Bachelor's guide to surviving financially in Mumbai

This post applies to youngsters, aged 22 - 25, earning salary between INR 3L to INR 4L who come to Mumbai for their jobs and stay in rental accommodations. If you have your own place, for which you don't have to pay a rent, in Mumbai, you might as well browse elsewhere since this post has nothing to offer you. Just passed college graduates or those finishing their final semesters with a job offer in hand are ideal candidates for this post. However, even if you don't  fall in this category, but stay in rental accommodations, then this post is for you too.

This post is motivated by two things - 

• Having undergone the pains to buy a house in Mumbai, I now wish to be of help to others, setup theirs
• Observing youngsters spend their money I feel a small paradigm shift in the way of their thinking can lead to tectonic change in financial status ( read financial independence).

Ok, so without further delay let me table the idea.

Part A - As-is state

Typically, such a mobile youngster stays with 2 to 3 roommates and spends about 6K INR as monthly rentals. Accommodation is within 20-km radius and spends on public transportation including rickshaws and taxi. Assume 3K INR for transportation cost. Also, the cost of living in proper city including socializing would be higher as compared to undeveloped suburbs. To round-off lets assume an expenditure of 15K per month. Round that off to 2 Lakhs per year. If one stays like this for 5 years he will be 10L INR poorer without having built any assets.

Part B - Proposed change

Mobile youngsters, as described above should move to outskirts of the city preferably within 50-km radius where the cost of a flat is still in the INR 35L - 40L range. Assume zero bank balance, each such youngster will be eligible for a loan of about INR 16L- 17L. If 3-best friends can pool, they can gather a corpus of about INR 50L. This can cover for the cost of a 2-BHK in somewhat remote parts of the city like Vasai / Virar, Taloja, parts of New Mumbai, both sides of Ghodbunder Road (Thane-side and Dahisar-side) etc. The INR 50L corpus can also fend for stamp-duty / registration and any additional liquidity needs. Next comes, the question of commuting from this place to your work. The *ONLY* feasible way IMHO that is the best balance between saving time and money is to travel by 2-wheelers (preferably geared bikes) . The 50L corpus can also buy 3-bikes. Now comes the million-dollar question that - Will banks lend to 3 friends?

No and Yes. No - because if they don't want to lend they will simply show their policies and back-off and Yes - if and only if - you convince them that it is safe to lend money to you. 

After all, the banks have a right and an obligation to ensure that their lending should not become an NPA (non-performing asset). So you will have to woo them, persuade them and convince them that your intentions are honest and you are men of integrity who are serious about paying off the loan. Let's look at some of the ways of raising the capital.

1. Have 3-set of parents be the guarantors.
2. Typically banks assume that you save 30% of your income. Their lending decisions are heavily influenced by the amount you save and not the amount you earn. Read about How the banks calculates loan eligibility?. If you can convince them that you can save more than 30%, you stand a higher chance of securing a loan.
3. Non-banking financial companies (NBFCs) are also an option. They are typically not as strict as banks and they are also in the business of making money. So your loan request is actually a chance for them to earn interest. If they are convinced that its an honest deal, they will lend.
4. If you hunt hard enough, you will be able to find that one bank manager who is hard pressed to meet his targets. Show him the seriousness to buy the house and the unity amongst the three of you. High chances that he may relent.

Bottomline - You are honest, integral and earning individuals who have thought about your financial future and have a plan to execute it. Once you translate this feeling to the lender, you will succeed. Trust me.

If you still need some motivation to cultivate belief that you can get a loan, read up about how the entire Microfinance industry came up. Read up how Dr. Mohammed Yunus brought up the Grameen Bank in Bangladesh which offered loans without any guarantors in Banker To The Poor.

