12

Real Estate
Learning Outcomes
Afer studying this chapter, you should be able to
> Real
understand:
estate and its types,
> Explain the real estate planning,
> Understand the advantage and
disadvantage of real estate investment.

121 Introduction
Historically, real estate has been a widely used investment medium for income and capital gains. Many
people have an investment in real estate, in a sense, in that they own their house, or their
Ur cooperative apartments. Many people also own a second or vacation home. Otherscondominiums,
own income
producing properties or REIT's as an investment. A few have larger real estate interests of various kinds.
nvesting in real estate can means dozens of different things. We can invest in real estate while buying
Property and also without buying property. Real estate investment help to diversify your existing
nvestment portfolio and be an additional income stream. The main problem is that many investor don't
AoW where or how to invest in real estate. In this chapter we are discussing about the ways ofinvestment
Mreal estate ranging from low maintenance to high.

122 Real Estate Definition

Overs residential housing, commercial offices, trading spaces such as theatres, hotels and restaurants,
Du Outlets, industrial buildings such as factories and government buildings. Real estate involves the
hase, sale, and development of land, residential and non-residential buildings.
 150 || Personal Finance and Planning

Real estate is sproperty made up of land and the buildings on it, as well as the natural
re
the land including uncultivated flora and fauna, farmed crops and livestock, water, and anysources
additi
mineral deposits. Real estate is real property that consists of land and improvements, which ind
o

buildings, fixtures, roads, structures, and utility systems. Property rights give a title of ownership to
land, improvements, and natural resources such as nminerals, plants, animals, water, etc.

12.3 Types of Redl Estate

There are several types of real estate, each with a unique purpose and utility. The main categories are:
1. Land
2. Residential
3. Commercial
4. Industrial
For anyone looking to understand how the industry works and what each of the major categories
represents, the explanations below will be ahelpful guide.
1. Land
Land is the baseline for all types of real property. Land typically refers to undeveloped property
and
vacant land. Developers acquire land and combine it with other properties (called assembly) and rezone
it so they can increase the density and increase the value of the property.
2. Residential
Residential real estate consists of housing for individuals, families, or groups of people. This is the most
common type of estate and is the asset class that most people are familiar with. Within residential,
there are single-family homes, apartments, condominiums, townhouses, and other types of living
arrangements.
3. Commercial
Commercial property refers to land and buildings that are used by businesses to carry out their operations.
Examples include shopping malls, individual stores, office buildings, parking lots, medical centers, and
hotels.

4. Industrial
Industrial real estate refers to land and buildings that are used by industrial businesses for activities such
as factories, mechanical productions, research and development, construction, transportation, logistics,
and warehousing.

Examples of Real Estate

Now that we've outlined the four main categories, let's explore some specific examples of diferent types
of real property.
Single-family dwelling: Any home designed for only one family.
 Real Estate || 151

. Multi-family dwelling: Any group of homes designed for more than one family.
Atached: Any unit that's connected to another (not freestanding).
are
Apartment: An individual unit in a multi-unit building. The boundaries of the apartment
apartment
generally defined bya perimeter of locked or lockable doors. Often seen in multi-story
buildings.
Multi-family house: Often seen in multi-story detached buildings, where each floor is a separate
apartment or unit.
people.
. Condominium (Condo): Abuilding with individual units owned by individual stereotypical
Detached house: A free-standing building not connecting to anything else
"home").
truck.
. Portable house: Houses that can be moved on a flatbed
. Mobile home: A vehicle on wheels that has a permanent
residence attached to it.
. Villa: Abuilding with only one room and typically asteep pointy roof.
materials such as bamboo, mud, and clay.
. Hut: A dwelling typically made of raw

