No loans to repay, modest aspirations and not a very ambitious retirement target. For Mumbai-based bank executive Alpesh Mehta and his schoolteacher wife Deepali, saving for their child's education and marriage, as well as their own retirement, will be a breeze. But this could change if they go ahead with their plan to buy a house. In Mumbai, the minimum price of a 800-1,000 sq ft house is Rs 1 crore. They will have to liquidate all their existing investments to raise about Rs 20 lakh for the down payment. The balance Rs 80 lakh, if borrowed at 10% for 20 years, will mean an EMI of Rs 77,200, which is roughly 60% of their combined monthly income of Rs 1.3 lakh. Either the Mehtas will have to stop saving for their child's goals or their retirement will have to be pushed back.
The Mehtas are not the only ones entering this minefield. Across the country, a number of people are firming up plans to buy a new house. The New Home Index of Zyfin Research, an indicator of home buying plans of 3,000 households across 11 cities, has inched up in the past 12 months (see graphic). Though it is still in pessimistic territory, buyers are less pessimistic now than they were in May 2014. "The decline in pessimism has more to do with increased optimism about future income and job security than lower borrowing costs," says Debopam Chaudhuri, Chief Economist and VP-Research, ZyFin Research.
Despite the surge in buyer sentiment, real estate is still not a good investment in most parts of the country. Property price are still very high and despite the recent interest rate cuts, the cost of borrowing has not come down significantly. Before they take the plunge, potential borrowers need to ask themselves 10 questions. Your answers will tell you whether you should save more for a bigger down payment, buy a smaller house, invest in a cheaper city or not buy at all.
1. Can you afford the home loan EMI?
It might sound a no-brainer, but many home buyers get this wrong and bite off more than they can chew. The home loan EMI should be around 40% of your net household income. But that is if you don't have other loans. A high EMI outgo can put your house-hold budget under pressure. If the home loan EMI accounts for more than 50% of the net household income, other goals will have to be downsized or junked altogether. Don't be fooled into thinking that the recent cut in home loan rates have made property a viable investment. It will have a marginal impact on the total EMI. A 25 basis point cut will reduce the EMI of a Rs 50 lakh loan for 20 years by Rs 826.
It's easy to get ambitious and go for a bigger loan if you are expecting generous increments in the coming years. Don't make the mistake of leveraging on future income. While your income would certainly rise, but so would your expenses and financial commitments.
2. Have you factored in the other costs?
The advertised price is usually the base price of the property. The add-ons are usually kept hidden till you sit down with your cheque book. Many builders will slip in charges for facilities that you thought were free with the property. Others will keep certain charges hidden from the buyer by tucking them away in the fine print. These apart, there are other big-ticket add-ons such as the legal costs. The stamp duty and registration charges payable to the authorities add up a neat 7-8% to the overall price of the property. In all, these charges can push up the property price by 20-25%. Make sure you have factored in these additional costs.
3. Have you considered renting?
The high property prices means that renting is a better option in most cities. A 2-BHK house in Mumbai will cost close to Rs 1.2 crore. If a buyer puts in Rs 40 lakh as downpayment and takes a loan of Rs 80 lakh, the EMI for 20 years comes to about Rs 76,500. He also loses around Rs 23,500 in interest that the Rs 40 lakh downpayment could have potentially earned. The total cost per month comes to Rs 1 lakh while he can easily get a similar house on rent in Mumbai for about Rs 40,000-45,000 a month.
Don't go by hypothetical examples.
Instead, use an online rent-or-buy calculator to find which is is better for you.
The one developed by Bigdecisions.com is a sophisticated online tool that takes into account several things, including the cost of the house, the amount of down payment, the rate of interest of the home loan, the expected appreciation in the house price, the rent payable for a similar accommodation in the area and even the expected hike in the rent every year.
4. Will house value rise faster than the interest on loan?
In the early 2000s, when home loans were available at 6-7% and property prices were galloping at 20-25%, it made eminent sense to invest in an upcoming apartment project. Now, property prices are appreciating at a slower pace. In some markets, such as Noida and Greater Noida in the NCR, prices have even come down in the past 12-18 months.
If you are buying property as an investment with a loan, first assess whether its price will appreciate at a rate higher than what you are paying on the loan. "If you are payings 10% on the loan and the property price is expected to appreciate by 5-6%, then it is a bad buy," says Manish Shah, Cofounder and Chief Executive of Bigdecisions.com. Shah says the expected rate of appreciation is the single biggest determinant in their rent-or-buy calculator. "It makes the biggest difference in the decisions," he says.
5. Will this purchase force you to postpone other major goals?
Stagnant property prices and high EMIs are not the only problems that potential home buyers should be wary of. Their home buying plans can have serious implications on other financial goals, such as saving for their children's education and marriage and their retirement. If the home loan EMI is too big, it will push other goals out of the financial plan. Worse, buyers like the Mehtas might have to liquidate existing investments to raise money for the down payment. Though parents are unlikely to surrender child insurance plans and education related investments, retirement planning is easily sacrificed. "Younger people tend to think that retirement is an old age problem and defer the investment," says Shah of Bigdecisions.com. It is easy for investors to raid their retirement savings to fund their real estate dreams. You can take loans from the Provident Fund or the NPS for buying a house. Buy a house only if the purchase will not impact other goals. Otherwise, be ready for an asset-rich but cash poor retirement. Or not having enough money to send your child to a good college.