Part C - The Tough Life Begins

After you have bought your house, the hard work begins. You will have to travel longer and harder. Your transportation cost will increase. You may not get enough time for yourselves as you used to get when you were staying closer to the city. You may find it difficult to get domestic help. Load-shedding could bother you. Internet and mobile feeds could be feeble driving you to point of frustration. You will have to take part in society meetings, pay maintenance bills. Scratches on the paint and leaks in the wall will slowly start maddening you. Your bikes will need more maintenance and could eat up your weekends. Some days you may even have to cook for yourself when the Bai falls ill. The cricket playing children and their out-of-control ball will suddenly become a nuisance value when you start thinking about your window glass panes. Bad roads and waterlogging

As a short term solace, you will have saved INR 6K you spent on rent, but because of the above, it will never make it to your bank account. A little bit bigger bonus is that, you will start getting tax benefits. You will be pleasantly surprised when your take home salary increases slightly because less tax is deducted from your salary.  Be content with that for the next 60 months. There are no more goodies. So, what's the advantage you may ask? Why slog so much?

Part D :- The Advantages

1. You become a home owner. A place where you can continue to stay without worrying that 11-months are getting over. Leave license agreements in Mumbai are typically 11 months.
2. You grow as an individual and appreciate the value of money.
3. The slog teaches you so many important lessons of life that you cannot hope to learn in a easy-going life.
4. Your bonding with your friends and co-owners will deepen, grow extremely strong and will last a lifetime. A financial partnership gone well, exhibits this potency, especially when it is hard-earned.
5. When you have clarity of thoughts, your performance at work will also increase. Petty things (such as lease expiry, rent affordability) wont bother you because you will have an inner sense of security.
6. In my personal opinion, financial success also brings success to every other sphere of life, provided it is legitimately achieved. So your face value as an accomplished individual will go up.

 Part E :- Fast-Forward ... 60 months later

The biggest gain, will come in the end-game. 5 years later, its reasonable to expect a 25% appreciation of your property value. So your 40L buy would now be worth ~50L. In 5 years, your outstanding principle would have reduced by INR 4.5L (assuming 10% rate of interest). So you would have a net cash of 50 - (40 - 4.5) = 14.5L INR if you sold the house and closed the loan, after 5 years. So your individual profit would be INR 5L. So at the end of 5 years of your bachelor's stay in Mumbai, instead of being poorer by 10L you can be richer by 5L. Now isn't that worth trying?

There are plenty of other options to explore when you have a house of your own. You are best-suited to make those decisions for yourself. So it needs no elaboration.

 Part F :- The Caveats

To execute a big financial deal, all 3 of you must have a very good understanding amongst yourselves. You can always seek financial advice from others, but you have to have extremely strong friendship bonds for this venture to succeed. The friendship and understanding between 3 of you must not be any less than Jay and Veeru of Sholay fame, or else it could be one of the worst decisions of your life. You have to take this gamble based on your gut feel.

Another, point to consider is that after dissolving your first house and trying to buy a second one, the banks will consider it as second home loan. Normally when your first loan is fully paid-off, there is no liability and no issue in getting a second one, but you should read up second home loan rules for taxation purposes.

Have skipped the details in some places, to keep the post size small, but if anything is not clear to you, please do post your comments and I will be happy to answer.

So, all you close friends, team up and begin your journey to financial wellness. All the Best !!

Back of the envelope home loan calculations - Part II

In the previous post, I wrote about a simple way of finding the amount, one ends repaying when s/he avails the loan. In this post I am going to write about should one dip into savings or avail the maximum limit of the loan? This was asked to me a few months back and that's when I started thinking about it.

My friend was in a unique position that he had more home loan eligibility than he had a requirement for. Not many are lucky, the way he was. When he asked me whether he should dip into his savings or avail the full loan limit I had no answer. I promised to get back to him after doing my homework and it was interesting when the answer revealed itself.

As usual, let's put in some numbers and do the calculation. Let's say, my friend needed INR 50L and he had a saving of about 12L. Lets assume his loan eligibility is also INR 50L. Now the question becomes, should he take a loan of full 50L INR or opt for a loan of 38L and use his savings worth 12L? In both cases, he would spend INR 50L.

