HOUSING: THE GAME CHANGER

Transcription

1 HOUSING: THE GAME CHANGER LEADING TO DOUBLE-DIGIT GDP GROWTH A Cushman & Wakefield Research Publication JANUARY 2014

2 Contents Executive Summary 1 Housing and the Indian Economy 2 Impact on GDP 2 Impact on Employment 4 Impact on Foreign Direct Investment (FDI) 4 Impact on Banking & Finance 4 Multiplier effect on other Sectors 6 Housing and its Role as an Asset 7 Housing and its Impact on Urbanisation and Poverty 8 Impact on Labour Markets 9 Housing Sector Problems and Solutions 10 Tedious and Prolonged Regulatory Processes 10 Land Related Problems 10 Funding Problems 11 Manpower & Technology Problems 12 Additional Solutions/ reforms 12 Conclusion 14

3 HOUSING: THE GAME CHANGER EXECUTIVE SUMMARY The right to an adequate standard of living is a basic right of an individual and is not only integral to the social-cultural well-being of a nation, but also vital for the economic health. The progress of the housing sector does not only have direct, but indirect as well as induced effects on the country's economic growth as various global studies have shown that a well developed housing sector has a high and positive correlation to a country's economic growth. An increasing population and urbanisation coupled with the current housing shortage of million (mn) units in India is creating a huge stress on the economy as an estimated 65.5 mn people currently reside in slums, which hampers their social and economic health. Consequently, whilst many other countries have a correlation of housing to GDP that exceeds 0.90, in India the correlation is expected to be around 0.78; though it has also been estimated that the sector has forward and backward linkages to over 300 ancillary industries. The demand for housing units is expected to increase by another mn units by 2017 due to population growth alone, if the current rate of growth is maintained. It has also been estimated that the sector needs an estimated investment of INR trillion (tn) at today's values to meet the housing shortage by Neither the Government nor the private sector alone cannot tackle this large problem without working together and creating a conducive environment. The housing sector needs large volumes of funding, infrastructure development, supportive regulatory and policy mechanisms and focussed efforts by both the government and the private sector to achieve its social and economic objectives. Given that the housing sector ranks third amongst 14 major industries in terms of total linkage effect in the economy, it may not be incorrect to say that the growth of the housing sector will act as a catalyst to the overall economic growth, and can lead to a double digit GDP growth. The Central and State Governments are adopting several measures to reduce constraints and provide adequate support to the sector. There have been recent reforms, policies and initiatives like allowance of FDI, benefits under section 80, rebates on housing loans, lower interest rates, etc. Additionally, Public Private Partnership (PPP) models have been introduced for large scale developments and to attract interest from private equity and venture capitalists. However, these initiatives by the Government have not been adequate and there still are challenges faced by the sector, which is evident by the increasing housing shortage over the years. Challenges such as the cumbersome regulatory processes, which causing delays and inefficiencies in supply, inadequacies in infrastructure, insufficient and limited avenues for funding, manpower shortages and technology advancement faced by the housing sector are adversely impacting both developers and buyers. The need of the hour is to recognize these challenges and take measures to mitigate them. This report presents an analysis of the impact that the housing sector in India has on various aspects of the economy and the multiplier effect the sector has on it. It also provides a detailed analysis of the role and participation of various stakeholders and the steps needed to boost the growth of the sector, whilst also sharing case studies from other countries to highlight the importance and impact of the growth of the housing sector. 1

4 January 2014 A Cushman & Wakefield Research Publication HOUSING AND THE INDIAN ECONOMY The housing sector is closely linked with the economy and the overall social health of the population of a country. Housing is one of the basic needs of mankind in addition to being one of the key growth drivers of the economy. Apart from its contribution to GDP, construction of housing increases the civil welfare of a society by improving the social capital of a nation. Rapid urbanization alone cannot provide a holistic environment to a country's population if the housing sector fails to grow in an organized manner putting a greater stress on housing formats like housing co-operatives, self sustainable communities, eco-villages and community living. With urbanization at its core, organized housing is a means through which balanced regional development can be achieved as it has a substantial impact on other parameters like employment, standard of living, education and political scenario in the country. The pace and degree of urbanization cannot be predicted; however, urban planning and housing in rapidly growing urban areas is a major game changer, mainly for developing countries like India. Planned communities or towns like Hong Kong, Tokyo and Singapore are some examples of economies where industrialization was balanced with urban development measures that transformed the landscape, created more job opportunities and led to economic growth. In the case of Hong Kong, a city with land shortage, the provision of housing for resident through the development of skyscrapers has increased its economic capital due to improvements in living conditions and the growth in facilities required for community living like shopping centres, malls, schools, hospitals, etc. IMPACT ON GDP Real estate investments have been one of the important growth drivers in economic growth; a number of academic and business studies have established the correlation very strongly. Some of the studies have empirically proven the short term and long term effect of consistent housing investments on any country's GDP growth. Housing construction investments, which comprise the bulk of all real estate activity, contributes directly to an economy as can be seen in the table below. Moreover, though personal consumption expenditure by individual and households contributes substantially to the economy, it contains a sizeable mix of expenses incurred on rent, utilities, related taxes, etc, all of which are also contributions of the housing sector to the GDP of an economy. According to the Economic Survey of India, , the real estate sector contributed 5.9% of the India's total GDP in , registering a growth of 7.2% from the previous year. Though this share is currently amongst the highest as can be seen from the table below, considering the current state of the infrastructure and shortage of real estate assets visa-vis the population in India, it is still grossly inadequate as, besides contributing substantially to the GDP, the sector needs to increase its real estate production and investment immensely to compare to those in countries such as Brazil and China. It is important to note that though population levels of China and India are not too different, the variation in per capita real estate production is more than 3.5 times. The per capita real estate production in China is approximately USD 5,418 whereas it is USD 1,486 in India. REAL ESTATE SECTOR PRODUCTION & CONTRIBUTION TO GDP ( ) 2, , USD Billions 1,500 1, Percentage of GDP (%) 0 Brazil China Colombia Hong Kong India Indonesia Japan Malaysia Mexico Philippines Thailand U.S.A. 0 Real Estate Production Real Estate as % of GDP Source: Cushman & Wakefield Research, World Bank 2

