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Mutual Funds Vs Real Estate – Which is better for Investing in India? (2019 Follow up post)

Note – This is a guest post by Ajay. He has previously written on this topic here. Since a few years had passed, he was kind enough to share his views again (with a useful real-life example). Ajay has also authored other interest posts here like How He created a corpus of Rs 3.7 Crore in just 10 years. So over to Ajay for this post…

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A few years back, I had written on a controversial topic – Investing in Mutual Funds Vs Real Estate in India. I wanted to do a follow-up post on the topic as with each passing year, a new set of people begin asking the same questions:

  • Are mutual funds better than real estate for investing in India?
  • Can investing in real estate be better than investing in equity funds?
  • Mutual Funds Vs Real Estate – which is better
  • And similar versions asking the same things…

So let me try and address this again…

I once again reiterate that there will be many reasons for investing (or let’s say putting money) in real estate – such as peer pressure, family pressure, social status etc. and I am not debating the same. This question of whether you should invest in Real Estate (for investment) or Mutual Funds, can only be answered by you and you alone.

And therefore, this article should ideally be read in that spirit.

The intention of this post is to present facts based on the actual data, from both real estate and mutual funds from an investor’s perspective and ofcourse, my opinion on the same. 🙂

Also, as stated in the earlier post:

  • A home is a place to live and it should not be linked to one’s investment strategy. There should not be any second thought about buying your 1st property for self-occupancy whether with or without tax benefits.
  • I am aware and acknowledge the fact that being Equity and Equity Funds oriented investor, my views will tend to be biased towards Equity investments than Real Estate investments.
  • The experience and the actual investment returns of Real Estate investors vary from location to location. And therefore, many of you may not agree with the conclusion or findings of this post. Nevertheless, through this article, I have analyzed the actual data from the Real estate and mutual fund investments in India.

So let’s go ahead…

Real Estate Investment

In August-2010, a friend of mine decided to buy a 1200 Square feet (Sq.ft). Flat in the outskirts of Bangalore (@ Rs 2290 per Sq.ft.) through a housing loan. The details are as follows:

  • Cost of Flat (including Car parking, Utilities, Legal costs, Deposits etc.): Rs 31,39,500
  • VAT, Registration & Stamp paper: Rs 3,02,566

Total Cost of Flat (all Inclusive): Rs 34,42,066

To fund this purchase, he used:

  • His own money (Rs 12,42,066) and
  • Took a home loan for Rs 22,00,000 from a bank.

The loan EMI was Rs.21,343.

As like many of you committed individuals, he paid all the loan EMI on or before the due dates, and also increased the EMI amounts as his salary increased during the loan tenure. He also made part payments many times to accelerate the loan closure and to settle the loan as early as possible. He also put this house on monthly rental as he had to live in another city for professional reasons.

Kind of an ideal way of managing a home loan you can say.

Now let’s look at the numbers below (if you are interested in the actual loan cashflow data):

MF SIP vs Real Estate

Now the loan ended recently (in May-2019).

So I sat with my friend and re-calculated the actual cost of his flat:

Total Cost (Flat in Hand) – Rs 34.4 lac

Downpayment – Rs 12.42 lac

Loan – Rs 22.00 lac

Total EMI Paid – Rs 25.73 lac

Total Initial Downpayment & Prepayments – Rs 18.67 lac

Actual Cost of Flat (excl. rent)- Rs 44.40 lac

Rent Received – Rs 11.36 lac

Net Amount Paid for Flat – Rs 33.04 lac

These are real numbers. Real actual numbers.

Let’s move further.

With the loan completed in almost 9 years time, and with the general assumption of property appreciation, we expected the property to fetch at least double the investment (value) of net amount paid for the flat.

So we expected Rs 66 lac from the sale of the property.

However, we did not find a single buyer even at Rs 55 lac!!

From the local brokers and available market information, we got to know that the property could be sold immediately for Rs 40 to 42 lac and if we were lucky, it can be sold for a stretched value of Rs 45-48 lac (let’s say max Rs 50 lac). Also, there will be capital gains tax on the profit amount.

