Too Much Pain Buying "Under Construction" Properties (Or "Holes In The Ground")

I haven't bought a house or apartment, because houses are WAY overpriced ever since I could afford one. Also the rent-versus-buy argument is much skewed in the renter's favour. The average rental yield, net of costs, is about 2% of property value - speaking from my experience in Delhi, Mumbai and Bangalore. And the current quality of housing isn't anywhere close to "good" for the price you pay.

But buying a house to live in is hardly limited to economics. People would buy to own - so they can modify the house without taking permission, install split a/cs where the like, or do up a room to make their kids happy. Or whatever. It's an emotional decision as well.

When I decide to buy - when I can finally afford the price and the serious modification I will need to do - I will not buy an apartment "under construction". You end up financing someone else's lifestyle. But there are other, more important reasons.

Typical deals are: you sign on a piece of paper looking at a hole in the ground. The builder promises to give you a "ready" house in say three years. The apartment size is shown to you and the "amenities" you will get, like a swimming pool, a tennis court, water to drink, air to breathe etc. You then get a bank loan for 20 years for some part of it, and the rest will fall in place.

Or so you think.

First, the bank loan is payable to the builder in installments; he gets a certain amount down, then a certain amount on completion of every "slab" and so on. If you build your own house, the bank loan is structured such that you get the money and you pay the builder (again, in installments). But in recent apartments, the builder gets the money directly from the bank, without your being in the loop. Effectively, you are giving the builder interest-free money, while you pay the interest. You have no control over when the money is released, and how much - it's all part of the loan deal. Without this control, the builder can easily gather money by building "slabs" - the bottom layer of a floor - after erecting tall pillars. The real money is spent in the finishing; building pillars and beams is very inexpensive. Yet, builders get money based on how many slabs they finish, and only a small percentage at the end.

You don't pay for what you are getting - in fact you pay a substantial amount more until that last payment, a tiny balloon of about 20% of the whole cost. Finishing alone, though, costs a big whopping percentage of the lot - the marble, the bathroom fittings, electricals, doors, paint finish and plumbing.

When you pay an equal installment per slab, you assume expenditure is in the same pattern, but it's not - the expense is a big balloon at the end, so the builder is effectively getting more until he has to do the big kahoona expense at the end. You're paying interest for this extra money, meanwhile.

And builders are fickle. They will leverage the extra they get, spending it on building more holes in the ground to sucker more willing buyers; when the time comes to finish a project they hope they'll have enough money left. In many cases - heck, in nearly all the cases I've seen, they don't finish projects satisfactorily. Promises are broken; some of the things they do when "handing over" property:

  • Walls have that horribly uneven texture under a coat of crappy paint
  • Doors and windows that are badly fitted. A Sobha Group apartment owners group complained once that they could kick the doors in - the frames were stuck with bad glue! And in a building here in Gurgaon, entire ceiling-to-floor windows fell inward during a small storm - in multiple apartments.
  • Bad plumbing - so much that nearly every apartment building has seepage into the walls within the first year.
  • Crappy electrical sockets and switches. Advertise one thing in the brochure and provide something else.
  • No proper lighting or finishing in the parking area, with leaks and chipped cement visible.
  • Unfinished pools, children's play areas etc.
A ticked-off Unitech buyer posted the following video:

The point is not that you can avoid these messes. You will always have them to some degree even if you build your own house. Yet, it's about incentives and leverage. You have paid everything upfront. Or most of it. The builder's made you wait, and now gives you possession with a crappy finish. Are you going to refuse? You're now willing to take anything - after all, you'll have paid three years of interest on an increasing amount and rent alongside. To you, it's literally a take-it-or-fuck-off deal. The only leverage you may have is that if you raised a fuss some other people wouldn't get suckered into buying the builder's newer holes in the ground - a ploy that worked for the buyer in the video above, as Unitech took some action after the video became famous.

Even that is not much leverage. New owners get scared that if the mass public got to know of the problems in a complex, property values will fall there. This doesn't help those that live there - a market price concern is hardly useful when you have to deal with a bad construction situation everyday. Still, people are inordinately concerned with the market price of properties they don't intend to sell for the next few years. It's like being bothered that the mobile phone I bought a year back is worth Rs. 5000 less today.

So threatening to kick up a fuss will make you an enemy of your neighbours. Not kicking a fuss means the builder will ignore you. Rock and hard place.

Builders also know they have inordinate leverage just before "handing over" possession. So the latest ploy is to randomly state an increase the size of the apartment, saying the "super built up" area is about 100 sq. ft. higher, so the owner needs to pay up the extra cost at say Rs. 3,000 per sq. ft. You can't complain - you don't even know how the "super" built-up area was calculated in the first place, because they don't give details. So asking for a clarification doesn't help - they can easily stall you for a long time, and you've already paid most of your money. No leverage, and the incentives are working against you.

