BY
Prerna Sharma, Research Analyst
We
need a tough regulator to rein in unscrupulous real estate builders.
The
recent collapse of a residential building in Thane, Maharashtra, that killed
about 75 and left more than 60 injured underscores the urgency of bringing a
tough regulator for the Indian real estate sector.
Now,,
housebuyers are at the mercy of unscrupulous builders who often act in
connivance with municipal authorities &
local politicians.
One-sided Apartment Buyer Contract..!
The
result:
one-sided
apartment buyer contract, late delivery of the possession & poor quality of
construction. Instances of unfair treatment of homebuyers by builders and developers
are a regular feature in all parts of India.
To
take another example, a prominent builder in Noida Extension is reportedly
forcing its buyers to sign the modified apartment buyer contracts with extended
possession date & reduced penalty for delay in handing over the flats.
“Otherwise,
we are ready & willing to refund the
entire booking amount along with 11% interest, without any deductions,” says
the forwarding of the letter sent to the buyers.
Builders
often force housebuyers to sign standard contracts with clauses that stipulate
them to pay 15 to 18% (per annum) as penalty for late payment. The builders
themselves agree to pay only Rs. 5 to 10 per month per square feet for late
delivery, irrespective of the price of the apartments.
Earnest Money..!
Buyers
are asked to sign the contracts when the builders have already received 10 to
20% of the price of the apartment. The agreement typically says that the
“booking is provisional & in case of cancellation, the builder / promoter
will retain the earnest money i.e. 10% of the basic price & refund the
balance with nominal interest. “
By
that time, builders artificially hike the flat price by 5 to 10% in connivance
with brokers to jack up the notional loss to the buyers who (not satisfied with
the terms of the agreement) may think of cancelling the booking.
Obviously,
no buyers dare to question for fear of losing the earnest money and capital
gain.
As
of now, the real estate sector remains under-regulated. Cases related to breach
of contract are too expensive to fight and take years to decide. This deters
buyers from taking on the defaulting builders / developers.
Demand-Supply
Gap..!
According
to the Annual Report of the Ministry of Housing
and Urban Poverty Alleviation (2011-12), urban housing shortage at the
end of Tenth Plan (2002-07) stood at 2.5 crore houses. Large-scale migration to
cities such as Mumbai, and NCR, puts further pressure on demand for housing.
Since
supply falls short of demand by a huge margin, one can expect housing prices to
rise in future, even if in the short run demand for residential units has
slowed down because of high asking price and high-cost housing loans.
Expectation
of price rise & easy play of black money brings more money into the sector.
As a result, prices of housing units keep on rising primarily on the strength
of investor interest forcing end users out of the market. Sustained inflation
further strengthens this process by encouraging people to invest in real estate
(or / commodities) for better returns.
Artificial Rental Increase..
Laws
favouring tenants scare property owners from renting out, especially when
capital appreciation is expected to compensate for the loss of rent. This leads
to an artificial increase in rentals in NCR or / Mumbai that receive substantial migration.
Thus,
the lure of capital appreciation and high rental induces people to invest in
properties using bank credit.
Of
late, PSU banks have remained unwilling to finance overleveraged developers. As
a result, private equity has come to play an important role.
PE
funds often pressurise builders not to decrease price and maintain targeted
margins.
Over
the last few years, the slowdown in developed countries and depreciation of
rupee has encouraged NRIs to invest their surplus funds in India’s real estate
sector. All these factors have led to sharp increase in the demand-induced
housing price.
Cost-Push Factors..!
The
problem is compounded by slower regulatory approvals that often take years to
come and keep supply of residential units artificially constrained in a growing
economy with common aspiration to own a house property.
Cost
of land (Plot) is the key element of the cost of construction. Bad zoning
policies constrain the supply of land in a city such as Mumbai. In the absence
of proper regulation, anybody can enter into the real estate business.
The
large number of bidders pushes the price of land. After getting land at
unreasonably high prices, builders jack up the price of the units to maintain
their margins.
In
addition to the rising cost of land and labour, prices of building material
such as cement and steel have gone up immensely in the last 4 to 5 years,
putting further pressure on the cost of construction.
Can Rate Cut Help?
Many
believe that a rate cut by the RBI will help the overleveraged builders in
reducing their cost of construction. At the same time, it will help
credit-dependent existing and prospective homebuyers. This argument is
seriously flawed.
The
low cost of funding will increase the staying capacities of the builders to
hold the prices of housing units at the given (artificially) high levels.
Besides, it may induce them to speculate in land dealings.
Way
forward
The
root of India’s housing problems primarily lies in supply side economics and calls
for supply side measures on priority basis.Increase in supply of houses will
lower the return on speculative investment through price effect.
Making
tenancy laws landlord - friendly will further ease pressure on demand for
housing and help in making housing affordable to the end users.
Fixing
minimum eligibility criteria for entering into real estate business will reduce
the number of bidders for limited supply of land & keep its price under check.
Reducing
the age of the building for redevelopment and increasing the floor space
index (FSI) can enhance the effective supply of land in land-constrained
cities like Mumbai and bring down cost of construction.
Real Estate Investment Trust
Given
the investor interest in the sector, it is time we introduced Real Estate
Investment Trust (REIT) to enable individuals to have an interest in the
securitised real estate market without directly owning properties.
Possibility
of easy exit from investments in REIT will make the real estate market liquid
and reduce the influence of black money by channeling small savings into the
sector.
Besides,
there is an urgent need for a tough regulator to rein in unscrupulous real
estate players and protect the interest of the homebuyers. Bringing tougher
regulations for the sector can be good politics on the eve of general election
due next year. Are political parties listening?
The
author Prerna Sharma is a research analyst in a global financial services firm.
Views are personal.
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