While it is concerning that there was no value appreciation despite the area is connected and having all the basic amenities in the near vicinity, I decided to take this as a case study to see an alternative scenario – where investments had been made in Mutual Funds. I wanted to know what would have been the outcome.

Mutual Fund Investment

I chose 3 funds to feed the investment data in MF (same amount invested as EMI, downpayment and prepayment on the same date as the loan payments were made).

The choice of funds were as follows:

  • 1 decent performing fund (Franklin India Equity),
  • 1 market performer (UTI Nifty 50 Index Fund), and
  • 1 worst performing fund (LIC Multi-Cap Fund)

Since the direct plans weren’t available in 2010, regular plan (i.e. ones with higher fee and lower returns) were chosen for data crunching. So here are the details below (or you can skip and go straight to the summary just after the table):

Mutual Fund SIP vs Real Estate India

Summary of the above investment table is as follows:

Mutual Fund SIP vs Real Estate 2019

Conclusion:

From the table above, it is clearly evident that if instead of buying the flat, the investment was rather made in the worst performing mutual fund, it would still have given returns of Rs 55.5 lac against Rs 40-48 lac current market value of the flat.

Investment in the index fund would have fetched a much better Rs 67.94 lac. And if you luckily had invested in a very good fund, then it would have given you about Rs 78+ lac.

Not bad. Right?

I know what many of you might be thinking…

While we can debate the time of entry in mutual funds, time of entry or locality or high cost paid for the property etc., I still find merit in investing in Mutual Funds instead of Real Estate flats as an investment. And I very well know that irrespective of the above data favouring MFs, many will still argue in favour of the real estate. I leave the decision to you.

An important point that shouldn’t be missed in this Mutual fund vs real estate debate is the importance of selecting a good fund (or avoiding bad ones) for investment. And if we stretch this topic a little, it opens up another separate debate on the Active versus Passive Funds which I guess is best left for another post.

Note: In the calculation of Real Estate, the cost for Home Insurance, Home Maintenance, etc. was not included. Also, the Rs 2 Lac tax savings during this tenure was not considered as there will be a capital gain tax on property investment too. Equity investment until March-2018 were are tax-free and therefore, the tax implication would be negligible in case of equity investment in the above case study’s tenure.

Concluding Thoughts

As stated in the previous post on the debate of real estate vs mutual funds, I once again have the same concluding thoughts.

And this is a repetition of the earlier statement. One should not give any second thought about buying the 1st house/property for self-occupancy, whether it is with or without tax benefits.

However, based on the comparative analysis done above, one should think twice (or even ten times…) before buying a home for investment purpose. One should carefully weigh all the available data (Or as much reliable information you have) and then take a wise call.

Just because your friend or family members are investing in real estate does not mean that you should also do it.

Diversification aspect should also be looked at. But you should not avoid evaluating your own financial goals. This is extremely critical. And don’t just evaluate and feel helpless about it. Find out how you can plan to achieve them and then decide whether you actually need (or want) to ‘invest’ in real estate or not. Different people will get different answers.

Without doubt, a physical asset (like a house) will always give huge mental comfort and satisfaction over other financial assets like mutual funds. But it is also true that it may not always be the best available investment option. In fact, investing in house funded through a loan, is a huge long-term liability – which in many cases, chokes the person’s ability to save and invest for other goals in right instruments.

In my opinion (and it is mine so you can choose to ignore it), after the purchase of the 1st  property for self-use, if there is any surplus cash left to invest, you should invest it as per your asset allocation (which includes debt, equity, gold & real estate). If the asset allocation permits you to invest in real estate, you may very well do it. But if it doesn’t, then you should refrain from investing in it just because it’s what everyone else around you is doing.

And please, investing in real estate for the sake of saving taxes may not necessarily be the best thing to do. If need be, do not hesitate in taking financial advice to put in place a solid investment plan for your life.

As stated at the beginning of this article too, this is one hell of a controversial debate.

