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Property Development / Property Information

Downside of interest bearing scheme

Downside of interest bearing scheme

False market: The DIBS had created a false demand which in turn pushed up property prices making houses ‘seriously unaffordable’ to the average person.

EVERY now and then some quarters will accept developers’ mantra to re-introduce the Developers Interest Bearing Scheme (DIBS). It should be noted that Bank Negara had prohibited and outlawed “any form of interest capitalisation scheme”. The economic downturn is seen as a fresh opportunity for DIBS to be reconsidered. This time around, it’s only for “first time house buyers”.

Creating property bubble

DIBS or any other permutation similarly “schemed” cannot be allowed to continue for the betterment of the housing industry because it risks creating a property bubble as prices have been artificially increased and they will create a snowball effect.

The prohibition of DIBS, announced in Budget 2014, had been effective in curbing the unbridled escalation of house prices.

Whatever the economic situation the basic facts of DIBS are the same and made worse by the economic situation – it involves developer advancing the expenses of construction and other expenses which are to be collected later as debt from the purchaser with interest element factored in and therefore making the property more expensive.

The purchaser actually lends money to the developer because at the time the deposit was paid, the developer would not have incurred any cost of construction as no work would have started at the time of the payment.

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The scheme claimed to help first-time buyers as they do not have to pay for anything initially and the developer will absorb all expenses, interests and down payments.

If it was only a matter of building and selling houses it may be a valid argument. But is that so?

I shall list out the key reasons why the National House Buyers Association (HBA) is against the re-introduction of the DIBS, even if it is only for first-time house buyers.

It encourages speculation

Any economist worth his salt will say that price is a function of demand and supply.

In a situation where demand exceeds supply, prices will increase. Buying a house is a life-long commitment and requires careful planning and hard work from an early age.

Hence, by reducing the amount of cash outlay that a purchaser needs to make, DIBS will encourage excessive speculation and impulsive purchase. Many first time house buyers may think that they have a chance to make a quick buck by flipping the property on completion without having to pay during the construction stage. As a result, there is a perception of an increase in demand and house prices will be pushed up across the board, making it more difficult for people to purchase their dream home.

Progressive interest is not high

One of the Real Estate and Housing Developers Association’s (Rehda) contention that the DIBS is needed because many of the first-time house buyers are from outstation and therefore cannot afford to pay progressive interest and rent at the same time. This argument does not hold water as the average progressive interest payable is not back- breaking as alleged.

Progressive interest is only payable upon disbursement of the housing loan which is dependent on the stage of completion. We have computed the average interest payable for a mid-level high-rise apartment costing RM500,000 that a typical consumer buys when the developer launches the project.

For the first nine months (in some cases up to 12 months), there is no progressive interest payable as the project has yet to be completed (see table).

The typical progressive interest for the first 1½ years to two years is not very high as the stage of completion is not advanced.

The progressive interest only starts to get higher in the third year as the property is about to be completed.

By this time, if the house buyer has problems servicing both his current rental and the progressive interest, it means that:

(a) the house buyer will probably have difficulty to service his monthly instalment in full, or

(b) his current rental is excessive in comparison with the house buyer’s income.

It is also worth to consider that the borrower’s income could have increased in the third year when the progressive interest really starts to kick in as it has been three-years since the borrower’s loan was approved, thus offsetting any difficulty that the borrower may experience to service both his progressive interest and current rental, if any.

No free lunch

The typical progressive interest payable during the construction ranges between 3.5% and 4.5% of the property price, depending on which unit the house buyer buys and the pace of construction.

In our example above, the progressive interest is 3.77% of the property price.

However, based on HBA research data, the difference in property launched with DIBS and without DIBS was as high as 20% to 25%. This means that a property that only cost RM500,000 without DIBS where the purchaser pays RM18,843.75 in progressive interest would be launched by developer with DIBS at between RM600,000 and RM625,000. This represents a premium of more than RM100,000 over and above the progressive interest payable.

This artificial increase in selling price will in turn push up prices of existing completed properties and also inflate the prices of new properties, with or without the DIBS.

This will make it more difficult for future house buyers to secure their dream home.

DIBS period corresponds with steep increase in property prices

It must be stressed that DIBS was first offered in 2009 until it was banned by end-2013. This corresponded with the period of steep rise in property prices.

The report by Khazanah Research Institute showed that the Malaysian all-house price index grew steadily at a compounded annual growth rate (CAGR) of 3.1% from 2000 to 2009 and suddenly accelerated at a CAGR of 10.1% between 2009 and 2014.

It is no coincidence that the implementation of the DIBS had resulted in house prices spike as the scheme had created a false demand which in turn pushed up property prices making houses “seriously unaffordable” to the average person.

Pay nothing to own a house?

The argument that purchasers don’t have to pay for anything during construction is specious: attractive to the unwary and the desperate. The expenses, in any form, incurred by the developer will eventually have to be paid back, one way or another, by the purchaser with “premium”. The increased amount ranging from 10% to 20% and some even 25%, will have to be paid by purchasers in exorbitant instalments which they are likely to default.

Paying double interest

Consider if the sale price is RM500,000 without the DIBS and 90% financing is RM450,000. Factor in DIBS sale price, say, RM550,000 and 90% financing is RM495,000. The difference in financing is RM45,000. Thus, this difference is the DIBS factor – or in other words, the interest being financed. This simply means that the purchaser has to pay interest on the interest financed.

Not every purchaser borrows the same amount. Is the DIBS price across the board? If one needs only 50% financing, does he pay the same purchase price as a 90% financing purchaser? If yes, then he is obviously overcharged.

Conclusion

One should not lose sight of the basic fact that a roof over one’s head is a compelling and indispensable need of all human beings. Viewed in that light, not just as another package, it will be clear that if one cannot afford to have a roof over his head, he may consider renting. Renting a house has minimal risk compared with buying one.

Perhaps a way out is to expediate the rehabilitation of abandoned houses, numbering more than 90,000 to help buyers of such schemes.

Chang Kim Loong AMN is secretary-general of the National House Buyers Association: www.hba.org.my, a non-profit and non-governmental organisation (NGO). He is also NGO councillor with MPSJ.

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