Real estate investment basics

As a true asset class, ideal for diversification as well as in optimising returns, Indian real estate made its mark from late 2006-2007. The lowest period in that respect was probably 1995.

Perceptions about investing in real estate have changed over the years. With real-estate markets becoming increasingly vibrant, and with increasing institutional participation in this market, increased investor confidence and increased investments in the sector emerged together.

With increased buoyancy, the real-estate market now falls in the same league as stocks, bonds, mutual funds, gold and commodities, and insurance policies as a viable investment option for investors in all categories – individuals, corporates, and funds.

Let us assume that a property costs Rs 100. This represents a loan component of Rs 85 and a net investment of Rs 15. The basic appreciation of property in most cases is 15 per cent. Assuming that the loan was availed of at an interest rate of 12 per cent and the holding period is two years, the net profit would be Rs 7.9, representing a return on investment (ROI) of 26 per cent. Add to that the additional benefit in tax benefits on deduction of interest paid and repayment of loans from gross income. This increases net returns commensurately.

Office and retail space is among the most interesting investment option available for bigger investors. Here, an investor buys a property and lets it out to a company or a retailer. It earns regular rental income and carries the benefits of price appreciation too. Rental income can range between 11 per cent and 12 per cent on investment, and there is room for capital gains. Again, investors are able to leverage much more efficiently by using Lease Rental Discounting (LRD).

The only risk that a small investor carries while investing in individual properties is the risk of concentration of assets in single or few cities, or single or few asset classes.

For example, if one buys a house in Mumbai or Pune and there occurs a residential market slowdown, one faces the risk of capital depletion.