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Commentary

FinMin Pressures RBI to Prolong Housing Bubble?

In response to buyers not being able to afford property and thus not allowing builders to buy more Bentleys*, the Finance Ministry has asked RBI to consider making housing a part of the "infra" sector, which will help to increase price even more.

The finance ministry has asked the Reserve Bank to consider giving infrastructure status to the housing sector, and relax provisioning norms for it so banks can extend attractive loans to buyers.

RBI has mandated that banks set aside from their profits an amount equal to 1% of total standard assets in commercial real estate, which also includes housing projects. This means if a bank lends 100 towards a commercial real estate project, it will have to keep aside 1 to offset any loan to the sector turning bad. The provisioning rises to 15% of net investment in case of secured sub-standard asset.

A finance ministry official confirmed the government has asked RBI to look at all possible options to provide an impetus to the housing sector.

Here’s why I hate this concept. Real estate is not "infrastructure". If it was, then we would be giving infra status to the auto industry, the furniture industry, the TV industry and even the toothpaste industry. Housing is not infrastructure. Infrastructure is something on top of which other things can be run – roads are, since it provides access and thus businesses can be built around it. Ports are because they facilitate transfer of goods and passengers over the sea. An Airport is. (An individual airplane is not). A house is not, and therefore the housing sector is not.

Secondly, we have just seen massive housing bubbles burst in the west due to horrible policy actions of promoting housing over all other things. (We do too) Japan’s real estate market hasn’t recovered in twenty years, and neither has its economy. Don’t tell me India is different. It is not. It’s the same crap peddled with an Indian accent.

The impetus is simply because RBI has provided better lending and provisioning norms for infrastructure projects. Infra projects are an NPA only if they are delayed by over 2 years, while a delay of 6 months will cause them to be NPAs if they are not an infrastructure project. This will help banks that have provided loans to builders, whose projects are now seriously delayed, since the recognition of an NPA means that banks have to provision 15.00% (initially), up seriously from the current 0.25% to 1.00%.

Further, the infra sector enjoys relaxed ECB (external commercial borrowing) norms, lower initial provisioning, and some special clauses in takeout financing. But should we be giving an even higher status to real estate? The answer is no. Becuse they already have a high enough status.

In "Building affordable housing by curbing bubbles in real estate", I wrote about how we have mollycoddled this sector, pretty much at the cost of most other retail funding.

We allow large tax cuts for housing

I mean seriously large, compared to anything else, really.

1. You, as an individual taxpayer, get a deduction of Rs. 150,000 per year on interest paid, deducted from your income. If you think this is okay, consider that you don’t get to deduct on interest in any other expense (with the possible exception of educational loans). You can’t get a deduction in the interest paid for a car loan, a personal loan or even on the loan to pay the medical expenses of your family. Housing gets an elevated status.

2. You get to deduct even the principal (upto Rs. 100,000) in a combined format under section 80C.

3. Further, for a second house, you can deduct the FULL interest (without limit) from your salary or other income. In other business ventures you can deduct interest against income made from that venture, not against your salary or capital gains income. For housing, a second house’s interest cost can be deducted even from your salary income! What are we telling people? Don’t bother investing in a business, invest in real estate instead? That’s just encouraging a bubble.

4. Capital gains when selling houses can be avoided by just buying another house. You can’t do that with any other capital asset. Profit from gold? You can route that into a house and get a capital gains tax waiver; but you can’t do it the other way around. This

Home lending is further prioritized

RBI allows banks to allocate their capital based on what they lend to. So if they lend you money for a personal loan, they have to provision some money against it, and further, they have to put a "risk weight" on it. For housing loans below 25 lakhs, the weights are lower; in effect, giving housing loans a priority over others, and this results in lower lending rates.

Lending to real estate companies is now often disguised as loans to retail buyers, though back-to-back arrangements like "Builder pays your EMI" and "Upfront Loan" kinds of products. The idea here is that the builder gets the money you borrow, at a lower rate, and it doesn’t even get qualified as loans to them (which distorts the data on sector concentration for banks).

In this context, with so many incentives, is it sane to now classify the sector as an "infrastructure" sector? I say no, and I say let’s start penalizing it now. Because of this attitude:

Home sales across the country have dropped over the past year because of unrealistically high prices. The finance ministry has been trying to impress upon developers to reduce prices to improve sales. It has also advised banks to fund partially finished housing projects that are viable, if developers are willing to bring down prices.

But developers say bringing down prices would be difficult unless liquidity for projects improves and interest rates for housing projects are reduced.

Really? Prices will only move up if rates are reduced, sir. That’s the way of every market.

Can we not go down the same path that seems to have cannibalized western economies?

* I am kidding. I’m sure they have better use of the money than buying Bentleys. Like buying a helicopter.

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