The landmark move by the Modi government to demonetise high value currency notes to stamp out black money, will have a far reaching impact on capital- intensive real estate sector where almost one third of transactions still involve unaccounted money.Though initially in the short term, the bold move of the government will hit the sentiment of the real estate market, already reeling under recession, yet in the medium to long- term, the sector will reap the benefits of the greater transparency ushered in by government's strike against black money.
In the last couple of years, the government has initiated a number of key reforms in the real estate sector like Real Estate Regulation Act (RERA), GST, REITs, Benami Transactions (Prohibition)Amedment Act,2016, besides reforms related to FDI to bring in transparency. In view of the ongoing reforms,foreign investors are already betting big on real estate.In a recent development, global private equity player,Xander, has formed a joint venture with Dutch Pension Fund Manager, APG Asset Management to deploy $ 1b in real estate in India. Much to the relief of cash- strapped and debt- ridden developers,going forward, institutional financing will also come with lesser risk weightage.
As the real estate sector has significant consumption of black money, the impact of government's crackdown on black money will be much more. There is a cash component of 20- 30 percent in property transactions, largely due to difference between collectorate rate and market rate of property. This is even higher in land transactions and property transactions in smaller cities. At the initial stage of the real estate project, land purchase,has highest component (40 percent or more) of unaccounted money. Also, the payments by investors who invest at the pre- launch or early launch stage,have a considerable cash component.The cash is also involved in building material purchase and payments made to construction workers. The secondary market transactions essentially involve cash payout. In the primary market, however, the cash involvement is more or less not there especially in residential real estate as home purchases are financed through mortgage. In affordable homes, the ticket size is too small to involve cash payments.But in high end housing, cash component is sigificant. It is also seen that in primary sales, developers offer price discount ,if some part of property value is paid in cash.
Now,that the government has come down heavily on black money, the cash component in property transactions will go down. This will result in drop in land prices and land deals seeing a substantial dip. Developers are already avoiding out right purchase of land for their new projects and instead they are going in for joint development agreements with land owners . They are also finding it difficult to monetize their land bank to cut down debt obligations. The debt-ridden developers ,in the short term will face cash flow issues.And in view of high inventory and cash crunch, they may well have to resort to price cutting to push up sales, much to the delight of property buyers. Speculative and inflated pricing will take a beating in secondary or pre-owned properties, especially in markets which thrive on speculative investments.This will benefit home buyers as interest rates have already come down by 1.5 percentage points in the last about one and a half years. And going forward, with improved liquidity of banks following currency demonetisation, interest rates are expected to further come down, making homes more affordable.This will boost up home sales which have seen 15 percent hike in Q2 FY17, across top 8 cities. And going forward, as RERA becomes operational and home buyers get protection of their investment, sales will further pick up,especially, the affordable segment, much to the benefit of government's mission of Housing for All.
It is not just top cities, even the tier 2 and 3 cities where the government is focusing on 'Housing for All' and Smart City projects, are expected to gain Of late many big organised players with corporate governance, have been entering these cities. Some of these cities which offer good job opportunities, especially in IT and have good physical and social infrastructure, are already on the radar of domestic and global funds.The demonetisation move will further boost investors confidence in the long run.And since corruption and approvals bottlenecks are major factors responsible for price inflation, ,demonetisation, coupled with government's next big reform move to introduce single- window clearance system, will make property affordable for masses. And not withstanding initial setbacks, as the sector reorganises itself, real estate will be transformed into more efficient , evolved, corporatised,fair and transparent asset class, well on its way to a long- term sustainable growth path.