Investing in Real Estate without Buying Property

too expensive of an investment for you, it's not only way you can add real estate to
If buying property is some
portfolio. There are plenty of ways to havea stake in the real-estate game. Here are
your investment
having to buy any property.
ways you can invest in real estate without actually is a
Invest in Real Estate Investment Trusts (REITS): A REIT, or real estate investment trust,
1,
produces income. REITs invest the majority
company that either owns or finances real estate that
majority of their income. There are
of theirmoney into real estate, and it's how they make the
Most REITs are equity REITS,
REITs that focus on both residential and commercial property. most important for you, the
but some trade in mortgages instead of actual properties. Perhaps
is via dividends to the shareholders.
investor, is that at least 90% of the taxable income it pays
REITS is the next best alternative of investing in real estate sector. But again, there is only one
REIT currently launched India (Embassy REIT). Once the REIT market matures slightly
in this sector.
more in India, this will be one of the best ways to invest
somewhat from REITS. Whereas a
2. Real Estate Mutual Funds: Real estate mutual funds differ
together and overseen
REIT is an actual company, mutual funds are simply investments pooled
an investment manager. As a diversified asset, they are designed with the intention of
mitigating risk, but they are still vulnerable to the risks inherent in real estate. If a real estate
related risk negatively affects one of the investments in the fund, it's likely to impact a lot of
others too. There is only one real estate fund in India. This scheme is launched by Aditya Birla
Sun Life. It comes under Fund of Funds" category. They mainly invest in real estate sector
acros the globe. 95% of this fund's portfolio constituent is taken by ING Global Real Estate
Fund. Currently there are no real estate ETFs in India.
152 || Personal Pinance and Planning

eitat.
3. Shares of Real Estate Companles: This is also a decent alternative of investing in real
sector. Buying shares of these companies at discounted price levels can be considered. The
are plenty of companles that work primarily in the world of real estate that you can invest in
Companies involved in real estate that don't involve actually buying property can be a way t
not only diversify your portfolio, but get a good sense of the current real estate market. DIE
Godrej properties, Sobha Limnited, Omaxe are some of the companies working in real estale
field.

12.4 Reason for Investment in Real Estate

People invest in real estate directly. They own multiple residential or commercial properties. Steady and
decent capital appreciation of their real estate property is common. But the part which makes propertyis
investment so dear is its capability of generating stable short term income. The short term income
generated in form of "monthly rents." The rate at which the rental income grows, generally beats inflation
in long term. This is specially true for Metro, T'ierl, and Tier 2 Cities. As the monthly yield of property
grows, this also pushes the overall property price up.

Why Real Estate

Rent grows at par
Is Likeable? without inflation

Rent

Returns
Value appreciates
Are Assured with rise in demand

Appreciaton

Growth

Assured return
grows further

Flgure 12.1

and capita
Real estate investment generates assured returns. The returns are in form of rent
appreciation. The rental yield (fixed income) grows with time. Generally this growth keeps pace win
the inflation. Capital appreciation will happen due to demand growth. India being young
a growing and makes
population, demand for property keeps rising. This dual effect (of assured rent and value growth)
the real estate sector generate unparalleled returns, unlike any other asset. Property investment is one o
the best inflation hedge.
 Real Estate || 153

195 Redl Estate Financial Planning

inga dream house is every Indian's most important financial decision and any such real estate planning
BUyct the financial well being of the individual, Real Estate decisions may be the best or the worst
nial decision of an individual. Planning makes perfect and therefore perfect Real Estate Financial
nning ensures that you smoothly build your dream house out of your legitimate income without
npromising on your lifestyle. Real Estate planning may be dificult taking into account inflation and
er financial goals like retirement planning, children's education etc. but judicious planning will help
ou achieve your goal.

Various Aspects of Real Estate Planning

1. Buying or building a dream home may be an emotional decision but real estate financial
planning has to be a ration decision.
2. Your Loan EMI should not be 35% of your financial income.
3. You can build your dream home without burning hole in the market.
4. Instead of carrying the EMI load, meticulous planning and planned approach should be the
correct approach to turn your dream into reality.
5. Pay yourself first! You should be able to save something for your future before you spend.
Income minus savings equal to expenses should be your thumb rule.
6. You should be able to save 10 to 35% of your post tax income, depending on your age.
7. Don't compromise with the Emergency Fund as well as Life Cover!
Your EMI obligations should be not more than 50% of your monthly
income.
8.
best deals.
9. Keep your Credit Score 750+ for the
to create fund for your dream
10, Follow the diversification Strategy via the Mutual Fund route
house.
cannot be avoided
House is a basic necessity and therefore

