the other hand vary in the
amount of autonomy they have granted to local municipalities or cities. The result may be wide
variance in the implementation of land and property tax across Ethiopia.
Perhaps, there are also other factors that can potentially contribute for variation in
implementation of land and property taxation in Ethiopia. These includes absences of clear legal
provision and difference in how land and property rights are conceptualized and recognized in
each community of regional and city administrations, the extent to which land and property
rights are actively traded in reasonably efficient markets, and the administrative capacity of
regional municipalities and city administration.

In this regards, empirical study has shown that despite there are effort to improve land
administration system; the fundamental hurdles encountered in the process of implementation are
too many with no immediate breakthrough in sight. One of the land administration problems is
associated with property taxation and valuation. The following are key issues and the underlying
causes for poor valuation and taxation system in the country identified through research.

Table 6: Critical issues and causes for meager property valuation and taxation system

Issues Underlying causes

1) There are different forms of  Every plot of urban land have not governed through
tenure, co-existing in the same leasehold system
country  All urban land user pay lease price in exchange for right of
occupy and use
2) There are multiples systems to  No standard for valuation, each local office has its own
value properties for different  No formal valuation education
purposes
3) Land taxation is only used for  Traditional understanding of land taxation.
revenue generation and not to  Failure to impose idle land tax.
correct market distortions
4) Local committee influences No clear professional standards or qualifications for local
valuation and assessment. assessors.
5) Government, including local  Valuations for real property taxes are not based on
government is not properly assessed value, but type of property which is much lower
maximizing revenue collections than the benefit of private persons benefit from public
investments: their property increases in value
 Occupants of public lands pay tax small for the use of
land
6) Non-availability of maps suitable  There is no completed and updated cadastral map in any of
for assessment the government agencies dealing with land administration.
7) Land disposed at much lower  Land allocated at below market prices.
prices  Inappropriate guidelines for valuation of public land
intended for disposal.
 Land tax laws are antiquating.
Source: National Land Development & Administration Improvement Sub-Program of the draft
Urban Governance Package of Ethiopia (2006/7-2010/1), September 2006
A study also showed that the valuation method for taxation purpose not determined on the basis
of the objective conditions of land and property. It does not reflect different characteristics of
rental property; rental values and tax rate are not linked to the location, usage and structural
quality of the property. The process of valuation is not clear and transparent. It has been also
found that local governments have limited expertise in the field of value capture and there is
limited space for an effective use of innovative mechanisms.

It may be argue that despite the enabling law for the land and property tax is not adopted by the
national legal authority that authorizes other taxes, property tax and valuation systems may not
vary from region to region or city government to regions. Hence, Ethiopian federal land law
provides basic principles for efficient utilization and use of land and properties. However, there
is no empirical evidence that assure the above argument. Therefore, in order to inform present
and future formulation of similar regulations it is extremely important to identify gaps,
inconsistencies, and ambiguities in each regional and city government regulations.

To understand the issue from the point of view of practice, this material present experiences of
Amhara National Regional State urban property taxation and valuation system as a case study
which can provide useful understanding or findings to other cases characterized by similar traits
and situations. Through observation and analysis of documentary evidence, I have provided
property tax proposals which are based on the existing domestic and international theoretical
studies of property tax and analysis of property taxation system in ANRS.
In Amhara National Regional State, large size of urban land have been transferred under
leasehold system, and thus better information practice of property tax and valuation can be
obtained. Moreover, as it is the place where I have been working, it is easy to get first hand
information from people who actively participate in law making and valuation practice. You
should remind that land and property taxation and valuation system is not uniform across
Ethiopia. This diversity can make discussions of how land and property taxes are structured and
administered confusing. Hence, tax rate, tax base, valuation approach are set by each regional
and city government regulations.

4.7 Amhara National Regional State: Urban Area Property Tax and Valuation System
In the Amhara National Regional State, annual land and property tax in the towns to which urban
land lease-holding system presently applies is known as land use tax. The towns in the region are
classified into 5 grades and all real property is placed in various land use classification such as
Residential, Commercial, and Industrial, Agricultural etc. Each land use classification has grades
ranging from first grade to fifth grade. 1st grade represent an area with highest good physical
characteristics of the land and desirable property and 5th grade reflect the reverse. The basic
criteria used to classify land grading are physical characteristics of the land including
accessibility, area development, and purpose of land and related factors.

Concerning issue of what is taxed, in ANRS land and property tax has been levied on property
consists of land and improvements; it is the single, combined value which has to be determined.
Practically, there is no tax on unimproved land or ‘site’. Property tax is levied on land and
buildings together. In fact, land and improvements are often also classified based on type of
 property residential, commercial or industrial usage, and often with the intent of applying tax
rates to different classes of property.

Pertaining to taxable value of land and improvements, the practice has show that instead of
estimate the actual market value of each residential, commercial and industrial and other
property, taxes are levied in relation classification of land use, grade of land and size (area). In
ANRS, despite real property markets exist, information is not readily available. At the same
time, regional municipal staff capacity in property valuation is limited. Therefore, to minimize
both the market information and expertise required to apply valuation approaches based on
capital market value or annual rental value, the regional government has been employing a less
precise valuation approach.

Property taxes are levied in relation to area of the property in which physical characteristics of
the land including accessibility, area of development, property use are used to determine the tax
rate. Accordingly, all residential in the same land grade band within a given local municipality
obliged to pay the same tax rate. Residential in the same land use classification, but with
different grade in a given localities may face a different tax value since the tax rate depends of
land grade.
The following table shows land use classification and land grade bands with tax rate that have
been used in Amhara National Regional State before and after 200712

Table 7: Valuation bands used in ANRS

Land Use classification

Residential Commercial Industrial Others (store,

educational & other
service centers)

Grade Tax Rate Grade Tax Rate Grad Tax Rate Gra Tax Rate
of land of e of de of
land land land

Bef Aft Bef Aft Bef Aft Bef Aft

12
According to the interview I made with experts who have participated in tax rate determination, the reasons for
reduction of tax rate is due to people complaining that property tax rate is high. As a result, in 2007, the regional
government has revised tax rate for residential and commercial properties, but not for industrial and other properties.
 2007 200 2007 200
7 7
2007 200 2007 200
7 7

1st 0.26 0.17 1st 2.00 0.25 1st 1.50 1.50 1st 0.20 0.20

2nd 0.21 0.12 2nd 1.50 0.18 2nd 1.13 1.13 2nd 0.15 0.15

3rd 0.17 0.08 3rd 1.00 0.12 3rd 0.75 0.75 3rd 0.11 0.11

4th 0.13 0.04 4th 0.75 0.10 4th 0.56 0.56 4th 0.08 0.08

5th 0.09 0.02 5th 0.50 0.08 5th 0.36 0.36 5th 0.05 0.05

Source: Bahir Dar City Municipality Property Tax Collection Document, 2012

As we can see from the above table the tax rates differ in different land use classification and
land grade. As a result, property tax for residential property is different from commercial and
industrial property. Property tax levied on residential property may also be dissimilar, even if
there they are categorized under the same land use classifications since property tax rate
classification is determined by land grade. Similarly property tax rate levied on commercial
properties are not uniform, it depends on grade of land. The same is true for other property.
For example:
i) Before 2007
 A person who possesses residential property with first grade with 200 m2 area shall pays
52 birr /year and a person who possesses residential property with same area but with
fifth grade shall pay 18birr / years. The difference between the 1st and the 5th grade is 34
birr.
 A person who possesses commercial property with first grade and covers 200 m2 area
pays 400 birr par /year and a person who possesses commercial property with same area
but the fifth grade pays 100birr / years. The difference between the 1st and the 5th grade
is 300 birr.
ii) After 2007
 A person who possesses residential property with first grade and covers 200 m2 area
pays 34 birr /year and a person who possesses residential property with same area but
the fifth grade pays 4 birr / years. The difference between the 1st and the 5th grade is 30
birr.
 a person who possess commercial property with first grade and covers 200 m2 area pays
50 birr par /year and a person who possess commercial property with same area but
the fifth grade pays 16 birr / years. The difference between the 1st and the 5th grade is
34 birr.
It should be noted that even if, banding of land grade is not depends on actual market value of
each residential, commercial or industrial property, the criteria used to classify land grade
indirectly indicate classification of property value. In ANRS, despite the annual property tax
levy is not calculated on the basis of estimated market value or potential income of property, the
base of determining tax rate considers the potential income of the land. Hence, determining tax
rate depends on a number of parameters such as accessibility, area development, and purpose of
land etc. Thus, it may be argued that the ANRS urban property tax system is the same as
property tax system of countries where they levy property taxes based on the estimated market
value or based on annual rental income of property. However, on the surface it appears that the
ANRS a simplified method of property valuation used to determine fixed flat property tax rate is
different from property tax based on market or rental value. For example, in ANRS all
residential property in the same land uses classification and land grade, not in the same value
band within a given local municipality may pays the same annual tax.
For example, consider two residential properties (X and Y) that were sold in 2011 in Bahir dar
city. In fact, despite both properties have same area 250 m2 and land grade (3rd grade); they were
sold with different market value. Property X was transferred with 400,000 birr, while property Y
sold with 320,000 birr. However when we come to property tax payment Property X would be
obligated to pay the same tax as property Y. Hence, both residential properties are placed under
the same land use classification and land grade, the owners or users are required to pay 20
birr/year (0.08 * 250 m2) even though Property Y is over 25 percent more valuable.
Practically, speaking ANRS municipalities have no revenue from land and only nominal
property tax. A person to whom lease-hold of urban land is permitted based on type land use pay
very low property tax rate which is also applicable to old possessions13. At the same time as said
earlier , in spite of the fact that demand for urban area of Amhara region have, from time to
time, been growing and the value of land and property has increased , which can be captured by
government through property tax the regional government has reduced tax rate for residential
and commercial properties in 2007.
The ANRS for minimizing the tax burden on low income households has reduces the tax rate for
all residential and commercial properties by a specific percentage. This is a very broad approach
and against literature. For example, Bird and Slack (2004), review the property tax in twenty-
five countries, and conclude that there is little or no economic justification for the common
practice of taxing non-residential property more heavily than residential property. Residential
property in general represents a greater burden on local services. In addition, differential tax rates
for residential and non-residential property can distort land use decisions. They conclude that
while taxing residential property more lightly than other property is politically popular, it is
economically inefficient.
Reducing the tax rate for residential and commercial properties in the name of low income
household has two disadvantages. First, it shifts a significant portion of the overall tax burden to
government without sound economic justification. Second, and perhaps even more important,
most of the benefit from the lower tax rate will go to higher income households since they will
tend to own the more valuable property in a community. Thus, while it is true that tax relief is

13
“old possession” means a plot of land legally acquired before the urban center entered into the leasehold system
or a land provided as compensation in kind to persons evicted from old possession;
granted to holders of the lowest valued property, that relief comes at a very high price in terms of
either foregone revenue, reduced equity or both. However, there is an alternative approach to
provide tax relief to holders of the lowest valued property; exempt a specific amount of
residential value from the property tax. Under this approach, policy makers should establish a
specific threshold taxable value. The result will be holders of the lowest valued property will
have no tax obligation at all. The relative importance of the exemption would decline with
increasing property values. Of course, exemptions for low valued properties should be carefully
targeted and should be weighed against the increased administrative challenges they create
There are also a number of problems associated with property valuation and taxation in urban
area of ANRS. Notwithstanding the fact that economists have been promoting the virtue of
property taxation system which basis on market value, the regional valuation relies on types of
property. The traditional system, adopted by the majority of municipalities is flat rate tax system.
It only uses a simple classification of properties as residential and commercial in which tax rate
is determined by considering land grade. Practically, the value of the property does not remain
constant unlike data about size and shape of parcels that might be relatively static, property
values are dynamic and change over time. As a result, at least tax rate are need to be reassessed
at regular intervals. As far as the values of real estate change over time and if the tax rate and
value collected from such properties not adjust, the tax system tend to be seen as unfair and
inconsistent with natural justice unless it reflect the current value of properties. Thus, I propose
that shifting from the current flat rate tax to property value tax system due to its numerous
advantages, especially for the poor.
The other problem is related with monitoring and updating tax rate and taxable values. Even if
land and property tax is based on property attributes, those attributes change over time. Land
does not move, but land use changes, parcels are subdivided and improved, and the perceptions
of desirability change. Thus, consistent administrative resources and expertise need to be devoted
to monitoring and updating tax rate and taxable values. Since land values are not static, the law
must also define the cycle for updating taxable values. However, in ANRS, land and property
values and tax rate have not updated regularly for taxation purpose. This implies that the
relevance of land and property tax over time will inevitably diminish, both because the actual
revenue will not keep pace with growth in the community and because tax will increasingly be
seen as unfair.

