Use MFs To Buy Your Home

payment and other ancillary costs associated with buying a house can be a daunting prospect. The article walks you through the steps required to fulfil your dream of buying a house 

Payment and other ancillary costs associated with buying a house can be a daunting prospect. The article walks you through the steps required to fulfil your dream of buying a house 

There are few things as important and emotional for an individual as having his or her own house. In fact, so important it is that it has remained one of the most important themes of election manifestos of most of the political parties where they promise to provide a house for every common man. It has also been well-publicised by the film industry through various movies and songs where a ‘home’ has remained the key goal of many a protagonist. The love to own a house is so much that even in the pandemic-stuck year of 2020, the real estate market in India continued with a boom run. Major cities saw a surge of property buyers and realty companies remained one of the favourite companies in the stock market.

Besides emotional investment, buying your own home is also one of the biggest financial investments and also one of the most expensive ones if you are not planning to send your child abroad to pursue some exotic course in the lap of the Alps. Therefore, buying a home for many remains their biggest expenditure. Since it requires a huge cost, a home loan is usually required to fund a major part of it. Even the down payment and other ancillary costs associated with buying a house are so high that it requires sound planning in advance. Therefore, we will walk you through the steps required to fulfil your dream of buying a house.

The Cost Factor
Before starting a journey, one should know the destination. In case of buying your house you should know the total cost of the house you are going to buy. There are various layers of costs associated with buying your house. Besides the actual price of your house, costs such as stamp duty, registration charges, no dues certificate from society if you are a buying second-hand property, broker commission if you have engaged a broker to source the property are some of the charges that you need to incur upfront. Depending upon the location of your property, you can assume anywhere between 10-12 per cent of your property value as an additional cost.

Now let’s calculate the property price that you are interested in buying and the total upfront payment you need to pay. In recent years, property prices have been climbing north. As per data published by NHB RESIDEX, India’s first official housing price index launched in July 2007 to track the movement in prices of residential properties in select cities on a quarterly basis, on an average property prices have increased by 5 per cent since the start of FY13. Nevertheless, in the last one year the pace of rise in property price has increased. Therefore, we will assume 8 per cent annual increase in property prices.

Let’s take the example of Manohar Chahar, who recently joined one of the IT companies in Pune. He liked the city and has decided to buy a house in Pune. The location where he is looking to buy a home of 2 BHK will cost him Rs70 lakhs. Let us assume that he has to buy house right now and wants to finance part of it. Normally, Manohar would be required to pay anywhere between 10-25 per cent of the home loan’s amount as down payment. If he decides to avail 80 per cent loan and 20 per cent as down payment, he will have to arrange Rs14 lakhs i.e. 20 per cent of Rs70 lakhs. In addition to this, add another 10 per cent as stamp duty, registration charges and other ancillary costs. So, Manohar needs to have at least Rs21 lakhs in order to buy his dream house. If he decides to furnish his house he can assume another Rs3-4 lakhs. And so it totals up to Rs25 lakhs. However, not everyone can have such an amount at his disposal. Therefore, buying a house requires proper planning in advance to arrange for such upfront cost.

Upfront Amount
The amount calculated above is for someone who is going to buy the house right now. Let us now assume that Manohar is looking to purchase such a property in the next five years and by that he will arrange the required amount. Nonetheless, he will have to arrange a higher amount as the price of the property will also increase at a rate of 8 per cent every year. So now the similar property will cost Rs1.04 crore in the next five years and he will have to make a down payment of Rs36 lakhs to purchase a similar house.

Monthly Investment
Amount Once you know the amount you need for the down payment, the next step is to invest an appropriate amount so that you do have the target amount after five years. Thus, it can be consid-ered to be a medium-term goal. Given this goal, it comes under the ‘need’ category and so Manohar needs to ensure that the capital is protected and he avoids taking high risk. Thus, at a broader level his asset allocation should be 50 per cent into equity and 50 per cent into debt assuming he is a moderate risk-taker. Now within equity he should either invest in large-cap funds or flexi-cap funds. In case of debt funds, medium duration bond funds with Macaulay duration of around five years would be a good option.

