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RISKY RETURNS

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madhusudan_sahooMany have fallen victims to the enticements of ‘assured returns’ schemes promising the heavens. To be safe, due diligence and proper homework on the developer and the project is a must

Lured by grand promises of stable returns, in 2008, retired government official Samir Sharma (name changed) decided to invest his hard-earned money in an “assured returns” (AR) scheme for an office space in an IT Park project in Greater Noida. Sharma, 73 now, lives with a woe-filled tale to tell.

Initially for two and a half years all went well as Sharma was paid returns at the rate of 12 per cent on the cost of the unit when all of a sudden and without warning, the money stopped coming in.

“When I sought to know the reason, the developer said the project was complete and he had taken a part completion certificate from the Greater Noida Development Authority. I was told that all the investors had been asked to take possession of their respective units,” said Sharma. The developer had also promised to get a lease agreement done for Sharma for renting out the property after it was complete.

MODUS OPERANDI
In AR schemes, commercial property is leased or rented out and buyers get regular income out of it.
Some developers also lease out the property with a lock-in period.
Under the scheme, developers offer interest of 10-12% and pay through post-dated cheques till possession.
By offering customers an assured return of 10-12%, developers reduce their cost of finance and get quick cash flow.

Sharma’s project was still under construction at that time, even today, after five years, its condition is unfit to be leased out for any commercial use. AR in realty parlance is the scheme that solicits investors to put their money in projects — mostly commercial — and often when the project doesn’t sell well. In a nutshell, developers use the investors to finance the projects as the developers have to shell out much less to the investors compared to what banks would demand. Usually the rates of return vary from 11to 40 per cent.

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Another feature of such schemes is that mostly retired professionals and senior citizens, who want a regular inflow of easy money, buy into these projects, often ending up as prey to unscrupulous developers. Sharma is not a lone example. There are many investors like him who have been conned by dodgy developers in the name of AR.

Said a NCR-based broker: “Desperate developers use desperate means to make money. One of them had a scheme in which consumers were told to buy any part of the project — a studio space, the front office area and even a fountain in the common area! Investors were told they would be paid AR at 12 per cent of the costs till the project was ready. It was really strange.”

Experts place such schemes in the class of very high-risk and high-return category of assets where the buyer or investor gives away almost 90 per cent of the cost of the space to the developer at the time of the purchase.

“The developer, who gets most of his cost required for the construction, is then in a position to provide monthly ARs in the form of cheques. The rate of returns ranges from 10-12 per cent,” said Sachin Sandhir, managing director, RICS South Asia.

With real estate prices rapidly going up all across the country, sales of commercial properties have shown a slump for the last couple of years and the asset class is facing a tough time in attracting investments. Data from Kotak Securities Ltd, a brokerage house, shows that absorption levels in projects have deteriorated and there is an increase in inventory across prime real estate markets.

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In a bid to prop up sales, developers in Delhi-NCR and other parts of the country are now trying every trick in the book to lure commercial real estate buyers. At least 20  developers in Delhi-NCR have resorted to this new way of raising funds for commercial properties in name of AR. Major developers like Cosmic Group, Vardhaman, Omaxe, Imperia, Airwill and others are among the real estate companies who offer such schemes with approximately 12 per cent AR in commercial projects.

WHAT EXPERTS SAY

sachin_sanjayThe developer, who gets most of his cost required for the construction, is then in a position to provide monthly assured returns in the form of cheques. The rate of returns ranges between 10-12%
Sachin Sandhir, MD, RICS South Asia

TRAMESH NAIR, COO – BUSINESS, JLLhere is no such mandatory rule for reating an escrow account. However, this has been discussed in the proposed real estate regulatory bill.
Ramesh Nair, MD (West), JLL

Ghulam_zia_knightfrankThis is a measure taken in desperation in order to raise cheap money from investors and buyers as well. If the same developer looks for a financing option from banks, he would get the money at a high cost at a rate of 14-15%. Thus for him, getting money at 10-12% means cheaper financing.
Gulam Zia, National Director (Research & Advisory Services), Knight Frank India

ATTACHED RISKS

The risk here is that in case of a delay in the project on account of the rising interest rates, inflation or an unexpected economic slump, the investment can turn sour — the developer might not be in a position to provide the agreed AR after a certain number of years.

Another danger is lack of regulation. According to capital markets regulator, Securities and Exchange Board of India (SEBI) and banking regulator Reserve Bank of India (RBI), such schemes are not under their regulatory jurisdictions.

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“At present, there is no regulation in the country which governs matters relating to the AR schemes. SEBI too, does not regulate real estate projects but has regulatory oversight over the collective investment schemes around real estate transactions”, adds Sandhir.

Industry observation is that banks are not ready to give loans for (construction of) commercial properties as there is an over-supply of such properties. If at all some banks agree to grant a loan for such properties, they charge the developer 18-19 per cent interest rate — plus the developer has to keep something with the banks as security. On the other hand, retail consumers are giving upfront down-payment on being promised returns starting from 12 per cent.

Experts as well as bankers feel that consumers are paying into non-secure schemes. If there is some default from the developers’ side, what is the recourse for investors in these schemes?

“We do not comment on the developers’ scheme in particular as our central bank does not govern their activities in such schemes. We provide loans to those by scrutinising their asset book and charge them corporate interest rate as per our banking norms. But their ‘assured return’ phenomenon is their prerogative, not of any bank,” said a chairman and managing director of a public sector bank.

