Since the prices difference between an under construction property and a ready to move in house is substantial, people are lured to go for an under construction property without appreciating the implication of their decision. There are pros and cons involved with the decision either way. Since the benefits of going for a ready to move in property outweigh its cons, I will explain as to why you should go for a ready to move in house rather than taking the risk of booking an under construction property. I have divided this article in two parts for discussion purpose. In the first part I will deal in general with various financial implications of a particular decision. In the second part I shall explain the various income tax implications arising out of a particular decision.
Wise people have an advice for all of us in the form of the saying “one in hand is better than two in bush”. This very aptly applies to the subject matter under discussion. The decision to go for an under construction property has many risk associated with it like risk of default on the part of the builder in handing over the possession as promised.
You would have come across various frequent news reports about delay in giving possession by the builders to the home buyers. The delivery of the property on time is an exception rather than a rule. The delay ranges from a few months to two or three years. According to real estate analytics firm PropEquity, around 45% of real estate projects in the MMR (Mumbai Metropolitan Region) in respect of which possession was to be given during 2011-2014 were not completed by April 2015. So, in some of the cases the delay in delivery is around four years. The situation is acute in case of National Capital Region) NCR, where around 78% of projects are running behind schedule. This is the situation not only in the two regions, but the situation is the same with varying degree in other cities.
So in case you decide to go for a ready to move in house, you do not carry this risk of delay and default from developer. You get immediate gratification for the money being paid by you. If you look at the activity around the redevelopment segment, you will find that every Tom, Dick and Harry have become builder without having adequate financial resources which often is the cause of the delay. Moreover the delay in completing the construction cannot be attributable only to lack of adequate financial resources but also in some of the cases is linked to litigation related with the property. So any delay for whatsoever reason adds to your agony and costs.
Most of the people exhaust their present savings for paying the booking amount which comprises full portion of black money. Home buyers also commit their future savings in the form of EMI in a residential house, so it is not at all advisable to put your whole, past and present, saving to risk in this way. Moreover in case of you are staying in a rented premise, your expenses on rentals continue while you are paying your EMI thus causing double whammy to you, when there is delay on the part of the builder. There are many cases to my knowledge where the home buyer had to sell his under construction house as it was not possible to fund both the payments, one for rentals and the other second EMI. And there ends the dream of owning a house. In contrast if you buy a ready to move in flat, your rental payments stop, in case you shift to the new house immediately on taking passion as rentals stop EMI payments do not cause much burden on your finances. Even if you have do not shift to the new house, you can always let that out and part finance your EMI.
People fail to appreciate that booking an under construction property is nothing but lending the money to the developer at the higher rate of interest with accompanying risks of delay and default. With grim situation of the real estate sector presently, where many of the projects are stopped due to liquidity crunch of the developer, the prospects are very scary with probability of default of the developer going higher than earlier.
In addition to the general financial implications discussed above, there are some income tax implications which go against the decision of going for an under construction property. With sky rocketing price of the property and average age of the people buying their first property coming down significantly it is not possible for an average middle class family to own a residential house without housing loan. For housing loans taken for an under construction property, the pre-EMI interest starts even before completion of the property. In some of the cases where possession is delayed, payment of EMI also starts after possession.
As per the prevalent income tax provisions, you can claim the income benefits for home loan taken for a residential house only after the construction of property is complete and you have taken possession. It may also be noted that in respect of the interest paid during the construction period, you can claim the same in five equal installments beginning from the year in which possession of the property is taken by you. This provision has some implications where you have taken a home loan to buy a property and which you intend to use for yourself. In case of self occupied house property the maximum amount of deduction available for interest under Section 24(b) is restricted to Rs 2 lakh, so in case the interest for the current period itself exceeds or is equal to Rs 2 lakh, you effectively lose your claim in respect of pre-EMI interest.
Moreover in case you have to sell the under construction property before taking possession, you altogether lose tax benefit in respect of interest paid during this period. Moreover in case you sell your house before completing five years after taking possession, you lose the claim on your respective installments of pre-EMI interest.
There is another implication in respect of home loan taken for self occupied property if the possession of the property is abnormally delayed. It may be noted that the benefit of Rs 2 lakh in respect of interest under Section 24(b) on self occupied house property is available only if the construction is completed within a period of three years from end of the financial year in which the housing loan was taken. So in case the construction of your house is not completed within three years as stipulated, your eligibility for home loan interest drastically comes down to Rs 30,000, in case the same is used for your own residence. However, there is no upper limit for interest deduction in case the house property is let out. So in addition to the risk of delay and default for an under construction property you also carry the risk of lower tax benefits in case the developer delays the possession beyond three years.
Moreover for repayment of home loan you get a deduction of upto Rs 1.5 lakh along with other eligible items. This benefit is also available only after you have taken possession of the property. So, in case you have repaid part of the home loan during the construction period, you lose the tax benefit for such repayment forever as there is no legal provision for amortization of the benefits unlike the interest paid during the construction period.
Section 54 and 54F allow you exemption from capital gains tax arising from sale of any asset held for more than 36 months if you buy a house within two year after or before one year of such transfer. You are also entitled to similar exemption in case you construct a residential house within three years. So, in case the developer fails to complete the construction and handover the possession in the stipulated time period, you again carry the risk of having to pay capital gains tax which you had planned to save.
Finally going for a ready to move in house will give you more peace of mind than going for an under construction property. The decision to go for an under construction will always have a hanging sword on your head of delay or default by developer. The above discussion is of no relevance for the people who do not have enough money to pay for the ready to move in house and have to invariably go for an under construction house. So, take your own call after evaluating all pros and cons of both the options as per your situation and depending on your present financial resources.
Balwant Jain is a CA, CS and CFP. Presently working as Company Secretary of Bombay Oxygen Corporation Limited.