While investing in equity funds, he will need to ignore the short-term market fluctuations and focus on the returns that can be generated over the long-term horizon such as a decade. There are two ways to invest: either lump sum or through a systematic investment plan (SIP). The first option is out of the question as the entire exercise is done assuming he does not have the required amount. If you aim to accumulate an amount as large as this, you should invest regularly through SIP. When you invest using a SIP plan, you need not worry about timing your investment at all as you get the benefit of rupee cost averaging. Besides, when investing through SIP for medium to long-term investment horizon, the power of compounding comes into play, which assists in building the desired corpus.

Investment Amount
This is the biggest question: how much should Manohar invest regularly to finance his upfront payment for buying the house? Returns from an asset will depend upon the duration for which you invest in them. For the medium-term and long-term horizon, the return potential differs. The following table will give you a sense of the returns you can expect from different asset classes in different time horizons.

The above table shows you how much return you can earn in three years, five years and 10 years from different asset classes. From a large-cap fund you can expect around 14 per cent return every year while from a medium duration fund you can expect anywhere between 6-7 per cent. Thus, going by asset allocation decided in the above paragraph (50 per cent equity and 50 per cent debt), the weighted average return Manohar can expect is 10.5 per cent. Now he has 60 months or five years to invest to accumulate the required amount. Therefore, let us calculate the amount Manohar needs to invest every month to accumulate the required down payment and other charges. He will need to need to invest Rs45,878 every month for the next five years. Thus, he will invest Rs27.5 lakhs in the next five years that will help him to accumulate Rs36 lakhs.

However, investing such a hefty sum every month could be cumbersome given he is entering into the corporate world where the salary would be in the range of Rs10-12 lakhs per year. Investing 50 per cent of the salary would stretch his finances. Therefore, treat accumulating such a huge sum more like a marathon and not a 100 metre sprint. As in a marathon, Manohar would have to increase the pace and distance gradually as he builds stamina. A step-up SIP would enable him to increase and step up the SIP amount as he earns more. For anyone in the same situation as Manohar, just step it up by adding an automated feature that will increase your SIP contributions after a specific period.

Step-up SIP is also known as top-up SIP. You are essentially topping up your SIP by a certain percentage every year – for instance, Rs5,000 in 2015, Rs5,000+10 per cent in 2016, and so on. You can do this in line with your current income, prospec-tive yearly increments and of course financial goals. This lays down a set plan for the investor to reach the predetermined investing amount over a period of time. To continue with our example, if Manohar expects an increment in his salary by 10 per cent every year, he can increase his SIP by 10 per cent every year. Now let us see the amount he needs to start investing so that he gets the required corpus. 

The above graph shows the investment value through both SIP and step-up SIP over the years. Assuming that your investment grows at an annualised rate of 10.5 per cent, in simple SIP you need to invest Rs45,490 every month. Nevertheless, if you do a step-up SIP, you will have to start with Rs37,805 that needs to increase by 10 per cent every year. Although Rs37,805 also looks to be on the higher side for someone who is starting his career, either he can delay his purchase or reduce the amount required to buy the house.

Selecting the Funds

It is advisable that you keep separate funds for different goals that occur during different phases. Selecting the ideal fund that will help you meet your requirement is very important as it ensures that your goal is achieved. Thus, instead of investing in just one fund as discussed above, you may consider diversifying investments across at least two or three different funds if the monthly outflow towards the goal is on a higher side. Align your investment horizon and risk appetite while selecting funds. For equity you may consider one large-cap dedicated fund and one flexi-cap fund. Spread your investment equally.

Therefore, Manohar has to invest Rs9,500 every month in selected funds which need to be increased by 10 per cent every year. In general, even for the debt fund you can spread your investment in two different funds of Rs 9,500 each. Not invest-ing the full SIP amount in one fund ensures that the portfolio benefits from the expertise of different fund managers and also from the performance and characteristics of various funds. Remember, the importance of diversification can never be ignored when it comes to investing. If you do not own a home, then this may be the right time to buy one because the interest rate is low and affordability is at the highest in recent years. 

"Accumulating down payment for buying your house is more like a marathon and not a 100 metre sprint. As in a marathon, you would have to increase the pace and distance gradually as you build stamina"

Arranging only the bare minimum down payment may lead to a big financial burden in the future. So, it is better to invest in a mutual fund for a few years and make a down payment. We have taken into consideration only a generalised case. There are some benefits available under the PMAY-CLSS scheme which can also be availed. Once you have accumulated the down payment amount, you can apply for a home loan through online financial marketplaces offering comparison amongst various lenders to choose the most suitable lender for your home loan.