5 HOUSING: THE GAME CHANGER High Correlation of GDP and Real Estate Activities Statistics over the last five years depict high correlation of GDP and real estate activity. For most countries, the correlation is over 0.9 stressing on the importance of the sector in the economic growth. Housing being the key segment in real estate sector, it becomes imperative for the Governments to focus on and adopt policy measures that accelerate housing development in turn boosting economic activity through direct and indirect means. China, with a very high correlation of 0.98 has seen consistent increase in real estate investments in last five years with a CAGR CORRELATION OF GDP TO REAL ESTATE China of 13%, which is around 6% of the GDP each year. On the other hand, in the U.K. where real estate investments is only 1% of the GDP, the correlation is also as high as For India, the correlation is difficult to calculate since Real Estate production has been historically clubbed with other sectors and its individual total production/investment numbers are difficult to ascertain. However, one can reasonably assume that the correlation would be at least as high as Case Studies a) China U.K. Spain Germany U.S.A Source: Cushman & Wakefield Research Government policies have played a major role in aiding housing developments in China. One of reasons for unusual growth rate achieved by the Chinese economy in view of weak economic growth across the world is the aggregate investments aided by Government policies. Among other investments, increase in housing investments owing to the housing reform policy reform in 1998 resulted in huge demand for housing and encouraged to real estate developers to construct more units. Additionally, the Government encouraged housing construction by improving the approvals and regulatory processes and providing easy credit for housing development projects. It is estimated that the real estate investment in 2012 accounted for 12.5% of China's GDP and 14% CHINA - REAL ESTATE INVESTMENT (IN PERCENT OF GDP) Investment in percent of GDP 16% 12% 8% 4% 0% Source: IMF Real Estate Investment Year of total urban employment. However, real estate business in India accounted for only 5.9% of the GDP and 5.5% of the total urban employment in b) United States of America (U.S.A.) The housing policy in the U.S.A. has brought about significant changes in the economy by focussed efforts of the Government. The tax code has been the most important policy tool for the housing sector, which subsidizes imputed rents and allows deductions for mortgage interest payments. The Government also offers a variety of programs in public policy to support home purchase wherein certain class of individuals can borrow below the market rates. In addition, there are a number of U.S RESIDENTIAL FIXED INVESTMENT Percentage of GDP 8% 7% 6% 5% 4% 3% 2% 1% 0% (AS A PERCENTAGE OF GDP) Residential Real Estate Investment Quarters from % of Real GDP Expon. (% of Real GDP) Source: Valadez, R.M. (2010) adapted from data retrieved from BEA federal and state programs that assist low-income households to own a home. It is estimated that housing construction investments and housing services contribute 15.5% of the real GDP in the U.S.A., more than 2.6 times India's contribution, even when it is a developed country where housing needs are 3

