EMIs are only one part of the decision to buy a house

We had just finished having our late evening coffee. The new brew was simply magic.

"You know, I was talking to S in office," she said. "And he was saying that people are not buying homes because home loan interest rates are high."

"Hmmm," I replied.

"What do you say?"

"I think he has been reading too much of the pink press."

"Here we go," she said. "Care to explain."

"It's actually very simple."

"Not for everyone V."

"So, let's say you plan to buy a home worth Rs 60 lakh."

"Okay."

"On a good day, a bank would lend you 80% of the market price of the house you plan to buy."

"Yes."

"And that would work out to Rs 48 lakh."

"Yes."

"This basically means that you need to put Rs 12 lakh as down payment."

"Yes."

"First and foremost, even before you take a loan, you need to have Rs 12 lakh to be able to make the down payment."

"Hmmm."

"Also, even if you have Rs 12 lakh, you need to feel confident about spending it towards buying the house."

"Makes sense."

"And that comes only from some confidence in your economic future."

"Hmmm."

"Then, there is the question of black money."

"As in?"

"Well, not everyone in India wants to be paid in cheque, while selling real estate."

"That's true."

"Hence, the need for personal savings goes up further. Let's say if the price of a house is Rs 60 lakh, and the seller wants Rs 10 lakh in black. In this case, you need to have enough savings to pay the seller in black and then also make a down payment on the house."

"Yes."

"The buyer wants Rs 10 lakh in cash. Hence, the official price of the house being sold will be Rs 50 lakh. The bank will give a loan of 80% of this price, which works out to Rs 40 lakh."

"True."

"This means that the buyer now needs to have savings of Rs 20 lakh (Rs 60 lakh minus Rs 40 lakh)," I said.

"Yes," she replied.

"Basically, the buyer needs Rs 10 lakh for the down payment and Rs 10 lakh for payment in black."

"And by paying Rs 10 lakh in black, isn't he converting his white money into black?" she asked.

"Yes, he is," I replied. "Which is how black money in real estate keeps growing."

"Hmmm. What else?"

"The buyer must be in a position to pay Rs 20 lakh, the home loan comes only after this. Basically, higher the black portion that needs to be paid, higher the savings need to be."

"Okay."

"Let's consider a 20 year Rs 40 lakh home loan, on which an interest of 9% per year needs to be paid."

"What does the EMI on this work out?" she asked.

"The EMI on this works out to Rs 35,989 per month."

"Yes."

"Other than being able to pay Rs 20 lakh, the buyer should also be confident enough of paying this EMI."

"Makes sense," she said. "What if the interest rate was 8%?"

"The EMI then would fall to Rs 33,458, a little over Rs 2,500 per month lower."

"Will that make a difference?"

"You tell me."

"I think it might make a difference in case of people who are stretching themselves to buy a house. But if someone can make a down payment of Rs 20 lakh, he or she should be able to pay Rs 2,500 per month extra as well."

"Right."

"Given this, it's not about the interest rate as much it is about the ability to make a down payment and pay the EMI."

"Hmmm."

"Also, the most important thing is the price of the house. The more the home prices fall, the greater will be the demand. This is something basic which the builders and the real estate companies do not seem to understand."

"That's true."

"It almost seems like they are in a denial mode, when it comes to home prices."

"Which they totally are," she said. "How about another cup of coffee?"

The example is hypothetical

(Vivek Kaul is the author of the Easy Money trilogy)