Archive for July, 2013

Taking inflation in your stride

Image courtesy Hindu

 

Having done various back-of-the-envelope calculations, you must have arrived at a savings target for your child. After adding in a buffer, you must be satisfied about the figure you have calculated and have perhaps started saving to reach your target.

But hold on! Are your calculations on the spot? Have you calculated the invisible ever looming cost for all investors – Inflation?

 

Inflation hits just about anything one need to live on — rice, vegetables, clothing, fuel, medicine and doctors’ fees and most especially the cost of education.

 

A simple example to understand inflation is that when a small child takes 3 steps forward and two backward, he has crossed the distance of just one step.

Similarly if your savings are earning you 12% p.a. but the inflation is raging at 10% p.a then your net savings are growing at only 2% p.a.

 

To look at this by zooming into the future, if your genius 8-year-old child’s medical education costs Rs 5 lacs now, by the time he is eighteen it will cost Rs. 10,79,462/- at a moderate 8% p.a. inflation rate. That is more than double of the current cost of education.

The inflation will lessen the current value of your money hence to beat inflation:

  • While choosing  an investment make sure that the return is more than the inflation rate.
  • When planning long-term savings, remember that the cost of living will go up by the time you reach the goal.  So set the goals for the child’s saving plan accordingly.
  • To help make sure inflation does not eat into your savings, you could increase any amounts you regularly put away by a percentage that at least matches the inflation rate. When they’re added to the total sum, compound interest will further contribute its earning magic.

 

 Article written for Fidelity Investments

 

 

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Mortgages in Reverse

In India, we pride ourselves for our family values and joint family support system. But the urban culture is creeping in all corners of India. Independence has become a catch word for not only the yonger generation bit also for the senior citizens. Today’s grandparents want to live life on their own terms and do not want to be financial dependent on their children. Many provide for the retirement years through savings. But often the income required for retirement is underestimated or due to some reason a chunk of the retirement funds are used for other purposes like medical emergencies, child’s education etc.

Coming to the rescue of senior citizens who need a steady income during their golden years is reverse mortgage. Highly popular in the west reverse mortgage unlocks you’re the money locked in you most important asset – your home.

What is reverse mortgage?

A reverse mortgage is a loan against your home that you do not have to pay back for as long as you live there. With a reverse mortgage, you can turn the value of your home into cash without having to move or to repay the loan each month. The cash you get from a reverse mortgage can be paid to you in several ways: all at once, in a single lump sum of cash; as a regular monthly cash advance; as a ‘credit line’ account that lets you decide when and how much of your available cash is paid to you; or as a combination of these payment methods.

No matter how this loan is paid out to you, you typically don’t have to pay anything back until you die, sell your home, or permanently move out of your home. To qualify for most loans, the lender checks your income to see how much you can afford to pay back each month. But with a reverse mortgage, you don’t have to make monthly repayments. So you don’t need a minimum amount of income to qualify for a reverse mortgage. You could have no income and still be able to get a reverse mortgage.

With most home loans, you could lose your home if you don’t make your monthly payments. But with a reverse mortgage, there are no monthly repayments to make, so you can’t lose your home by not making them.  Reverse mortgage systems would, perhaps be a boon to senior citizens who are property rich, but cash poor, and shall be another instrument for the banks to compete for

 

How does it work?

Suppose the value of your house is assessed at Rs. 60 lakhs and you are 65 years of age. Going according to the general stats, assuming that you will live upto the age of 82 years, you are eligible to get loan for a tenure of 15 years. It becomes important to mention that the older you are the more eligible you become for the loan since this would reduce your loan tenure. Coming back to the example, lets say you get 60% of the value of your house as loan, which comes to Rs. 36 lakhs. It means that the amount you will receive be Rs. 88,000 on an annual basis so every month you will receive an amount of Rs. 7,352 for 15 years.

 

Value of the property Rs.60,00,000
Tenure of reverse mortgage 15 years
Amount of mortgage 36% i.e. Rs.36,00,000
Monthly income Rs. 7,352

 

 

How do you get the loan?

 

You have to approach a housing finance company (HFC) or a bank and express your interest in pledging your home for the reverse mortgage scheme. The HFC will asses the value of your house and, depending on your age and the prevailing interest rate, the amount of loan payable to you will be decided upon.

The value of the house will be determined by independent valuation through the generally accepted property valuation methodology in the industry. Though there would be a provision for periodic valuation and consequent adjustment of payments, the loan amount will be fixed on the basis of current value and not on possible future appreciation.    The interest rate at which the loan will be given most likely to be marginally higher than the prevailing interest rates as the lending company will receive its money when the borrower dies. The loan to value ratio is fixed at 45-60 per cent of the value of the property based on the age.