For the sake of simplicity, the calculations are done with the following assumptions

1. Tenure of the loan is 20 years.
2. Rate of interest for Loan and Savings will remain unchanged for entire tenure.
3. Rate of interest payable on Loan and receivable on Savings is equal.
4. Things like tax benefits on housing loan and tax payable on savings interest etc is kept out of consideration for simplicity of calculations.
5. Savings are compounded for entire duration of the tenure and there is no withdrawal during the service period of the loan.

Lets consider a rate of interest band between 6% and 14% which are typical for home loan and fixed deposit rates. Also, for making the analysis more interesting lets vary the Savings corpus that my friend held.

To recap,

• Loan Amount = INR 50L
• Savings = Varying between 5L and 15L INR
• Savings calculation Method = Compound interest calculated yearly
• Rate if interest for both Loan and Savings = Varied between 6% and 14%

Total amount paid to close the loan is based on this table (and explained in the previous post, Back of the envelope home loan calculations)

Table 1:- Amount repayable across varying rates

Hence amount repaid at 6% rate for 20-years is 50L x 1.72, at 7% is 50L x 1.86, ... so on and so forth. Comparing loan amount paid to amount received by investing the savings for a return of between 6% to 14% gives a clear picture which helps in answering our original question.

Figure 1:- Amount Paid v/s amount earned over 20-year tenure

The dark red color shows the loan amount repaid at various interest rates whereas the other lines display trend for different savings amount over the same set of varied interest rates.In my friend's case (Orange Line) where the Savings corpus was 12L, the red curve and the orange curve meet at the 13% mark and overtakes loan curve at 14% mark. This means that if my friend can manage to compound his savings at a rate of 13% or more he will have earned more money than spent on repaying loan. Note that for higher savings corpus , the need for savings growth requirement gets moderated to ~12% in order to stay in green.

Looking at the chart my friend made his decision. You will have to make yours.

The rule of thumb guidelines are as follows

1. If your Savings corpus is 30% or more of your loan amount and your loan / savings rate is in double-digits, one may benefit by retaining the saving and availing the full loan eligibility
2. If your Saving, is <20% of your loan amount, it almost always makes sense to use your savings and draw lesser amount in loan (or repay immediately)
3. If your Savings is between 20% and 30% of your loan amount, then its game-on. If you are able to grow your money at a higher compound rate than your loan rate, you win, else you lose.

Hope this post has been able to explain the dynamics of money and equipped you to make more informed decisions.

Adios Amigos !

Back of the envelope home loan calculations

In this post I am going to write about how to do simple back-of-the-envelope home loan calculations. It is much easier than remembering complex financial formulas and then working them out in excel.

Lets say, you want to figure out how much amount you will end up paying before you close the loan and what tenure should you opt for? To make things simpler, lets assume that the rate of interest will remain constant throughout the tenure.

Now let's throw in some numbers and begin calculations. Lets say, you want to opt for a loan of 30 Lakh INR ( 3 million INR) and your bank is offering you a rate of interest of 10% for a period of 20 years. All you now need to do is look up the multiplication ratio in the table given below to figure out the amount repaid, to close the loan.

Table 1:- Amount to Principal Ratio

Looking up, we find that the value is 2.32. This means you will end up repaying 2.32 x 30 Lakhs = 69.6 Lakh over a period of 20 years to close the loan. Similarly if your loan principal is 50 Lakh INR you will end up paying 1.16 Cr over 20 years. Find a pictorial version of the same table below.

Fig 1:- Amount to Principal Ratio v/s Interest Rates

Lets take a third example to help understand how to interpret the graph. Lets say, your interest rate is 14% and your tenure is 20 years, then following the blue line shows that the ratio is ~3. This means you will end up paying approximately 3x your loan amount if the rate of interest is 14% and tenure is 20 years.

Now, isn't that simple? In fact you don't even need a pencil or an envelope to do that kind of calculation.

The simplicity comes at a small cost. The actual amount you end up paying will deviate from the calculated value by less than 0.2%. This value is negligible enough to be overlooked.

Hope this makes your calculations easy and fun and good luck with buying your Dream House !!!