Concerning the current area based taxation system, I share the idea of Bell and Bowman (2008)
who argue that until real estate markets in developing and transition countries are well-developed
and reliable market information is collected, a modified area-based property tax can be at least as
fair as rough estimates of market values based on flawed and incomplete market information in
developing and transition countries.. In practice, area-based systems address this by using
adjustments in order to make the tax fairer. Area valuations can be adjusted with coefficients of
adjustment. Adjustment coefficients vary according to characteristics, but are used differently in
calculations. Coefficients for each characteristic act as multipliers to a base value. The base value
is the starting value per square meter of land or building, which is multiplied by coefficients
representing location, zone, infrastructure, irrigation, etc.
The point here is that, if regional government is intended to make required revenue with the
current land policy, there should be better understanding that municipalities may not raise
enormous revenues from transactions of land use rights, in part because the current property tax
payment is not at any standard equivalent to cost of their public services usage and in part
because adjusting or updating annual tax rate or value according to the changes in the property
value is not acknowledged. In Ethiopia in general and in ANRS in particular, the trend shows
that the number of urban dwellers will be increasing and thereby land redevelopment for the
construction of dwelling houses, infrastructure, investment and other services will increase. With
an increasing demand of public goods and infrastructures, generating required revenue to run
urban infrastructure with policy becomes necessary. Therefore, better understanding is needed
of what policies, regulatory and legal frameworks, tools and instruments can be used to enhance
revenue from property tax.

4.8 Property Taxation and Valuation System in Rural area

In Ethiopia, rural land use tax has been levied since period of imperial regime (1930-74). During
this period there were taxes on agricultural income and rural land governed under Land Tax
Proclamation No. 70/1944. During this period rural land rent and agriculture income tax that
was annually paid were not progressive, uniform tax rate and favored the landlords. With a
majority of the population living at a subsistence level, there was limited opportunity to increase
taxes on personal or agricultural income. Land taxes were low and frequently evaded by
powerful elites, causing the state to lose revenue which might have been used to promote rural
development programs. Consequently, the imperial government relied on indirect taxes
(customs, excise, and sales) to generate revenues.

On gaining power, the Derg regime (1974-1991) had enacted new Rural Land Use Fee and
Agricultural Activities Income Tax Proclamation14 that abolished all agrarian taxes except the
cattle tax. In particular, it abolished Land Tax Proclamation, No. 70/1944. The government
realized that if the process of instituting taxes was not carefully explained to peasants, numerous
problems would emerge. Farmers certainly would resist becoming "tenants of the military." As a
result, the revolutionary government changed the tax structure in 1976, replacing taxes on
agricultural income and rural land with a rural land-use fee and a new tax on income from
agricultural activities. The law begins with a preamble declaring it the national duty of every
peasant given land use rights and the opportunity to earn income to contribute part of his
earnings to finance development programs adopted by the government for the benefit of the rural
population. The preamble specifically notes the need for programs in agricultural research and
extension, road construction, communications facilities, and market improvement.
The tax rate is paid at different rate and varying ways for different mode of agricultural
organization. Under Articles 8 and 10, Farmers who are members of an agricultural commune
pay $E3, farmers who are non members of an agricultural commune pay $E15 4 and government
organization shall pay $E 2/hectare. Article 12 requires all farmers and government agricultural
organizations to pay an income tax on agricultural activities. An agricultural income taxes rate
depends on the taxable income class and mode of agricultural organization (peasants association,
cooperatives, cooperates or state farm).This process begins with the submission of a declaration

14
Rural Land Use Fee and Agricultural Activities Income Tax Proclamation, No. 77/1976 , Negarit Gazeta, 35 thyr,
No.19, 4 January, 1976, pp. 131-143
15
Ethiopian Dollar ( at that time 15 $US 1 = $E 2.05
of estimated gross agricultural income, together with the tax, to the designated tax collector or
tax office. These declarations are then registered and categorized into four brackets: under $E
600, $E 600 to $E 900, $E 900 to $E 1,200, and above SE 1,200 (Art. 17). The income taxes on
the first three categories are shown in the following table:

Table 8 : Taxable Income from agricultural activity less than $E 1,200

Taxable Income from agricultural activity (per Tax payable $E

year)

Over $E to $E

0 600 3

601 900 4.5

901 1200 6

Farmers earning over $E 1,200 are treated differently. They pay $E 6 tax on the first $E 1,200 to
the tax collector and tax on the remainder to the tax office. The tax rate for Farmers earning over
$E 1,200 is given in the following table

Table 9: Taxable Income from agricultural activity above $E 1,200

Taxable Income from agricultural activity (per year) Tax payable $E

Over $E to $E

1,201.00 3,000.00 15

3,001.00 6,000.00 20

6,001.00 9,000.00 25

9,001.00 12,000.00 30
 12,001.00 15,000.00 35

15,001.00 18,000.00 40

18,001.00 21,000.00 50

21,001.00 27,000.00 60

27,001.00 33,000.00 70

Greater than 33000 70

Cohe and Koehn, 1978
The above table shows that agricultural income tax for individual farmers is runs progressively
from 15 percent at the $E 1,201 to 3,000 bracket to 70 percent at the $E 27,000 to 33,000 level
and taxes above $E 33,000.00run 70 percent. Remember that both land use fee and agricultural
income tax payable applied to farmers also same for cooperative, but not for cooperate or state
farm. Government agricultural organizations are under other category of taxpayer specifically
covered in the law. Article 6 requires them annually to declare the size of their holding to the tax
officer. Under Article 8(3), they are to pay at that office an annual fee of $E 2 per hectare on the
total size of their holdings. Government agricultural organizations Agricultural income tax was
50% regardless of income.
Cohe and Koehn (1978) who made a study on Ethiopia urban and rural land reform has realized
that land use fee and tax imposed on agricultural activities were higher for individual farmers
and cooperatives as compared to state farms. There was an intention to discourage individual
framers and strengthens socialism transitions. To achieve this objective Proclamation No.
77/1976 was repealed and replaced by amended in Proclamation No. 152 /1978. One of the
changes made in this proclamation is that rural land use fee increased to 5 birr per annum for
produces cooperative member and increased to 10 for non member (peasant and peasant
associations). At the same time individual farmers and agricultural producer-cooperatives
earning up to Birr 600 per annum are required to pay 10 Birr as agricultural income tax. The tax
rates on every additional income vary from 10% to 89% for income above 600 Birr. However,
despite land size of rural land was used by state farms, Proclamation No. 152 /1978did not make
any change on rural land use fee for state; government agricultural organizations are paying 2
Birr per hectare per annum and 50% as agricultural income tax. In fact, difference is too small to
discourage farmers and produces cooperative member.

What was interesting is that the derg government partially alleviated the tax rate and collection
problem that existed during the imperial period. Agricultural income tax was made to be
progressive and tax assessed for first year is to be paid for three consecutive years, after which
time a new assessment will be made of the farmer's gross income (Art. 19(1)). The only
deduction allowed to these income groups is for loss of harvest (Art. 19(2)). Article 39
establishes penalties for failure to declare annual income, late payment of land use fee or income
tax, and failure to keep books and records when required. These are fairly stiff and should help
stem the tax evasion that characterized Ethiopia prior to 1974. Pressure to pay taxes and penalties
is increased by delegating the responsibility for collecting the fee and tax on agriculture to
peasant associations, to be paid two percent of collected revenues.

Yet, what was striking is how little the tax squeezes Ethiopia's major economic sector. Abolition
of large holdings and the 10 hectare land ceiling was keep most taxpayers below $E 1,200 in
earnings. Despite the 1976/1978 changes in the tax structure, the government believed that the
agricultural income tax was being underpaid, largely because of under assessments by peasant
associations. In general, it is possible to conclude that in previous governments, taxes on land
and property in rural area had not formed the most important source of tax revenue for national
income in Ethiopia.

Currently, in line with the economic policy and structural set up of the Federal Democratic
Republic of Ethiopia, the former tax on income from agricultural activities and the land use rent
was revised in 1995. Since income tax from this source is allocated to Regional States in
consonance with the provisions of the new constitution of 1994, each Regional State is entitled to
issue a Proclamation providing for such a tax and rent. Generally, this process takes place within
the broader context of political decentralization, as Ethiopia has established local regional
governments. But, the link between regional government revenue from land and decentralization
is particularly weak, where regional governments are often vested important land and natural
resource administration management responsibilities.

The current legislation allows each regional state to have its own land use rent and income
taxation law. For instance, Oromia Regional State has promulgated Proclamation No 8/1995 that
revised agricultural income tax rates schedule and rural land use fee. According rural land held
for agricultural activities is subject to land use rent payment on annual basis. The annual land use
rent payable by a farmer shall be Birr 10 for the first hectare and Birr 7.50 for each extra hectare
of land. Meanwhile state farming enterprises shall pay Birr 15 for each hectare of their land
holdings. As for the payment of income tax from agricultural activities other taxpayers, except
state farms, shall pay birr 15 up to 1,200 incomes. The tax rate for Farmers earning over 1,200 is
given in the following table

Table 10: Agricultural Income Tax per Proclamation No. 8/1995, Oromiya

Annual taxable income Tax rate

1201 - 3000 5%
3001 - 5000 10%
5001-15000 15%
15001-30000 20%
30001-50000 30%
above 50000 40%

Source: Ethiopian Chamber of Commerce (ECC), 2005

A state farm shall pay 40% of the taxable income it realizes from its agricultural activities.
Income from agricultural activities is said to be determined by estimating the price, in the area,
of the crop before harvest. If the crop is sold, the price declared shall be the basis for the
assessment of income.

Similarly, for rural land taxation purpose, the SNNP regional state, rural land use fee and
agricultural income tax Proclamation No. 63/2003 defines “landholding” as “an area which is
either found in one or different geographic areas, registered under a given farmer’s name and
used for agricultural purpose”. The terms “registration” and “agricultural use” are loosely
defined. In fact, the 2006 revised regional land-use fee and agricultural income tax of SNNP
regional state clearly define registration” and “agricultural use” and place rate for land use fee
and agricultural income. The land-use fee and agricultural income tax range from birr 5 for a
“landholding” up to 0.5ha to birr 50 for “landholding” exceeding 8 ha of land. The area of
“landholding” is a factor for fixing rural land-use fee and agricultural income tax. In the same
way, Amhara and Tigray National Regional State have enacted Land Use Fee and Agriculture
Activities Income Tax Proclamation. This proclamation regulates the rural land use fee and the
agriculture income tax which together form system for taxation of rural land.

Here you should be aware that the intension is not to inform you which region enacted rural
land-use fee and agricultural income tax and which is not. Rather the concern is how valuation is
undertaken and what factors are used to estimate or fix rural land-use fee and agricultural income
tax. With this regards, the regional regulations that govern rural land use rent and agricultural
income tax seems it fits with derg regime proclamation. Hence regional rural land use regulation
revealed that the annual land use rent payable as property tax in rural Ethiopia is based on area
(hectare). And income tax from agricultural activities is said to be determined based on income
(it is progressive). However, the income classification and tax rate applied are not uniform across
the country. In addition, there is no legislated valuation technique used by the regions to classify
income and to fix tax rate for taxation purpose.
At the end of the 1990’s, the Ethiopian government has been embarking on a large-scale and
comprehensive rural land registration programme as policy. One of the objective of
implementing effective land titling and certification is to increase revenue collected from land
use tax because rural landholding registration and certification provides information for tax
purposes such as details of land holding, area central coordinates, level of fertility, land use,
specific location, condition of acquisition, easement. Currently, most regional rural land
administration and use regulation enable almost all households to obtain certificates for their
land, which are issued at woreda level. Yet the practice showed that two parcel of land which
has different access and/or fertility pay the same amount of tax if their area is the same. Highly
fertile and productive rural land pay the same land use taxes as undesirable land in the same
region (woreda).
Here I can argue that at least for the following two main reasons the Ethiopian rural land taxation
system should consider reform. First, in most regions all interests on land has been recorded
including detailed information about user’s location, land use/zoning, area, boundary, fertility
grade. Second, rural land rental market has also been legalized in recent years, lifting extensive
restrictions on rental and sharecropping, which paved the way for land to get market value.
Therefore, the creation of an up-to-date and efficient land registration is necessary to alleviate
problem related to land use taxation. To make land and property taxation fair and balanced the
base of taxation should be multiple criterion considering location, land use, fertility /type of soil,
topography, access to market, water.
The current concern of property taxation in rural area is not limited to rural land possessed and
used by farmers, but also extended to land possessed and used by agricultural investors.. In
Ethiopia, government has been ensuring the right of private investors to the use of land on the
basis of payment arrangements established by law. Despite there is no national legislation ,
according to most regions rural land use regulation, determination of land rent shall be depend
on location, access to transport, markets, communication and banking services, and whether it is
to be used with irrigation or not. But in the ground, there is no standardize formula or framework
established to enable valauer to consider the above features to determine the land rent.
A study conducted by Dessalegn (2011) shows that rural rental fees are ridiculously low by any
standards. Rural land has been provided for investors by most regional government at minimal
lease price or feely depending on the type of investment activity. At the same time, there is no
regulation that forces investor to pay tax for service burden placed on the community. The
following Table shows the maximum and minimum annual rental fees for lands in selected
Regions.