12.6 Advantoge of Investing in Real Estate at a price low enough to

There can be a maior advantage to investing in real estate if you find propertyintend to flip. Flipping can
Tesult in a signifcant profit. For example, some investors buy real estate they
of foreclosure or needs
result in huge profts for investors. The property may be in foreclosure, in dangerrepair or update it, and
value,
litle or no repair. You may purchase the property tor much less than itsin this
extreme caution kind of ventue
Tesell or fip it at a much higher selling price. Exercise
It is not wrong to expect high returns from real estate property in long term. As other investments,
even real estate has its own control points. 1he investment logic that applies to real estate is simple. Buy
aproperty which vields reasonable returns. iow to ensure that the real estate property will yield good
invested
returns? Identifving good properties Is a keyn real estate investment. If side, properly, real estate
investment can provide maximum returns win minimum risk. But on flip bad real estate can reallv
eat away money.
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It is essential for investor to be aware of both advantages and disadvantages of real estate investment
People generally put their money in real estate to buy homes for their self occupation. In this case the
risks are low as selling-pressure for profit booking is minimum. But for investors who buy real estale
properties to make profits, needs to take care.
For such investors it is essential to know the pros and cons of investing in real estate sector.
Allows Diversification of Asset
The first benefit that real estate provides is diversitfication of asset.Cirowth in value of real estate portfolio
bears litle relationship with other asset classes. It is common to find that, when stock market is doing
bad then real estate will perform well. In a situation where an economic boom is at its end, real estale
property would still yield good returns.

InstantaneoUs Dual Income

Like stocks, real estate also provides possibility of dual income. Stocks provides short term income
in form of dividend. Real estate provides rental income in short term. But the predictability of rental
income is far more established than dividend income. In long term, both stocks and real estate provides
capital appreciation. Stock can provide faster appreciation. Real estate provides slower but steadier
capital appreciation in long term.

Great Inflation Hedge

A combination of rental income and value appreciation certainly beats inflation. There is not other
investment which can beat inflation as consistently as real estate property. Actually it is not fair to
consider real estate as only inflation hedge. If invested properly, returns from real estate property
outsmarts inflation by miles.

Saves Income Tax

If investment is real estate is made availing home loan, then tax benefits can be claimed.
For first house which is self occupied, following tax benefits are applicable:
. Deduction U/S 80C (principal component-Max 1.5 lakhs).
. Interest paid against home loan is eligible for tax deduction U/S 24 (Max 2.0 Lakhs).
For second house, benefit U/S 80C is not available. But complete interest component is eligible for
tax deduction. If interest component is 3.0 lakhs, then complete 3.0 lakhs is eligible for deduction u/s 24.
But the second property will be considered as "deemed rented out".
Provides Leverage
With the purchase of real estate, an investor attains financial leverage. The real estate owner can borroW
money- whether a second mortgage, home equity loan or personal loan using the real property as
collateral. It also takes a smaller proportionate outlay to purchase real estate than other investments. 1he
home buyer has to put down only afraction of the purchase price, such as 20 percent, as adown payment.
 Real Estate || 155

PotentialProfis
laronerty is quite expensive and therefore, when the investor re-sells the property, there is great
ential for prot. Since real estate values typically increase with inflation, property investments can
e as ahedge against intlation. In addition to being able to sell real estate, investors can make money
ting it. Landlords typically get a steady net income from their rental property. Depending on the
nraphical location the property is located in, the earnings can be quite significant. For example, urban
centres or towns with colleges and universities tend to offer the highest income streams because the
ndfor rental units is always high. Here is asimple formula used in real estate as a rough rule of
thumb for comparing the operating yields on different investment properties:
Operating rate of return =Net operating income from property before interest and depreciation/
Purchase price for property

127 Disadvantage of Investing in Real Estate

Captal Gain Tax is Applicable
On sale of property at higher price capital gain tax is applicable. When property is sold within 3 years of
purchase short term capital gain tax will be applicable as per ones income slab. But when property is sold
after 3years of purchase, long term capital gain tax of flat 20% is applicable (after indexation).

