Real Estate

1.  Real estate is one of the most popular way of savings for most Indians. Many dream about having their own house by the time they retire. But to start with remember:-

HOUSE IS A PLACE TO LIVE SO YOU ONLY NEED ONE UNLESS YOUR LIFE STYLE DEMANDS YOU TO HAVE MORE THAN ONE

Nobody has the capacity to buy a house of ready cash( especially the ones who have just started of a job). The only way to own a property for the salaried class is by taking a housing loan. Housing loan interest rates were around 14 % during 1994-1995. At that interest rate it was very difficult to pay EMI  for the house loan. During the year 2003-2004 the interest rates reduced to about 7-8 percent. Considering inflation is 7% you are hardly paying a little over it for the loan. This was the time it became possible for a salaried class to be able to buy a house by taking a home loan. Everyone wanted to own a house at this point of time and there was a great demand for the houses. This demand caused a boom in the Real Estate prices. The sudden escalation led to stagnation in Real Estate since then which we are seeing even right now. So how does a house loan help you. Consider you identify a house worth 30 lakhs which gets you a rent of 10k( now 10 k for a house of 30 lakhs is a good rent. This may not always be the case). At 8.75% interest rate the EMI per month for a 15 year loan will work out to be about 30k per month. Now you get a exemption of upto 2 lakh from income tax on interest paid on house loan. So interest per year during initial years will be more than 2 lakhs. So you will get a exemption of 2 lakhs from income tax. Considering you are in 20% tax slab, you will save about 40k per year in taxes which is about Rs 3500 per month. So effectively you pay Rs 16500 pm(30 k – 10 k – 3.5k  for rent and IT exemption). Now after say 10 years you can expect the rent of this house to have become at least 20k( rents usually grow at the rate at which people salary grow in that area. There may be sudden spikes in property prices but the rents do not spike in these case because the salaries would not grow with the spikes. Just because property prices doubled in a short span due to whatever reasons you cannot expect people to pay double the rent because the salary of people in that area would not have doubled? . If you expect double the rent you are likely to have your House lie vacant). After 10 years the balance of left over loan will be about 14 lakhs. Now you would be paying a interest component of only 1.35 lakh per year, rest of the EMI would go towards the principle repayment. So now you will get a tax exemption of only around 2 k pm. Now effectively you are paying 30- 20 -2 =8k pm for the house. If your salary was around 1 lakh(when house loan was taken) then after 10 years your salary could be around 2.8 lakhs(at 11% growth rate). So paying 8 k per month would be like peanuts. Though 30 k pm of EMI while taking the loan could have pinched you  but as the years pass and your salary increases it will not pinch you. Some people might tell you that when you take a house loan you pay so much more. For example in this case you would have effectively paid 54 lakhs in all for a 30 lakh loan. But consider this as well- when you took the loan 30 lakhs was worth more. Since the value of money reduces with time so you have to pay a higher amount of 54 lakhs over a period of 15 years .  So you paid more also because the value of money was reducing due inflation plus offcourse certain profit made by the lender. But did you consider that over the next 10 years you  would receive18 lakhs in rent for the house ( average rent of 15 k pm throughout 10 years for ease of calculation)? If you get a rental of 1.2 lakh in a year which is  about 4% of 30 lakhs. House maintenance cost be be around 20-30k per year, which is around 1%. You get a tax rebate of 40 k per year. That is appx another 1% of 30 lakhs. At 9% interest you are effectively you are paying 9-4-1+1=5%. Considering inflation is 7% then if you are paying 5% then you are effectively paying less than inflation to. That means you are gaining by 2% here. So house loan is not bad at all.

2.         Now lets see how much the house is worth after 15 years. On a average for a normal property at a normal place( not expecting some extraordinary development taking place in that area). You can expect the property rates to grow by the rate at which salary is growing (may be 7-10%). If we take 8 % then after 15 years the house of 30 lakhs would be worth 95 Lakhs. If you cater for inflation then 95 lakhs after 15 years would be equal to 32 lakhs on the date of buying the house. Plus you would have received a rental of close to 28 lakhs after taking out house maintenance cost in 15 years.  So in effect you would have asset that would be worth about 32 lakh worth of value inflation adjusted . Add to it the rental received plus income tax saved. This will all work out to be around 12% returns . After 15 years the house is likely to be slightly old and may get a lesser resale compared to new one. This depreciation is not catered for ease of calculation. So that’s not bad at all. So may be you can expect 10-12% returns from property on a average. This is provided the house stays on rent all the time. The returns on land may be more because unlike a house where the value of the physical structure deteriorates there’s nothing to deteriorate in land. There are some advantages and disadvantages of buying a house as a investment. These are:-

3. Advantages of House as an investment:-

(a)  It is a forced saving – Once you buy the house you are committed to paying the EMI. It forces you to save at least that much amount which otherwise a person with poor financial discipline may end up spending if it stays in his bank account. Similarly if that amount was put in PF or some other liquid avenue then one may easily withdraw and spend a portion or whole of it for some requirement. But it is not possible to liquidate a portion of the house for urgent cash needs. So it will force you to control your expenses and save and when you finish that loan you have an asset.