6 January 2014 A Cushman & Wakefield Research Publication substantially satisfied. Hence, it is safe to assume that for a housing deficit nation like India, the GDP contribution from housing should be multifold. If we need to satisfy the deficit in housing it will take investment of INR 22,200 billion, which is nearly 12 times the current GDP contribution of the sector. (Note: The volume of investment in housing includes investment in infrastructure for the development of housing.) IMPACT ON EMPLOYMENT The housing and construction sector is the second largest 1 employment generator after agriculture in India ; employment in real estate sector is estimated to have a 20-30% share in this. The employment levels in the construction sector increased from million (mn) in to million by as per the Planning Commission estimates. As per recent estimates by CREDAI, the real estate sector employment across India in 2013 was estimated to be nearly 7.6 million people. Given the total existing demand for real estate in the country, the number of real estate sector employees could go up to about 17 million by IMPACT ON FOREIGN DIRECT INVESTMENT (FDI) According to the Department of Industrial Policy & Promotion 2 (DIPP), the Construction Development sector received a total Foreign Direct Investment (FDI) equity inflow of INR 1,052 bn (USD 22.8 bn) during April 2000 to September This amount to an 11.1% share of the total FDI equity inflow and is the second highest amongst all sectors, outlining the importance of the sector in attracting valuable foreign capital to the country. From 2005, the DIPP allowed 100% FDI through automatic route in townships, housing and built-up infrastructure and construction developments, which drove up the FDI inflows in FY2008 and FY2009. However, post the global economic recession in 2008, FDI IN CONSTRUCTION DEVELOPMENT 14% 12% 10% 8% 6% 4% 2% 0% 11% 12% 7% H FDI in Construction Development Source: Department of Industrial Policy & Promotion, Government of India 1 Economic Survey of India, % 6% 4% % Contribution to total FDI 0 INR Billion which mainly affected real estate markets globally, FDI commitments to the sector were low. Hence, since 2010 onwards the sector has been attracting lesser FDI equity with its share falling to as low as 1% in 2011 and increasing up to only 6% in In the past few years, FDI investors were stuck in complicated approval processes, which made the time lines of projects they invested in uncertain and their financial planning estimates went wrong. Apart from cost overruns due to inflationary pressure on materials etc, the investors are worried about their timelines for exit which has been elongated and adversely affected their returns on investments. Hence, the lack of certainty with regards to the time lines in the country risk compounded by the bureaucratic hurdles and corruption is further shaking the confidence of the investors. Given that the first six months of the current financial year have recorded FDI equity inflows into the sector at INR 41.6 bn (USD 685 mn), there are indications that the rest of the year could record FDI equity inflows at par with the figures observed last year. Hence, the Government needs to take some concrete steps to create international investor interest in order to attract more foreign equity capital into the country and cross the previous thresholds. There is a pressing need for the Government to act quickly on the proposal by the MHUPA to encourage FDI in to the sector by: easing the 3 year lock-in period, reducing the minimum capitalization threshold from USD 10/5 mn to USD 1 mn, reducing the minimum built-up area of 500,000 sf to 100,000 sf of carpet area, removing criterion of the minimum plot areas IMPACT ON BANKING & FINANCE The growth of India's middle class population, lowering of interest rates coupled with greater access to mortgage funding and increase in disposable income have propelled greater investment in residential real estate at the individual level. Apart from the sentimental value attached to a house in India, over the years it has also acted as an asset class giving good returns over the years. However, unlike many other countries, though mortgages as a percentage of GDP have risen from 3.4% in 2001 to 9% in , a large portion of the population does not have access to formal credit and also most houses in India are bought through savings rather than through mortgages, which is why India has one of the lowest mortgage to GDP ratio globally. The total housing credit outstanding in India stood at INR billion by the end of March The RBI categorizes housing amongst the six priority sectors and has mandated that 40% of a bank's disbursals need to cater to it. Despite most banks in India 4 2 Defined as Townships, housing, built-up infrastructure and construction-development projects by DIPP 3 Indian Mortgage Finance Market Report Updated for Q1, , ICRA

7 HOUSING: THE GAME CHANGER TOTAL MORTGAGE TO GDP RATIO LOAN OUTSTANDING ( ) IN REAL ESTATE SECTOR 2% Indonesia 9% India 17% Thailand 20% 26% 29% China South Korea Malayasia 32% Singapore 41% Hong Kong 81% U.S.A. 88% U.K. Percent of Total Loan Outstanding 35% 30% 25% 20% 15% 10% 5% 0% Japan China Singapore India Source: National Housing Bank, India, 2012 reporting double digit growth in mortgage lending since the past few years, the ratio of outstanding mortgage debt to total outstanding debts at the end of Financial Year stood at 4 9.2%, indicating the good quality of lending to the sector, unlike the sub-prime loans witnessed in the U.S.A., which resulted in the global financial meltdown of However, despite the priority sector tag, lending to the lower most segments of the society availing loans of up to INR 5 lakhs constituted just 22.75% of the total lending to housing sector in 2010 as per data from public sector banks. Based on the RBI's data, it can be estimated that the bank credit deployment to construction sector In India has been very meagre at 2.3% of the total industry credit deployment during and has been in the range of % in the last five years. The loan outstanding in the real estate sector is also lower compared GROWTH IN BANK LOANS TO THE HOUSING SECTOR 50% 40% 30% 20% 10% 0% -10% Commercial Real Estate Housing (Including Priority Sector Housing) Non-food Credit Source: Cushman & Wakefield Research, Reserve Bank of India Source: Cushman & Wakefield Research to other countries that have recorded real estate loans outstanding as high as 30%. The real estate market in India faces liquidity issues due to the cyclical nature of the sector and erratic supply. Restructuring of loans over longer time periods requested by developers (currently the stipulation for recognising Non-Performing Assets in the case of loans to the sector is 90 days) has not been permitted despite high provisioning requirements and secured funding through collaterals for the sector. This is unjust to the sector and should be revised along with allowing roll-overs in the wake of weakening demand and rising input costs that have adversely affected the financial health of housing developers. MULTIPLIER EFFECT ON OTHER SECTORS The housing sector not only has a direct contribution to the GDP, but it also has a positive impact on the other sectors in the economy. As per LIC Housing Finance Limited (LICHFL), 78% of the sum spent on construction of a housing unit in India gets added back directly to the India's GDP. This impact is thus seen on all the building material suppliers, like cement, steel sand, timber to name a few, architectural and interior designer spending, landscaping and even financing institutions. According to the National Housing Bank, in terms of total linkage effect in the economy, the housing sector ranks fourth in the total economy and third amongst 14 major industries. Further, considering both forward and backward linkages, over 300 other ancillary industries are linked to the housing construction sector, thus drawing in investments and creating jobs at several levels in these industries as well. Importantly, the past experience of reforms ( ) in taxation showed that investments in the development of housing 4 Report on Trend and Progress of Banking in India , RBI 5

