“Manufacture vs. purchase (or outsource)” is a common topic in business strategy. Simply, put, this is about deciding, which is preferable from a strategy point of view, given a host of myriad situations.
Buying houses and repaying loans over 15 to 20 yrs periods (with higher cost of apartments and fluctuating rates of interest, the average loan repayment tenor is seen to have increased from the historical average of 6-8 years to 12-16 years)? Or should one simply take them on rent?
Buying houses when kids are staying with you, leads to buying bigger houses. Post-retirement the need for a home is modest in comparison. By this time the house purchased while working, is not only older but also costlier to maintain.
Financially speaking, this leads to sub-optimal cash-flows. First, while paying EMIs for the loan and also, since the cost of maintenance of a property (which is bigger than post-retirement needs and also older by the time you retire) will be higher.
Compare this with staying in rented apartments till close to retirement – loss of tax-breaks due to avoiding housing loan can be set-off by adjustment of rentals paid to HRA (tax-wise!) and the flexibility of choosing apartments based on location of employment/profession, size of family and/or socio-economic status – a highly flexible package. Also, the low levels of house rentals as compared to their capital values (3to4% annually) will lead to accumulation of retirement corpuses with lesser probability of outliving them.
Post-retirement, if you out-live your retirement corpus, the need for reverse-mortgage leads to a second incidence of sub-optimal cash-flows. Since, this is driven by value (older the property lower the value) and hence lower will be the sum of annuity through RM. Add to this a high rate of interest (prevalent rate?) and a low cap on loan to value. The cash-flows from the RM could be way below the needs and/or expectations.
Alternately, if say, 1-2 years from retirement an apartment, closer to actual needs post-retirement, is purchased (as the unit is likely to be smaller, the need for loan may be minimal if not required at all), then….the possibilities look rosier.
Chew on it! Our back of the envelope calculations suggest that practiced over a 25 year period of working life, right from the time one gets married (assumed @ 30 yrs) till age 55 yrs (a well managed corpus of retirement funds should make it possible to retire at that age) – the retirement corpus could be at least 2 times the corpus of the more conventionally inclined.
Caveat - Even if you are convinced about the numbers, there are actually plenty of risk factors in this course of action and they are –
a. There is a lack of adequate and steady supply of apartments for rent.
b. The non-existence of landlords who give apartments on long term lease
c. Can the popularity of the renting vs buying option lead to a speculation in rentals as we have seen with respect to asset prices of apartments in most towns and cities in the country?
We will be discussing about what is required in the macro-environment and the attractiveness of this proposition from both the macro as well as the micro points of view, in the second part of this article.
Buying houses and repaying loans over 15 to 20 yrs periods (with higher cost of apartments and fluctuating rates of interest, the average loan repayment tenor is seen to have increased from the historical average of 6-8 years to 12-16 years)? Or should one simply take them on rent?
Buying houses when kids are staying with you, leads to buying bigger houses. Post-retirement the need for a home is modest in comparison. By this time the house purchased while working, is not only older but also costlier to maintain.
Financially speaking, this leads to sub-optimal cash-flows. First, while paying EMIs for the loan and also, since the cost of maintenance of a property (which is bigger than post-retirement needs and also older by the time you retire) will be higher.
Compare this with staying in rented apartments till close to retirement – loss of tax-breaks due to avoiding housing loan can be set-off by adjustment of rentals paid to HRA (tax-wise!) and the flexibility of choosing apartments based on location of employment/profession, size of family and/or socio-economic status – a highly flexible package. Also, the low levels of house rentals as compared to their capital values (3to4% annually) will lead to accumulation of retirement corpuses with lesser probability of outliving them.
Post-retirement, if you out-live your retirement corpus, the need for reverse-mortgage leads to a second incidence of sub-optimal cash-flows. Since, this is driven by value (older the property lower the value) and hence lower will be the sum of annuity through RM. Add to this a high rate of interest (prevalent rate?) and a low cap on loan to value. The cash-flows from the RM could be way below the needs and/or expectations.
Alternately, if say, 1-2 years from retirement an apartment, closer to actual needs post-retirement, is purchased (as the unit is likely to be smaller, the need for loan may be minimal if not required at all), then….the possibilities look rosier.
Chew on it! Our back of the envelope calculations suggest that practiced over a 25 year period of working life, right from the time one gets married (assumed @ 30 yrs) till age 55 yrs (a well managed corpus of retirement funds should make it possible to retire at that age) – the retirement corpus could be at least 2 times the corpus of the more conventionally inclined.
Caveat - Even if you are convinced about the numbers, there are actually plenty of risk factors in this course of action and they are –
a. There is a lack of adequate and steady supply of apartments for rent.
b. The non-existence of landlords who give apartments on long term lease
c. Can the popularity of the renting vs buying option lead to a speculation in rentals as we have seen with respect to asset prices of apartments in most towns and cities in the country?
We will be discussing about what is required in the macro-environment and the attractiveness of this proposition from both the macro as well as the micro points of view, in the second part of this article.
Good food for thought. You do have very valid point.
ReplyDeleteOne more reason for buying a house early in life is the sense of security and not being at the mercy of landlords with the fear of having to shift out every 11 months.
I will be addressing the aspect of how to create a reliable supply of apartments for leasing in my next post.
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