Most people build a nest egg for their retirement by investing a regular sum of money into a Systematic Investment Plan (SIP) of a mutual fund or buy a pension plan from an insurance company or regularly invest in a bank recurring deposit or government backed instruments such as PPF and NSC, etc. A very few well-informed consumers are also opting for the newly launched New Pension Scheme.

But there is another very effective means to build a sizeable pension corpus - Buying another residential house for the purpose of deriving rental income as well as long-term capital appreciation.

I will illustrate this with an example.

Mr. Prabhat Varma has ability to pay a down payment of Rs. 2 lacs and can service an EMI of Rs. 6,000 every month (in other words he is able to save Rs. 6,000 per month).

This means that he can invest in a house worth Rs. 11 lacs for which he will be able to get a loan of around Rs. 9 lacs. The EMI for this 20-year loan at 9% is around Rs. 8,100 per month, which Mr. Varma will easily be able to pay from the rental income (estimated at around Rs. 3,000 per month), clubbed  with the existing savings of Rs. 6,000 per month. The tax deduction on the home loan (for rental properties the tax deduction will continue even under the new Direct Tax code) and any potential increase in rent in later years is just an icing on the cake.

Even if we assume a rather conservative 10% p.a. capital appreciation the property will be worth Rs. 74 lacs at the end of 20 years. Thus the easy availability of home loans even for residential property bought for the express purpose of renting it out effectively turns this investment into a SIP into real estate. 

While Mr. Varma crystallises his plan for another house purchase, he should keep few of these things in mind:  

1)      This is not about the house that you are staying in, the house in question here is  purely for investment purpose. 

2)      An investment horizon of at least 10 years is needed for this to be effective,  so if you are planning to retire by 60, and then this is not for you if you are already above 50 years of age.

3)      This is much riskier than a bank fixed deposit (the expected returns obviously are higher to compensate for the higher risks) and so if your risk appetite is low then this investment is not for you

4)      A meaningful Real estate investment will require much larger initial investments as also much larger continuing investments. Also the flexibility to miss an regular investment instalment is not available since the continuing investment is by way of loan repayment.

5)      It is not important that whether you would have yourself liked to stay in that house or not. You should buy from a rental perspective. In fact buying a house in smaller towns that you have some knowledge and connection with, might be a great decision given the fast pace of growth that is likely to be experienced by smaller towns and might give good returns over a long period of 20 years.

6)      Investment in real estate is a relatively high maintenance investment in terms of dealing with societies, finding and dealing with tenants, etc.

7)      Though state and local laws are fast changing tenancy laws in some states and property taxes in some cities make renting out a property a non-viable option. So avoid investment in such areas.

So this investment proposition is ideal for the likes of Mr. Varma who like saving regularly in traditional assets such as real estate.

How about you? Are you like Mr. Varma?

A momentous moment in India’s retail lending history has just been ushered in very quietly. A few days ago Credit Information Bureau of India Limited (CIBIL), which is currently the only fully operational credit bureau in India, quietly introduced a manual system to provide consumers with their own credit history on a test basis. In a written communication from CIBIL to Apnapaisa it has been clarified by CIBIL that “CIBIL has started offering Consumer disclosures through an interim solution. This interim solution is a testing phase and we will be able to operationalize the full-fledged Consumer Relations System basis our learning from this phase. In this interim phase CIBIL will be manually handling consumer requests for a copy of their credit information report.  CIBIL is also developing the infrastructure, systems and processes for an automated solution that would be needed to enable an individual direct access to their Credit Reports from CIBIL on-line.  The full-fledged Consumer Relations System will have world-class features that will allow consumers to access their report on-line and banks to respond to errors via an on-line maintenance tool. The automated phase is expected to be ready by the beginning of next fiscal year “.

So why is this such an important event that I am calling it a momentous occasion for the Indian retail lending history. For those of you who have just tuned in, CIBIL is one among 4 credit bureaus that have been licensed by the RBI under the Credit Information Companies Regulations Act, 2005 (CICRA). CIBIL though is the only one that already been operational for around a decade now and has the credit repayment history of around 13.7 crore loans or credit cards.