8 January 2014 A Cushman & Wakefield Research Publication (such as exemption of Income Tax under section 80 IA and 80 IB) can also create a multiplier effect on the economy, including an increase in tax revenues for the Government and employment in general. For instance, certain exemptions under Income Tax Act and the introduction of a National Housing Policy whereby the Stamp Duties across States were rationalized resulted in increased construction activity and generated employment contributing to the economic growth. For example, there was a huge increase in IT-ITeS commercial building supply, which could sustain the remarkable growth and evolution of the IT-ITeS industry in the country catapulting it to the foremost outsourcing destination in the world. As per the respective countries' government agencies, in the U.S.A the housing multiplier effect, considering direct, indirect and induced effects, ranges from 1.3 to 1.6, in Ireland it ranges from1.4 to1.7; in Australia construction sector multiplier is around 2.9. Apart from the multiplier effect of the housing sector, the non-monetary impacts like social and environmental benefits, health and hygiene benefits and eradication of homelessness have significant multiplier effect in improving the quality of living. MULTIPLIER EFFECT OF HOUSING SECTOR SERVICES SECTOR skilled labour for construction, design, engineering, banking and finance, sales and marketing, etc PRIMARY SECTOR Raw materials - sand, iron, wood, stones, etc HOUSING SECTOR Boosts investments, employment, infrastructure development, MANUFACTURING SECTOR Cements, bricks, glass, wood, tiles, electricals, machinery, fixtures and fittings, etc 6

9 HOUSING: THE GAME CHANGER HOUSING AND ITS ROLE AS AN INVESTMENT ASSET As a capital intensive sector, the construction of real estate projects is also considered a risky proposition by the RBI and hence, the sector has been placed on the negative list for business funding. Consequently, besides being charged a higher rate of interest, the RBI has also discouraged banks from actively lending to developers. Given the current economic conditions where developers are faced with headwinds of subdued sales, increasing input costs and restricted and expensive access to PE INVESTMENTS IN RESIDENTIAL SECTOR 30 CROSS BORDER INVESTMENTS DESTINATIONS TOTAL VOLUME (MILLIONS IN USD) China 127,158 United Kingdom 116,030 USA 95,587 Germany 63,522 Australia 29,836 Japan 22,184 Singapore 14,158 Russia 9,591 Hong Kong 9,317 South Korea 6,374 Singapore 6,300 Brazil 5,698 Malaysia 4,411 India 2,533 Source: Real Capital Analytics, Cushman & Wakefield Research Note: Cross border investments in real estate in the last 48 months 25 INR Billion (Till Q3) Source: Real Capital Analytics (RCA), Cushman & Wakefield Research capital, they have had to turn to Private Equity (PE) Investors and Financial Institutions for funding. Within the real estate sector, housing as an asset class has always enjoyed highest contribution compared to other assets classes due to higher returns and easier exit options and has contributed to more than 40% of the total yearly PE investments across asset classes for the past five years. The housing sector has witnessed a total investment of INR 22.4 bn in the first three quarters of 2013 as compared to INR 25.1 bn investment during the same period last year. However total PE investments have increased from INR 37.5 bn last year to INR 47.2 bn in 2013 for the same period indicating greater. Further, India is rate at one of the lowest destinations for 5 attracting cross border investments in real estate globally; in fact it is the lowest even amongst the BRIC countries. Other Asian countries markets such as China, Singapore, Hong Kong, Malaysia, etc. attract much more cross border real estate investments as can be seen from the adjoining table. 7

10 January 2014 A Cushman & Wakefield Research Publication HOUSING AND ITS IMPACT ON URBANISATION AND POVERTY The extent of urbanisation in India is much lower than other developing countries; with only over 31% of the population residing in urban areas. As per the latest Census data for 2011, the urban population in India was over 377 mn or 31.1% of the total population residing in 475 urban agglomerations. The inability of Indian society to keep pace with the increase in population has resulted in an under-supply of housing units, which in 2012 was estimated by the Ministry of Housing and Urban Poverty Alleviation (MHUPA) at mn units of which nearly 95% affects the economically weaker sections (EWS) and low income group (LIG) of the urban population. Cushman and Wakefield Research has projected that demand for urban housing will scale up by nearly 12 mn units by 2017 based on the growth in population alone. Around 23% of this total demand will be 6 generated by the top eight cities of India. By 2021, the urban population is expected to increase to nearly 500 mn, about 35% of the total population of India. The 2011 Census has enumerated that 13.9 mn households with a total population of nearly 65.5 mn people reside in slums in Indian cities. Rural migration is considered to be one of the most important contributors to the growth in the slum population. The number of people and the percentage of population employed in agriculture are on a steep downward curve, reducing from 259 mn (almost 57%) in to 243 mn (about 50%) in Despite the continued large scale migration of the rural poor to urban areas, the Twelfth Five Year Plan ( ), has estimated Population Projections (in Million) PROJECTED INDIAN URBAN POPULATION GROWTH 2,500 2,000 1,500 1, % 28.90% Urban Population 30.02% 31.15% 32.29% Total Population 38.21% Urban Population Percentage 40% 38% 36% 34% 32% 30% 28% 26% 24% 22% 20% Source: Cushman & Wakefield Research, Office of the Registrar General & Census Commissioner, India the total housing shortage in rural areas at million units. The slum population in India was projected to be mn in and is expected to touch mn by This increase in population, if not matched with the required increase in housing units could contribute to the development of further slums in urban areas, creating a social problem and becoming detrimental to the overall health of the Indian economy. Hence, the total housing demand in the country by 2017 could be as high as mn units. Creating flexible affordable housing with certain percentage reserved for rental schemes might provide a faster solution for a slum-free India. In cities such as Mumbai, affordable housing can be mainly developed through the redevelopment of existing slums due to the severe paucity of developable land. Urban Population Percentage URBAN POPULATION (% OF TOTAL POPULATION) 100% 90% 80% Urban Population 70% 60% 50% 40% 30% 20% 10% 0% Brazil China Colombia India Indionesia Japan Malaysia Mexico Philippines Thailand USA Source: Cushman & Wakefield Research, Central Intelligence Agency 8 6 Ahmedabad, Bengaluru, Chennai, Hyderabad, Kolkata, Mumbai, NCR and Pune 7 Report of the Pronab Sen Committee on Slum Statistics