The worst thing is the waiting time. Nearly every project I know is delayed - from a few months to nearly five years. My parents booked a property in 1980 - they got possession in 1991, with a cost escalation of 100%. That itself has put me off under-construction projects forever.

Prestige Shantiniketan in Bangalore was supposed to be ready two years ago, in 2007 - it's still nowhere close to being done. (oh, and part of one building collapsed during construction) Brigade Gateway, delays are beyond a year now. In Gurgaon, half finished projects dot the landscape - next door to where I live, a Parsvnath property lies with the front housing done, and the rear part with erected scaffolding for nearly six months of no progress. In Navi Mumbai, properties that looked like they were just about to be ready stayed in that state for the year I stayed there.

Lastly the real estate broker lobby is a pain - they get higher incentives from builders, sometimes even 10% - so they peddle under-construction properties ("holes in the ground") over ready-to-occupy premises.

Some more forums on the pathetic state of new booking based real estate:

(Note: I haven't verified authenticity; use at your own risk)

I'll bide my time. Either I buy land and build my house, or I'll get a good deal on a ready property which has been used a few years. I might buy "under-construction" at throwaway prices, purely for investment, on an as-is-where-is basis - then I can factor the cost of finishing the rest of the work myself and look at gains. But I'll pay well to get a ready house: if I'm buying for emotional reasons I would rather not have the worry and pain.

(Add your comment)

19 comments:

Manish Chauhan said...

Excellent ...

Deepak , you bring up very important points here .

Most of the buyers are focusing too much on "PRICE" and not the more important thing for them , which is "VALUE" it provides in there life . There are people who pay hefty EMI's , sometimes 80-85% of there monthly take home , assuming that "bad thing" will not happen to them .

Why is there no accountability of Builders towards Investors in India , Is it there ? This the biggest curse this country and its citizens have is "unawareness", which really needs to be fixed . You are going great job .

So, I had one doubt , What do you think is the right cost of Apartments (2-3 bhks) in Bangalore or Mumbai for example . Do you have some "home-grown" model of calculating it ?

Manish
http://www.jagoinvestor.com

Anonymous said...

Very well written and I twutally agree with you, BTW thanks for sharing that video. I have moved to Singapore and living/rented in one of the average condos (~800,000 SGD), the construction quality and finishing here is simply mind blowing, and as far as I know the builders are not like the pathetic sons of bi****s - primarily because the govt takes due action if something goes bad.

Deepak Shenoy said...

Manish: Well put. Yes, there is no accountability though they can be taken to court and have been, with some penalties being put for shoddy construction or delays.

The right price? I would say at the outer edge would be 4x income if you plan to borrow. 1-2x income would be perfect. Mumbai has always been overpriced, sorta like New york - but then incomes are higher too.

Anon: Thanks - and that's what I mean by the quality of finishing. Here you pay through your nose for really crappy finishing - especially when it would cost only 100 Rs. per sq. ft. to do it properly. I don't mean the fittings necessarily, just that the work is bloody shoddy - uneven cement finish on the walls is simply inexcusable.

Ajay Agarwal said...

Thats a very good article. I really appreciate your writing to inform everyone else about minute things which needed to be considered before buying a property. Your article will help me with my buying decisions in future. Thanks, Ajay

Anonymous said...

Have u seen the current ICICI results. Your views on the same. You were bearish on ICICI and expecting it to go down to Rs 200. What are u r view now on the stock?

Deepak Shenoy said...

Current results on the banking end are pretty bad. On the treasury end it's a little shady plus they've cut all marketing expenses - don't know how long that can last. I think it might still go back there to 200, or even lower.

Wanderer said...

Hi Deepak I fully agree with your point of view. Infact me and my wife are also thinking of investing in a ready to move in apartment in gurgaon. But here also you have to be very cautious. Ansals is selling 6-7 years old flats at sushant lok 2 & 3 at todays rates (47 L for 1220 Sq ft,55 L for 1530 sq ft) the houses are in bad shape. THey will not show you a property which are planning to buy rather show some other flat which has been refurbished. THen there are dealers who try to push flats / floors with shoddy construction as a good deal.
Then there is case of black money in ready to move ins. People expect minimum 10% to max 50% in black, which is not a very easy thing for most buyers.
Vikrant

Siddharth said...

Wonder if the next boom will be in "caravan" segment in India?

Siddharth said...

Just saw news in the tv. Mumbai building project in Vidhyavihar which was supposed to give possession in 2007 is not complete till date and the chances of the same are slim. So people who paid money to builders are doing "gandhigiri".
Way horrible. Exactly as if you leg is stuck in toilet.

Anonymous said...

