Do profits in real estate diminish once you materialize them?

POSTED BY Harsh ON July 2, 2012 1:46 am COMMENTS (5)

While reading this blog post https://www.jagoinvestor.com/2009/12/returns-of-real-estate-in-india.html following question propped up in my mind.

My question to you is isolated and hypothetical – please correct me. I will take the example pointed by in the post – so here it goes again.
[“The current market value of my flat in Mumbai is close to 1 crore , I bought it at 28 lacs in year 2000. The returns have been Mind boggling 72 lacs in 9 years, i.e 8 lacs a year approx , more than my current salary and now I am planning to invest more in real estate instead of Equity, What do you think” . A not so close friend was discussing his Real Estate portfolio with me.”]

For a common home buyer lets create some more condition.

1) What if you take home loan
2) What if the city is not Mumbai

Now lets suppose this guy sells his house with 72 lacs of profit with 1 crore in hands. As the example says he earns less than 8 lacs per month and he has this house only, he is planning another property though. Now after sale either this guy needs to buy another house or take a rented house. Lets consider he stays in mumbai only and maintains the same life style, in both the cases where is the profit in real sense? He has to invest that money back for living.
Is he going sit on the cash at the cost of change in lifestyle? What is the future of the money earned? I understand I am considering a closed case, this guy may sell it off and settle in a less costly city.

My questions are:

1) Are profits in real estate hypothetical?
2) Do they diminish after you realize them?
3) Most people buy houses as an investment, but do they really are investments or just a consumption product?
4) In a normal investment product you own the Capital, but if you take a loan, how risky this investment is?

Hoping for a detailed analysis, thanks in advance.

Harsh

5 replies on this article “Do profits in real estate diminish once you materialize them?”

  1. Harsh says:

    Thanks Ashal and Ramesh for Answering… You both Answered in a different perspective. I agree with both of you as both stands out in case by case basis.

    My observation is purely for Indian Middle class so US Subprime crisis, Black Money Involved and how much you can make in equity market does not add up here.

    I have seen many of my friends (27-32 age group) going for home loan and thinking they have secured their future, this is not easy to understand how an apartment will mateialise profits 10, 20, or 30 years from now. Many of these investments happen in B or C grade builders and there is no guarente that they will see next 40 years and holding on hypothetical values that people think.

    I too aspire to own a house but my purpose is not investment and I have discussed with many builders and the first question is – Is it for investment or living? Which means real estate is widely seens and promoted as an investment instrument. I think its point of view – some may find returns huge while others may think they are just above normal 😛 Hope some well point out how risky they are in very long term as these are long term investments.

    1. Dear Harsh, Thanks for providing your views. This Investment or not debate for real estate is running since long. My take is simple – Do not look real estate as a pure investment vehicle. If one is purchasing a house for self consumption, it’s OK but purchasing another 2-3 houses on loan for investment purpose is not ok. Nos. Speak themselves, as rightly pointed out by dear Ramesh regarding super duper returns given by Eq. as a pure investment class.

      Another branch of this debate is renting v/s owning. Again it’s not very easy to pick the winner.

      Thanks

      Ashal

    2. Ramesh says:

      I will just add an often repeated saying:

      In markets,
      Bears make money
      Bulls make money, but
      Lambs get slaughtered.

      So get knowledge, form a conviction and then stand on that unless you have real data to change your opinion. Learn from history.

      Ramesh

  2. Dear Harsh, I’m trying to answer your query –

    1. If the profits are booked like 72L Rs. in the given example – It’s real & not virtual.
    2. If you mean by investing in another house costing more than 1C Rs., well my dear friend, the profit has not diminished & just like any other business, You have redeployed your capital. It may return positive or negative over the period.
    3. It’s not a common thing for all – Most People does not purchase from investment purpose but from consumption purpose & majority of people purchase for taxation benefit.
    4. In Indian context, due to presence of black money in a big way (read cash transactions in real estate), the so called risk of high loan is not there what you are talking or comparing with US sub prime crisis. Yes the major risk comes from your own job (please ask KF & AI pilots & crew members)

    Thanks

    Ashal

    1. Ramesh says:

      Just to add some real data context here regarding comparison with equity returns.

      4 times in 12 years is approx 12% cagr. And there are many 3-5 star funds which have given far more returns over the same period of time (including the not so great performance in last 4 years or so).
      Eg hdfc equity 12x meaning that 28L would have become 3.5 crore Tax free too.

      So time to recheck your calculations and concepts. 😉

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