The word Subvention means “a grant, aid, or subsidy” i.e. the act or process of providing aid or help of any sort. Subvention schemes are basically “aid” provided by builders to their buyers by directly linking the “aid” to their home loans.
How Subvention Works
In standard construction linked home loans an agreement is signed between the borrower (buyer) and the bank. The buyer has to pay 20% upfront for the bank to disburse funds to the builder. However in Subvention Schemes a tripartite agreement is executed between the borrower (buyer), the builder and the bank which states that the builder shall make interest payments (pre-EMI) for the home loans taken by the buyers for the under construction property. Additionally, the buyer pays only 5-20% upfront in subvention schemes much lower than those required under construction linked plans.
There are two different types of Subvention Schemes:
- Fixed Tenure: Usually offered by builders in projects which are at advanced stage of construction. Here the free EMI scheme is limited to a fixed tenure, say between 12 and 24 months. Once the tenure ends the buyer has to start paying pre-EMI irrespective of status of construction & possession.
- Till Possession: In this case the builder promises to pay pre-EMI till possession. This is more lucrative and safer compared to Fixed Tenure schemes and shows builder’s confidence in completing the project on time.
Advantages to Buyers
- Subvention Scheme is a win-win for both buyers and builders. Consumers don’t have to pay for both Rent and EMI. Net savings on the pre-EMI can be utilised by consumers to pay balance amount on possession or for other personal expenses.
- Buyers don’t have to pay a higher amount upfront – they get to buy a property even by paying 5 to 10% down payment and the rest on possession.
- Even if the project gets delayed the buyer doesn’t suffer much as the builder continues to pay pre-EMIs, if the scheme is offered till possession.
Advantages to Builders
- Builders get better sales as more buyers find it lucrative to buy properties with lower down payment and no pain of paying pre-EMIs.
- Builders tend to borrow less from the financial institutions when sales are good because of subvention schemes. Also their cost of borrowings comes down as they are paying interest on customer funds (home loans) at ~9.5% compared to usual borrowing rate of 13%+ from FIs.
Though Subvention Schemes look innovative and lucrative, it has its own share of risks and dangers. And such risks are primarily for the buyers who borrows from the bank.
- If the builder defaults on interest payments to the bank, the credit score of borrowers get affected negatively. Even a minor delay in interest payments gets recorded in the cibil record. A bad cibil shall make it tough to borrow in future.
- Under subvention schemes, banks usually disburses much more than what is required under construction linked schemes. This is called “Accelerated Disbursement Scheme”. This is risky for buyers in case of fixed tenure subvention schemes as the buyers would be forced to pay higher EMIs even when the stage of construction is way behind the % of funds disbursed to the builder.
- Such schemes negatively influences buyers to choose a “not so good project” over a much better project as the free EMI schemes are lucrative.
Recently there were several cases of defaults on interest payments by even prominent builders. To safeguard buyers interests, banks now deduct interest payments upfront before disbursing to the builders. This significantly reduces the risk of default or delays in the interest payments which badly affects credit score of consumers.
- Avoid taking subvention schemes that offers free EMIs for a fixed tenure; ask for subvention schemes till the time of possession as it forces builders to complete the project on time.
- Avoid subvention schemes offered by smaller builders as they may not have sufficient financial strength to complete the project on time.
- Avoid subvention schemes offered even by known developers who have bad history of project delays.
- Always remember Subvention Schemes are NOT free because builders load the cost of subvention onto the sales price; so negotiate the sales price with builders for construction linked payments. In case the difference between the two prices & savings on EMI is minimal, avoid subvention schemes.
- Just because banks have approved the project & the scheme doesn’t mean that buyers should not do the necessary legal, technical & financial due-diligence of the builder & the project. A positive due-diligence report will ensure safety of your investment and peace of mind.
- Customers must read the terms & conditions of tripartite agreement executed between the builder, the customer and the bank in detail. Remember the idiom “The devil is in the details“.