Does underwriting lead to artificial shortage of housing stock, creating pseudo demand and pushing up prices?
Can a developer sell 800 apartments of a group housing project in just three days, especially when the realty market is sluggish and faces an oversupply of housing stock? Seems highly improbable yet underwriters are making this possible and, in the bargain, putting homebuyers at a disadvantage.
Take this case of a developer who claimed to have sold 90% of his inventory within a few weeks of the launch of his real estate project in Noida. Then he increased the basic price of the remaining stock by 10%. At the same time, a property brokerage firm issued newspaper advertisements announcing the sale of housing units in the same project - with a 5% discount on the basic price. Not only that, the underwriter promised more facilities and amenities than what the project offered.
Realty experts strongly advocate a thorough scrutiny of the the builder-underwriter nexus and their marketing gimmicks which more often than not ‘trap’ consumers into buying apartments at prices higher than the market rate.
A north India phenomenon
A number of real estate experts feel underwriting is equivalent to black marketing. They draw an interesting distinction between black- marketing of essential commodities vis a vis black marketing of apartments.
“When there is more demand and short supply of essential commodities, let’s say onion, dealers hoard the stock and sell at a price higher than the market price. Expect just the opposite in real estate. When there is a huge supply of housing stock and not enough demand, then the developer, in collusion with the underwriter, tries to create artificial demand by allocating a large stock of inventories to an underwriter with an understanding of share of profit,” says a real estate developer, requesting anonymity.
Since the demand-supply mismatch exists mostly in the north Indian property market, particularly in Delhi NCR, the underwriting model is adopted by realty players only in this region. “The proportion of investors is high in the realty sector in north India compared to other parts where end-users constitute close to 70% of the buyers,” says Ganesh Vasudevan, CEO, IndiaProperty.com.
The developers also take the help of underwriters to cover their risks. They are given the assurance by underwriters that the stock would be sold in a certain timeframe and whatever remains would be bought by them (underwriters).
Generating black money
According to Manish Agarwal, MD, Satya Developers, real estate underwriting should be discouraged as it generates black money and creates pseudo demand. “Underwriting generates black money in the real estate sector as the builders sell their properties to underwriters who then sell it to end-users. Due to this an artificial demand is created and the builder continues to hike the prices of his properties. The end-users who usually buy the units pay the premium in cash and in this way unaccounted money flows into the market. The underwriters also keep on buying housing stocks in black and it keeps circulating,” says Agarwal.
Vishal Gupta, managing director, Ashiana Housing Limited, agrees, adding, “In the absence of regulation in the realty sector, underwriti ng often causes multiple problems in the industry such as ( a) financial mismanagement, (b) delay in delivery due to diverting funds to some other project or underwriters taking on too many projects and being unable to handle them, (c) lack of understanding of the need of the end-user, (d) inflated pricing or price bubbles and last but not the least (e) frequent litigations due to delay in project approval.”
Experts are also wary of the fact that the memorandum of understanding between the builder and underwriter is normally not a registered document, and can lead to legal disputes between the two at any point in time.
“By underwriting the property, the developer thinks his inventory is sold out and tends to take further exposure on the based expected cash flow from such underwriting. In case the underwriter is not able to sell the underwritten property or the market faces a slowdown, the underwriter backs out of the deal and/or stops further payments. This squeezed cash flow brings the project cycle to a halt,” says Rajesh Goyal, MD, RG Group.
Alaknanda CR Park Defence Colony
East of Kailash Greater Kailash Kalkaji
Lajpat Nagar Malviya Nagar New Friends Colony
An unscrupulous underwriter is likely to charge more than the market rate (for an apartment)