#BQMutualFundShow: How Not To Go Broke When Buying A House
Here’s how customers can make their home loans virtually interest-free.
Consumers can make their home loans virtually interest-free by relying on systematic investment plans. That’s the view of Vijai Mantri of financial services advisory firm Buckfast.
Anyone with a home loan who invests about one-third of the equivalent amount in a good SIP will get back the entire amount (principle plus interest), if the fund outperforms the benchmark Nifty 50 index over the tenure of the loan, according to Buckfast's research.
Mantri explained the methodology and the names of probable funds that people can invest in for the next twenty years, in the latest edition of the Mutual Fund Show.
Here are edited excerpts from the conversation.
Most people own real estate. Most people buy real estate through EMIs. You are saying people can repay their housing loans or manage their housing loan liability with mutual funds. How is that possible?
If you look at the balance sheet of a typical Indian household, the biggest component is mortgage loans. Most people, when they buy a house. take loans. And the average tenure of a housing loan is, say, close to 20 years. If you look at the data for the last 20 years, the average interest rate has been close to 10.7-11 percent. If you have a Rs 10 lakh housing loan, the EMI works out to be Rs 10,000. So over a 20-year period, you are paying Rs 24 lakh back to the housing finance company. So, on a loan of Rs 10 lakh, your cash outflow to the housing finance company is 2.5 times over a 20-year period. That will hit your balance sheet but you take it in the hope that you have a shelter over your head. But is there a method to recover this loan liability? If you look at the Rs 10,000 EMI that you are paying the housing finance company, on which you are paying close to 11 percent interest rate. If you take part of that EMI and put that money into a Systematic Investment Plan (SIP), suppose the mutual fund earns you the same rate of interest as the housing loan rate, you just have to put close to one-third of the EMI and you recover...
If I have a housing loan and if there’s an interest component in the housing loan, I should use some proportion of that money and invest in Systematic Investment Plan and that will help me offset the interest cost.
Yes, but not only offset, you can recover the entire principal as well as interest. In the given illustration, suppose the housing loan runs at close to 11 percent and your EMI is Rs 10,000 per month because the housing loan is Rs 10 lakh. So, you just need to put in 30 percent of that EMI amount. If you have Rs 10,000 EMI, put in close to Rs 2,800 as SIP over a 20-year period. The Rs 2,800 SIP at 10.7 percent could deliver the same amount of Rs 24-25 lakh. This is exactly the expected return on 10.7 percent, which is the housing loan rate for the last 20 years. The Nifty delivered much better performance than this and the diversified equity fund had done much better than that.
We have taken an example of return equal to fixed deposit. Let’s say the return is not 11 percent but 9 percent. What happens then?
Even if the return is 9 percent, your SIP amount instead of 28 percent becomes 36 percent. So, instead of investing Rs 2,800 per month you could have invested Rs 3,600 per month. And Rs 3,600 for last 20 years, even it is growing with 9 percent compounded could in fact could deliver Rs 24 lakh. Even with the fund which is substantially underperforming, you would get this number.
What can an average investor do now? Where do I generate money to invest in SIP which is over and above the money that I am paying on the EMI?
That’s the challenge you will face but you also need to keep in mind the other investment people do besides investing in a house. They have gold, fixed deposits, tax free bonds, money in PPF and EPF. Let’s assume that you are broke when you are buying house, you cut down a lot of spending and you use that entire savings pool to buy a house. Let’s assume that you bought house today but for next 3 years you are not able to invest anything because you have your own expenses and you can’t save more money. So wait for 3 years. But after 3 years, go back to the same calculation. You start investing one-third of your EMI amount and increase that by 6 percent per annum. So, in the given case, suppose we are starting with Rs 2,800 from the first month. But now you don’t start form the first month. After 3 years, start investing Rs 2,800 in an SIP, increase this by just 6 percent per annum. At the same rate of 10.7 percent over a 20-year period, you will have Rs 24 lakh. So, the increase of 6 percent is to make up for the loss of three years time.
How comfortable are you with the rate of returns that mutual fund will give over the next 10 years?
Just look back at what happened last 20 years. In the last 20 years the average inflation has been close to 7 percent. Average fixed return product delivers close to 9 percent. So, take 2 percent for taxation, you got approximately 7 percent return in the fixed return product. The GDP growth expansion has been close to 7 percent over the last 20 years. 7+7=14. So, it’s close to 14 percent. That is the kind of return Nifty has delivered in a 20-year period. So, fixed return delivers 7 percent, coupled with GDP expansion of 7 percent, you get a 14 percent return. And a good fund has done 5-6 percent more than that, historically. Now, let’s look forward. The return would come from GDP expansion + inflation. So, if GDP expansion is going to be 7 percent over next 20 years, inflation is going to be 2-4 percent, then the return is close to 10 percent. Then you add 3-4 percent higher than that. So, you are going to get anything between 12-15 percent tax free return, on an average, in a good mutual fund if you do so through an SIP. But the holding period would have to be 10-20 percent. Then in that given situation, you are going to outperform your housing loan, fixed deposit, gold, real estate and almost any investment product.
So, you are saying the holding period should be above 10 years, at least?
The power of compounding works in your favour if your holding period is longer.