Almost all of the major lenders provide details of the credit facilities given by them to their customers as well as the amounts that have fallen due and the repayment made by the customers on a periodical basis (monthly or quarterly). CIBIL collates and aggregates this information. Thus when a customer (say Mr. Desai) approaches any bank (say Bank of Bharat) for a credit facility CIBIL is in a position to go through its own records and provide details of the existing credit facilities enjoyed by Mr. Desai to Bank of Bharat as well as his repayment history on such facilities. This enables Bank of Bharat to take a more informed decision on Mr. Desai’s credit application since it now has access to credible third party information on Mr. Desai’s existing obligations as well as his repayment history. It also benefits Mr. Desai if he has maintained a spotless repayment history since he is able to get the credit facility quickly and cheaper based on such good record. If his earlier repayment history is not so good, off course, he will find it difficult (and more expensive) to get the credit facility.

Up to now Mr. Desai could not access his own credit report. There was a rather convoluted way for Mr. Desai to get a copy of his own credit report but with this step he can get a copy of his own report by paying Rs. 142/- to CIBIL. This will help him in finding out if there are any errors in the report. A large number of consumers today feel helpless about erroneous repayment history being reported by the banks to CIBIL showing the consumer in default even where the so called “outstanding payment” is in dispute. These kinds of errors are the highest in the case of credit cards.

Since now he can have access to his own report the consumer can point out any errors in the report to CIBIL who are, under the CICR Act, required to notify the concerned bank. The erroneous entry will have to be deleted by CIBIL unless the concerned bank reverts to CIBIL within 30 days of the consumer filing his error report with CIBIL. If the consumer is not satisfied with the action of the bank in this regard he can always file a grievance before the banking ombudsman. Thus by having access to their own credit report the good consumers can ensure that they do not fall victim to erroneous reporting by the banks. At the same time consumers who delay payment for any reason will have to pay the price for such delays. Good consumers who pay their instalments will stop subsidising the consumers who delay payments. At a future point of time CIBIL may even share their proprietary credit score with the consumers for an additional fee. This score predicts customer’s likelihood of becoming a defaulter in more than 91 days within the next year. Higher the score less are the chances that the consumer will default. Any score above 700 is considered good. Having access to this score will assist the consumer in getting a rough idea of how banks view his credit standing and he can then take action either improve his credit score or if his score is already very good take care to maintain it at a high level.

So if you want to get a copy of your own credit report download the form available on the apnapaisa website at this link and fill it in and along with the required documents (mentioned in the form) and the payment of Rs. 142/- send it off to CIBIL address mentioned in the form.

This historic step needs to be welcomed with all fervour by consumers who will now no longer be helpless in knowing what banks are reporting about them to CIBIL.

I have already sent in my application to get a copy of my credit report.  I have taken great personal care to keep my credit standing immaculate but am awaiting with bated breath what my credit standing looks like as reported by the banks.

Watch this space for my comments on my own credit report.

Reverse mortgage is the loan given to senior citizens who posses a self-occupied property. As per the reverse mortgage the senior citizens (borrowers) can mortgage their house to the bank (lender). The bank in turn gives a lump sum amount or pays periodic installments to the borrower. This product enables the borrower to get a regular source of income while they continue to stay in their house.

In spite of being a very useful product for retirement planning it has not picked up in our country, the reason being as of last year the tax treatment on reverse mortgage was unclear. In the Union Budget 2008-2009, the Finance Minister P. Chidambaram explained the tax treatment on reverse mortgage.

As per Budget 2008-2009 the reverse mortgage will not amount to a transfer. This means that mortgaging of the property by the senior citizens to the bank will not be considered as transfer of an asset and therefore it will not attract any capital gains tax.

Secondly, the stream of revenue received by the senior citizen will not be income. This implies that the lump sum amount or the amount received in installments by the senior citizens for mortgaging the house to the lender is not taxed as income.

However in case the senior citizen or his/her legal heir (s) want to repay, the loan amount will not be eligible for tax deduction on the interest repaid and will have to pay capital gains tax on the sale of the property.

Reverse mortgage can prove to be very helpful for those senior citizens who do not have any source of income and do not plan to leave behind an estate for their legal heirs.

Mr. Patel retired after a very successful career in a private sector bank. He held his head high all through his career and now wants to do the same in future also. His only daughter Supriya got married to Anshul working with a leading American investment bank in Mumbai last year. Being the only child, the wedding was a very grand occasion. The entire cost of the wedding was around 40 lakhs which included his daughter’s jewelry, the car he gifted to Anshul, and other normal wedding expenses. He stays at Kandivali and the cost of his flat is around 60 lakhs.

