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Bangalore Real Estate: Yet Another Buy vs. Rent Data Point

May 29th, 2007 | Tag(s): | Popularity: 9% [?] |

I continue to troll the housing section of Bangalore Craigslist for more real estate ‘buy vs. rent’ data points, such as this one:

Bangalore Apartment: Buy or Rent?

Rent: Rs 14000 per month (including maintenance)

Buy: Rs 53 lakhs + registration (say ~10%)

Assume we fully finance this with a loan of Rs 58 lakhs, with a fixed interest rate of 13% over a tenure of 20 years. Per HDFC’s EMI calculator, the monthly installment works out to Rs 68,000.

The EMI/Rent ratio is 4.9; conversely the Price/Rent ratio (think of it as analogous to the P/E ratio for stocks) is Purchase Price / Annual rent = Rs 58 lakhs / Rs 1.68 lakhs ~ 35.

Yet another metric would be the rental yield: If you buy it today for Rs 58 lakhs and immediately rent it out at Rs 14,000 per month, your annual rental yield will be less than 3%! As a buyer, you better pray for some serious price appreciation.

Any takers?

13 comments:

  1. Nik [May 29th, 2007]:

    Probably the 2K/month of maintenance should not be considered as part of yield as it is a straight out of pocket expenditure which needs to be incurred even if the unit is not rented. That makes EMI/rent 5.7 and PE 40.

  2. Kaushik [May 29th, 2007]:

    Nik: Agreed. I wanted even a conservative estimate to show that renting is better than buying. I haven’t even included annual property taxes, one-time utility expenses, etc. in the “buy” scenario.

  3. Hasit [May 29th, 2007]:

    Kaushik,

    I do not know much about your subject of finance. But as a serial renter, I can tell you that the “real” cost of renting should include brokerage fee, cost of moving each year or so, some quantification of effort (basically time) to settle down in a new place, etc. Also, to compare like to like, the renting equation has to include annual rent increase over the same term as the loan tenure, loss of purchasing capacity with increasing age (subjective, I know), etc. Stocks don’t have any of these parameters associated with them except for a nominal brokerage fee. So the ratios while are interesting analogy but renting is tough in real life except for few years.

    :-) Hasit

  4. Nagarajan [May 29th, 2007]:

    I agree if one has commitments like kids etc, then moving will be more trouble. There is also other factors like social pressure etc.. If you intent to stay in one place for long then buying might make sense.

    Purely as an investment/speculation, it does not make sense NOW. Many of the points discussed at patrick.net are applicable to India too.

    The only positive for Indian RE industry is the rampant use of Black money, which might make it a better “investment” over time

    IMHO economics of Buy vs Rent and emotions should not be mixed.

  5. Kaushik [May 30th, 2007]:

    Hasit: You can find rentals w/o brokers (I have managed to do so twice in the last two years.) Also, you might end up paying a broker for purchasing an apartment as well; that is usually 1% to 2% of the purchase price, and will probably cover rental brokerage for 2-3 times.

    On rent increases, moving costs - note that a buyer too faces depreciation, property taxes, general upkeep, etc.

    As for the intangible factors like time to settle down, etc - I agree with Nagarajan that economics & emotions should be kept apart.

    Once you accept that your real estate investment and the place you physically live in need not be the same, life becomes easier!

  6. ramakant [June 1st, 2007]:

    Lets face it, there are rich software engineers in bangalore. Most(yes most, not all) have lots of money and little financial sense. So once they return from the overseas trip after living in the smelly cramped studio “apartment” with 10 other “software engineers” the first thing they want to do is buy a house, regardless of weather they need it or not. It is a psychological need, not a “REAL” one. They have the money and they are going to sink it in housing, since that is the only “no-brainer” option. Forget about broken floor tiles, water seepage on the walls, the inconvenience of living in an apartment on airport road with all the pollution, forget about the hair loss. Its all about money and circumstances. They had to stay in a cramped house in the US/UK/wherever and now they need to buy a big house to make up for that.

  7. Kaushik [June 1st, 2007]:

    Ramakant: Now that’s a novel take! Having lived in one of those cramped apartments myself, I can see your point :-)

  8. amit [June 1st, 2007]:

    Another important aspect in the EMI/Rent ratio is the tax impact. You get nearly 90% of rent paid as a deduction from your taxable income. Plus rent in hands of the landlord is taxed, so his net of tax yield is much worse.

  9. Jonas Britto [June 13th, 2007]:

    Ramakant ! way to go man… Awesome comment!! me, s/w engr too.. have lived wid 4 ppl once..hated it.. earned a lot.. blew up a lot of money.. not so rich nymore.. but lemme tell u.. housin in blore for me and my ‘rich’ friends is NOT CHEAP!! rent works out better :)

  10. Puneet [May 8th, 2008]:

    Your point is taken in the sence of the idea, however the calculations could be termed absolutely misleading.

    Your 3% figure is all good as far as the yield is concerned but that is only the dividend yield.

    Considering a 15% annual growth rate in property prices which is fairly realistic and a similar rate on increase in the rentals which again is realistic and im sure you argee with me and assuming a cost of capital of additional 12% that is his loan rate the investment in the flat gives the owner a net present value of 44 lacs for a 20 year period if he buys it on cash. Pleasde note this is without tax computations. The capital gain would be subject to indexed LTCG and rental earnings would be subject to normal IT depending on his tax bracket. The rate of return this ivestment fetches him or the yield would be 13% after discounting, so that factors in the notional discount cost.

    For further detail you could google IRR or Internal Rate of Return.

    This should solve the mystery as to why property is being invested in so rampantly.

    PS historical growth in property prices and rentals in india is over 15%.

    Regards

  11. Puneet [May 8th, 2008]:

    PS for guys who are renting the place tax wise there is a definate benefit however long term that is if you consider a 20 year period which you should considering that you are taking a loan for that period buying is a better deal….. subject to your income ofcourse.

  12. Kaushik [May 10th, 2008]:

    Puneet,
    Perhaps you could share the data sources which indicate that property prices in India have grown at 15% p.a. over the long term.

    Thanks,
    Kaushik

  13. Puneet [May 23rd, 2008]:

    Crisil Research: Unfortunately its a paid report and I cant forward it to anyone or upload it online. If any of you do have access to Crisil though you could check the various Housing Affordability reports they have.

    Regards

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