For real estate sector year, 2019 has brought mixed bag of luck till now. Though it is too early to predict how the year will end for the sector, next few months seem to be very crucial for the sector.
Funding is still an issue
NBFCs (Non Banking Finance Companies) who are the largest lenders to the real estate sector have become extremely cautious about the sector. Most of the NBFCs are trying to bring down their real estate exposures as a percentage of their overall portfolios to improve their credit ratings and investor perception. Earlier there were many NBFCs who focused on real estate financing but they are now seriously considering to cut their exposure to the sector as they believe that real estate market is slower and that risks have increased post the liquidity crisis. Some of the NBFCs who started lending to the sector in recent years have completely shut down their real estate financing arms. (Read: https://www.sawdust.online/industry-trends-snapshot/liquidity-crunch-delays-realtors-efforts-to-get-back-on-growth-path/)
Going forward credit availability will become a significant constraint for weaker developers. The projects of developers with strong balance sheets will not only become the preferred options for real estate buyers, but these developers will likely also have an ability to enter into partnerships with weaker developers or to acquire the assets of the stressed developers.
The cash crunch in the system was triggered by a series of repayment defaults by IL&FS, resulting in mutual funds and other financial players virtually freezing investments in the Commercial Paper (CP) market, a key source of funding for NBFCs. According to one estimate, funding for nearly 15% of NBFC business is met through the CP market. For realtors, other channels to raise capital are private equity deals and public listing. While private funding has been available, a lot of capital has been attracted by the commercial segment. Also the downgrades by the credit rating agencies primarily arising in residential segment as against the commercial segment. However, it is also true that the number of companies in the commercial segment is significantly less than that in the residential segment.
Interim budget the saving grace
Though year 2019 has started on a bad note for most of the realtors there is a silver lining among the dark clouds, that is the interim budget. However, most of these proposals will be materialised only in the main budget which is at least five months away. Steps taken to increase flexibility on deployment of capital gains from property, increasing tax exemption period for unsold inventory and exemption from notional rent tax on second property are focused towards improving real estate investment demand.
Focus will be on affordable housing
The affordable/mid-income housing segment has been a saviour for the realtors in an otherwise dull market. After the introduction of RERA and GST in 2017, the developers have tweaked their product offering to include more affordable and mid-income housing projects as that is where the majority of demand lies. Further, the CLSS benefits coupled with lower effective GST rate of 8% for affordable housing projects has helped to attract buyers. An analysis of the sales between July 2017 and June 2018 shows that 55% of sales were from units that were priced at less than Rs 50 lakh across 8 tier I cities in India.
With the extension of the section 80-IBA benefit for affordable housing projects in the interim budget for another year till March 2020, it is expected that the developers would focus on launching more such projects in financial year 2020 to avail the tax benefits as well as drive volumes as this is where the majority of demand lies. For example, Oberoi Realty is planning to launch an affordable housing component in its Thane project possibly in the next financial year. Similarly, Sunteck Realty is expected to launch new phases of its Naigaon affordable housing project which saw a strong buyer response in the current financial year. Further, major South Indian developers such as Prestige Estates (affordable housing platform with HDFC Capital), Brigade Enterprises and Sobha Ltd have a strong pipeline of affordable/mid-income launches.
Tax on notional rent
Further, the interim Budget has extended the period of exemption from levy of tax on notional rent, on unsold inventories, from one year to two years, from the end of the year in which the project is completed. As per the existing tax provisions, a developer would require to pay a tax on the notional rent on an unsold apartment in case that apartment remains unsold even after 12 months in the Financial Year in which the Occupation Certificate (OC) for the project is received. Back of the envelope calculation reveals that a developer would have to pay 0.5-0.6% of the property value annually under this tax clause. As this clause was a recent introduction, there would have been negligible tax outgo till date on the same. Oberoi Realty’s completed Exquisite/Esquire projects in Goregaon in Mumbai, Sunteck Realty’s completed BKC projects in Mumbai and DLF’s completed inventory with OC in Crest/Camelias, Gurugram projects would now get 24 months from year of OC for tax exemption. Other developers have negligible inventory of this nature. It should be noted that completed projects invariably command a higher price as compared to under construction inventory and there is hardly any loss to the developer.
Despite several incentives provided in the interim budget it is believed that the demand momentum may not gain incremental strength immediately. However, steps announced in the budget may structurally restore the foundation for its revival only in the medium term.