Table 11: Rent of Land in Selected Regions (Birr/ha/year)

Region Maximum Rent Minimum Rent

Amhara 79.37 14.21

BeniShangul 25.00 15.00

Gambella 30.00 20.00

Oromia 135.00 70.00

SNNP 117.00 30.00

Tigrai 40.00 30.00

Source: Regional legislations and findings from field interviews made by Dessalegn (2009) as
cited from Dessalegn (2011)

Many foreign investors who have acquired land have been overjoyed by the rates. One of the
founding principles of any tax, including the rural land use tax, is the perception, and indeed, the
reality of ‘fairness’. The question, which needs to be considered, is ‘fairness’ directly correlated
with benefit received and ability to pay by agricultural investors. This is to mean tax levels
should be related to individual’s ability to pay in terms of both horizontal and vertical equity.
Thus, taxpayers with high land value should pay relatively higher taxes and land use taxes should
reflect the benefits received from government expenditures. In Ethiopia, most farmers possessed
fragmented land which makes its rental value low; whereas agricultural investors have granted
large size of land in the same location, its value increase. In the light of property tax principles
agricultural investor should pay relatively higher land use taxes as compared to individual
farmers.
Here it is important to distinguish what investors’ are currently paying and land use tax. The
rental fee payments are recurring made for the privilege of occupying and using land, and they
do not reflect the service burden placed on the community. So it is important to distinguish them
from a tax. It is obvious that as far as investor use public infrastructure and public services, the
cost of that public usage should be reflected in payment of land use tax. In fact, an investor in
land would not be discouraged by mere imposition of tax. In this way, investors would not shift
their capital to other sectors by way of tax consideration.

In conclusion, land policies, of which taxing policy represents one component, are widely
recognized as critical elements in broader social policies to lift the poor and secure sustainable
vibrant communities. The introduction of value -based local property taxes is recognized as an
important and essential development to create fiscal autonomy for local government. There is
now a growing trend in transitional economies towards the introduction of land value -based
property taxes. This implies that from the government side there is an emergence task to be done
particularly on revising policies, regulatory and legal frameworks that deals with rural land use
fee and agricultural income tax. Currently, rural land and property markets are not active and
local administrators either do have neither access to quality market data or expertise to process
the data appropriately, it makes little sense to plan a market-based land and property taxation
system.
As my understanding, it better to start with a system based on readily identified property
attributes (such as land area) and think about other variable that affect value of land. as
mentioned before, to make property taxation fair and balanced the base of taxation should be
multiple criterion considering location, land use, the fertility /type of soil, topography, access to
market, water accesses in addition to size; and other assumptions should be stated in the directive
to be considered for valuation. Thus, farmland is assessed on the basis of its productive value;
that is, the ability of the land to produce income from the growing of crops and/or the raising of
livestock. The productive value of farmland is determined using a process that sets a value for
the best soils, and then makes adjustments for less-than optimum conditions such as stones, the
presence of sloughs, or topography. These can be administered effectively and then build value
based taxation system over time. If property markets are fairly mature and the administrative
capacity of government agencies enhanced, there are good reasons to link taxable values to
market values.

4.9 Other property related taxes

It has to be stressed, however, that in Ethiopia there are other property related taxes imposed on
real property.

i) Tax on Income from Rental of Buildings

This is the tax imposed on the income from rental of buildings. If the taxpayer leased furnished
quarters, the amounts received attributable to the lease of furniture and equipment would be
included in the income and taxed. Rental value taxes are usually based on the net annual rent. In
this case, a yearly rent that the property would most probably generate is determined. This we
may call the gross annual rental value. From this statutory deductions or out-goings for
maintenance, insurance, management costs etc. are made, resulting in a net annual value (Net
profit per-year) that is subject to tax. The tax payable on rented houses would be charged at the
following rates:

 On income of bodies 30% of taxable income

 On income of persons according to the following schedule
Table 12 : The tax payable on rented houses on income of persons

Taxable Income from Rental Income Tax Payable Deduction

of Buildings (per year) (in %) (in Birr)

Over Birr To Birr

0 1,800 Exempt threshold

1, 801 7, 801 10% 180.00

7, 801 16, 800 15% 570.00

16, 801 28, 200 20% 1410.00

28, 201 42, 600 25% 2820.00

42, 601 60, 000 30% 4950.00

Over 60, 000 35% 7950.00

Source : Taxation in Ethiopia: Direct and Indirect Taxes - Categories of Tax Payers, Declaration
of Income and Assessment of Taxes Tax Incentives, Ethiopian Chamber of Commerce (ECC),
Ethiopian Business Development Services Network (EBDSN), 2005

Example: Computation of Rental Income Tax

Net profit per-year/Taxable Income = 38, 000.00 Birr

Rental Income Tax = 38,000 Birr x 25% tax rate = 9,500 Birr

Deduction = 9,500 Birr -2,820 Birr deduction fee

Tax payment = 6,680 Birr

Conditions of payment:
- The owner of a building who allows a lessee to sub-lease is liable for the payment of the
tax for which the sub-lessor is liable, in the event the sub-lessor fails to pay;
- When the construction of a rental building is completed or when the building is rented,
the owner and the builder are required to notify the administration of the Kebele in which
the building is situated about such completion and the name, address, and tax
identification number of the person or persons subject to tax on income from rental of
building;
- The Kebele administration has the obligation to communicate the information obtained to
the appropriate tax authority.

ii) Tax on Income from Rental of Property

The taxable income under this category is income derived from casual rental of property
(including any land, building, or moveable asset) not related to a business activity. When the
construction of a building is not for rental purposes the builder are not required to notify the
administration of the Kebele in which the building is ready for renting. A tax is not based on the
income derived from property. Regardless of income derived from such property the type of
income subject to tax is a flat rate of 15% of the annual gross income of property.
iii) Tax on Gains of Transfer of Certain Investment Property

There are taxes that fall upon capital (included) when it is being transferred. This is the tax
payable on gains obtained from the transfer (sale or gift) of building held for business, factory,
office, and shares of companies. Such taxes include stamp duty, real property transfer taxes and
so forth. Such income is taxable at the following rates:
- Building held for business, factory, and office at the rate of 15%;
- Shares of companies at the rate of 30%.
Gains obtained from the transfer of building held for residence shall be exempted from tax
provided that such building is fully used for dwelling for two years prior to the date of transfer.
Any person authorized by law to accept, register or in any way approve the transfer of capital
assets shall not accept, register or approve the transfer before ascertaining that the payment of the
tax has been duly effected.
As far as tax on gains of transfer of certain investment property may pertain to land as a possible
or the only taxable object, they are unique in that they are only levied upon transfer of the land;
unlike most of the land based taxes that are levied on regular basis, usually annually. The tax will
not be levied as long as land user right does not change hands, irrespective how long it may take.
On the other hand, it would apply as many times as land users changes hands – even if these
changes take place in less than a year.

4.10 Implication and factors to be considered

Principle trends within decentralization policy strongly emphasized that land and property
taxation is mandatory. Yet, the inefficiencies in property valuation and taxation system present
serious challenges to support socio-economic development goals at the national and regional
government levels. For decades, real property valuation and taxation in Ethiopia has been
characterized as inefficient, problematic, politicized and unreliable. The dysfunctions in policies,
systems, and structures of the sector, as evidenced by generally outdated property values used as
basis for determining and collecting national and regional property-related taxes and fees,
absence of uniform valuation standards, lack of formal education program and capacity building
for appraisers and assessors, among others, undermined the potential that can be derived from
real property as a capital resource and financial asset.
The importance of the land and property tax is not just in relation to the national tax base, but
also in its role as a tax base for local governments. As local land and property taxes may
represent the greatest source of autonomous income for local governments, the ability to
influence the tax base, the tax rate or the collected revenues is a very important condition.
Transparency and accountability in the use of such taxes at the local level are critical for their
success. If regional governments are to be responsive to local needs and local priorities, at most
large share of revenues must come from land at least for the following reasons: land is the single
greatest resource in Ethiopia, the base is immovable and readily discoverable; land and property
tax can provide a stable foundation for locally generated resources to meet local needs.
I believe that in Ethiopia land and property taxation can help support decentralization in a way
that encourages service delivery, effective land use, especially in contexts where local
governments need sustainable sources of revenue. But better understanding is needed of what
policies, regulatory and legal frameworks, tools and instruments have been applied, where and
with what outcomes. Specifically, to implement value based property taxation system property
valuation is above all important. Improving transparency in property and land valuation will
require clear principles which are applied uniformly, and property data that are regularly updated
and publicly accessible. At the same time, it is one of the most difficult exercises in post-
communist countries which have a history of leasehold systems and market distortions. Perhaps
the issues of professional, technical and management skills in all aspects are obvious. Cross-
international lessons can offer a good starting point as they provide an opportunity to exchange
information and may prove to be of considerable value for local and government administrators.
In general, in Ethiopian context, to introduce the value based taxation system first of all we
should have uniform land tenure system and sufficient and reliable information about the
property. I have realized that one of the major complication for efficient and effective
implementation of property taxation is the fact that there are often different systems of legislation
relating to land, and different forms of tenure, co-existing in the same country and, sometimes,
even within the same city, or between an urban area and its surroundings. The absence of
uniform land tenure and reliable information especially land related is the most crucial
impediment for the preparation and implementation of value based taxation in many urban
centers. It is important to note that real property do not change value bands based solely on
changing market conditions unless there is a total revaluation which has not happened since the
system was put in place in 1993. One specific reason to mention uniform tenure system is the
need to standardize the procedures of property valuation and mass appraisal. Because of the
expansion of business activity across national borders it is becoming increasingly indispensable
to propagate consistent approaches to the valuation of real estate for taxation purpose
Equivocally a primary requirement for an efficient and effective fiscal cadastre is a set of current
property maps that provide an index for compiling and maintaining valuation information. The
idea behind mentioning value based property taxation is to describe how the existing property tax
rate has attracted land speculation. The prevalent property taxes in the city are very low and the
collecting mechanism is extremely weak. This has been contributes for the increase of land
speculation. Value based property taxation system is an efficient system that allow for the
removal of inequalities, periodic evaluation. Accurate property valuation is essential to a sound
and equitable system; however valuation is fraught with difficulties.

References
Aneley, A ( 2006 ) “Synoptic reflection on urban land administration Issues in Ethiopia” Land
Administration Decisions Makers Meeting ,Windhoek, Namibia, 7-8 December 2006
Bell M E, Bowman J H (2008) “Extending Property Taxation into Previously Untaxed Areas:
South African Townships and Tribal Areas”, in Making the Property Tax Work: Experiences in
Developing and Transitional Countries, Eds R Bahl, J Martinez-Vazquez, J Youngman (Lincoln
Institute of Land Policy, Cambridge, Massachusetts) pp 334 – 71

Betts M.R. and Ely.J.S. (2005) Basic Real Estate Appraisal. Sixth Edition. Thomson-South
Western, USA. ISBN: 0-324-20146-X
Cohen, J, M. and Koehn H, P (1978) Rural and urban land reform in Ethiopia. Land tenure center
University of Wisconsin-Madison
Connolly, K and Bell, M (2009) Area-Based Property Tax Systems: Current Practice and Equity
Concerns. WP09KC1, Lincoln Institute of Land Policy Working Paper
Connolly, K and Bell, M (2010) Financing Urban Government in Transition Countries:
Assessment Uniformity and the Property Tax. Lincoln Institute of Land Policy

Dessalegn R (2011) Land to Investors: Large-Scale Land Transfers in Ethiopia. Forum for
Social Studies, Addis Ababa, 2011

Ethiopian Chamber of Commerce (ECC) (2005) Taxation in Ethiopia: Direct and Indirect Taxes
Categories of Tax Payers Declaration of Income and Assessment of Taxes Tax Incentives, 2005,
Addis Ababa, Ethiopia

Glaeser, E. L. (1995). The Incentive Effects of Property Taxes on Local Governments. National
Bureau of Economic Research: Working Paper No. 4987 January 1995

Kitchen, H (2003) Property Taxation: Issues in Implementation. Department of Economics,Trent

University, CEPRA II Project, AUCC, November 19, 2003
Lymer, A., & Hancock, D. (2002). Taxation Policy and Practice. TJ International, Padstow,
Cornwall. Great Britain.

McCluskey, W. (2000). Property Taxation: a Global perspective. Paper presented at IPTI

Annual Conference, Cape Town, June 2000

McCluskey, W, Plimmer, F and Connellan, O (2002) Property Taxation – Value Banding; New
Directions in Valuation Methodologies I FIG XXII International Congress Washington, D.C.
USA, April 19-26 2002
Musgrave, R.A. and Musgrave, P.B. (1989), ‘Public Finance in Theory and Practice’, 5th
Edition, McGraw-Hill, New York

Paugam, A. (1999), Ad Valorem Property Taxation and Transition Economies. ECSIN Working
Paper No. 9 June 28, 1999.

