Bad Times Can Be Good Times
After the stockmarket turmoil started in the first half of January this year, realty experts, for the first time since 2003, began predicting a possible correction of 20-25 per cent in capital values in the real estate sector, especially in areas where speculative interest was very high. This has unnerved investors with very strong positions in the sector.
“The correction of 20-25 per cent has already happened in many markets. A further softening may happen, even in markets with genuine demand,” says Sanjay Dutt, joint managing director, Cushman & Wakefield India, a real estate consultancy. “The next 3-6 months are a brilliant opportunity for those looking to buy a house.” What is bad news for investors therefore, translates into good news for end-users. “This is the ideal time to consolidate investments to create liquidity and hunt for opportunities,” says Dutt.
But before we look at strategies to cobble together the down payment, it’s important to understand how the realty market—especially the residential property market—can behave going forward. Which way will prices move? “I would not rule out a correction of 10-15 per cent in key markets from present levels. This is the minimum, it could be much more,” says Dutt.
Many factors govern the movement of capital values. To begin with, most experts believe that capital values have peaked. There is also a liquidity crunch in the market. Developers are finding it increasingly difficult to raise debt. Investor-confidence has taken a hit from the general expectation of an economic slowdown.
However, the most important factor that impacts the sector is inflation. In fact, when inflation touched 6.68 per cent (for the week ended 15 March), the finance minister spoke of sacrificing some growth as a control measure. If inflation continues to rise, the regulator will go out of its way to control it. “If interest rates increase further, it will put the housing sector under severe threat,” says Dutt.
Additionally, the lull in the real estate market is expected to last for all of 2008. In many places, it may extend to two-three years.
How would you benefit? Most realty investors took their positions in the hope of booking profits on a later date. However, with capital values expected to correct, instances of capital appreciation are very rare. “When investors realise this, they will be ready to cut their losses, especially as capital values may soften further,” says Dutt.
This is where homebuyers can benefit. They should look for investors who want to pull out of their investments. For this, you will have to do some planning and also deal with sellers, property brokers and even developers.
The planning process. The first step is raising the down payment, also called margin money. When you buy a house on loan, you are usually required to raise 15 per cent of the cost on your own. If you have a good credit profile, the lending institution may reduce this amount to only 10 per cent. The lending institution puts in the balance amount.
There are five things you can do to raise the down payment without depleting your investment portfolio too much.
Rationalise insurance cover. Even now, most people buy insurance to save on tax. We also tend to buy products pushed by insurance agents, such as moneyback, endowment and unit-linked insurance plans, rather than what we need. As a result, we end up paying a high price for comparatively low cover. If you have such insurance products, you could surrender them in favour of a term plan.
“This way you can get a higher cover at a much lesser cost,” says Veer Sardesai, a Pune-based financial planner.
For instance, endowment policies of Rs 20 lakh for a 25-year-old and a 35-year-old for 20 years would cost Rs 92,570 and Rs 95,730 per annum, respectively, excluding service tax. In comparison, a term policy for a 25-year-old and a 35-year-old would cost just Rs 5,290 and Rs 7,010, respectively, excluding tax.
You can divert these savings towards the down payment.
Liquidate debt products. If you have bank fixed deposits (FD) and post office schemes like Time Deposits, liquidate them as the post-tax returns from such instruments are very low. With inflation hitting 7 per cent (for week ended 22 March 2008), the returns would be further minimised. On a 8.5 per cent bank FD, the post-tax return for someone in the 30.6 per cent tax bracket would be 5.87 per cent. With inflation at 7 per cent, the returns would be negative.
Moreover, the returns on such instruments are lower than the effective cost of borrowing. For example, if you take a home loan at 10.25 per cent for 15 years, the effective cost of borrowing will be 5.10 per cent, thanks to tax benefits on interest and principal repayments.
Have one bank account. Close all accounts but one (ideally the oldest one, as the length of credit history impacts your credit score). Take out all the money, except the emergency corpus, and use it for down payment.
Sell some gold. If gold is a part of your portfolio, look into cutting down that exposure a bit. Gold prices have gone up around 47 per cent between August 2007 and March 2008. You can divert the profits towards the down payment. “However, make up for this shortfall as soon as possible,” suggests Sardesai.
Touch these last. Well-chosen stocks and equity funds have the potential to deliver high returns over the long term. Ideally, you shouldn’t touch them. But, if some holdings have already exceeded your return expectations, consider selling them to raise the money. In fact, use each market rally to clean out your portfolio of the losers and selectively book profits in some well performing stocks, if you still need the money.
Steer clear. There are some instruments, including your provident fund, that you should not touch at any cost. Let’s face it, most of us do not replenish withdrawals that we do make from these funds. Also, while liquidating assets, do consider the potential redemption loss.
How much should you borrow? Try and raise as much down payment as you can. To ensure that your EMI does not become a financial burden, follow this formula: Check the size of the loan you can service with an EMI of 40 per cent of your net salary. Then work out the worth of all your assets, including the house you will buy, and take 50 per cent of that. The lower figure of the two should be the size of the loan you take.
“If you are not able to find a house of your choice in that budget, settle for a smaller house (not a bigger one, which could stretch you financially in the future),” says Gaurav Mashruwala, a Mumbai-based financial planner.
Which property to look for? The best option would be a ready-to-move-in property as the risks in such cases are the lowest. However, if you opt for an under-construction property, do not commit to a project where the development is not taking place or where construction is slow or there is no clarity on infrastructure around the project.
Identify properties with a number of apartments on sale. There is room for better negotiation in these cases.
Last, but not the least, bargain hard. Due to uncertainties about the future, some sellers may be ready to take a cut on the quoted price.
Towards The Base Amount
To collect the 10-15 per cent of the cost of the house you can take the following steps:
Rationalise your unnecessary life insurance cover. Surrender insurance plans like endowment or moneyback, and opt for a term plan.
Liquidate debt products, especially those where the returns are lower than the effective cost of borrowing.
Close all accounts except the oldest one. Pull out all the money except emergency funds.
Reduce exposure to gold for the time being
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