11 HOUSING: THE GAME CHANGER ESTIMATED INDIAN HOUSING DEMAND FOR 2017 DEMAND FOR HOUSING UNITS IN MN. Urban shortage in Rural shortage in Additional demand due to population growth in Total demand Source: MHUPA, National Housing Bank, Cushman & Wakefield Research However, slum redevelopment projects are highly complex and time consuming in nature. The issue of ascertaining the rightful beneficiaries in a slum usually poses as a major problem in India. Additionally, getting the necessary regulatory approvals in place and arranging for the requisite funding for affordable housing projects are the other bottlenecks. With the RBI discouraging banks from lending to real estate companies, the fund flow for India's housing sector is minimal. The establishment of a credit guarantee fund of INR 1,000 crores to provide collateral free housing loan from banks to urban poor is a small, but encouraging move. Moreover, allowing External Commercial Borrowings (ECBs) for affordable housing projects will also help to provide cheaper funds. However, currency devaluations could offset any gains derived from accessing cheap international funding. It is important to note that in developed countries, public sector construction funding through risk free rates is used for social housing. In Scandinavian countries, Netherlands and France additional guarantees were provided for bringing down the rates further. On one hand reserves from rents and subsidies are used as equity to develop social housing by many social sector agencies. On the other hand, in Germany even private equity investment companies and REITs have invested in the social rented housing through large scale municipal sales. Similar models need to be introduced in India for large scale investments to take place in providing the necessary infrastructure, technologies and expertise to develop the necessary affordable houses on a mass scale in a time bound manner. country. The ability of such projects to provide affordable housing at these locations can have a huge impact on attracting the requisite labour to these greenfield sites and ensure that the projects meet with success. Projects such as the Delhi-Mumbai Industrial Corridor (DMIC), which is being developed at a cost of USD 90 bn along a more than 1,480 km stretch, will see major expansion of infrastructure and industry including industrial clusters and rail, road, port, air connectivity in the states along the route of the corridor. This would also necessitate the construction and development of appropriate housing units to cater to the demand emanating from the 3 mn employees planned to be working in the corridor. C&W Research estimates that 3 mn employees will translate to at least 1.5 mn households, most of which will belong to the affordable category. To cater to the housing needs of just the employees of just DMIC, at least 900 mn sf of housing would have to be developed, based on affordable housing guidelines of minimum 300-1,200 sf prescribed by MHUPA. This construction of housing units will require a minimum investment of about INR 1,800 bn for the units alone and further investments would be required for development of social and physical infrastructure to support the housing. Since of every rupee spent on construction activity, 78 paisa gets added back to the economy as mentioned earlier, nearly INR 1,404 bn could be reinvested in to India's economy boosting the GDP higher. Similarly developing housing in the Mumbai-Bengaluru Economic Corridor and the Chennai- Bengaluru Industrial Corridor will contribute immensely to the economy. IMPACT ON LABOUR MARKETS The number of urban agglomerations has increased from 384 in 2001 to 475 in 2011, a decadal increase of 23.7%. This is largely the result of development of new urban areas to ensure that existing urban areas are decongested and to manage the rural urban migration. Consequently we have seen the development of new townships and Special Economic Zones that provide employment opportunities in industrial and manufacturing sectors as well as in IT-ITeS and related activities. These projects are closely correlated to growth of the housing sector as they provide mass employment and attract labour from across the 9