(b)        When you retire or settle at a different place you can sell this house and use this money to buy a better house at another place by putting in some more money.

4. Disadvantages:-

(a)        House is a place to live. So if you buy a house to live then there is absolutely no problem. But with our movable jobs you may not live in that house for next 15-20 years at least. If you parents don’t own a house and you buy a house so that your parents can live then that is also fine. But thinking that you will live in that house after retirement-the possibilities are rare. Buying a house just from the investment point of view has some other problems.

(b)        You need a big investment for a house. Could be 25-75 lakhs at least. A down payment of upto 20% may be required to buy the house. That’s a lot of money which one may not have. So that is a big decision to take if you buying that house just for the purpose of investment. For a 50 lakh loan the EMI would work out to be 50k per month( off course you may get some rent if house is ready)and if only one person in the house work then the house loan EMI would take up all the savings. Once you make the down payment you are committed and its difficult to go back.

(c)        Managing tenants could be a issue sometimes. They may complain time and again about maintenance issues. They may dodge you over rental payments, they may not maintain the house properly and you may find it in a mess after the tenant leaves. You need to get it in shape to be able to offer it again for rent. For this reason it is always advisable to buy a house in your hometown as at least your parents can take care of it or you can keep a check on the tenant  once you go home on leave. Sometimes it may not suit you to buy a house in your hometown if its a small town.  I have seen people buy a house in the place of their postings/ other places when they don’t belong to that place and now they are posted somewhere else and they have big time issues with the Tenants. Just to travel to that place for this purpose may cost you time and money. Many people have narrated me their tales in such purchases. You may ask your seniors with the experience of the houses they purchased.

(e)        It is preferable to buy a house with good rental compared to the house price. I consider a house worth 30 lakhs, if it gives 10 k rent then it is fair. Similarly for 45 lakh house a rent of less 15 k means the house is overpriced.

(f)        You thought buying a house was very safe?  Sometimes you may see offers for new housing projects that are cheap. But the handover is after 3-4 years. You go to see the place and you do not find anything but land. When you invest in such projects the construction can begin only after a sizeable chunk of flats have been sold because the builder needs money for construction. Sometimes the builders use the money paid by you to complete/start another project somewhere else. When those projects get sold then they use that money to start/complete your project. But sometimes sales may not happen and the builder may not have money to complete the project in which you purchased a house. Or the project may stretch beyond the deadlines. Even if the buyers goes to court against the builder, how can the project get completed if the builder does not have the money- a stalemate situation. So you paid a decent chunk of money  and that money is stuck. Neither you have the house, nor the rent you thought you would receive nor are you sure if the project will get completed. But at the same time you need to pay EMIs to the bank. I have seen such cases. These are some of the risks associated with buying a house. That is why it may be better to buy a house when it almost getting ready/ready or from a reputable builder even at a slightly higher cost. Don’t believe me. Read the following articles:-

HOW HOME BUYERS GOT STUCK WITH UNFINISHED PROJECTS

https://content.magicbricks.com/property-news/what-to-do-if-developer-is-delaying-your-project/95802.html

https://economictimes.indiatimes.com/wealth/real-estate/with-builders-not-completing-projects-on-time-home-buyers-take-charge-to-finish-their-projects/articleshow/51335235.cms

5. RENTING VS BUYING A HOUSE

If you are working at a place and living on rent and are contemplating to buy a house in that place to avoid the monthly rental. Or if you are not sure where you will settle down then it may be worthwhile to stay on rent than buying a house in that place. Buying a house will limit you in many ways. Just to give the example of my daughter who lives in USA. She wanted to buy a house in USA with all her savings in India plus a loan. Houses in USA cost upwards of half a million dollars at least(3.5 cr) in many places. I told her no to do that and continue on rent . Though her rent is 2000$(1.4 laks) but still its only 20% of their salary. Also if they buy a house and live in it they will be forced to find work near it and may miss better opportunities in other areas just to avoid moving out of own house. Tomorrow if they decide to move back to India then the house may affect their decision. 

Off course if you are getting a house at a really fair price then that is a different thing.If you are in such a situation then watch the video below which explains the factors to consider while deciding whether to rent or buy a house.

SHOULD I BUY OR RENT A HOUSE?