And there is no one straight-forward or logical answer to it. There are no thumb rules either. You and you alone can answer the question of Real Estate Vs Mutual Funds.

In this article (and in the earlier one), all I have tried is to attempt to clear the myth that “Real estate investing is the only best Investment Option” available for everyone. As you might have noticed (if you have spent some time reading the tables above), that all calculations have been done by estimating the returns net of expenses. We just cannot ignore expenses like those many who just tell you the number of times their property has appreciated in value. It’s not correct.

Hope you found this analysis interesting and useful.

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Written by Dev Ashish

Founder - Stable Investor Investing | Personal Finance | Financial Planning | Common Sense

5 comments

  1. I like your analysis very much. I really appreciate your efforts towards this laborious or complex EXCEL calculations and I find you have passion in it.

    I am too avid supporter of MF over second flat investment, and thus I agree with your conclusions. However, I want to understand, have you considered the following other issues?

    It’s not finding fault at your writings, but to improve my knowledge, I have following queries for you and if you take time to reply, I would be grateful to you. My queries as follows:

    (1) I hope, you have not included tax benefits on interest payments in your calculations. During initial periods, even if the interest varies from 1 to 1.5 lac @ 20% or 30% tax exemption would run in to substantial amount.

    (2) I hope, you may argue that you have not included the rent in to income and this may offset the interest exemption. In rental, it’s only 66% is taxed.

    (3) If so, that’s where our Indian Real estate sector gains edge over developed countries ;like USA. In India, most of the time or most of the cases, people don’t show rental as income or even manipulate with other headings such as maintenance, cash, etc

    (4) As our real estate sector is not as efficient as stock market, there’s lot of black money and cash involvement, people don’t look at the way you calculate.

    (5) My important doubt is, instead of doing such cumbersome calculations, can’t we find XIRR, using excel of your friend’s cash outflows at various stages and rental inflows every month and arrive exact IRR over a decade of REAL ESTATE INVESTMENT?

    (6) And repeat the same for MF investments by finding XIRR for the same amount of cash inflows and outflows on same dates running over a decade.

    Really I am looking forward to you for the point # 5 & #6 as it’s my doubt and I know you are expert in this calculations.

    Really appreciate.

    Ramu from Chennai

    1. Dear Ramu,

      Thanks for your detailed comments.

      1. Tax benefits are already considered in calculations as per actual nos.
      2. Tax saving on interest is also adjusted for rent received, therefore the tax saving lower.

      The idea here is not to calculate the XIRR of RE but to compare how you would have fared if you had invested in MF instead of buying a flat (not for self use and through bank loan) the same amount.

      XIRR of RE may vary largely between investor and there is no credible data for that. MF past returns are easily accessible.

      Regards

  2. Gud nd detailed analysis. Such articles are coming at a time when a person is tucked between two situations and creates more dilemma😜.

  3. I think the biggest mental block that people have towards investing in Mutual Funds is that they are risk averse and cannot tolerate volatility which will always be a part of the stock market. With Mutual Funds, people can check the value of their investments everyday which is not possible with real estate.

    Most people don’t have the stomach to withstand negative returns over a period of 3-5 years which is very much possible with mutual funds. However with real estate, even if the value of their investment tanks in the short term, there is no benchmark or price chart that will let us know the current market price of the flat. So we sleep well at night with the assumption that our flat is increasing in value everyday. That peace of mind is what people want.

    Moreover, with real estate everyone thinks long term and there is hardly any chance of getting negative return over a 10+ year period. This is what comforts people in the end.

    If there was a closed ended MF with a 10 year duration and it did not show NAV until the 7th or 8th year but were promised by the agent that they would get around 10% returns average, I am sure most people would have opted for that since they don’t have to see the volatility.

    Also, the black money angle in real estate cannot be ignored. With Mutual Funds, everything is in white but people can hide their black money in real estate and even with 2-3% lower returns over MF, it can still pay a lot more returns if they can get away without paying tax on that. As for rental income, who pays tax on that? I don’t know a single person who does.

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