Slack, E. (2001). Understanding the Evolution of Property Tax Policy. Paper Presented for
Property Tax Odyssey 34th Annual National Workshop, Canadian Property Tax Inc. Ontario,
October 2000. URL.
http://www.pa.gob.mx/ENCU_LATIN/ponencia/SlackSummary.doc
Smith A. (1950), ‘An Inquiry into the Nature and Causes of the Wealth of Nations’,Vol. II,
Methuen, London.

UN-HABITAT. (2011). Innovative Land and Property Taxation. United Nations Human
Settlements Programme: Nairobi, Kenya, 2011
Peterson, G (2005) .Report and Recommendation on Municipal Finance situation in Amhara
Region. Discussion draft, June 2005.

Wensheng, L (2012) Property tax reform in China: Do the property taxes help to make the housing price
more affordable?
 5
Chapter

CHAPTER 5: Property Valuation for Mortgage Purpose

5.1 Overview of Mortgage and Valuation

M ortgage is a special contract by which the borrowers convey to the lender a security
interest in the mortgaged property. Mortgage is the security interest of the lender in the
property, which may entail restrictions on the use or disposal of the property. In this
sense property is the physical residence being financed (Ling and Archer, 2005). The exact form
of ownership will vary from country to country, and may restrict the types of lending that are
possible. The issue of secure property rights can have significant influence not only on sale and
rental market activity, but also on the stability of the banking system.
As is true of all lending activities, a bank's primary concern should be that its real estate loans are
made with a reasonable probability that the borrower will have sufficient cash flow to meet the
repayment terms. However, the value of the collateral is a significant factor affecting the risk in
real estate lending, so it also is essential for the bank to have adequate appraisal and evaluation
program. Appraisals are professional judgments of the market value of real property.
Professional appraisers use three approaches to estimate the market value of property the cost
approach, the market data or direct sales approach, and the income approach. Failure to have an
appraisal and evaluation program that provides an independent and objective valuation of real
estate collateral is a serious weakness in a bank's credit administration system. The program
should include a real estate collateral evaluation policy that:16

 Incorporates prudent standards and procedures for obtaining initial and subsequent
appraisals or evaluations.
 Is tailored to the bank's size and location and to the nature of its real estate-related
activities.
 Establishes a means of monitoring the value of real estate collateral securing the bank's
real estate loans.
 Establishes the manner in which the bank selects, evaluates, and monitors individuals
who perform or review real estate appraisals and evaluation

16
Real Estate and Construction Lending Comptroller’s Handbook, Narrative - November 1995,
Procedures - March 1998
Indeed, accurate and transparent property valuation is essential to the mortgage lending business
as it promotes confidence in the collateral system. In this respect, property valuation
represents one of the major building blocks of the mortgage system. The lender requires
certainty that the asset being taken as a guarantee for a housing loan is of a certain value and
will cover losses should the loan default. This confidence in the property value is one of
the elements, which make mortgage debt a low risk, inexpensive way of providing housing
finance and which in turn makes homeownership a reality for many (EMF, 2009).

In some cases, credit institutions may often negligent and imprudent in the manner in which they
requested property valuations. There is often a lack of specificity attaching to requests for
valuations or inadequate or inappropriate assumptions provided. There is also a general lack of
knowledge of some lenders of the appropriate valuation requirements and assumptions and the
manner in which the valuations is to be interpreted. Practically it is this poor valuation
instruction that has been contributing to the level of property losses incurred by such credit
institutions. In the case of mortgage valuations, the role of the valuer and standardize valuation
instruction should not be overlooked. In the competitive mortgage market, there is always a
pressure on the valuer. In such instance, credit institutions should provide well structured
valuation instruction for valuers. This allows for consistency and accurate analysis of a project
and consistency across the credit institutions loan portfolio. Letters of instruction that shows
what valuer must address in the valuation process also should be incorporated.

In many cases, valuers are expected to deal with the following key issues when determining
value of a property for mortgage purpose:
 The future marketability of the property has to be assessed systematically and prudently;
 The underlying time perspective goes beyond the short term market and covers a long
term period. So apply Discount Cash Flow (DCF) model to convert periodic income, cash
flows, and reversions into present value ;
 In principle, the long term sustainable aspects of the property such as the quality of the
location, construction and allocation of surfaces must be taken into account;
 As far as the sustainable yield to be applied, the rental income must be calculated based
on past and current long term market trends. Any unsupportable elements of possible
future yield increases should not be taken into account ;
 The application of capitalization rates is based on long term market trends and excludes
all short term expectations regarding the return on investment;
 The valuer must apply minimum depreciation rates for administration costs and
capitalization of rents ;
 If the mortgage lending value is derived using comparison values or depreciated
replacement costs, the sustainability of the comparative values needs to be taken into
account through the application of appropriate discounts where necessary ;
 The mortgage lending value is generally based on the current use of the property. The
Mortgage Lending Value shall only be calculated on the basis of a better alternative use,
under certain circumstances i.e. if there is a proven intention to renovate or change the
use of the property; and
 The valauer must comply with laws and regulations.
A large literature has demonstrated that in developing countries policy that aim at development
of financial markets should also think of tenure security and land market. In many instances,
tenure security matters the development of land and financial markets. Given its integral nature
within the mortgage lending process, tenure security in valuation of property has been one of the
key elements that determine features of the mortgage markets. Security over real property affects
function and growth of mortgage lending system in a number of ways. First, secure property
rights will increase the incentives of households and individuals to invest, and often will also
provide them with better credit access. Second, secure property rights will increase the
transaction of land at lower cost. High transaction costs in land markets either make it more
difficult to provide credit or require costly development of collateral substitutes, both of which
constrain development of the private sector (Deininger, 2003).
In many countries of the developing world, insecure land tenure prevents large parts of the
population from realizing the economic and noneconomic benefits, such as greater investment
incentives, transferability of land, improved credit market access etc. This illustrates not only
that tenure security is highly valued, but also that in many contexts insecure tenure systems fail
to provide people access to credit. Therefore, if effective demand for credit exists, ensuring
higher levels of tenure security can help borrowers to gain access to credit and improve the
functioning of financial markets. While targeting efforts aimed at increasing tenure security and
equity for the poor will therefore automatically lead to emergence and development of credit
market (Feder and Nishio, 1998).
The basis and methodology of valuation is one of component that letters of instruction should
incorporate into the valuation report to ensure that the basis and assumptions are as required.
Approaches to property valuation for mortgage purpose differ country to country, based
on different economic and market conditions, and banking and valuation practices. Valuation
basis and methodology always reflects national, regional or even local market specificities
and consequently varies from country to country , although there is a degree of convergence in
valuation methods in developed country. Therefore, the next section will introduce you the basis
and method of property valuation for mortgage purpose.

5.2 Basis and Methods of Property Valuation for Mortgage Purpose

As you might remember in this course, you have introduced basis concepts of value and
distinctions among price, cost, and value. You have also introduced the three classical methods
of property valuation undertaken for various purposes. These are sale comparison, cost and
income approach. The applicability of these approaches are highly depends on the concept and
principles of value basis. The three methods are not often equally applicable to the specific
assignment of valuation. They diverge widely from one situation to the next, and particular
importance is given to the specific characteristics of the subject and the purpose. Perhaps
knowledge of basic assumptions or premises that underlie appraisal methods is essential to select
the basis of valuation.
It has been stipulated in many countries that valuations for secured lending will normally be on
the basis of market value, except when otherwise governed by law or statute. In many countries
the typical basis for valuation for mortgage lending purposes is generally the market value.
Market-based valuation are performed by application of the sales comparison, income
capitalisation, and cost approaches to value. Although some jurisdictions may cite market value
as the assessment basis, methods used to estimate the value may produce results that differ from
market value. Mortgage lending value17 may be considered as a substitute or support of market
value. Some countries such as Czech Republic, Denmark, Germany, Spain, and Portugal under
certain circumstance use mortgage lending value. The mortgage lending value may not
exceed a usual price or market value of the real estate being assessed (EMF, 2009)
Next, our discussion will focus on evolution of the concept of mortgage, property subject to
collateral and the most important bases and methods of valuation used to determine the amount
of loan in Ethiopian context.

5.3 Mortgage and Property Valuation in Ethiopia

In Ethiopia, governments usually regulate many aspects of mortgage lending, either directly
(through legal requirements and lending by the government, by state-owned banks, or
sponsorship of various entities) or indirectly (through regulation of the participants or the
financial markets, such as the banking industry). The concept of mortgage system is defined in
detail by legislation, directives and additional country specific regulation. Even if in Ethiopian
real estate development and market have been grown slowly, mortgage system has a long history
in Ethiopia banking system.

During Haile Selassie's reign, the Ethiopian Savings and Mortgage Corporation (ESMC) issued
loans for the acquisition of personal goods desired by wealthy Ethiopians. This regime credit
policy had exploited by wealthy persons seeking loans to purchase luxury goods. As a result, the
derg regime which over thrown the imperial reign revised the mortgage and credit policy in
1975. The Provisional Military Administrative Council (PMAC) directed the ESMC to cease
granting credit for the purchase of luxury goods and to make its capital available for the
construction of low-cost dwelling units. The ESMC also announced that it would not issue loans
to applicants already in possession of a house. Mortgage Corporation suspends loans for luxury
commodities. Then, lending for low –cost housing (both development and mortgage finance) had
become dominant. This was carried out by a specialist lender, the Housing and Savings Bank
(HSB). It was formed in 1975 through the merger of two financial institutions, the Imperial
Savings and Home Ownership Association, and the Savings and Mortgage Corporation of
Ethiopia (Cohen and Koehn, 1978).
For about 20 years from its inception, the HSB granted long-term loans at a subsidized rate for
residential and commercial construction, purchase and renovation, time deposits and long-term
loans. It was succeeded by the Construction and Business Bank (CBB) a wholly government-
owned public enterprise which has the additional mandate of universal banking. Since its
establishment in the early 1970s, the former HSB, and now CBB, have extended mortgage loans
for the construction and/or purchase of residential or commercial property. Mortgage loans
17
The mortgage lending value must not exceed the value resulting from a prudent valuation of the future
salability of a property and taking into consideration the long-term, permanent features of the property, the normal
regional market situation as well as the present and possible alternative uses. Speculative elements may not be taken
into account in the assessment of mortgage lending value.
offered by CBB require a 30 percent deposit. Currently, two other government owned mortgage
lenders in the country have emerged: the Commercial Bank of Ethiopia and the Development
Bank of Ethiopia. Moreover, there are many private banks that engaged in mortgage market
such as Wegagen, Awash International Bank (AIB), Bank of Abyssinia United Bank S.C,
Dashen Bank S.C, Nib International Bank S.C and others.
Literature has reached a level of rigor comparative analysis about Ethiopian land tenure system.
Much of it, however, not considered basic issues in relation to type of interest are subject to
collateral, loan amount estimation, land transaction and credit markets. Hence, land in Ethiopia
has not been subject to sale or to other means of exchange. Partly as a result of this and
insecurity of tenure which has been widely acknowledged, the existing literature has largely
ignored the recent development issues; land and credit market development. However, in the last
couple of decade, the issue of land and credit market has got high attention in Ethiopia due to the
fact that government has made an effort to improve a precondition for the emergence and
development of such market.
After the downfall of the Derge in 1991, given the key role of land as a determinant of access to
economic opportunities, the way in which land rights are defined, households and investors can
obtain ownership or possession of it have been changed. Despite the current land policies are a
continuation of those changes introduced towards the end of the Derge government, radical
reform has been taken. For example, though the government retains the “ownership right”,
prompted by consideration of free market philosophy leasehold land tenure system in Ethiopia
was introduced. Rural land rental market has been legalized in recent years, lifting extensive
restrictions on rental and sharecropping. An effort has been also made to attract agricultural
investors by providing privilege use right of rural land (Teklu, 2004).
Moreover, at the end of the 1990’s, the Ethiopian government had increasingly been
acknowledging that lack of tenure security had been affecting investment on land, land
transactions and mobility. Hence, the government has been embarking on a large-scale and
comprehensive land registration programme as policy. Land registration and titling have long
been viewed as the main instruments for increasing tenure security, empowering a flourishing
land market, and facilitating the use of land as collateral in credit market. Secure land titles may
give landowners access to credit and capital. The land title security provided by a nation’s public
land title registration system may be sufficient to encourage mortgage loans from local banks and
mortgage lender. Theoretically, improved credit access has repeatedly been shown to be one of
the major benefits from formal title (Deininger and Binswanger, 1999)
It has been advocated that titled and transferable land has collateral value which enables
landholders (with registered land) to gain access to more and cheaper long term credit (Deininge,
2003). Although there is broad agreement in the literature that secure individual land rights will
provide a better access to credit; and reducing the transaction costs associated with land
transfers, empirical studies regarding the relationship among the above variables yield
inconclusive result. For example, in a number of countries in Latin America (Bolivia, Chile,
Honduras and Paraguay), farmers with title deeds had easier access to bank financing (Munoz,
1993).
On the other hand, there was a weak correlation between titled land and credit in Rwanda,
Senegal, Uganda, and Somalia in the smallholder sector. This was the case even in Kenya where
many farmers have titled lands and a higher degree of commercialization of agriculture had
occurred. Institutional credit to the smallholder sector was mostly confined to short-term
working capital (Bruce and Migot-Adholla, 1994). Land title alone is unlikely to increase the
banks’ willingness to lend to the rural sector where, for cultural or economic reasons, land
cannot be repossessed or where land sales and mortgages are restricted (Atwood, 1990).
In Ethiopia, there are very few rigorous empirical studies that examine the linkage between land
title, tenure security, land market, and credit market. This attracts anyone who is looking for a
way for betterment of situations that can affect and affected by the content preference and
implementation of the pertinent policy.

