Buying a Home – One of the biggest aspirations
A house with four rooms – each room with a separate colour theme and
different furnishing setup. A separate room for kids with all their kid gizmos… And a living room with all costly gadgets… A modular kitchen to keep your better half happy and so on…. There is nothing wrong to have a dream of owning a warm cosy home. And to buy it as soon as possible is one of the first priorities of a person once he / she starts to earn a living.
Having a shelter for you and your family is a necessity and to fufill this necessity, buying a home is made an aspiration. Till the time this aspiration is not financially achievable, an alternative of taking a house on rent is considered a trade-off. Isn’t it true that the common term in hindi ‘Roti Kapra aur Makaan’ (‘Food , Clothing and a home to live in’) tends to dominate most of our thought process and where our energies as well as our savings are targeted upon to achieve. The more is our disposable income, the more we strive to better the quality of the so called ‘Roti Kapra aur Makaan’.
Where Aspirations Dominate Diversification
For some people, the aspiration of buying a house remains an aspiration for ever due to the ever increasing prices of the housing sector. Probably the most common reason behind the upward movement of the housing demand is an emerging (rather a richer) middle class society and the easy availability of credit from the banks. I can so clearly recollect that I aspired to buy a 2 bedroom flat in Gurgaon in 2004 which costed a mere 18 lacs at that time. I couldn’t affort it then. By the time I could afford it in 2010, the price of the same flat spiraled to a whopping 90 lacs. An average house in India now starts from somewhere Rs. 40 lacs (Four million rupees) to Rs. 60 lacs (Six million rupees). And you may agree that this is quite a lot of money for an average Indian. Probably for most of the people, this is their total saving of their entire life. An average Indian earning around Rs. 5-10 lacs per year saves a net of around 2-5 lacs. Even for a Rs. 5 lacs saving a year, it would take approximately 10-15 years of savings to buy a home or fully pay off the home loan taken to buy the property. And by the time you are retired – you have a home (having majority of your savings) and a few lacs in your PF account.
But the result is worth it. You then have a nice warm house (which would then call a home) to live in – a place where you and your family can relax after a day’s hard work!
Harsh Financial Reality – Buying & living in a Home !
However with the ownership of a home, comes a harsh financial reality – the property in which you live is probably the biggest burden on your financial position. I can feel your eyebrows getting strained while reading my last sentence but allow me explain how and why does it matter to understand the impact of buying a home on your financial position and more importantly on your retirement.
There are two factors involved in owning a house :
Rental Income Yield
The rent for a residential property in India is approximately 2-4% of the value of the property. This is in sharp contrast to our western counterparts like USA or UK where the rent is approximately 6 to 7% of the value of the property. You can do this calculation for yourself in the area where you live. For example, an average 2 bedroom flat in Gurgaon at the time of writing this article (Jan 2012) costs roughly around Rs. 80 lacs. The same flat can be obtained on rent for around Rs. 25,000 per month or Rs. 300,000 per year. The rental yield over the value of the property is approx 3.75% (3lacs / 80 lacs).
Along with the rent, the owner of the property also enjoys the appreciation in the value of his home which can vary from around 10-40% per year depending upon where a person is residing and the prevailing economic situation. As the economy matures, the capital appreciation on house prices would taper off and may settle at around 10-20% per year.
Unfortunately, the appreciation in the value of your home in which you are living is not really relevant as you will probably never end up selling your home to encash the appreciation. So it does not matter if you bought a home for Rs. 20 lacs and it may be currently valued at Rs. 2 crore. The only thing which it may help you is by saving the rent cost which you may have paid if you did not buy and lived in that property.
A reverse mortgage is opposite of a mortgage or home loan. In case of a home loan, a person takes a loan to buy a home and then pays back to the bank in the form of monthly EMIs / Mortgage payments. In case of a reverse mortgage, a person broadly transfers the ownership of a property to a bank and in return the back provides the respective person a part lumpsom amount and monthly payments upto the death as annuity. The person still lives in the property for the duration of this life as a tenant of the bank. After the death, the possession of the property is taken back by the bank which can then be sold in open market. Hence a property acts as a saving bank account which is tapped by a person on retirement.
In western countries, a house purchased by a person is considered to be their biggest saving which primarily funds their retirement. People generally don’t intend to gift their house to their children as an inheritance. Upon being retired, the house is sold or reverse mortaged (explained earlier) to fund their retirement until death. Hence a house is treated and actually acts as an asset !
Unlike western countries, in India a person buys a house to give him shelter and with an objective to pass it down to their children after death. The emotional ties come into play and in general a person would not consider selling their house to fund their retirement. Moreover the Indian financial markets have not reached a level of maturity to provide financial options to encash the savings locked in the housing markets. Hence your biggest saving gets locked forever in a property which though would give you shelter until death but no other financial benefit.
Is it all about the MONEY?
Your house in which you are living, though is your asset, but it is for your life time a dead asset. Having said that, not every decision taken by a person is guided purely on financial grounds. You don’t gift a jewellery to your wife / mother / loved ones in expectation of a financial return. On a similar note you don’t bring up children and give them the best / costliest education which your money can afford in an expectation of milk them in future. The purchase of a house or rather a home is also in many cases an emotional decision (at times). The motive behind this article is not to turn down the best decision of your life (of buying your home) but to make the readers ponder that their house purchase decision may not add to their financial independence post retirement. It may provide the owner with a shelter, but it may not provide you the much needed monthly income considering that you may not want to take a reverse mortgage on your house (or alternatively sell it) and leave your children / family stranded. Hence make sure that along with the monthly EMIs / mortgage payments which you are diligently paying to the bank, you also make a budget towards an investment pot which would fund your standard of living post retirement.
Please do enjoy the comforts of your home and if you liked the contents of this article, invite me for a cup of coffee.