Mr. Patel used up almost all his savings he had done till date in marrying Supriya off. Mrs. Patel, a house wife, also contributed around 6 lakhs that she had saved over the years. Now, the only money Mr. Patel has is around 5 lakhs in his bank fixed deposits and Rs. 10 lakhs in his PPF & EPF accounts. Added to this, he will get around Rs. 6 lakhs as gratuity from his company.

His worry now is how to arrange for his monthly expenses, somewhere between Rs. 25,000 to Rs. 30,000. He also wants to take his wife to Vaishno Devi and Haridwar - a promise he had made to his wife, to be kept once Supriya’s wedding was done.

The traditional option he would have had was to rent out his flat and move with his daughter or move into a smaller flat. Not any more.

Citizens such as Mr. Patel can now opt for a reverse mortgage. A reverse mortgage is where a senior citizen can mortgage his/her primary residence with a bank and receive the mortgage amount as periodic payments, be it monthly, quarterly, half-yearly, or yearly. So, Mr. Patel visited a few banks and found two options from most of the banks. In the first option, he would qualify for 90 per cent of the realizable value of his property at the end of his chosen tenure. This amount would be paid to him in monthly EMIs for the chosen tenure.

In the second option the loan amount would be 50 per cent of the present value of his property.

He went ahead and did a little calculation to find out which of these options would suit him better.

In the first option, he assumed the property rates to grow at rate of 8% per annum, which is the current risk-free rate. All other conditions remaining constant, he was getting an amount of Rs. 41,329. His calculations yielded only Rs. 38,686 on option 2. If he did the same calculation taking the rate of return on real estate at 12 per cent he got the EMI amount of Rs. 71,313, which is way above what he would get in Option 2. Choosing to go for the reverse mortgage helped Mr. Patel to live with his head held high for the rest of his life. With the amount of money he got from his gratuity, he took his wife on a pilgrimage of all dhams in India. He gifted all his fixed deposits to his daughter after the birth of her first child.

With the explosion of nuclear families in India, senior citizens are finding it increasingly difficult to finance their personal expenses. Old age is filled with problems that never seem to end. Elderly people find it difficult to meet their medical expenses within the usually small pool of investments that they have made. It becomes challenging for them to live their life with contentment

Though government employees do get their regular pension when they retire, it is no where near enough to meet their needs upon retirement. For self-employed and other salaried individuals the situation is worse, especially if they do not have any savings.

In India there is barely any financial assistance provided by the government for senior citizens who have retired and do not have any regular source of income. It was in this regard that the Union Budget 2007-08 introduced comprehensive guidelines for the concept of reverse mortgage.

Reverse mortgage is a scheme that provides mortgage loans to senior citizens above 60 years, who might not be eligible for any other type of loan. Senior citizens can mortgage their house property to a lender. The lender in return makes periodic payments to the borrower during his/her lifetime, up to a maximum period of 15 years. The borrowers can continue to stay in their mortgaged houses as long as they live. The borrowers are not obliged to repay the loan; the lender simply attaches the property if the borrower and his/her spouse pass away. Even if the borrower and his/her spouse were to outlive the tenure of the reverse mortgage, they can live in that house until their last days. They would just stop receiving the installments from the lender.

Reverse mortgages have a host of advantages, the main among them being that senior citizens have a viable income now to meet expenses. Since this is a secured mortgage instrument, the borrower does not require a regular source of income to be eligible for the loan.

The borrower can continue to stay in the mortgage house till he/she and spouse pass away or change residence, while receiving the periodic payments from the lender. While the property is hypothecated to the lender, the borrower will remain the owner of the property throughout the tenure of the loan. The reverse mortgage can be disbursed in regular installments or as lump sum.

However, the concept of reverse mortgage has not yet picked up in India, though it is very popular in the West. Since it is a new model there is a bit of confusion among the borrowers as well as lenders.
The tax treatment is not yet very clear as to whether the monthly payments accruing to the senior citizen after mortgaging the home should be treated as an income and hence taxed, or just be treated as a loan. There is also no clarity on whether the lender has to pay a property gains tax on the sale of the property.
Banks are finding it difficult to work out the interest component to be charged on reverse mortgage. Moreover, they insist on insurance cover for this product, but there aren’t any insurance products to back this concept.

The author is a Research Analyst at Apnaloan.com Services (P) Limited.