There are myriad contemporary issues that currently confront financial market development in
Ethiopian. The purpose of this section, however, is to give a glimpse of the concept of property
ownership or type of real property “interest” that is subject to collateral and the valuation
methods used to determine value of collateral in Ethiopia context.

5.3.1 Property Subject to Mortgage

Usually, for mortgage financing, the fee simple interest is being valued. The fee simple interest is
the most complete bundle of rights available. However, in many situations, and in many
societies, some other interest may be more common. For example, in Ethiopia, it has long been
that a political or other consideration has precluded the award of fee simple interest. The state
continues to own land and people have the right to possess land through the leasehold system.

Understanding the origins of property rights and their evolution over time is important to
appreciate how property rights to land are used as collateral. During Imperial regime (1930-74),
land is subject to sale, mortgage, and exchanged. To encourage the emergence and development
of land and credit market, the imperial regime had given legal recognition to private tenure as
well as to credit institutions. There was also a provisions regarding creation of mortgage. The
1960 Ethiopian Civil Code clearly defined what to be used as collateral that still are partly
applicable. Mortgages are valid only on immovable property and when stated in a contract of
certain form specifying the immovable property. Under this regime, however, it is important to
note that 1960 Civil Code does not provide supplementary information about the use of valuation
approach for financial reporting. Indeed, separate guidance on property valuation is not still
being developed.
The experience indicated that the Ethiopian land tenure system prior to 1974 did not respond
efficiently for land and credit market development. The major problems are the following:

 Given that all the land was originally the state property and that private holder had no
absolute rights, land ownership were different from the general concept of a freehold
system.
 Even if property rights to land are assigned to individuals, the rights and duties of
individuals, and the way in which they can be modified and will be enforced, were not
be clear.
 The crown owns a large portion of valuable land, have tended to exclude the majority
from land access and ownership and resulted in the creation of poor land and credit
market.
  Land granting by the crown to those who were loyal to the regime and implementing
laws gave rise to particular challenges for mortgage lenders.
 Tenure insecurity was also cited as one of the limitations of the pre-1974 land tenure
system. Individuals had only used buildings and not land as collateral.
During the derg regime (1974-1991) land was state property and not subject to sale, rent, or
mortgage. Together with tenure insecurity, inefficient allocation of land by way of restrictions on
land transfer led to rapid declines in credit and land market development. Poorly designed land
market interventions and regulation of such markets by large and often corrupt bureaucracies
continue to hamper credit market development. Such interventions not only limit access to land
by the landless and poor in rural and urban areas of Ethiopia, but by discouraging renting out by
landlords who are thus unable to make the most productive use of their land.
As mentioned above, the current government has made an effort to include goals towards
emergence and development of land use and credit market. Today, any individual who received
urban land in a lease for a definite period (maximum 99 years) of usufructuary right can use his
or her land use right as collateral for the effected period of the lease. The urban land lease law
clearly indicated that like any other property right, the leasehold right is subject to any form of
transaction including sale, lease/rent, inheritance, donation and mortgage. Without prejudice to
the period of the lease determined and the obligation to use the land for the prescribed purpose, a
lessee may transfer his leasehold right or use it as collateral. A building constructed on leasehold
and its accessories are also subject to collateral.

According to federal democratic republic of Ethiopia rural land administration and land use
proclamation No, 456/2005 any investor permitted rural through leasehold system for definite
period of usufructuary right may secure as mortgage right to use his land or an asset produced on
it, or both for the effected period of the lease. If there is no a contrary agreement, where the rural
land use right is mortgage, the asset developed on the land shall be considered as it is withheld
together. But where only an asset produced on land is mortgage, the land use right shall not be
considered as mortgage together with same. It is important to remember that despite the rural
land use right of peasant farmers, semi-pastoralists and pastoralists shall have no time limit , they
have no right to mortgage his/her indefinite usufructuary right on land.

Contemporary, a general reading of Article 22-24 of Proclamation No. 721/2011 and Articles 7
and 8 of Proclamation No. 455/2005 point out that the following real property interests or rights
can be used as collateral:
 A building constructed on land and its accessories (permanent improvements to the land)
 The right to the use of rural and urban land through leasehold system

Perhaps, for any type of project the following information related to land is required as a
condition to grant a loan to borrowers by all government banks

 For leased land, the contractual lease agreement entered into with the appropriate
Government authority
 For any projects the title deed certificate for the land approved by the appropriate
government authority
  For projects located in rural areas, contractual land use agreement from farmers approved
by the appropriate government authority
 Financing agricultural projects also requires a site plan of the project in addition to the
above.

Under the existing tenure system, borrowers is not being the freehold owner of land, but instead
hold its interest pursuant to perpetual land use right and a long term ground lease. In law, ground
tenants have considerable freedom in granting subleases and mortgages of their leasehold
interest. However, leasehold tenure system gives rise to particular challenges for mortgage
lenders.
It is important to note that Banks only accept real property as collateral. In many instances Banks
accepted non – real property or personal property, as collateral that real property rights. For
example, Development Bank of Ethiopia and Commercial Bank of Ethiopia (government
Banks) , Wegagen, Awash International Bank , Bank of Abyssinia United Bank S.C, Dashen
Bank S.C., Nib International Bank S.C ( Private Banks) accept the following property as
collateral requirement

 Business or residential buildings;

 Motor vehicles: Trucks, tankers, tractors, combines, buses and automobiles especially
for short-term loans;
 Bank or insurance guarantee;
 Life insurance policy;
 Own bank deposit or savings by the third party;
 Merchandise guarantee;
 Personal guarantee (business person) with good paying capacity;
 Other properties that can be registered and have the capacity to be pledged as collateral
For example, Development Bank of Ethiopia requires that its loan be secured by a first-degree
mortgage on fixed asset. This could be building, machinery and equipment or vehicle depending
on the specific nature of the project. In case of projects located in rural areas (outside the
municipality), the Bank requires 100% collateral. However, for projects located in urban areas,
125% of the loan including fixed assets of the project is required.

Next, we will see basis and methods of property valuation used to determining amount of loan
for financing new real estate development, improvement (building) and leaseholds

5.3.2 Financing New Real Estate Development and Improvements

Loans secured by real estate can be divided into two categories based on the source of
repayment: credit-based loans and project financing. Credit-based loans are loans secured by
real estate that will be repaid from the borrower's business operations or personal assets.
Although the primary collateral for the loan is real estate, the real estate is not the source of
repayment. In many instances, these loans are used to finance the acquisition of owner-occupied
business premises that has an economic life similar to the term of the loan. In other cases, they
are term loans used for other business purposes, such as working capital. In both cases, however,
repayment is expected from the cash flow of the business rather than from the underlying real
estate18.

In Ethiopia, banks are willing to provide loans for both credit-based loans and project financing.
The experience showed that in most cases, both private and public bank prefers to use buildings
or structure already developed as collateral as compared to financing new real estate
development. In the latter case, broader risk analysis based on the long run consistency of
various assumptions in calculation in developement of investment value forms part of the
arsenal of analytical tools that the lender analyst can bring to bear. However, in the former case,
the analyst or appraiser only seeks to identify replacement cost of property which is spot figures.
Therefore, bases and methods of property valuation used to determine amount to finance new
real estate development is different from methods used to determine the mortgage lending value
of property already constructed.

i) Financing new real estate development

For financing new real estate development projects, short-term loans for financing fixed assets or
working capital will burden a project’s cash balance with early and heavy principal repayments.
A long term loan is required. Long-term financing must cover the projected cost of fixed
investment and the estimated working capital requirements needed for normal operation. These
should be procured in the form of equity and long-term credits. As collateral, the bank will rely
primarily upon the financial viability of the project itself. However, in order to minimize risk in
the event of default, bank requires first-degree collateral security for all loans.

Construction lending provides a developer with funds to build improvements and time to lease or
sell the space built. Because the higher rate of return on a construction loan is indicative of the
higher risks assumed, however, a bank must monitor closely its construction lending activities.
Construction loans are vulnerable to a wide variety of risks. A bank must properly assess the
developer's ability to complete the construction project within specified cost and time limits.

When evaluating the likelihood that a proposed construction project will be successful, a bank
should be aware of the following risks:

 Failure to complete the project by the agreed take-out date voids a permanent funding
commitment.
 Cost overruns occur. Cost exceeds take-out commitment or sale price.
 For example, inclement weather, material or labor shortages, or substandard work that
must be redone to pass inspection can delay completion, increase interest expense, and
cause the total cost of the project to exceed the original budget.
 Completed project is an economic failure.
 Progress payments diverted by developer. Suppliers and subcontractors' file mechanics'
liens for non-payment of debts.
 General contractor files for bankruptcy before completing the project.

18
  Labor disputes or the failure of a major supplier or subcontractor to deliver goods and
services.
 Uninsured destruction of completed work or work in process

In all lending institutions borrowers who wish to obtain financing for new priority area projects
are required to provide an equity contribution as collateral. In addition, there are required
documents from the borrower for new project financing. All prospective borrowers are requested
to provide

 A project feasibility study,

 Evidences of securities such as land holding certificates and lease agreements,
 Licenses (only for construction of buildings),
 Work permits from concerned government offices, and
 Land possession certificates (for building) while signing loan contract.

Borrowers to increase access to capital through using their equity as collateral initially require
providing a bill of quantity and specification (for building) and a minimum equity contribution of
30% of the total project cost. For instance, in order to ensure commitment to the success of the
project to be financed, DBE requires that the applicant shall be required to make a contribution
to the project cost. The level of borrower’s contribution shall in no case be less than 30% of total
project cost. CBE accepts building under construction if at least 40% is completed.

The cash contribution shall be placed upfront or gradually over a period not to exceed 6 months
from the loan contract signing date. The Bank will finance the remaining balance up to a
maximum of 70% of the total project cost after utilization of the 30% equity contribution by the
borrower. Banks can arrange structured finance up to 70% of the overall project costs for all
types of development projects – large or small, from a single new house, to residential
apartments in a warehouse conversion, or larger scale housing developments. However, for
strategic projects that are implemented phase by phase over a long period of time, the Bank shall
revalue collateral assets every year.

Normally a pre-agreed draw down of funds is made at various stages throughout the build
process to minimise the risk. Funding arrangements would be between 30% – 40% against 70%
of the overall project costs that will be provided with three phases. Most often Banks provide up
to 40% of 70% of the overall project costs at first phase and up to 30% in the second and third
phase. In order to disburse the second and third phase payments that account for 30%, the value
of the project has to be reassessed by the Bank to ensure that pre-conditions for disbursement are
fulfilled.

The proposed improvements are valued based on plans and specifications provided to
appraiser disclose that the improvements have not yet been built and that their completion as
specified is a hypothetical condition of the appraisal. Calculation of the total project cost
considers both direct and indirect costs. Direct (hard) costs are general expenditures required for
labor and materials used for construction of building improvements. Indirect costs include
expenditures of items other than materials and labor that are necessary for construction but are
not typically part of the construction contract. These indirect items can be architectural and
engineering fees, legal fees, administrative expenses of builder etc.

Note that real estate development costs are the costs incurred so as to create a property including
the land acquisition costs in addition to direct and indirect costs. According to Ethiopian urban
lands lease holding proclamation No. 272/2002 a person permitted urban land lease holding is
require to make down payments. The amount of down payment may not be less than 5 % of the
total lease amount of the urban land. Of course, the currently enacted urban lands lease holding
proclamation No. 721/2011 make down payment not be less than 10 %. The amount of down
payment shall be considered in estimating total project cost. Unfortunately, the experiences of
lending institution showed that it is only direct and indirect cost are added in estimating total
project cost. Down payment has not been considered as development costs.