12 January 2014 A Cushman & Wakefield Research Publication HOUSING SECTOR PROBLEMS AND SOLUTIONS The problems of the housing sector are varied and impact not only the developers and the buyers, but the entire economy of the country. There being a high correlation between the real estate activities and a country's GDP, there is clearly the need for a strong and buoyant real estate sector. The issues ailing this sector can be broadly classified in the following ways; however, it is important to note that each of them impact the developer as well as the buyer. TEDIOUS AND PROLONGED REGULATORY PROCESSES Despite India's acute need for housing spaces as well as other commercial workspace needs, project launch and completion delays are becoming increasingly commonplace. Though there are a variety of factors contributing to the delays such as bottlenecks in the supply of raw materials and labour, difficulties in accessing funding, impact of changing market dynamics, etc, it is the process of complying with regulatory approvals that is contributing substantially to the delays. The process of approvals is extremely long drawn and tedious. The construction approval process is complex and as per the report of the Committee on Streamlining Approval Procedures for Real Estate Projects set up by the MHUPA, there are a minimum 34 regulatory processes to be followed by a developer for obtaining construction permits and take an average of 227 days. However, informal surveys with developers in metro cities like Bengaluru, Chennai Mumbai, NCR, etc. and research findings by C&W Research suggest that current regulatory processes are taking an average of months time. Any delay in project launches and completions result in cost escalations of a project, which are passed on to the buyers, thus making purchases highly unaffordable. According to industry experts, the cost of building due to delays in approvals and adhering to regulatory processes can raise the cost by up to 40% of the sales value. This is a double whammy for the buyers who not only have to keep paying their rents and EMIs to banks for a longer period of time, but also have to pay more for the increased costs. Not only this, many a time approvals from environment department take several years. As per CREDAI's estimates, as on 31st October, 2013 around 4,690 projects were awaiting Environmental Clearance at the SEIAA level in the State of Maharashtra. Most of them are waiting clearance since more than 2 years; these comprise of investment of about USD billion. Solution: Most of the departments / ministries / government bodies involved in the regulatory processes for issuing construction permits have a similar checklist, which leads to duplication of work and further delays. Having a single window clearance for all the approvals will drastically bring down the delay and the costs related to corruption. Given the availability of technology, especially Information Technology, many processes can be automated and the need for human intervention can also be reduced substantially. Some cities such as Ahmedabad, Chennai, Cochin, Kozhikode, Madurai, Trivandrum, Pune, etc are already implementing an automated system for approving building plans. Such measures need to be implemented across the country and used in other processes too for reducing the time and costs involved. The approval practices have been streamlined in other countries over the years benefitting the developers as well as buyers by means of cost effectiveness and on time delivery of projects. In Columbia during 1995, building authorizations in Bogotá took 3 years on average. However, today it takes just around a month owing to a broad program of reforms targeting the construction permitting process. Another example can be of Hong Kong SAR (China), wherein as part of its Be the Smart Regulator program, it merged 8 procedures involving 6 different agencies and 2 private utilities through a one-stop centre. Today a single window facilitates interaction for customers. The committee appointed by the Central Government on simplification of approval processes, known as the SAPREP committee has submitted its report. Expeditious implementation of the recommendations made in report is much desirable. LAND RELATED PROBLEMS Land is a limited commodity and the problem is aggravated by the limited supply of developed land with basic infrastructure in place. This is causing a rapid rise in land prices, which in turn is leading to high cost of housing. Lack of clear land titles across the country makes it difficult for the developers to acquire desired parcel of land. Not only does it increase the cost of acquisition, but may also involve long drawn and expensive litigation at a later stage. Further unfavourable land management policies prevalent in some states like the Urban Land Ceiling and Regulation Act (ULCRA) are some of the major roadblocks faced by this sector. Though the Central Government has abolished the Act, some of the states are yet to do the same. Land being a State subject, the laws governing land differ from state to state in terms of outflow for property taxes, stamp duty and registration charges. Further low utilization of available land through low Floor Space Index (FSI) ceilings set in different cities, leads to lesser residences getting developed on a piece of land and translates to lower income for the developers, who is forced to raise the cost of each unit to cover the land costs. Finally, though there much support by all stakeholders for the Right to Fair Compensation 10 8 I USD = INR 61.13

13 HOUSING: THE GAME CHANGER and Transparency in Land Acquisition, Rehabilitation and Resettlement Act, 2012 (previously known as the LARR Bill), certain provisions of the Act could hinder the development of real estate projects and also push by the land acquisition costs substantially. Solution: Given that developable land in India is limited and to keep pace with the increasing urban population, the vertical growth of cities is extremely critical. Thus, re-densification of cities is required to provide adequate housing for all the inhabitants and also cater to the migrants. The tables below portray the range of Floor Space Index (FSI) prevalent in prominent Indian cities. These FSI figures fall way short of those in prominent international cities as can be seen in the adjacent and pose as a significant impediment to FSI ACROSS PROMINENT INDIAN CITIES INDIAN CITY AREA MAXIMUM FSI Kolkata City 3.00 Salt Lake 5.95 Rajarhat 2.50 # Bengaluru City 4.00 Mumbai Island City 1.33 Suburbs 2.70 BKC 4.00 NCR Delhi 3.50 Gurgaon 1.75 Noida* 3.50 Chennai City 3.50 * Additional 5% of permissible FSI is being proposed for Noida's Green Buildings and discussion on making it applicable on other Indian cities is still on. # In case of proximity within 150m radii from any Metro Station Source: Cushman & Wakefield Research FSI ACROSS PROMINENT GLOBAL CITIES COUNTRY CITY MAXIMUM FSI Bahrain Bahrain 17 U.S.A. New York Downtown 15 U.S.A. Los Angeles CBD 13 U.S.A. Chicago CBD 12 China Hong Kong 12 U.S.A. San Francisco CBD 9 Thailand Bangkok 8 Source: Cushman & Wakefield Research further urbanization. Restrictive land use raises the cost of tenements and spoils the green cover, so the FSI norms need to be re-looked at as was recently done by Andhra Pradesh where the concept of FAR has been removed, leading to stabilization of prices and creating adequate supply. Apart from revision of FSI norms, other land reforms also need to be undertaken. Land pooling schemes, already implemented in Delhi and Gujarat are some innovative methods to acquire land at a fast pace but at reasonable rates. These should be encouraged across the country. To give impetus to the housing sector, the basic infrastructure needs to be developed at a faster pace so that newer areas with basic infrastructure like water, electricity, roads and drainage are available to developers. Town planners have a crucial role to play in identifying areas whose land use needs to be changed as per changing needs of the growing city. FUNDING PROBLEMS For a developer, gathering the initial funding poses as a big challenge, especially for new entrants; curtailing the housing supply to a large extent. The RBI has set threshold for the total maximum exposure to real estate, including individual housing loans and lending to developers for construction finance, for banks at 15%, which is quite low and is curtailing the growth of the sector. Absence of long term funding from banks is forcing developers to look at alternative sources of funds, most of which do not offer affordable interest rates and hence, the supply is being stifled. In the case of individual buyers, the persistently high inflation rates have made them suffer in multiple ways affecting their buying ability. Besides having lesser disposable incomes and savings, they are faced with increasing housing prices, further compounded by the high interest rates on mortgages. Solutions: a) Banking & Fiscal Reforms Housing Finance Corporations (HFCs), Non-Banking Financial Companies (NBFCs), Micro Finance Institutions (MFIs), Private Equity Investors (PEs), etc need to be encouraged through simpler regulations and incentives to increase the inflow of funds to the sector. Further, the RBI should expand its scope for 'priority lending,' to cover even lending to developers involved in low-cost and affordable housing as cheap funding is extremely critical for them to develop low cost housing projects. Granting the sector the status of 'Infrastructure/Core sector' or recognising it as an 'Industry' will influence the RBI to declassify the real estate sector as 'high risk.' Housing should be recognized at par with as infrastructure sector and should be given cheaper project finance and the rollover facilities also should be at par with other industries. Currently, real estate has a risk weight of 1.25 which is quite 11