What happens after the loan tenure?

Under the present recommendations of the NHB, the borrower needs to be 62 years of age and the tenure of the loan is fixed at 15 years.  However, if he outlive the tenure of the loan, he will not be asked to move out of the house. Although payments will stop after 15 years, the interest will keep accumulating till the accounts are finally settled.
The corpus accumulated at the end of 15 years will be used to fund the years that you outlive the loan tenure.  The accounts will be settled by the HFC only after the borrower’s death or if he vacates or sells the property. The settlement of the outstanding loan amount, along with the accumulated interest, will be met by the proceeds of the sale. In the event of his death, his spouse can continue to occupy the property until her demise, and she usually made a co-borrower. So it makes sense to include the spouse in the loan or else the bank will reclaim the loan after the borrower’s demise.

How is it different from a usual home loan?

A Reverse Mortgage as the name implies goes in reverse of the usual loan structure. Here it is the borrower who gets a monthly payment instead of making a payment. There is an evaluation of the cost of the property and then the around 60% of that is lent by the bank. It is a loan without recourse. The lender will never ask the borrower to pay the loan amount instead he will recover the loan after the death of the borrower.

The rate of interest is expected to be 1-2% higher than the home loan rate. There will also be some additional cost like the property evaluation costs. The reverse mortgage does not take into account any income stream or your earning capacity. It will only evaluate the value of your home and lend.

 

 

Some quick facts about reverse mortgages

  • To qualify for a reverse mortgage, you must own your home.
  • The amount you are eligible to borrow generally is based on your age, the equity in your home, and the interest rate the lender is charging.
  • Because you keep the title to your home, you are responsible for taxes, repairs, and maintenance.
  • Depending on the reverse-mortgage plan you choose, your reverse mortgage becomes due, with interest, when you move, sell your home, die, or reach the end of the selected loan term.
  • The lender does not take title to your home when you die, but your heirs must pay off the loan. The debt is usually paid off by refinancing it into a forward mortgage (assuming the heirs are eligible) or with the proceeds from the sale of the home.
  • A real benefit of reverse mortgages is that borrowers can live in their homes as long as they like, even after they have completely exhausted their equity. Borrowers must do their best to maintain the value of the home with diligent upkeep.

*Published in Capital market magazine

Holidays for a lifetime – or not?

 

A timeshare is a jointly owned property, usually an apartment in a resort   that is jointly owned by people who use it at different times. In other words, timeshare is the right to spend a specified period of time (say, a week or more) in a vacation/holiday property. For instance, if a person purchases a timeshare for one week at a resort in Goa, he will have the right to spend one week there each year. In such a case, there may be up to 52 timeshare owners in the same resort each year.

The memberships are long-term — usually for 15 or 25 years — and members pay annual fees towards maintenance charges like upkeep of property, utilities or staff salaries

Apartments are fully furnished with well-equipped kitchens. The time share period can be used as currency that gives an option to the timeshare owners of holidaying at different places each year through the exchange facility extended by most of the timeshare companies.

The amount you pay depends on the location, the time you choose and the size of the accommodation.  You can also choose your vacation time of the year – peak, off peak and off seasons and the payment you make will vary accordingly.

Most timeshare companies are affiliated with RCI which offers national and international locations for exchange by pooling in many other companies.

Are they right choice for you?

Timeshare resorts offer sounds fantastic. But there are a few grey areas that you should be careful about.

Choose timeshare holidays if:

–          You can plan your holiday well in advance – The most popular destinations are booked months in advance, so if you are a last minute guy, time share is not the answer for you.

–          Holiday regularly – Timeshare vacations usually offer a week of holiday each year, so you will make a good deal if you take a vacation regularly with your family.

–          Understand the extra costs – Timeshare vacations are not a package tour. Besides stay, everything else is charged to you which includes travel, food, sightseeing etc.

–          Are prepared for rise in cost – Inspite of the sales agents claims to the contrary, time share vacations are not inflation proof. The annual charges are increased from time to time.

 

Precautions to take before choosing a timeshare

Scam artist are a dime a dozen, however there are many genuine timeshare companies offering great vacation plans. Here is what you can do ensure you get a good deal.

 

  • Verify the reputation of the company and experiences of existing customers.
  • Invest in an established company, a high-demand location, peak season and a large unit for maximum trading power.
  • Check the rate at which the charges increased and on what basis.
  • Companies should give you benefits such as a 10-day cooling-off period to reconsider your decision.
  • Do not be pushed into hasty payments with hard selling talks and upfront gifts – investigate before you invest.
  • Do consult your family; it is their vacation too.