In many countries the main rule for estimation total real estate development project cost is full
economic costs necessary to construct the property. So, development cost of improvements
includes cost for land acquisition, direct costs and indirect costs. The trend and experiences that
Ethiopia has today contradict with the dominant view in the world. This may highly set barriers
to entry and decrease competition; particularly among middle and lower income group of the
society. Hence, it is only a handful of large developers have big enough balance sheets to show
the minimum equity contribution (30% of the total project cost) and get access to loan.

ii) Credit-Based Loans – Mortgaging Buildings

Most countries have used land and building as collateral and in most cases the value base is
market value of land and buildings. The process of producing market values of properties to be
used for and mortgage purposes is basically the same process as that which is used for the
appraisal of individual properties for many purposes including investment and property tax. If
market values of properties is not possible to estimate, or if those values differ greatly from the
true market values, then the lender institution will need to use other methods for examining and,
if necessary, overruling recorded sales prices and value estimates made by other agents like tax
authority or the taxpayer.
As mentioned above, market value may be estimated by using the three classical approaches to
valuation. The preferred approach is the comparable sales approach since the only direct
evidence of the market value is the sales prices. If the sales approach cannot be used because of a
lack of information about sales prices, then what is known as the income approach is used. This
method comprises taking either the actual, or the estimated, income derived from the property,
usually in the form of rent and applying a capitalization factor to this income to arrive at a capital
value. The capitalization factor is derived from examining rented properties which have been
sold and making an analysis of the sales prices realized compared with the rents received. As a
last resort where neither of the above two methods are suitable, the cost approach can be used
whereby the value of the property is derived from the estimated cost of building the property or a
modern equivalent. For the cost approach the construction costs are obtained from other known
building costs, from cost statistics or from experts in the estimation of building costs (Betts and
Ely, 2005; Ling and Archer, 2005).
It is very common in Ethiopia to use building or permanent improvement as collateral. Pertaining
to the issues of valuation methods, despite lender institutions highly concerned with market
value, they have been using only cost approach to estimate mortgage lending value. It seems due
to lack of information about sales prices and lack of skilled man power and expertise to apply
what is known as the income approach, cost approach has become the dominant valuation
techniques. The amount of loan for structure is determined on the basis of “replacement cost” of
the property. It should be noted that the cost approach to value is preferred regardless of the type
of property being used as collateral. The sales comparison and income approaches are not
practiced. This contradicts the dominant view in the literature which sees the investment or
income capitalization and sales comparison methods as the most appropriate for mortgage
valuations.
Perhaps, the premise of cost approach implies that the procedure used for development of market
value of the building or improvements are the conversion of "cost to construct" figures to market
value figures. Thus, cost and value are equal. It must, at this point, be reiterated that cost and
value are rarely the same, but this method of valuation is based loosely on the assumption that
they are related. It should therefore be appreciated that this is a method used only infrequently,
and is something of a method of last resort. The cost method is more applicable to appraisal
problems where market data is lacking for the income or comparison approaches. Churches,
public buildings, and other special use properties are usually appraised using the cost approach
since the other approaches are inapplicable because of the lack of market data. But single family
residences are most commonly valued with greatest weighting to the sales comparison approach,
but if a single family dwelling is in a neighborhood where all or most of the dwellings are rental
units, then some variant of the income approach may be more useful.

In Ethiopia, it is not special use properties which are commonly used as collateral, rather it is
either residential or income generating properties. Therefore, there is a need to adopt alternative
valuation approach. The property owner who has an income generating property anticipates that
he or she will receive cash flows from the property in the form of income from rental operations.
The value of the property in this case is, therefore, a function of the income stream that is
expected. Here, appraisers should use the income approach which converts anticipated cash
flows into present value. The sale comparison approach is most suitable for properties purchased
and held as residences. This does not mean that the cost approaches is not useful for valuing
income properties or frequently traded properties. The cost approach may also be used to
estimate the value of such properties, but it is usually not considered as relevant or reliable as the
other approach. It is usually weighted less in the final estimate of market value of income
producing and frequently traded properties. Nevertheless, the cost approach should be used when
reliable data can be obtained.

Under the cost approach, it is true that customers have been complaining about the difference in
valuations among the banks. There are differences between the various lending institutions in
mortgage value calculation which are based on same basis; replacement cost of property. In
some Banks property value is cost based, but not based on current cost. The high rate of inflation
and exchange rate keeps on distorting construction costs. Ethiopia import most of building
materials whose price is affected by aforementioned factors , using outdated lists of costs of
building materials together with unpredictable variation of inflation make projected cost over
time very difficult to estimate. Furthermore, the cost approach is often not very precise because
of the general methods used to calculate hard costs, depreciation costs in older properties, and
adjusting the estimated replacement cost to reflect the age and inadequacy of the building. It
also requires specialists or experts who know about construction planning and material
specifications.

Therefore, adopting an alternative valuation system and creating standardized valuation approach
based on the standards of the International Valuation Standard Committee (IVSC) is an
important assignment for stakeholders.

5.3.3 Leasehold Mortgage

It has been strongly argue that provision of land certificate, legalizing long term lease and rent
arrangement virtually indistinguishable from private ownership and can assure the existence of
tenure security and thereby emergence and development of land use right and credit markets.
Hence, secure land tenure facilitates the transfer of land at low cost. Mortgages of property with
land can be used to secure larger loans. If existing institutions can credibly commit to lease
contracts, giving users secure, transferable, long-term lease rights will permit the realization of
most, if not all, the benefits associated with higher levels of tenure security (Deininge, 2003).
Although these proposals are persuasive at the theoretical level, there is only limited evidence to
prove that formal title and long term leasehold encourage lenders to provide loan in practice.
Attention to leasehold tenure issues in the developing world including Ethiopia emerged largely
in the context of the debate about the limitation or restrictions imposed on leaseholders.
Next we will see pledging of urban and rural leasehold rights. In case of rural leasehold, we will
see how agricultural investors and farmers, who have different rights and status on land, can use
their rural land use right as collateral independently.

i) Pledging of Urban Leasehold Rights

Since the introduction to Ethiopian Urban Lands Lease Holding Proclamation in 1993, a lessee
may use the land-use right as a collateral or capital contribution to the extent of the lease amount
already paid plus improvements. For example, a person, who had made a 150,000 birr lease
payment, may not borrow more than this amount by mortgaging his leasehold right. The new
proclamation No. 721/2011 has also provided direction in situation where a lessee uses his
leasehold right as collateral prior to commencement of construction. The collateral value may
not exceed the balance of the lease down payment after considering possible deductions to be
made pursuant to sub article (3) of Article 22 of Proclamation No. 721/201119. In operation, in
spite of the wide range of legal reforms undertaken by the government almost all lending
institutions were unaware of the urban lease proclamation mortgage value limitations. Neither of
them have lent money considering use right as collateral as stipulated in the law.

Legalizing land transactions based on secure land rights are likely to be more conducive to
efficiency and equity while offering less scope for corruption and other undesirable side effects

19
Where a lessee fails to commence construction within the period specified under sub-article (1) and (2) of this
Article, he shall be liable to pay a penalty fee amounting to seven percent of the total lease price in addition to a
lease amount that covers the period from the date he took possession of the land; and the appropriate body shall take
back the land.
than administrative intervention, especially as the number of exchanges increases and the
contractual arrangements become more complex. On the other hand, putting land use right value
ceilings (a lessee may use his leasehold right as collateral or capital contribution to the extent of
the lease amount already paid) is ineffective as a means to facilitate credit access and
development of financial markets. Specifically, most urban land has been disposing at much
lower prices, below market prices and a lessee has made low fixed annual payment. If banks
were strict on urban lease laws, allowing lessee to use their leasehold right as collateral only to
the extent of the lease amount already paid, mortgage value were low, urban land law has
apparently had a negative impact on investment and land possessors’ ability to access credit. The
only situation where land use right value ceilings can be justified is where land market value is
equals to lease amount already paid.
According to urban land lease law, a building constructed on leasehold and its accessories and
right to the use of land shall be subject to the collateral. The governments regulate value of
mortgage lending indirectly through putting ceiling on value of right to the use land.

Amount of Loan = Value of Building constructed on leasehold

+ Value of Building accessories (if any)

+ Capital contribution to the extent of the lease amount already paid

Implementing such interventions has, however, proved to be exceedingly difficult in practice. In

the vast majority of cases, restrictions on value of land use right may undermined tenure security
and ended up making credit access worse than they were at the outset.
Experience has shown that whenever banks lend money they consider the location value of the
residential or commercial building, which is often higher than amount of the lease payment made
by lessee, in addition to replacement cost of the improvements. The market lease value of land at
the center is much greater than undeveloped leased land located far from the center. For
example, empirical study has shown that in Addis Ababa Commercial Bank of Ethiopia during
loan agreement provide up to 4,000 birr per square meter in “Piazza” and ”Mercato” as market
location value of land , regardless of how much a lessee has already paid (Daniel, 2009).

Similarly, in Bahir Dar City Banks are considering a property location value in addition to
replacement cost of the improvements. In Bahir Dar, CBE provides up to 550 and 665 birr per
square meter respectively for residential and commercial properties located within 50 meters of
main roads. The amount of locational value declines as the distance from main roads increases.
CBE provides up to 320 and 480 birr per square meter for respectively for residential and
commercial properties located within 100 meters of main roads. In other words, the location
value of a residential or commercial building is highest if found within 50 meters of the main
road and declines with increasing distance from the main road (CBE valuation manual (2006) as
cited from Daniel, 2009; Zelalem, 2010).
From the above experiences, I argue that the consideration of locational value by the
Commercial Bank of Ethiopia has to be appreciated in terms of giving land market value and
development of financial market. If Banks do not follow their lending policy, lessees may not
use their land leasehold right as collateral. First, market demand is not considered in land
valuation. Land is valued at below market prices. Second, there is no well established
information related to specific land units. It is difficult to plan and control mortgage value
without having sufficient knowledge and information about the basic element – the land itself.
General information is not enough; what is required is detailed information about who own it,
how much lease price is paid, credit worthiness of lessee, and other data.

The revised land lease proclamation in 2011 remains contentious since it was approved by the
parliament without public discussion. The new urban land lease regulation has shocked the
banking sector after introducing a provision which bars them from the benefit of location value
for property held as collateral. Under the lease law, when property is transferred to a third party
through other means other than those protected by law, the land is valued under the lease rate,
with the remaining value going to the governments. The news was not welcome for the banking
industry, which holds collateral for 75 percent of the private credit it has extended. Currently,
each bank has its own property valuation manual for estimating real property in which location
value contributes the majority of the value.

This fear is echoed by many of the executives of private commercial banks. This will put banks
in a disadvantageous position, as the value of their collateral will decrease, they argue. This is a
clear indication that laws are being legislated arbitrarily without researching their impact on the
economy. Another bank senior executive sees that, eventually, banks will be forced to change
their credit structures. The whole thing has surprised executives of commercial banks who see
the draft as another threat to the banking industry, which has passed through challenges, such as
buying 27 percent bonds from the Development Bank of Ethiopia (DBE) on loans and advances,
massively eroding the liquidity position of private banks. State owned banks such as the
Commercial Bank of Ethiopia (CBE) and the DBE are exempt from this requirement issued by
the central bank earlier this fiscal year.

The revised law met formidable resistance from members of the public, after Parliament ratified
the bill with hardly any public debate on its substance. The most controversial provisions in the
revised law was the potential inclusion of historical holdings of plots under the lease regime,
which many perceived as an attempt by the state to deprive them of the right to own property.
Proclamation No. 721/2011 has eliminated the value of urban land possessed prior to the coming
of leasehold system. It is only the leasehold right that can be pledged. For example, urban land
held under the permit system should have no value, as no lease payments are made. In practice,
banks have included location value in estimating the maximum loan amount for these parcels
provided the borrower can provide a legal certificate of land holding. There are over 346,664
houses registered with title deeds that are not currently included in the urban land lease regime.
Failing to engage the public over the changes made in the recently revised urban land lease law
was a major error of judgment.
Although recently revised law foresees the inclusion of these plots under the lease regime in five
years, the modalities in which this will be enforced was left to a follow-up regulation. However,
all transfers of properties, with the exception of an heir's exercise of inheritance rights, will not
be permitted, if it is done without inclusion under the lease regime, according to Article 6 (2) of
Proclamation No. 721/2011. The lease rate to be imposed when such transactions are conducted
will be determined by the existing initial lease rate of the area. The conversion process does not
preclude a revision of the existing rental rate for old possessions. The new lease rates will be the
lease benchmark price for locality. In other words, possessor of urban land on lease may pledge
such rights or contribute it in the form of a share to the extent of the rent paid.

The impact of the new proclamation is not entirely apparent. The required regularization will not
be effective for the coming four years after the implementation of this proclamation. There is a
lot to be done in order for banks to make a wise loan decision while they are considering
governments’ intervention in mortgage lending process. At the same time, government has a
clear role to play in a number of respects. Governments need to help establish the legal and
institutional frameworks within which land markets can function and create a policy environment
that rewards unrestricted land transactions that will increase productivity, improve credit access
and welfare in general rather than the opposite. Credit market imperfections and land policy
distortions have, however, prevented land sales markets from contributing to increased levels of
productivity or reduced poverty in many instances.