Hi Deepak. Excellent article, that too on an issue close to many people's lives.

Can you share the excel sheet used for the linked article: http://blog.investraction.com/2006/07/should-you-rent-or-buy.html

I want to see what happens when some parameters are changed e.g. lower rent, lower apartment cost etc.

--
Shiva

AMN said...

Hi Deepak

Rental yields have been abysmally low for as long as I can remember. But, real estate as an investment has outperformed most asset classes by a long distance. My investment in a residential flat at almost peak valuations of 1996-97 boom, still gave me 15% CAGR (including costs of stamp duty, interiors etc) when I sold it. Though I must admit I sold it in early 2008 when valuations were at their peak once again.

IMO our growing population and limited land availability will keep real estate prices buoyant in the foreseeable future.

Deepak Shenoy said...

Anon: Check http://www.deepakshenoy.com/articles/realestate/realestatecf.htm

Rapidriser: Yes, investment has been great over the last 10 years, even the last 20. But remember, GDP growth has been spectacular - and incomes have grown too. People used to pay 10X income in the peak of 1996, now they pay only 5X but incomes went up more than 20% a year which made the price return very attractive.

I don't foresee that happening in the next cycle. Flats are selling at 5x income, and they are substandard for the price one pays - in a few years we'll get the same area but much much better finishing for the same or even lower price. Land isn't quite limited. When I look at urban expansions in Delhi, Bangalore and even Mumbai there seems to be a MASSIVE amount of land available. with better road and rail connectivity, we'll develop suburbia.

Having said that there is still real estate available at rock bottom prices, in currently undeveloped areas. The bet there is that development will come in 5-10 years and the prices will go up 100X. I've seen that happen in Bangalore with a piece of land we had bought in 1980. (But there are issues like land grabbing etc.)

Anonymous said...

"Too Much Pain Buying "Under Construction" Properties (Or "Holes In The Ground")????? No body thinks about the fully finished product and it's problems. If you need to modify a fully finished property you need to pay for the entire product first and then remodel it to your taste. any problems present will stay dormant for a while and then re surface just like in any developers projet. Imagine if you construct a house and put your blood sweat and tears into it and then you need to sell it as a finished product - wont you charge a premium?? now put your self in the shoes of an average buyer. is he ready to pay that premium. Like any investment a property needs to grow. therefore the points that you make here are from a buyers point of view rather than a developer. Having said that i'm not saying that they are right and you are wrong. no developer is angel. each and every one has a their issues. it's hard to trust even a single one.

Anonymous said...

On ICICI Bank

As a trader at what level will u cut u r position and book loss. U were recommending going short at the 400 level and the stock is currently at the 750 level.

Also do u suggest that one should double one's short position now that the stock is at 750.

Deepak Shenoy said...

ANon: I don't think I recommended shorting at 400 - I got out of it in my virtual short only strategy around that (or earlier) - I haven't even initiated a new short now (it needs to fall about 30 points more before it displays price weakness)

Stop losses shouldn't be > 10% or 20% at the max - one can't really go beyond that before it hurts.

Anon2: Fully finished products have far lesser pain, but pain nevertheless. People have done well buying flats under construction, and good on them - it just doesn't work for me for the reasons mentioned. REady flats neednt carry much premium - I know that in 2001 flats were selling at rock bottom rates even when ready to occupy. In fact my family picked up such a flat in 2003 at 1250 per sq. ft. , exactly what one would pay for an under-construction flat at the time (we checked around) and cheaper than a next door sobha hole-in-the-ground.

Anonymous said...

We have booked a flat in Nirmal Lifestyle (Rejoice building in Mulund). It will be 3 years this december since the promise delivery date! Do not trust these guys. Apparently they have similar problems in lots of their other projects.

Just spreading the awareness with this builder.

pk said...

Besides bad products sold by builders in indian market, it also does not make economic sense to buy a flat when you can stay in the same flat at 2-3 % of yield. It would be always wise to invest in properties for long term(for your property portfolio) and stay in rented flat.In gurgaon the flats that are being sold for 1.5-1.75 crores are available at rentals of 30K-45K/month.

Anonymous said...

I stopped reading when you said building beams and pillars is inexpensive as right there you proved you have no idea about construction.

Do some research before spewing off random bs that you might have heard from your friends.

..and you forget plot cost. I don't need to explain that now do I?

Deepak Shenoy said...

Anon: Beams and pillars, includign foundation work and piling doesn't add up to more than 600 bucks a saleable square foot. Unfortunately, you don't provide any data to refute that or anything in this post; would appreciate if you did.

Plot cost is irrelevant to this argument - I speak about construction costs. Plot cost is anyhow included in the final cost of an apartment (a 2000 sq. ft. plot will own about 600 sq. ft. of actual land, so adjust price of flat accordingly)

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