How is bank finance provided to Private Developers of Commercial Real Estate in India?

The Commercial Real Estate (CRE) bank finance in India is regulated by Reserve Bank India (RBI). The regulator considers this to be a sensitive sector for bank finance and closely monitors the same.  RBI’s latest release indicated about Rs. 1,30,363 crore (USD 24 billion) of gross bank credit being deployed to CRE sector as on February 22, 2013, against Rs. 1,17,961 crore (USD 21 billion) on February 23, 2012.

 

The core definition of CRE lending is considered as lending to income-producing real estate (such as, office buildings to let, retail space, multifamily residential buildings, industrial or warehouse space, and hotels etc.) where the prospects for repayment and recovery on the exposure depend primarily on the cash flows generated by the asset. The primary source of these cash flows would generally be lease or rental payments or the sale of the asset. The distinguishing characteristic of CRE versus other corporate exposures that are collateralised by real estate is the strong positive correlation between the prospects for repayment of the exposure and the prospects for recovery in the event of default, with both depending primarily (i.e. more than 50%) on the cash flows generated by a property.

RBI has issued various circulars for regulating the bank finance to CRE sector and key circulars are Master circular on Housing Finance, and Exposure Norms apart from various other notifications issued from time to time. The key guidelines on financing to private sector Real Estate developers are as under:

1. Banks are not permitted to extend fund based or non-fund based facilities to private builders for acquisition of land even as part of a housing project. (Note : This is a very crucial condition)

2. The period of credit for loans extended by banks to private builders may be decided by banks themselves based on their commercial judgment subject to usual safeguards and after obtaining such security, as banks may deem appropriate.

3. Such credit may be extended to builders of repute, employing professionally qualified personnel.

4. It should be ensured, through close monitoring, that no part of such funds is used for any speculation in land

5. Care should also be taken to see that prices charged from the ultimate beneficiaries do not include any speculative element that is, prices should be based only on the documented price of land, the actual cost of construction and a reasonable profit margin.

6. Banks may extend credit to private builders on commercial terms by way of loans linked to each specific project (Note : This is a very crucial condition)

7. Banks should ensure that the borrowers have obtained prior permission from government / local governments / other statutory authorities for the project, wherever required. In order to ensure that the loan approval process is not hampered on account of this, while the proposals could be sanctioned in the normal course, the disbursements should be made only after the borrower has obtained requisite clearances from the government authorities.

8.  While granting finance to specific housing /development projects the banks should stipulate the following terms and conditions:

-The builder / developer / company would disclose in the Pamphlets / Brochures etc., the name(s) of the bank(s) to which the property is mortgaged.

-The builder / developer / company would append the information relating to mortgage while publishing advertisement of a particular scheme in newspapers / magazines etc.

-The builder / developer / company would indicate in their pamphlets / brochures, that they would provide No Objection Certificate (NOC) / permission of the mortgagee bank for sale of flats / property, if required.

 

With these set of guidelines RBI ensures that bank finance is not channelized to private builders for acquisition of land and there is a tighter control by way of monitoring through project specific lending. These tighter controls have their genesis from the concerns that mild controls may lead to flow of bank finance for acquisition of land resulting in rising of land prices in India which consequently leads to rise of Housing prices and making the access to Housing out of reach of masses. The project specific lending ensures that monitoring of the deployment of bank funds  is possible and timely construction of the project is accomplished.