HOW DO ASSURED RETURNS SCHEMES WORK?
You buy a property outright even when the completion of the construction is two or three years away, with either your own funds or a loan from a bank. Supposing you pay `1 crore for a flat. During the construction period, you get `1 lakh a month (12% per annum on `1 crore) through post-dated cheques the builder issues to you. Once you get the possession of the flat, you can either exit the project or continue with the agreement, but the terms could change as the property will be leased out to a tenant and the developer may share the rent with you. There is no lock-in period for the agreement; it is usually for the next two, three, five or 10 years after possession.

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FROM WHERE ARE DEVELOPERS GIVING A 12% RETURN?
Generally, developers use ‘assured return’ schemes in most of commercial projects. As far residential projects are concerned, the yield from residential housing is usually in the band of 2-6%. That means the annual rent as a percentage of the capital value is about 4%. A `1-crore property should get you an annual rental of about `4 lakh a year or `33,000 a month. So how is it that the builder is offering you a return that is three times the rental? Obviously, a thought-provoking question needs convincing answer.

However, Gulam Zia, national director (research and advisory services), Knight Frank India, a property consultant firm, said: “This is a measure taken in desperation in order to raise cheap money from investors and buyers as well. If the same developer looks for a financing option from banks, he would get the  money at a high cost (at a rate of 14-15 per cent). Thus for him, getting money for 10-12 per cent means cheaper financing.”

On the other hand, many believe that an escrow account can be used in the sale of a house, for example. If there are conditions to the sale, such as the passing of an inspection, the buyer and seller may agree to use escrow. In this case, the buyer of the property will deposit the payment amount for the house in an escrow account held by a third party. This assures the seller — in the process of allowing the house to be inspected — that the buyer is capable of making the payment. Once all of the conditions to the sale are satisfied, the escrow transfers the payment to the seller, and title is transferred to the buyer.

But Ramesh Nair, managing director (west), Jones Lang LaSalle India, an international property consultant firm, disagreed. Says Nair: “There is no such mandatory rule for creating an escrow account. However, this has been discussed in the proposed real estate regulatory bill.”

Developers are also happy with what they offer in such schemes. For instance, realty major Cosmic Group at its Hill-Project ‘La Gracia City of Romance’ is offering an attractive AR scheme for all customers. However, certain developers are offering different AR variants. For example, Shri Infratech at its project ‘Vedic City’ in Greater Noida is offering as high as 40 per cent with a buy-back scheme which comprises of 2-year lock-in period in the pre-launch phase.

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“We come out with schemes on different occasions which might range from free gifts to some other attractive offers and discounts etc. Any scheme whether free gifts or assured schemes are to lure more customers. A buyer looking for a house gets more benefits which are good for him and the developer receives good demand. So it’s a win-win situation for all,” said Sushant Muttreja, managing director, Cosmic Group.

Denying offers of ‘buy-back’ as AR schemes, Manoj Dwivedi, chairman and managing director of Shri Infratech said: “As our projects are targeted at end-users largely, we are not offering AR scheme on any of our projects though each of our projects hold out the promise of better returns than these schemes.”

Lastly, at a time when equity is volatile and high inflation is reducing the real return on deposits, the offer of a 12 per cent return on a long-term appreciating asset like real estate sounds too good to pass up. But at the same time, there is an imperative need of due  diligence so that the customer is not caught on the wrong foot.

WHAT DEVELOPERS SAY

sushant_mutterejaWe come out with schemes on different occasions which might range from free gifts to some other attractive offers and discounts etc. Any scheme whether free gifts or assured schemes are to lure more customers. A buyer looking for a house gets more benefits which are good for him and the developer receives good demand. So it’s a win-win situation for all.
Sushant Muttreja, MD, Cosmic Group

Prithvi-Raj-Kasan,-MD,-Morpheus-Group1Bouncing a cheque is an illegal offence which is punishable under court of law and any reputed developer or company will not get into such petty things. One cannot compromise his credibility  and trust for a small payment. Such schemes are basically a developer’s offer to lure his customers.  Though, we haven’t witnessed  banks encouraging such schemes. But buyers do get extra benefit. To make sure the investment is safe, one  must conduct a due-diligence  and take a lawyer’s help, if required before investing his hard earned money.
Prithvi Raj Kasana, MD, Morpheus Group.

MANOJ-DWIVEDI,-CMD,-Shri-InfratechAs our projects are targeted at end-users largely, we are not offering assured return scheme on any of our projects though each of our projects hold out the promise of better returns than these schemes.
Manoj Dwivedi, CMD, Shri Infratech.

Neeraj Gulati, MD, Assotech RealtyYes, we do have assured return (AR) schemes for our project on the Noida Expressway. The AR is granted till possession of the project and after that is taking first lease guarantee for 3 years. This scheme, is a benefit for the customers because they get regular returns on their investment and after the possession; the company takes the responsibility for the first lease.
Neeraj Gulati, MD, Assotech Realty

Deepak KapoorAs a developer we do not believe in such schemes. A developer should be known for his quality construction, timely delivery and customer satisfaction. On the cheque issue, due diligence about the project and the company is very important before investing in a property. And then for any AR every process should be documented. Once documented, one can be assured because no developer would deliberately cheat customers and bring bad name and reduce his credibility.
Deepak Kapoor, Director, Gulshan Homz

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