‘Subra I am 43 years old, and live in a flat which I inherited. This house is now worth about Rs. 3 crores. I am planning to buy a new house for about Rs. 2 crores – for which I will make a Rs. 50L down payment. I hope to pay off the Rs. 1.5cr loan in about 14 years time when I retire.

Apart from these 2 houses I will have about Rs. 50L in ppf, national savings certificate, etc. This will provide me with Rs. 450,000 a year. This along with the rent that I receive will take care of my expenses.

What is wrong with a plan like this Subra? I do away with the need of knowing / understanding / investing in equities.

Of course I answered him….wondering what the readers of this blog think?

Good solution?

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  1. Here are some things I could think of:

    1. Own house is not an asset, he wont have to pay rent but it will not get him any income either.
    2. For rental house, he’ll have to run after tenants in old age etc. There will be outgo for maintenance too.
    3. PPF/NSC etc interest rates may change in the future. This guy is assuming 9%.
    4. Most importantly, he has not mentioned his current expenses, so there is no way of telling whether ~8-10L pa will be enough in his retirement to fund his lifestyle. Current expenses like schooling of kids may be replaced by medical expenses later.

  2. 1) Invest most of this 50 lakh +proposed 1.5 crs loan in downpayment in various debt instruments and you will get much higher cash flow than rental income.

    2) If you lose your job/income, you will be stuck in highly illiquid real estate assets with a heavy debt and no means of paying EMIs

    3) Highly concentrated asset allocation. If real estate scenario continues to worsen, you are screwed badly

    4) No asset in the portfolio that can beat inflation in the long run given that retirement is still long away

    5) Own house is for consumption unless you have the guts to monetise it and move to a much cheaper city permanently.

  3. A story about Groucho Marx, the famous comedian who purportedly once toured the New York Stock Exchange and held court with the floor traders after the closing bell. Knowing that Groucho was wealthy, one trader yelled out “Hey Groucho, where do you invest your money?”

    “I keep my money in Treasury bonds,” is what the leader of the Marx brothers reportedly replied.

    “They don’t make you much money,” a trader shouted back.

    “They do,” Groucho said drolly, “if you have enough of them.”

    So as long as his requirement is much less than expected returns then shd be alright. No worries.

    Anyway if there is a problem with this story, then wondering if this seems right

    a)Problem with this story is inflation + also what if interest rates come down in future? 4.5l may not be enough down the road, with rising healthcare costs. No mention of family/kids so luckily no education & additional medical costs etc.
    b) what if for some reason no one rents but have to pay up running costs like society dues, property tax, repairs, insurance or worst some disaster and no home insurance
    c) rather than paying so much of loan+interest on his new home, why not sell one home and use that money. no need to spend extra on the new house than needed. Plus whatever surplus remains, can start earning interest now and it will grow a lot in 14+ years.
    d) for peace of mind may be keep some part in FD to cover daily expenses but surplus can be kept in MF so it will hopefully beat inflation plus will be almost tax free.

  4. 1. Do not buy House
    2. Invest 50L in short duration schemes
    3. The planned EMI can be invested in combination of large & mid cap schemes.
    This will ensure inflation beating returns, no need to worry about future.

  5. Hi Subra – A lot of information is not provided to understand how risks are mitigated:
    1. Apart from 50L in PPF and other investments, is there a emergency fund? Layoff/ Job loss risk…
    2. Is there health / medical insurance ? Unexpected medical expenses…
    3. What is the cash flow situation? Apart from the expected rent, is there or will there be a second earner in family?
    4. What is the expense situation in next 14 years? Kids’ college, World tour with parents, two vacations a year?
    5. How long is he expected to live? His spouse? Are his kids expecting higher education in US/UK/Australia? Can they manage a scholarship?

    Ceteris paribus, 50L will last about 8 years with a monthly drawdown of 50000, even if return MATCHES inflation. So by Age 68 – only income will be rent. Refer Pattu or Manish’s calculator for simple illustration of cash flow.

    Rent cant increase more than 10%, at least a Delhi HC ruling was there, not sure about other areas. Donno if you can have a agreement that indexes rent with CPI???

    Continuing with risks –
    1. What if house goes without tenant – negative cash flow will be there – maintenance + society charges + property tax even if no rent
    2. The income from savings is not post tax it seems
    3. Inflation risk does not seem to have been considered. Present value of 4.5L , 14 years from now is 1.34L.
    4. Interest rates of PPF NSC will/may change. Tax laws will change

    Cant think any more… there seems to be very less probability that this arrangement will be able to keep this person off the street, with two square meals, after age 70.

  6. Inflation!

    PPF gets locked for 15 years except for very specific uses. NSCs are taxable if interest more than your standard deduction. Bank FD’s ditto, plus those forms 15 H and G also want to know every year what other tax free income you have.

    Cash flow only from interest and house rentals or does he have any other income?

  7. His portfolio is already skewed because of too much of real estate needs to be re-allocated rightly considering his age and risk appetite.

  8. Fine about RE but investment in NSC and PPF is not a good idea as the income from these investments (savings) would not grow along with inflation. Gradually, inflation will eat-up these savings.

    Better idea would be to have it invested in high dividend yielding blue-chip stocks or a dividend MF.

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