It is also important to note that even though the ability to make productive use of land will
depend on policies in areas beyond land policy that may warrant separate attention, secure and
well-defined land rights and existence of perfect credit market are key for households’ asset
ownership, productive development, and factor market functioning. This implies the need for a
careful and differentiated approach as a precondition for making clear policy recommendations
in relation to land that can help improve both efficiency and equity.

ii) Pledging of Rural Leasehold Rights by Investors

Article 8 (4) of Proclamation No, 456/2005 stated that any investor who has leased rural land
may present his use right as collateral. Generally, the rental value and the lease period of rural
land are determined and fixed by the land use regulations of each region. Accordingly, rural land
in most of regions is allocated to investors on a rental basis and the duration of rent is based on
plot size, development level of the zones, distances from all-weather roads and the type of
agricultural activity. As discussed, to encourage agricultural investment in selected activities
different types of incentives related to land are granted to investors. The incentives include but
are not limited to low rental prices, percentage discount on initial lease prices, provision of grace
period for payments, and free provision of land. Unfortunately, this reduces to insignificance the
value of the investor's land use right that can be used as collateral. Banks are often unwilling to
lend to agricultural investors despite the formal titles and long term leases they hold that would
normally be expected to increase tenure security.

The Ethiopian government has committed itself to attracting foreign agricultural investment
using a variety of incentive packages. The government has been taking considerable care over
financial access by investors. Foreign investors are allowed to rise up to 70 percent of their
operational costs from local sources. The best source for large scale local finance is the
Development Bank of Ethiopia. If the investment happens to fall among the so called “priority
sectors“, this bank provides loans up to 70% of the investment for commercial agriculture, agro-
processing, manufacturing and extractive industries, specifically those export-focused ones.

The prevalent leasehold mortgage agreement does not address issues related to value of rural
leasehold interest. An investor who is interested in obtaining a loan as working and investment
capital in the agriculture sector must provide a certificate of land leasehold, an investment
license a project study and an equity contribution. The Bank allows investors to borrow up to 70
percent of the total operational cost of their investment, all prospective borrowers for new
agricultural industry projects are required to provide at least 30% of the total project cost. It
should be noted that the simplistic valuation methods used to determine loan amount by the
Development Bank of Ethiopia does not consider the value of usufructuary rights. This implies
that the Bank has cheaper criteria for provision of credit for foreign agricultural investors than
other borrowers

The current federal and regional laws and regulations circumscribe land-use rights so much and
create such rigidities that the benefits of land titling to promote the development of land-use
rights market are very limited. Titling land can provide bankers with certified evidence of
landholdings but this may not materialize credit access unless other conditions that are
supportive of this effect prevail. Secure land title is a necessary but not a sufficient condition for
accessing institutional credit. Particularly, private institutional lenders will also look for other
assurances such as the presence of an active land market that enables easy disposal of the land
(land use right) collateral in the event of default and the ability of the land to generate a
dependable stream of profitable income to fetch good demand in the land market.

There is empirical evidence in Ethiopia that shows despite land use right of titled land can be
used as collateral by local investors; Banks are reluctant to accept the leasehold mortgage
agreements. For example, a study conducted by Zelalem (2009) pointed out that both private and
public Bankers are unwilling to lend by using land use right as collateral due to the following
reasons. Legalizing long term lease and titling by itself is unlikely to be sufficient for private
lenders to provide credit. Mechanisms to register liens against property and to foreclose on
property in case of default are also needed. In many instances, foreclosing on land is impossible
due to legal restrictions, which is lacking. The lender is exposed to the risk that the tenant might
default due to the fact that when any default by the tenant happen, the bank cannot directly sell
the property but it must go through a legal process to obtain this right. Although there is a
centralized registration system for mortgages, in practice it often fails to avoid multiple
mortgaging of the same property.

The other reason is related to marketability of land use right and valuation process of property.
To establish mortgage value, banks require not only a value of improvement, but also value of
usufracturay right and its marketability. Yet, although land has been titled, which is expected to
that facilitate land market, functioning land-use rights markets does not existed. Land-use rights
markets seemed to be passive even in areas where land titling have been implemented and that
values of titled lands were higher than untitled lands. From private financial institution point of
view an asset to be used as collateral, at least it must be easily transferable and marketable. In a
situation where leasehold right or land rights themselves cannot be sold, but private property
improvements on the land can be sold or exchanged, it is difficult for lenders to consider leaser
use right as collateral.
Zelalem (2009) provided evidence from banks what property shall be regularly used as collateral
by agricultural investors. Often banks are using investor’s house or other movable property as
principal asset that can be surely used as collateral. His study, however, come up with an
interesting result about the importance of land titling. Agricultural investor to obtain loan is
require to bring the title deed certificate for land approved by appropriate government authority
with housing plan as collateral. Yet, the amount of loan is calculated based on replacement cost
of the house. The survey evidence implied that land registration and certification has been
neutral in the collateral effect during the implementation, as investors have had the same
probability of receiving amount of loan that consider value of houses or other movable property.
It has to be stressed, however, that holding land certificate creates variation between agricultural
investors and other borrower’s interms of repayment arrangement and other related services.
Therefore, all banks require land certificate is not because it has collateral value; rather it is just
in order to identify borrowers.
An indicator of limited credibility of leases is that, in most cases, the private bank prefers near
cash securities (treasury bills, listed shares, etc.). Equipment or other moveable assets of the
enterprise have been the main asset accepted as collateral by private banks. This can be a very
flexible option for private banks as the range of items extends – depending on the loan volume –
from a vehicle to machinery. Local commercial banks often require a large percentage of the
loan as collateral, over and above the value of the subject property. Usually only properties in
high priced residential areas are considered to be easily sellable. A more common approach is
for a lessee to enter into a leasehold mortgage agreement with government banks, not with
private banks. For example, a study conducted by Zelalem (2009) revealed that most agricultural
investor’s preferred Amhara Credit and Saving Institution (ACSI) as their principal source of
credit contrasted to private banks. This is because government bank, ACSI, provides loan with
lowest of interest rate compared with other private and informal lenders, and it does not make
serious investigations about quality and standard of the house which affects the amount of loan.
To improve leasehold mortgage, therefore, the provisions of lease must be carefully reviewed to
identify any restrictions on financing or transfer (which might limit realization) and any limits
imposed on the lessee’s ability to operate the property. The lease must be registered against title
to the property so that the leasehold mortgage may be similarly registered. The key advantage of
land titling, as compared with informal land rights is that those holding formal rights can call on
the power of the state to enforce their rights. This to be feasible, there should be awareness about
the right and the obligation of title holders and the institutions involved need to enjoy legal
backing as well as social legitimacy, including accountability to and accessibility by the local
population. Yet, in Ethiopia, especially in rural area, the gap between the law and the practice
and legality and legitimacy has been a major source of friction, this is illustrated by the fact that
agricultural investors who holds title failed to obtain credit from formal institution by using their
usufructuary right and often credit market remains outside the existing legal system.

Formal title to bring maximum impact on tenure security, the stakeholders and land possessor
must be aware of the significance of such documents and the document has to be socially
accepted by credit institutions and backed up by enforcement institutions that are accessible at
low cost. Since usufruct rights only focus on use right and where individual rights to transfer
land are limited and controlled by the state, incentives to make long term investments and
improving credit market may be let down. the evidence showed that without assuring
transferability of land use right it is unlikely to increase formal lenders’ willingness to lend to the
land possessor where, for political, cultural or economic reasons, land cannot be repossessed or
where land sales are restricted. This is due to the fact that, in case of default if the lenders fail to
find market for such an asset, they will get lose in the deal.

If the government is unwilling to relinquish its ownership interest in land, but may be willing to
lease it and inspire to create well functioning credit market: first a lessee should have
considerable freedom in granting mortgages of their leasehold interest. Second, to meet the
requirement from the lender’s perspective, there should be active land-use right markets. In
developing land-use right markets, it is important to avoid introducing rigidities with the purpose
of controlling the transfer of land-use rights. In general government has to adopt land holding
system that clearly shows the right and obligations of titled land holders and guarantees tenure
security which takes into account the interest of other stakeholders like credit institutions.

Perhaps, improvement on what shall be used as collateral is not enough to enhance the
development and expansion of financial market. Hence, Banks in Ethiopia frequently complain
that some borrowers think their properties are worth more than they actually are, and then are
disappointed by the loan amount they are approved for. Customers have been complaining about
the difference in valuations among the banks. For mortgage loan valuations of improved
property the appraisal is not reported on a standardized form. Valuation is generally performed
by an unlicensed or uncertified mortgage appraiser. This situation can be avoided by adopting
alternative basis and valuation approaches and establishing standards. The absence of standard
valuation leads to extremely subjective estimation, frequently according to the interest of the
parties involved. The system has been encouraging appraisers to inflate values to the point of
fraud. This has not only caused lenders to lend more money on homes, but also contributed to the
overinflating of home prices and ultimately the crash of the housing market (Zelalem, 2010).
Therefore, there is a need to solve problem related to valuation of property for mortgage purpose.

iii) Pledging of Rural Leasehold Rights by Farmers /Peasants

Farmers /Peasants have the right to be holder of a land, to create all assets on the land, to transfer
an asset he or she created, not to be displaced from his or her holding, to use his land for
agricultural and natural resource developments and other activities, to rent a land, to bequeath
same to transfer it as a gift and includes the likes. The Rural land use right of these group of
society have no time limit. The land possessor has many rights with regard to the land; however
the state is still its lawful owner and do not allow farmers land use rights being used as collateral
for loans. Because land-use rights cannot be mortgaged in Ethiopia by law, the opportunities for
profitable investment in the rural areas are very few and the rural financial system is
underdeveloped, one can conclude that there will be virtually no benefit to be gained from the
collateral effect of rural land titling in Ethiopia. By contrast, commercial farmers that rent land
are given longer term leases (25-50 years) and are allowed to mortgage their land use rights.
The rationale provided for this seems to be protecting rural land holders from exploitation by
loan sharks and land speculators and also to stem the tide of rural to urban migration. This
restricts access of rural land holders to institutional credit is counter-argued by governments
pointing out that institutional financiers are not interested in accepting rural land use rights as
collateral. Many scholars do not agree with this and have raised question on validity of the
government’s argument that smallholders will lose the use rights they mortgage and migrate to
the cities and towns and that governments should play the role of Big Brother. An
overwhelming majority of rural land holders are smart enough not to gamble with the future of
their families’ livelihood.

The country wide survey conducted by the Ethiopian Economic Policy Research Institute found
out that only 4.5% of landholders are willing to sell their land if given the opportunity and 90%
indicated that they will not consider selling whole or part of their holdings (EEA, 2002). There is
also a concern that – ‘why are investors who lease land for a limited period allowed to use their
land use right as collateral while small scale landholders who have use right in perpetuity are not
accorded the same privilege?’

Land is a key asset for the rural poor. It provides a foundation for economic activity and the
functioning of market (for example, credit) and nonmarket institutions in many developing
countries. Yet, prevalent Ethiopian rural land rental/lease markets are often not optimal from
either an economic or a social perspective. Although regional land laws permit leasing of rural
land, there are serious restrictions limiting the benefits of leasing. First, landholders cannot rent
100% of their land. They can rent only that amount of land that does not displace them from the
land; i.e. they should reserve enough land that yields sufficient output to sustain their family. The
regional rural land laws imposed significant conditionality on rental arrangements. Small scale
farmers who have land use rights in perpetuity are given the right to rent their land short term (2-
5 years for traditional farming and 15-20 years if modern technology in the form of improved
seeds, fertilizer and machinery are used). However, they were not allowed to use their use rights
as collateral for loans (Holden et.al, 2008; Deininger et.al, 2008). Allowing longer term leases
(e.g. 30-99 years) encourages renters to engage in long term investment and development.
Lifting and/or easing such restrictions facilitate the creation of land use right markets that assign
economic value to and thus convert landholdings into valuable assets. Not surprisingly, such
restriction on land use rights often disrupted the evolution and the functioning of market.
It should be noted that restrictions on the transferability of land use right imposed by a land
administration authority can, in turn limited credit access and often only pushed such
transactions into informality. Commercial banks have been reluctant to offer credit to small
farmers, due partly to the risks involved and partly to the high costs of handling numerous small
transactions. Historically, the availability of cheap credit from state-run financial institutions,
which generally placed very little importance to repayment, has also acted as a disincentive to
commercial bank participation in the rural financial sectors.
The general conclusions discussed in the foregoing section indicated that, in Ethiopia, the poor
do not have access to credit from formal financial institutions. There are at least three reasons
why banks in Ethiopia do not provide credit to these domestic residents. First, it is difficult for
banks to evaluate the credit worthiness of borrowers - in Ethiopia; there are no agencies that
track credit history. Second, most of the people live on subsistence and do not have any assets to
serve as collateral. Third, the size of loan may be so small - it may not cover the cost incurred by
the bank in processing the loan. As a consequence, the potential for productivity-enhancing land
redistribution and land titling program is likely to be very limited.
However, on the other hand, the Ethiopian government has in particular focused on improving
the livelihood of the poor rural agricultural people. The key development strategy of the
government as it is stated on its Sustainable Development and Poverty Reduction Programme
(2002)20 is Agricultural Development Led Industrialization (ADLI). Taking into consideration
that agriculture is the main means of livelihood for 85 per cent of the population of the country,
addressing poor households’ credit access can be observed in practice and are supported by
empirical evidence from different regions of the country. Hence, in response to “credit access
problem” a new type of financial institution, known as microfinance institution (MFI) has
emerged since 1994. MFIs provide credit to those who do not have access to formal bank credit.
It should be noted that microfinance credit methodologies have also practiced all over the world.
The 2006 Nobel Peace Prize was awarded to Muhammad Yunus for pioneering the idea of
microcredit and setting up the Grameen Bank.