High Cost
The biggest disadvantages of real estate investment is high capital requirement. Because of high capitalto
requirement, buying and selling of property is laborious. This is one reason why so many people resort
loans to buy real estate property. These almost every alternate service class people dwell under the load
of home loan. Living under loan for 1/3rd of your life often becomes a curse.
Hence, price of real
And why this is happening? Because everyone wants to buy a home for self.
estate property is extremely expensive.
High Cost of Maintenance
of the
Real estate also involves high management costs as compared to other investments. The owner
property not only has to maintain the internals of the property but must also pay the maintenance
charges payable to the society. This makes a real estate property more costly.
Real Estote Hos Low Liquidity
Many investrments are highly liquid, and can be bought and sold for a profit in a fraction of a second,
asproperties
with high-frequency stock trading, But real estate investments are comparably illiquid, because
can't be quickly and easily sold without a substantial loss in value.
Real estate investors must be prepared to own a property for months and years, especially if it will
be leased out.
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Real Estate Hos Higher Transaction Costs

When purchasing shares of a stock, the transaction cost for the trade is very low, often just a few dolar.
But when purchasing real estate, the transaction costs are considerably higher.
Unlike other types of investments, real estate transaction costs can significantly affect the valje
the investment and make it more difficult to turn a profit.

Property Taxes
Before investing in real estate, the investor should always factor property taxes into their valuation of the
property. In larger urban cities, property taxes can be significant and may cause the investor to lose abiy
chunk of their profit. Property taxes will vary depending on which city or state the property is purchaed
in. Therefore, the investor should always consult before investing in property.

Other Disadvantages of Redl Estate Investment

" Real estate property is very illiquid. Alarge sum of money gets locked which is not so easy to
redeem.
To keep earning rental income, it is not so easy to find suitable tenants time an again.
" When market condition is not so good, market price of real estate property may also go down
(temporarily).

12.8 Tax Implication of Investing in Redl Estate

One of the most important factor which a person should consider before investing in a property is the
Efect of Tax on your Capital Gains. Before you buy a property, it is important to understand the tax
implications. With property tax rules being made stringent by authorities by makingcollection ofproperty
tax mandatory in both authorised and unauthorised colonies in a number of cities, understanding tax
has become all the moreimportant.
Tax Savings on Rental Acommodation
From tax perspective, renting out your house can be the most beneficial method that can save money.
One gets interest for the HRA deductions and the overall tax liability is reduced. There is no limitation
on the amount of interest one gets from the HRA deductions for the rented house However, if one owns
aproperty, the limit for which you can avail the deductions if R2 lakh annually.

Tox Savings on Gifting aProperty

Gifting a property is an exempted category in tax implications. There are no tax liabilities if you are
gifting aproperty to a blood relative. One has to ensure that this transaction is done by signing the
gift deed, which is stamped and registered with the stamp authority. This will make the selling proces
appropriate from the legal aspect.
 Real Estate || 157

Tox Savings on Loan

Ifa person is taking a home improvement loan, the overall deductions that can be claimed is 22 lakh per
nnum. One has to be very sure about the docunments that are presented to the officer in the scrutiny
arocess in the last stages of the loan approval. It must have all theexpenses enlisted properly, failing
which, may cancel the approval also.
From tax perspective, pre paying home loan gives you no real benefit. In case one has an accumulated
amount of money, investing in bonds can give you better returns than pre paying your loan. Retaining
your home loan helps you in getting interest deductions. By pre paying the loan, one would end up
paying taxes at higher rates. Therefore, there has to be a balance while you compute the value of your
money.

Tax on Capital Gain

When a consumer is buying a house for self-use or as an investor, all the homebuyers willgainsclassify their
becomes
house as capital asset. Once the capital asset is sold off, the characterization of capital
automatic and capital gains can be declasified in two categories.
ot exceeds 24 months to
Any property being land or building or both, the period of holding should than 36 months (wef
qualify as short term capital asset. Any property which is held for a period of more
so derived is called Long Term Capital
A.y 2018-19 it is 24 months) and then sold for a profit, the proftboth
Gain. There are different rates of tax for both the categories and are computed differently.

Review Questions
1. Defne real estate financial planning? What are the various aspect of real estate planning?
2. How can we invest in real estate without buying the property?
3. What are the tax implication of investing in real estate?
4. What are the reason why the people attract toward real estate investment?

DO