Beware of the double-edged sword

Ravi Sinha

Probably no other funding mechanism has generated as much heated discussion and diametrically extreme view in the Indian real estate as the subvention scheme. It is indeed great for homebuyers to have a house by paying as low as 5 per cent of the actual market price of the property and not bear the burden of EMIs till they get full possession of the house. However, it is also true that in case there is a delay in completion of the project, the buyer will spoil his credit score with the credit bureau and practically has no safeguard if the developer diverts the fund. Subvention schemes are thus a double edged sword for brand realty.

Marketing gimmick?

Subvention schemes, often referred to as the 20:80 scheme are nothing but a marketing formula supposed to create a ‘win-win’ situation for both the buyers as well as the developers. Some of the developers with proven timely execution capabilities experimented with the 20:80 scheme to beat the slowdown and invoke confidence in the buyers.

The scheme emerged as a popular marketing tool, as the buyer is generally supposed to pay only 5-20 per cent upfront, while the remaining amount is paid at the time of possession. However, since many of the developers started defaulting, the Reserve Bank of India (RBI) soon felt such home loan products were likely to expose banks and their borrowers to additional risks and advised banks against the practice.

But the scheme is still being offered by the Non-Banking Financial Companies (NBFCs) with various developers overtly advertising it. However, in the larger context the debate has gained ground in the housing market as to whether this has repudiated the brand realty. After all, the concerns of the RBI are not unfounded as these loans are on the books of buyers, and not developers.

Most of the financial analysts maintain that for banks, subvention schemes are quite a huge risk, that primarily arises if the developer is unable to complete the project. At this juncture, the hypothecation for the lender is at stake as there is no guarantee to the right to seize possession if the borrower defaults. Also, the bank operates with the hazard of getting over-exposed to a single product.

Catch 22

Critics of the subvention scheme often allege that the business hungry financial institutions are over leveraging their risk taking capacity by offering upfront disbursement of 80 per cent. They have little control over verifying that the funds disbursed are actually being used for the purpose for which they were collected.

There is a constant risk undertaken by the bank, in case the developer fails or decides to delay the construction as these would amount to higher NPAs.

The experience of a few delayed projects also suggested that very often a developer tends to take risks higher than needed and this could cause a substantial financial turmoil in the organisation. There have been instances wherein once the developer receives complete funds to be generated from the project, 20 per cent from the consumer and 80 per cent from the bank, he is not motivated to complete the project within the stipulated timeframe.

Attracting greedy investors

Industry reports suggest that at the peak cycle of this scheme more than 100 such schemes were launched in 2013 but none of them are on course to see timely completion today. As a result, subvention schemes have only proved to be beneficial for the builder-investor nexus that has always accounted for more than 50 per cent of the sale transactions under this scheme.

At that point of time many of the developers, even those with poor track record of project execution, got on this bandwagon, and worse, even started diverting the upfront payment of banks for easing of loans and other non-project expenses.

The fact, however, remains that a subvention scheme is primarily a tripartite agreement between the developer, the buyer and the bank. To make it successful all the three parties had to be obligatory to their role. It is not just the developers but even the buyers started opting for a home purchase through this scheme for speculative reasons. All that they needed to pay was just 20 per cent with rest to be paid after possession, with property expected to appreciate by that time to book a sizeable profit. This led to an artificial boost for certain projects wherein even though a majority of stock had practically been sold but the “buyers” had no intention of moving into the homes or even waiting till the project was completed.

Sector agrees to disagree

Vineet Relia SARE Homes, MD of SARE Homes advocates that given current circumstances, it is important to look at this from the customer’s perspective too. Some customers may be in a position to pay EMIs, but lack liquidity at the present juncture to fork out the entire 10 per cent. Should customers forego the once-in-a-lifetime opportunity to buy their dream flats simply because they lack liquidity and developers are rigid on the 10 per cent booking amount?

“I believe what is important is whether customers have the wherewithal to pay EMIs comfortably. Therefore, developers seek to ease the customer’s immediate burden by offering flexible options for the 10 per cent booking amount. Undoubtedly, this is a win-win option for both builders and buyers. Speculators wouldn’t speculate in real estate without sufficient liquidity or on a low funds base. In such cases, the stock-markets offer better options. Moreover, the scenario at this point is hardly conducive for speculators, so there is no question of inviting speculators in the project, says Relia.

Rattan Hawelia, Chairman, Hawelia Group agrees that the subvention scheme does affect the brand real estate after the RBI’s decision to not encourage this practice of liberal funding. He maintains subvention scheme is not very favourable even for developers.

Despite the fact that almost every developer is offering this scheme to push sales and coming out with various payment options, it is more for competition rather than thinking of brand real estate as it has been adopted by the industry.

“Banks do have their own scale and regulations while choosing a developer for funding customers of their particular project. Developers’credibility is a must , especially those with the financial wherewithal to complete the project. Developers’ past record, current project approvals & progress, should be taken into the consideration,” says Hawelia.

The way forward

The pertinent question from the homebuyers’ perspective is whether one should go for the subvention scheme or not. It is a tricky question but financial analysts suggest that as a thumb rule the buyers should go with the A grade developers, and that too after checking the track record of the developer.

Analysts suggest even though subvention scheme is encouraging for the sector as far as business growth is concerned, it definitely also paints the sector with the same brush of brand disrepute in case of a delay or default. And hence, it is necessary to make use of this payment option very judiciously on the part of the financial institution and the homebuyers alike. Banks should restrict certain percentage of inventory in a particular project to be approved for such schemes so that developers are able to satisfy the competition rather than inject instability in project funding.

As a buyer if you are attracted by such a scheme then be careful not to overlook the project’s fundamentals, like approvals, progress, specifications, location, amenities etc. A blanket use of subvention schemes across the sector is bound to repudiate the brand real estate.

— CEO, Track2Realty