Long-term lease to loaning bank a good option

Long-term lease to loaning bank a good option

G P Khungar

My wife and I jointly own a residential house in Mumbai since 1993, which has been financed by securing a loan of Rs 10 lakh in our joint names from PNB Housing Finance Ltd. We are the joint mortgagees of the property with equal share and since both of us have taxable income, we are individually claiming tax rebates under Section 24 through our respective employers to the extent of Rs 30,000 on account of the interest paid to service the loan and Rs 10,000 under Section 88 of the Income-Tax Act towards repayment of the principal loan amount. Pursuant to the changes in the Income-Tax Act proposed in the Finance Bill 1999, raising the tax deduction limit in respect of interest paid on borrowed funds to finance the purchase of a self-occupied home to Rs 75,000, we have been considering the possibility of acquiring another home by securing loans of Rs 11 lakh through a foreign bank repayable over a period of 10 years carrying an annual coupon interest rate of 16 per cent on descending daily loan outstanding. Byway of security, we will be required to deposit the original title deeds for the new house with the loaning bank as collateral.

We have also made inquiries in the market and have been advised that it should be possible for us to rent our apartment for about Rs 20,000 per month. As a matter of fact, the loaning bank is also interested in renting the premises for a term of three years in the first instance at Rs 18,000 per month and maintaining the same at their own cost and expense during the currency of the lease term. They have also offered to pay the annual rates and property taxes directly on our behalf to the Mumbai Municipal Corporation and deduct the amount payable from our rent subject to the stipulation that the maximum deduction on this account shall not exceed Rs 20,000 per annum. (That is the property tax that we are presently paying). They have further suggested that in case we agree to increase the initial rent period from three to five years and give them the option to continue in lease for asecond term of five years, they would adjust the rents and interest rates in such a manner that the loan will stand fully settled over a period of 10 years by the time the repossession of the premises is offered to us.

Could you kindly comment on the feasibility of this proposition and also on whether it would be advisable for us to accept this offer keeping in view the undernoted parameters:

Under stable rent market conditions, it should be possible for us to secure a rent increase of 20 per cent every two years after taking into consideration the prime mid-town location of the property.

The tax benefit under Section 24 would actually be reducing year after year considering that the principal amount of loan would stand reduced with each equated monthly loan repayment.

--L S Matkar, MUMBAI

Under normal circumstances, for a Rs 11 lakh loan repayable in monthly equated installments over a period of 10 years, your total outflow would be Rs 22.20 lakh approximately, requiring an equatedmonthly installment payment of Rs 18,500. If you are able to secure a rent of Rs 20,000 and your actual pay-out on account of municipal rates and taxes continues to be Rs 20,000 per annum (which is doubtful), the surplus available in your hands for the first two years of renting would be Rs 2.20 lakh as opposed to the loan repayment of Rs 2.22 lakh.

However, from the third year, assuming a 20 per cent rent increase, the net inflow would rise to Rs 2.68 lakh, and you would have not only offset the marginal loss of Rs 4,000 generated in the first two years, but would have in actual fact landed with a cumulative surplus of Rs 92,000 at the end of the fourth year. Assuming that you are once again able to raise the rent to Rs 28,800 from the fifth year, the cumulative surplus at the end of six years of leasing would have risen to Rs 2,99,200. Similarly, at the end of the eighth year, assuming yet another rent revision to Rs 34,560 from the seventh year, the cumulative surplus of inflows over our flows would beRs 6,44,640.

In case your luck holds and you are also able to get the final rent increase from the commencement of the ninth year to Rs 41,462 per month, the cumulative surplus at the end of 10 years would be Rs 11,55,968, which is more than adequate to meet any additional property tax demands during the lease period, which based on present rates and taxes, could be to the order of approximately Rs 3 lakh. These calculations do not take into consideration the incidence of income tax as it would be the same, irrespective of the fact whether you accept the bank's offer of a loan term lease or rent your property through estate agents. It is needless to mention that a long-term lease to the bank would offer you an assured trouble-free acquisition of property over a period of 10 years and advantages in self-leasing. But rent increases every two years could result in pre-tax cash accrual of over Rs 8.5 lakh. You should therefore carefully weigh all factors before taking your decision.

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