14 January 2014 A Cushman & Wakefield Research Publication high. Lowering of risk weights in turn will result in lower interest rates on loans and increased availability of banking and financial institutional funds to both developers and individuals at competitive lower rates. The Securities and Exchange Board of India (SEBI) is expected to soon allow REITs to operate in India. This will be a step in the right direction for deepening the Indian real estate market. Providing tax incentives to REITs for investment in housing, especially the affordable housing sector will give a much-needed fillip in making these successful. The secondary mortgage market needs to be promoted by the Reserve Bank of India through Mortgage Backed Securities (MBSs) and Collateralized Mortgage Obligations (CMOs) with safeguards in place to avoid a sub-prime crisis in India, similar to that in the U.S.A. b) Tax Reforms In the purchase price of a house, the total element of tax is between 30 to 37 % in most cities, which includes direct and indirect central taxes, state taxes like VAT, LBT, Stamp Duty, Municipal Taxes, Cess, premiums and development charges, etc. In cities like Mumbai merely a single Cess like Fungible Premium accounts for 10 to 15% of the sales value. Hence, rationalisation of taxes is one of the key 'Mantras' to reduce housing prices. This could be achieved in the following ways: Providing suitable incentives and concessions to developers involved in housing projects and encouraging Public-Private Partnerships (PPP), especially for the affordable housing segment will give an impetus. For example, the reintroduction of Income Tax deductions under Section 80- IB will also incentive developers to build affordable housing projects. Given the persistent high interest rates for mortgages and the inability of developers to reduce costs, individual home buyers need to be incentivised through tax exemptions and subsidies. The Union Government had in the past introduced some of these and they had increased buyer confidence. However, they have either been revoked or limited to very narrow band of beneficiaries with some measures such as the recently introduced interest subvention of 1% on housing loans of upto Rs 25 lakhs for homes valued at upto Rs 40 lakhs being limited for only 2 years. The Government needs to keep such measures in place for some time as they will go a long way in aiding buyers. Purchase of a housing unit incurs around 36% in direct and indirect taxes which includes VAT, Service Tax, Excise Duty and Municipal Taxes, to name a few, which is extremely high. The proposed Goods and Services Tax (GST) should include all of these along with stamp duty and registration charges at a more reasonable rate. Subsidies for such high taxes will not reduce the revenue for the government, rather it should be noted that a similar tax exemption in 1998 had rather increased the indirect tax revenue of the government manifold. Special Residential zones on the lines of SEZ, with built-in tax exemptions for a period of 5-10 years are need of the hour and a policy to promote their development could be introduced. MANPOWER & TECHNOLOGY PROBLEMS Despite being the second largest employer in the country, the construction sector as a whole faces manpower shortage. Further, the sector is heavily dependent on manual labour, faces longer time lines for construction completions, which results in supply getting deferred. Hence, technologically, faster and alternative methods of construction need to be adopted on a large scale, so special training for certain skills would also need to be imparted. Solutions: Special construction equipment being imported should be subsidised and the import duty should be waived off. Similarly, construction materials and manufacturing units specialising in substituting imported materials should be given subsidy. Excise duty, etc should be waived off for pre-fabricated construction elements. If the recommendations of the Report on Affordable Housing by the Task Force appointed by the MHUPA are implemented, the stock of housing units targeted at EWS and LIG segment will increase substantially and improve the overall socio-economy conditions. ADDITIONAL SOLUTIONS / REFORMS For those who cannot afford to buy a house, organised development of rental / social housing is also required. In most developed countries, social housing is widely accepted and prevalent; in Asia, Hong Kong and Singapore have highly successful public housing programs that cater to above 50% and 85% of their populations respectively. Public / Social housing owned by the State government, local Government bodies, NGOs or even in public- private partnership could be developed to provide rental housing where the rents can be subsidised by the government to keep them low for the needy. Making rental 12

15 HOUSING: THE GAME CHANGER income tax free or subsidising the tax might also result in housing units that are currently locked up (estimated by the Census 2011 to be around 11 mn in urban areas) to be freed up for renting, besides attracting developers and financial institutes in developing and owning large rental housing projects. Whilst the Government is already aware of a number of these solutions and is also working on some of them, it needs to increase the pace of these much needed regulatory reforms. 13

