Know the home buying schemes well, before opting for one
If you are buying a house this festive season and are being offered many funding options and offers by the builders, it makes a lot of sense to go through each of these carefully, before picking one for yourself.
The interest rates have been cut. The festive season has started. Considered auspicious to buy a property this time of the year, builders dole out freebies to enhance sales during the season. Incentives offered by builders can be free LED TV sets, washing machines, home theatres, power back-up, discounts of up to Rs. 500 per square feet, free parking, free stamp duty, free club membership and innovative subvention schemes.
The real estate market continues to go through sluggish sales. The inventory of new apartments has shot through the roof and delivery delays has played spoilsport to family celebrations of first time home buyers. People who are looking to buy new apartments now, are unable to decide what incentive offered by a builder will benefit them the most. The offer scheme must be evaluated carefully before a buyer signs the dotted line.
Let's understand few critical points here. The buyers sign up for such innovative schemes purely for two reasons 1) His emotional need to have a house of his own and 2) His viewpoint that real estate always grows in value. In both the cases the convenience of paying in parts at different points in time further adds to the temptation. We are a nation of aspiring youngsters, who were conditioned by our parents that having a house of our own and a second one as an investment always wins. However if you remove the underlying assumption that the asset will always grow in value since the time of booking, one’s perspective to own real estate asset(s) will change completely.
Let’s acknowledge the fact that real estate market of new apartments and houses have not appreciated in last few years. The industry in-fact has witnessed massive correction and has created stress in the financial lives of buyers and investors. So what do we do? What should we look for before we buy a new house if we really need one? How do we evaluate these schemes that sound too good to resist? Let’s look at some of these schemes:
Scheme 1: NO PRE-EMI TILL POSSESSION SCHEME (20:80) OR (10:80:10) - In this scheme the property is being bought with the home loan, the EMIs are on account of the buyer. The buyer's credit history is at stake if for some reasons the project is delayed way beyond scheduled date. In some scenarios the EMIs will kick in at the scheduled date even though the house or apartment is not ready. Remember it’s a tripartite agreement between the buyer, bank and the builder. And the buyer is bound to start the EMIs even if the apartment is not delivered by the scheduled date as per the builder-buyer agreement. This compounds the problem of the buyer due to his additional cash outflow, arising owing to EMIs. He continues to pay the rent for the house where he lives. The purchased asset that is property in such circumstances cannot be sold (for obvious reasons) and buyer's inability to exit the project creates the financial stress. Any default due to inability of the buyer to pay EMIs hurts his credit score and loan eligibility in future. In these schemes buyer must also watch out for the interest being offered to him by the bank. Is it close to the market rates? Is it changing as per the RBI interest rates if floating interest rate option is chosen?
One must also scrutinize the loan agreement for the interest rates that will be levied on his home loan after the unit is delivered to the buyer. Also one must note that the buyer will lose the pre-construction interest benefit if the construction phase has gone beyond three years; So in-effect the No-EMI scheme until possession can become a trouble in buyer’s financial life if not assessed for risks it carries.
Scheme 2: Lowest Interest Rate (7.99%) For 3 Years Schemes - Buyers get reduced interest rate for two to three years. In such schemes the interest rate on a housing loan is offered lower than the market for a specific period. Such schemes require careful analysis of interest rates that would be applicable after the low-interest-rate period is over. The catch here is that the banks can move the buyer to a higher than the prevailing market interest rates once the possession of the unit is taken by the builder. The new EMI due to higher interest rate may hurt his annual cash-flow and funding of financial goals in future.
Scheme 3: Semi Furnished Flats/ Free car parking and/or registration stamp paper Schemes – Before signing up for such schemes buyers must scrutinize them for prevailing market price in that area and delivery date of the unit. Builders often disguise the higher sale price in the freebies. In other words they are likely to charge higher sale price per square feet in comparison to sale price of similar units in the neighborhood. Even if the freebies are tempting, the buyer should also look at the compensation that he is being promised by the builder that will be given to him should the builders fail to deliver the house by committed date of delivery. The builder-buyer agreement must be legally vetted before the buyer signs the dotted line. The compensation should be fair on both the parties in case of a default by either one. In this scheme the buyer can alternatively ask for cash discounts in lieu of freebies offered with the apartment. It may work out better.
Scheme 4: Assured Rental Homes – Another popular scheme that is currently being offered particularly in North India where the buyer who makes the complete payment for his apartment gets assured rent by the builder until the unit is delivered to the buyer. The rentals offered can be in the range of 10% to 14% per annum. The returns are very enticing however one must understand that the builder is offering this scheme because he is unable to raise the capital for the project. If the builder defaults on his assured rent promise, your cashflow is impacted and there is little you can do through the courts to recover your dues fast. The credibility of the builder must be very high if you want to sign up for this scheme. One must find out his delivery track record and if others who have availed this scheme always got the rents on time during the construction phase.
While these schemes offer many benefits like giving buyers a comfort of time/construction linked payment, small amount for a down-payment, easy loans availability, reducing EMI burden until possession, assured rent and freebies in several forms however these schemes are not risk-free. They are double-edged swords.
What can we, as a buyer, do to minimize our risks?
1.We should include a clause in the loan agreement that if the builder defaults, the credit history of the buyer should not be impacted until possession of the house. The credit history of the builder should be impacted in that case. The burden of timely delivery and risk of losing a credit-character should be borne by the builder during the construction phase.
2.All relevant approvals of the project and construction updates should be periodically sent to the buyers as they arrive. Any delay should be methodically communicated with the consequences/impact and penalty in equal proportion as they penalize the buyers for delay in payment. Any failures to obtain approval files/records (issued by the Government) should be communicated to buyers.
3.There should also be a zero-extension phase after the builder has exhausted their extension limit. If the builder is unable to obtain required approvals and completion certificates within 3 years, and even exhausted extension period of another 2 years, the builder should be made to return the money with interest to the buyers.
Amit is a member of The Financial Planners’ Guild , India (FPGI). FPGI is an association of Practicing Certified Financial Planners to create awareness about Financial Planning among the public, promote professional excellence and ensure high quality practice standards.