An understanding of this evolutionary process informs the future of microfinance and banks
methodologies. Recall that one of our goals is to realize what shall be used as collateral and how
value of loan is estimated. Therefore, in the next section you will be first introduced with
evolution of formal microfinance in Ethiopia and then addresses two important questions: what
type of property or interest can be used as collateral in formal microfinance; how do MFIs
determine amount or size of loan.

5.4 Micro Finance Institutions and Collateral System for Poor Household
In Ethiopia, the commercial banking system could not address the financial needs of poor
households for the very fact that they are not their ultimate target clients. On top of that, the
transaction costs and risks involved in serving poor households are perceived to be too high. In
addition, even if there are few private banks that are interested in providing financial services to
poor households, they have not developed yet a suitable credit methodology for micro lending
activities and also they do not have trained personnel for that (Geleta,2009)).
Non-Governmental Organizations (NGOs), with a strong welfare and relief orientation towards
the poor population, entered into the micro credit sector to provide credit services to poor rural
households and urban micro entrepreneurs under programs supported by donors and international
NGOs. However, the outreach of the NGOs' schemes was limited in that it only reached a very
small proportion of rural households. On account of the non suitability of commercial banks and
non-sustainability of NGOs' credit schemes, the Government of Ethiopia established a legal
framework for the establishment and operation of Micro Finance Institutions (MFIs) to provide
financial services to poor households (EBDSN,2004).
Policies and regulatory frameworks were set to that effect. Thus, formal microfinance in Ethiopia
started in 1994/5. In particular, the Licensing and Supervision of Microfinance Institution
Proclamation No. 40/1996 encouraged the spread of Microfinance Institutions (MFIs) in both
rural and urban areas as it authorized them to, among other things, legally accept deposits from

20
see SDPRP(2002) document on the world Bank website,
Http://siteresources.worldbank.org/INTETHIOPIA/Overview/20207639/2002_07_prsp.pdf
the general public (hence diversify sources of funds), draw and accept drafts, and manage funds
for the micro financing business (Article 3). Over the last decade, MFIs in Ethiopia have been
able to serve the productive poor people mainly with savings and credit services. As of July
2007, there were 27 MFIs operating with legal license at National Bank of Ethiopia (NBE). The
27 MFIs as of this date have an active loan portfolio of Birr 2.7 billion, delivered to 1.73 million
active clients; a significant growth in outreach given the brief period of operations (AEMFI,
2008).
A number of studies have been undertaken that focus on exploring the experience of and
performance of MFIs and its future outlook in terms of mobilizing capital for lending,
particularly through linkages with large scale conventional banks such as private and
governmental commercial banks. This material, however, will focus only on property subject to
be used as collateral and valuation methods used to estimate amount of loan.

5.4.1 Type of Collateral Needed

Collateral is a regular ingredient of risky lending. It serves to limit potential losses for lenders
and serves as an incentive mechanism and commitment signal for borrowers. Because of these
functions it plays an important role in loan markets. Accordingly collateral is part of many if not
most (business) loan contracts in mature markets (Steijvers and Voordeckers, 2009). Due to
opaque information and weak enforcement, the request for collateral is expected to be even
higher in less developed markets (Hainz, 2003, Menkhoff et al., 2006). This high importance of
collateral results into a problem for poor households in emerging markets as they are relatively
poor: collateral requirements are expected to be particularly high for this group but their ability
to provide collateral is comparatively low. How do borrowers and MFIs get along with this
problem?
In Ethiopia banks are willing to accept both real and personal property as collateral such as:
building, vehicles, financial guarantee, and personal guarantee based on the degree of risk
assumed in the business. However, MFIs has no any collateral requirement policy and
frameworks. Since this institution target those who are living in extreme poverty whereby they
cannot meet the basic needs for survival including food, water, clothing, shelter, sanitation,
education and health care. This makes a lot of sense what this people can use as collateral. As a
consequence; no physical or personal collateral is required for all type of loans. The fundamental
principles of group lending system such as using group collateral to provide loans, peer pressure
to ascertain repayment and center meetings to disseminate information are adopted from the
Grameen Bank21.

As a result, group guarantee/collateral is the only collateral needed for all loan types. Yet in
some MFIs the type of collateral needed also include either

 Group collateral and personal guarantee

 Group collateral/guarantee and also guarantee from work place.
 Group Guarantee/Collateral for regular borrowers and direct salary deductions for staff
loans
 Joint liability group and Compulsory savings of 20% of loan (employee loan)
 Group Guarantee with an exception to MSE loan greater than 5,000 birr.
21
For further detail, see http://www.grameenfoundation.org/
  Group Collateral for Seasonal and non-seasonal Loans and salaried persons for
Individual Loans.
 Group Guarantee for non-agricultural small loans and co-signatories are required for
small agricultural technologies.
In describing the use of collateral, experience indicated that conventional collateral is indeed
rarely used in the rural credit markets and that most loans are provided without any tangible
assets as collateral. Remarkably, the lack of assets does not seem to exclude the poor from credit
access, because they do not have a higher probability of credit rationing than the rich. Thus, the
puzzle is “solved” by creating other means of credit enforcement than by relying on collateral.
It is important to note that there are several advantages with the group-lending setup. The idea is
that within groups there is no information asymmetry - each member of a group has information
about the performance of the project undertaken by the other members of the group as well as the
credit worthiness of the other members. Furthermore, within a group all members are jointly
liable for each loan and defaulting on a loan can lead to non-refinancing in the future. As a result
there is an incentive for members to monitor each other. This reduces the costs of the MFIs
associated with lending, such as gathering information, monitoring projects or auditing
borrowers. In addition the joint liability feature obviates the need for collateral, because each
member serves as collateral for other members (Stiglitz ,1990; Varian, 1990; Ghatak,1995,
Mahjabee, 2010)
MFIs in Ethiopia have been able to serve the productive poor people mainly with savings and
credit services. Despite such remarkable progress in outreach growth and performance, the MFIs
in Ethiopia are said to meet, so far, insignificant portion of the market for micro-finance
available in the country. The implication for this, among others, is that the MFI is lacking the
capital. As a young and growing MFI, lack of capital for lending is a critical constraint. Loan
from Banks is not as expected. Only few MFIs are starting to get loans from commercial Banks.
It seems that commercial Banks like Ethiopian Commercial Bank (CBE) have not yet established
confidence to lend them without collateral.

Besides other conditionality of the banks, MFIs’ balance sheet structure in most cases may not
also fulfill the basic requirement to get adequate loan capital from Banks. Hence, in most MFIs,
group guarantee/collateral is the only collateral needed for all loan types. Thus, given the current
huge unmet demand, it is important to understand how loan size is determined.

5.4.2 Basis and Method of Valuation Used to Determine Loan Size

As it has been already mentioned, in Ethiopia, governments usually regulate many aspects of
mortgage lending, either directly (through legal requirements and lending by the government, by
state-owned banks, or sponsorship of various entities) or indirectly. In group lending where
group guarantee/collateral is the only collateral needed, there are no any principles or methods
used for determining the market or mortgage lending value. It has been found necessary, arising
from these circumstances, to develop regulation that governs all MFIs in determining loan size.
Accordingly, National Bank of the country has nested with the power to enact regulations.

Pursuant to the National Bank’s directives for micro finance institutions in Ethiopia, the loan
ceiling was set at a maximum of Birr 5,000. As there is a maximum, usually, set by the National
bank, on the interest rate that could be charged and to maximize the net interest margin, every
MFI has a minimum loan level below which it would never go. The detail execution of loan size
determined as per the regulations issued by each MFIs. In fact, any MFIs not permit loan size in
a manner contrary to the provisions of National Bank’s directives. Yet, the practice showed that
there is no consistency among MFIs in setting maximum and minimum loan size. For instance,
in Asseer Micro Finance S.C the maximum group loan size for all types of loans is Birr 1,000. In
other MFIs, the maximum loan size for all type of loan is 5000 and the minimum is 750 birr
(Benishangul-Gumuz Micro Finance Institution S.Co). In other microfinance, the loan size is
determined by type of borrower. For example, in Dedebit Credit and Savings Institution (DECSI)
S.C., if borrowers are staff of MFIs, their loan size depends on their salary; it allow five times
his/her monthly salary as loan but should not exceed 8000 birr.
Very recently, however, the loan ceiling fixed by National Bank’s directives has been relaxed
following the new Federal Rural Development Strategy. Therefore, MFIs after undertaking pilot-
test they have relaxed directive to lift-up the loan size above Birr 5,000. Based on current policy,
a client who moves from the first cycle to the second can expect 100% addition to the first loan.
Likewise, unless in very special circumstances, he can expect a maximum addition to preceding
loan of 75% in 3rd cycle, 50% in 4th cycle, 25% in 5th and subsequent cycles. Several micro-
credit institutions around the country have found the group-lending loan size determination per
loan cycle strategy effective and have been widely implemented. For example, in the 1st cycle a
client may get 500 birr , in the 2nd cycle 750, in the 3rd , 4th and 5th cycle he or she may get
1,000 1,250 1,750+ increases by some amount respectively. This has been happened in Buusaa
Gonofaa, Eshet, Gasha and Meket Micro Finance Institution S.Co.
Empirical studies showed that group lending methodologies are intended to reduce the
transaction costs of micro lending and provide a guarantee mechanism. While some borrowers
benefit from the social support system inherent in group methodologies, for other micro
entrepreneurs, particularly those with growing businesses, the group approach is not always a
good fit. As a result, many MFIs that have relied solely or primarily on group lending are
introducing individual loan products for clients who “graduate” from the group approach to
ensure that they retain their best borrowers.
Thus, one of the contributions of this material is that it enthuse students to further address the
following questions: what guarantees are required to replace the peer group, what shall be used
as collateral by individual borrowers, how does the addition of individual loans affect the
institutional structure and culture, how does the MFI estimate size of loan, how does the MFI
avoid losing its entire group clients to individual loans, etc

5.5 Implications and Factors to be Considered

Land provides an ideal form of collateral since it is valuable and immobile. Moreover, in most
cases it is the only form of collateral farmers can offer. The usefulness of land as collateral,
however, requires that lenders be able to clearly identify its owner and to foreclose on it and
dispose of it should loans be in default. By documenting land rights, titles help provide lenders
with the information they need, and may thus lead to increased supply of credit. Secure land
tenure facilitates the transfer of land at low cost through rentals and sales, improving the
allocation of land while at the same time supporting the development of financial markets. To the
contrary, if property rights are poorly defined or cannot be enforced at low cost, either makes it
more difficult to provide credit or require costly development of collateral substitutes, both of
which constrain development of the private sectors.

Today, formal titling and leasehold tenure, rather than associated benefits such as implication on
credit market, remains the dominant issues that require investigation and improvements. The
evidence implies that Banks accept only improvements as subject of mortgage and do not seem
to accept lease title as a security (collateral) for loans to investors. Leases awarded by federal and
regional laws and regulations are not credible. Thus, a government is expected to play a role in
providing secure tenure to users of land. Hence, restrictions on the transferability of land
imposed by a central authority have generally limited credit access and often only pushed such
transactions into informality. In extreme case, measures to increase tenure security or,
alternatively, full privatization, will be required to give users sufficient security of tenure and the
associated benefits. The prevalent land policy implies that there is a need to integrate land reform
into the broader context of economic and social policies aimed at development and poverty
reduction

Understanding the specific nature of the links between land titling and credit accessibility
benefits to both farmers and investors is particularly important in the early stages of land tenure
reforms, since the nature of these links will affect the decision to undertake further land reform.
At this stage, what is needed is a good qualitative understanding of the specific path through
which benefits are likely to be obtained from land policy reform. Efforts should be undertaken to
gather available secondary data or, if necessary, collect primary data, so that the existence of the
links can be verified and their magnitude quantified in later stages of the analysis. Efforts also
needed in adopting an alternative valuation system and creating standardized valuation systems.
At the same time when the mortgage value base is the market value of the property, it is essential
to define very carefully how that value should be estimated.

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