FINANCE TIP OF THE DAY
Can you afford your loan?!
Know the quantity of loan you can afford. The banks may sanction loan based on your income but you should look at your monthly expenditure and see if you can afford the maximum that banks offer. As a thumb rule, remember not to let your credit exceed 40% of your income!
Buying a house?!
The year 2011 witnessed a high interest rate scenario, shrinking profit margins and soaring input costs for property developers in India. The economic slowdown added problems for property dealers, as the number of customers dwindled in 2011. Most of the developers had to put their expansion plans on hold, and their existing projects also faced a setback due to slow sales, resulting in a piling inventory.
In 2012 the realty market is expected to consolidate, and most of the developers are likely to focus on generating liquidity for better cash flow by selling their existing projects at a lower rate to tackle the stagnation in sales. The first priority for every developer would be to complete their existing projects to cut the capital involved for projects in progress. This situation would wash out players who just exist in a market to create competition against the genuine developers.
Now the question is what step a home buyer should take under such market conditions?
A person would be interested to purchase a property to either reside in it or to invest or both. In this article, we will focus on the various issues related to purchasing property for residential purpose. The current market condition has categorized residential property buyers into two categories, which are:
- Existing Buyers: Those who have already put their money for buying a home but the possession is not received.
- New Buyers: Those who are contemplating buying a home.
The state of existing buyers:
Due to the economic slowdown, there are lots of property buyers who have already paid for their homes, but the developers have delayed proving them possession. Due to lack of funds and rising input costs, developers have either stopped the project or restructured the plan by adding more homes under a project to bring liquidity and cost averaging. If the buyer has included the penalty clause in the purchase agreement for delay in possession, then they can claim it immediately from the developers. The delay penalty safeguards a buyer by binding a developer to pay interest on the amount invested, if the possession is delayed for some reason.
However, it must be noted that the delay penalty may not depend on the prevailing interest rate in the market. This means that the existing customers who have not received the possession, have to pay home loan EMIs at current interest rate, which is at peak, whereas the delay penalties they obtain from the developers are at a lower interest rate as it has been agreed upon at an older interest rate when loans were cheaper. Existing buyers could be quite disappointed in such a scenario as they are losing possession as well as money!
What the new buyers can expect:
The new buyers have all their options open before they decide to buy a home. Though the market may not seem very attractive for an existing buyer for a new buyer it is a different story. This is a very good time to buy a home. Here is why:
- The interest rate for home loans is at peak, and RBI has recently hinted a fall in coming days; so new buyers are likely to pay their EMIs in a falling interest rate scenario! Hence, the interest burden will be reduced significantly in such a situation.
- Many buyers anticipate an interest rate drop and postpone their purchase decision, but it should be noted that, at present the developers are offering very attractive discounts as they need liquidity and are left with a huge inventory. If the interest rate falls, then this offer would not be available as the liquidity position would improve in the market.
- As there is considerably less investor rush in the current market due to high borrowing cost, choices are aplenty!The buyer can customize his purchase of the home for its location, size, price and other important aspects due to sluggish market conditions.
- Also, new buyers have the option of purchasing both from a developer and an existing buyer in the current market situation and better bargains can be struck.
Points to remember for the potential buyers
The new buyer should take a cautious approach while finalizing a home purchase bearing the following aspects in mind.
- If the new buyer decides to buy a home in an ongoing project, then chances of delay in possession is always possibility so due diligence is very necessary.
- To rule out the loss due to possession delay, the delay penalty must be incorporated in the agreement with the developer. Though the interest rate is expected to fall in coming days, the penalty should be based on a floating basis because in case the interest rate increases due to any unexpected event, then the delay penalty would also increase and protect the buyer from loss.
Let’s understand this with the help of an example:
Suppose a person “B” has decided to buy a home and raised a home loan at 10% p.a. The developer “S” promises to handover the possession of the house within two years or else agrees to pay a penalty at 1% lesser then the bank’s interest rate, i.e. penalty at 9%. B has two options, either to fix the penalty interest at 9% or keep it floating at 1 % lesser than the bank’s interest rate. If S defaults in giving possession after two years and delays for one extra year, then the following situations would arise:
Case I: Penalty fixed at some rate say at 9% p.a.
Suppose if the bank’s interest rate falls to 8% p.a., then S would pay penalty at 9% for a one year delay. Hence B would get the benefit of extra penalty over bank’s interest rate. However, if the bank’s interest increases to 12%, then also S would pay penalty at 9%, hence B would lose more against the bank’s interest rate. Hence, buyer has chances to gain as well as incurs the risk of loss in this situation.
Case II: Floating Penalty
Since S agreed to pay a penalty at a floating rate system it does not matter whether bank’s interest falls or increases because the penalty rate would be 1 % lesser in every scenario. Hence buyer would hedge his position against increase or decrease in interest rate.
- If the buyer decides to buy a house from an existing buyer who owns a ready flat, then it is very important to check the encumbrances thoroughly. The other basic aspects such as electricity bill, telephone bill, and building society bill along with developers’ agreement should be checked properly before finalizing the deal.
- The new buyer should select a floating rate system while applying for a loan and also negotiate with banks to waive the prepayment penalty charges for future. According to the RBI mandate prepayment penalty is expected to be done away with but do ensure if this is indeed the case as some banks might still be imposing it. Prepayment can be done either as a one-time payment or switching the loan to another bank with a lesser interest rate or even a partial prepayments over a period of time. The prepayment decision should be taken based on the remaining loan amount, term and the ease with which the funds can be arranged.
- Many developers are compromising with the quality of construction materials due to high input costs, so the new buyers must check to verify such aspects before buying the house.
- In the recent past, lots of hue and cry was made by developers and buyers in Delhi NCR due to court orders to stop construction on account of multiple land disputes. The new buyers must verify all the legal aspects before finalizing the deal. The contract with a developer should be verified properly to avoid fraudulent intentions. The buyer should always insist on the developers including the time binding clause to avoid excess delay in the project. If the project is delayed much beyond the promised time, then the buyer should not hesitate to knock the doors of the court. Recently, lots of cases have come into the picture where courts have provided relief to the buyers by ordering complete refund along with penalty against the developer.
Keeping in mind the various points discussed above in this article, an existing buyer should strive to make an early repayment of the loan, as many banks have waived the prepayment penalty. If the flat is under construction stages, then they can also opt for exiting the deal by reselling or canceling the agreement if possible to avoid loss due to uncertainty of project completion. The new buyer has a good opportunity to buy a house at a discounted price and desired location. Proper due diligence and price negotiation are key aspects for the new buyer.