When the measures with regards the property sector were unveiled in the Oct 25 budget, developers and house buyers viewed them with confusion.
There were essentially three issues – a more stringent real property gains tax (RPGT) compared with previous years, the banning of Developers Interest-Bearing Scheme (DIBS) and increased transparency imposed on developers who now have to display detailed sales price including benefits and incentives such as legal fees exemption, cash rebates and free gifts. In short, the net price minus the freebies.
While the RPGT is a straightforward tax on gains upon disposal, property professionals and developers felt the ban on DIBS would result in other forms of marketing strategies. A check with a couple of developers reveal they have replaced DIBS with other schemes. The new schemes – developers interest subsidisation schemes and developers interest rebate schemes, to name two – requires buyers to pay the interest first. The developer reimburses the buyer for the interest paid on submission of receipts on a periodical basis; every quarter, for example.
By whatever name it is known, interest is still factored into the house price.
Last week, a circular by Bank Negara to financial institutions may have put paid to such marketing strategies.
The circular Measures to Promote Sustainability of the Property Market tackles the issue of lending on two fronts. It targets both house buyers and developers. It prohibits financial institutions from lending to individuals and non-individuals buying a property offered under an interest capitalisation scheme (ICS), or any permutations thereof.
Second, it prohibits financial institutions from granting bridging facilities to finance a development that offers ICS.
ICS is a generic term which covers any schemes in which interest is capitalised, or imputed into the price of the property. This measure by Bank Negara can be viewed from different fronts.
First, it is part of the mechanics of putting the budget measures into operative mode. Second, it is an outcome of the government, the central bank and the various agencies coming together to ensure compliance. Its single aim: to ensure sustainable prices.
That circular came about as a result of a statement by the Urban Wellbeing, Housing and Local Government Ministry dated Nov 15.
The National Housing Department (NHD), which comes under the purview of the ministry, implemented a new condition effective Nov 15. It will not grant developers a housing development licence or an advertisement and sales permit if a project has ICS elements. Incidentally, a developer must apply for an advertisement and sales permit in order to sell a project.
Because of this statement, Bank Negara issued that circular to ensure co-ordination between the different authorities. “This measure is taken to enhance the ability of the people to buy a house and to ensure stable home prices and also to curb speculation. In addition, speculative activities also have an impact on house prices. This situation may adversely affect the property market in the long run,” the NHD statement said.
To comprehend how ICS rises prices, one must view the workings of this mechanism from a big picture perspective. Properties, whether landed or high-rise condominiums, are launched in phases. There is generally a 10%-15% price increase with each subsequent launch. If there are 100 units to be launched, a developer may launch 50. If the demand is good, it may launch the remaining 50 the same weekend, with a price increase of 10% to 15%.
Factoring interest into the cost of the house raises prices within a short span of time, especially if demand is strong. Initial buyers will be happy because they perceive their property has “increased in value” in a span of a weekend.
Further to this, the Bank Negara circular also raised the subject of the loan-to-value ratio.
In 2010, those who buy a third and subsequent property have to pay a 30% downpayment, what is known as a loan-to-value (LTV) ratio of 70%. This 30% was supposed to be calculated on the net value. At around that time, developers also gave freebies in the form of price discounts or rebates, free air conditioners, free first year maintenance and legal fee exemptions. Developers did not display the net value of the property. As we all know, there is no free lunch. The cost of these freebies have already been factored into the house price. Over the years, this gross value was used in the sales and purchase agreement and in determining the LTV ratio.
This practice of using the gross value tends to inflate prices over the longer run. These gross numbers are recorded by the National Property Information Centre (Napic). This result is a distortion of property values over time, This call for transparency ensures that Napic has access to the net and true value of the properties. This is important for valuation of the property sector on a longer term.
In the event of a foreclosure, complications arise because the price includes freebies. Therefore, this ruling by Bank Negara must be viewed positively. It will help to bring down household borrowings, bring about banking stability and transparency when it comes to record-keeping purposes.
