Low cost housing has faced numerous obstacles over the years. Low margins, non-availability of land in suitable areas and various regulatory hurdles have kept the builders at bay. However, the most important factor that has impacted the viability of such projects is interest rates. In fact, right now the interest rates are so high that low cost housing projects have effectively lost their sheen. Higher interest rates means the builder will have to pay more to the banks for the loan he has taken to fund the project. This effectively defeats the purpose of low cost housing as any increase in the interest rate during the course of construction is passed on to the customer.
However, Reserve Bank of India (RBI) recently came out with a guideline which will allow builders to borrow from overseas markets for low cost housing projects. Since interest rates in overseas markets are considerably lower this would give much needed fillip to the low cost housing model. Apart from developers even housing finance companies are made eligible to borrow from abroad. They can borrow up to US$1 bn in 2012/13 under the low cost housing scheme.
However, there are certain requirements which need to be fulfilled before availing this facility. For instance, the developers should have a minimum five years of experience and they should not have defaulted on any previous bank obligation. Also, the project should not have been involved in any sort of litigation. Lastly, it should also have all the clearances in place.
We believe that allowing developers to tap overseas markets especially for low cost housing projects is a step in the right direction. With prices in most cities rising through the roof there is a strong need for low cost housing projects. However, builders were not too keen on taking up such projects as margins are lower in the first place. Secondly, if interest rates rise by the time the project is complete (which may typically take 2-3 years) the cost of the project increases.
In that case the builders have two options. Either absorb the increase or pass it on to the end consumers. If he absorbs the increase his margins go for a toss in an already low margin project. And if he passes on the increase the project is no longer financially viable for the end consumer. That's because the target market here is not the affluent urban middle class. Even a small rise in the project cost which has to be passed can impact the affordability. If it is no longer affordable because of higher prices the project remains unsold. The rich class won't buy it for the lack of amenities and standards while the average man can't afford it as it happens to be out of his reach.
Thus, we believe the current step of allowing developers to get an access to overseas finance at cheap interest rates may give necessary fillip to the low cost housing model.