16 January 2014 A Cushman & Wakefield Research Publication CONCLUSION Urbanization in India has generated huge demand for housing for which neither the cities nor the housing sector is prepared for. Besides an annual 2.1% rise in the number of urban agglomerations resulting from the population growth and the development of new urban centres, an increasing deficit in housing supply coupled with rural migration will result in the proliferation of slums in cities other the existing metros. This urban explosion cannot be ebbed, but needs to be catered to through a comprehensive and immediate change in development control norms like FSI limits, land use patterns, building norms, etc and through policy measures related to release of land parcels, taxation, finance and investment regulations, etc otherwise even more slums will mushroom up, dragging down the productivity and economic growth of the cities. The cities need to grow horizontally as well as vertically and bring the peripheral areas closer through multiple alternatives of good and fast connectivity and strengthening of physical and social infrastructure. Since around 95% of the housing shortage in urban areas emanates from the EWS and LIG categories, alternative methods of providing a home to them need to be implemented. Most developed countries have rental housing in place to cater to the needs to these segments. In India too, participation of innovative public housing structures are required for eliminating slums and providing respectable living for all; so the government has a critical role to play in development of liveable, inclusive cities. Owning a house is also the most important form of financial security for most Indians. A residential property usually appreciates handsomely over time, beating the inflation rate significantly and it can be used to derive value through selling or by mortgaging to meet various personal needs. Consequently, we see most families toil all through their lives to own their dream homes. However, given the increase in incomes, especially double incomes in families, and the explosive growth in middle class population that is also recording increasing number of nuclear families, the demand for housing is increasing unbridled. The growth of the housing sector has had a multiplier effect on the Indian economy and has been a big driver of economic growth. The housing sector generates direct mass employment for unskilled, semi-skilled and skilled labourers as well as many white collared workers; indirectly however, many more jobs are created. Housing is second largest employment generating sector after agriculture in India, which drives the labour market and a host of vocational activities and livelihoods are dependent on this sector for socio-economic development. The growth and development of the housing sector plays a major role in attracting substantial investments from both public and private sectors. The state of the housing sector is co-related with infrastructural development and development of new industrial areas, SEZs and new business districts in any city. Growing presence of new industrial and commercial hubs is an important indicator of the changing landscape. Large township projects in suburbs like Powai in Mumbai have changed the skyline of this area and a similar trend is being witnessed across most cities, where the arrival of many IT-ITeS and BFSI companies, and the setting up of SEZs has led to many housing projects, including large integrated townships being launched. As per the latest Economic Survey of India, institutional credit for housing investment is expected to grow at a CAGR of about percent per annum in next three-five years and the housing sector's contribution to GDP is likely to increase sudstantially. The domino effect of the housing sector is far reaching through direct, indirect as well as induced effects on the country's domestic production, consumption, employment and revenues. Further, the close interrelationship existing between the housing sector and the well being of a nation were brought to the fore by the bursting of the U.S.A.'s housing bubble, which kicked off a deep recession in all parts of the world as well. In the recent years, we have seen Public Private Partnership (PPP) models being introduced for large scale developments. However, developers face major constraints in financing housing projects despite the huge demand-supply gap and the sector cannot be developed through domestic Government and private sector funding alone. The real estate sector's highs and lows since 2005 and the consequent government policy to allow FDI in the real estate sector led to substantial development in 2007 and 2008 before experiencing a downturn. However, the FDI flow in housing and real estate was at only 4% of the entire FDI flow in India for H1 2013, whilst it was a poor 6% even in Yet, there is strong potential to attract even more FDI in to the sector as the interest from even international private equity and venture capitalists is quite high. But this is possible only with the joint efforts of the industry participants and government both. To boost the housing sector, governments at both national and state levels have a crucial role to play and their participation cannot be undermined. In India, the Central Government has taken some positive steps in this direction such as replacing the archaic Land Acquisition Act of 1894 with the recently passed the Right to Fair Compensation and Transparency in Land Acquisition, Rehabilitation and Resettlement Act, 201 (popularly known as the LARR) and seeking to introduce a Real Estate Regulation Bill to regulate the housing sector. Further, the recent relaxation in External Commercial Borrowing (ECB) norms for affordable housing and the proposal to relax FDI norms for housing projects is expected to ease the flow of fund and lead to more supply. However, these are still not enough for the growth and 14

17 HOUSING: THE GAME CHANGER development of the sector, the quick transformation of which is imperative for local and regional economic development as its impacts are manifold. As discussed throughout this paper, the advancement of the real estate sector will have direct and indirect bearing on India's economic growth, employment and other industries and sectors, so it is imperative that the Government fast tracks the pending / on-going policies and regulations. To reiterate, employment in the real estate sector is estimated to be around 7.6 mn, and it has the potential to rise to 17 mn by 2025 leading to increase in employable workforce and contributing to the overall economic growth. The housing sector in India holds tremendous potential to have a positive impact on the economic and social development of the country. A number of incentives such as subsidized land, higher Floor Space Index, timely approvals, concessions and tax exemptions, funding to name a few are necessary to aid development of housing projects. The rise in population and migration from rural to urban areas has led to pressure on infrastructure and increasing costs coupled with the unavailability of requisite units has made housing inaccessible to lower strata of population. As per our estimates, the current shortage plus the expected future demand for housing has increased to mn units, which will require an estimated investment of INR trillion (tn) at today's values. Given the direct multiplier effect of 78 paise for each rupee invested, the estimated investment will channelize INR tn back to the economy further accelerating the economic growth. Therefore, it is imperative that the Government adopts successful strategies from developed and developing nations to reduce this shortage and ensure that the basic need is satisfied. 15