House Rent or Buy Decision

8/2/2019 House Rent or Buy Decision

1/18

PROBLEM STATEMENT

APPLICATION OF LEASE FINANCING ON HOME BUY OR RENT DECISION FOR SHORT TERM PERIOD

Mr Badlikar is working in a reputed Indian company since last 16 years. He has been recently transferred to Chandigarh for a project work

which will be executed in 5 years. After completion of the project, he will be transferred to new project site in some other city.

Mr Badlikar is looking for a 2 bedroom house on rent in Chandigarh. He has zeroed in on a flat in a society in Sector-62 on a payment of Rs 14000

per month. Following other conditions are to be agreed by both the parties:

1. The house will be given on rent to Mr Badlikar for 5 years

2. There will be an increase in the rent every year. The payable amount of rent shall be equal to the HRA paid by the company.

3. The rent of every month is to be paid at the end of the month

Above conditions were acceptable to Mr Badlikar. However, he got an information that an identical size f lat is available for sale in the same

society for Rs 40 Lakh. One of his close friends advised him to purchase the flat instead of taking it on rent. The purchased house can be sold at

the end of 5 years which Mr Badlikar will be transferred again to some other project. Though not much convinced, Mr Badlikar tried to compare

both the options.

Following data is avaialble with him:

a. Basic Purchase Price of the flat : 40,00,000

b. Registration Charges @ 5%c. Other charges associated with Purchase of flat : 50,000

d. Cost of flat which can be financed by Housing loan from Bank - 80% of the basic purchase price

e. Funds avaialble for permanent withdrawal from the Provident fund (earning 8.5% interest) - 10,50,000

f. Home loan interest rate : 11% (assume no change in next 5 years)

g. Bank Processing charges for home loan apprvoal : Nil (as special scheme is going on)

The Bank officials have given the payment schedule (which is enclosed at Annexure - 1), indicating the monthly amount of EMI, principal and

interest payable on a loan of 32 lakh.


2/18

Following additional information is available

Annual savings in PF of Mr Badlikar= more than 1 lakh per annum

The interest in the PF is compounded annuallyHighest Income tax rate = 30% + 3% education cess

Present Taxable Income in 30% slab = Approx 5 Lakh

Present Rate of Capital gains Tax = 20% + 3% education cess

Assumptions :

Assume Income Tax slabs and rates shall remain unchanged

Rate of appreciation of property in chandigarh 8% per annum

There is an annual upward Change of 6% in Cost inflation Index every year wrt previous year

Mr Badlikar want to know which option is better for him, taking the house on rent or purchase it.


3/18

Annexure-1

PAYMENT SCHEDULE FOR A LOAN OF 32 LAKH

No Month/yearPayment Due

(Rs.)Interest (Rs.) Principal (Rs.) Balance (Rs.)

1 Apr-12 33030 29333 3697 3196303

2 May-12 33030 29299 3731 3192573

3 Jun-12 33030 29265 3765 3188808

4 Jul-12 33030 29231 3799 3185009

5 Aug-12 33030 29196 3834 3181175

6 Sep-12 33030 29161 3869 3177305

7 Oct-12 33030 29125 3905 3173401

8 Nov-12 33030 29090 3941 3169460

9 Dec-12 33030 29053 3977 3165483

10 Jan-13 33030 29017 4013 3161470

11 Feb-13 33030 28980 4050 3157420

12 Mar-13 33030 28943 4087 3153333Total for FY12-13 349694 46667

13 Apr-13 33030 28906 4124 3149209

14 May-13 33030 28868 4162 3145047

15 Jun-13 33030 28830 4200 3140846

16 Jul-13 33030 28791 4239 3136607

17 Aug-13 33030 28752 4278 3132329

18 Sep-13 33030 28713 4317 3128012

19 Oct-13 33030 28673 4357 3123656

20 Nov-13 33030 28634 4397 3119259

21 Dec-13 33030 28593 4437 3114823

22 Jan-14 33030 28553 4477 3110345

Annexure to Problem Statement


4/18

Annexure-1



39 Jun-15 33030 27801 5229 3027630

40 Jul-15 33030 27753 5277 302235341 Aug-15 33030 27705 5325 3017028

42 Sep-15 33030 27656 5374 3011654

43 Oct-15 33030 27607 5423 3006231

44 Nov-15 33030 27557 5473 3000758

45 Dec-15 33030 27507 5523 2995235

46 Jan-16 33030 27456 5574 2989662

47 Feb-16 33030 27405 5625 2984037

48 Mar-16 33030 27354 5676 2978360

Total for FY15-16 331546 64814

49 Apr-16 33030 27302 5728 2972632

50 May-16 33030 27249 5781 2966851

51 Jun-16 33030 27196 5834 2961017

52 Jul-16 33030 27143 5887 2955130

53 Aug-16 33030 27089 5941 2949188

54 Sep-16 33030 27034 5996 2943193

55 Oct-16 33030 26979 6051 2937142

56 Nov-16 33030 26924 6106 2931036

57 Dec-16 33030 26868 6162 2924874

58 Jan-17 33030 26811 6219 2918655

59 Feb-17 33030 26754 6276 2912379

60 Mar-17 33030 26697 6333 2906046

Total for FY16-17 324046 72314

61 Apr-17 33030 26639 6391 2899655

62 May-17 33030 26580 6450 2893205


5/18

Annexure-1



84 Mar-19 33030 25146 7884 2735344

85 Apr-19 33030 25074 7956 272738886 May-19 33030 25001 8029 2719359

87 Jun-19 33030 24927 8103 2711257

88 Jul-19 33030 24853 8177 2703080

89 Aug-19 33030 24778 8252 2694828

90 Sep-19 33030 24703 8327 2686500

91 Oct-19 33030 24626 8404 2678097

92 Nov-19 33030 24549 8481 2669616

93 Dec-19 33030 24471 8559 2661057

94 Jan-20 33030 24393 8637 2652420

95 Feb-20 33030 24314 8716 2643704

96 Mar-20 33030 24234 8796 2634908

97 Apr-20 33030 24153 8877 2626031

98 May-20 33030 24072 8958 2617073

99 Jun-20 33030 23990 9040 2608033

100 Jul-20 33030 23907 9123 2598910

101 Aug-20 33030 23823 9207 2589703

102 Sep-20 33030 23739 9291 2580412

103 Oct-20 33030 23654 9376 2571036

104 Nov-20 33030 23568 9462 2561574

105 Dec-20 33030 23481 9549 2552025

106 Jan-21 33030 23394 9636 2542388

107 Feb-21 33030 23305 9725 2532664

108 Mar-21 33030 23216 9814 2522850

109 Apr-21 33030 23126 9904 2512946

110 May-21 33030 23035 9995 2502951

111 Jun-21 33030 22944 10086 2492865


6/18

Annexure-1



133 Apr-23 33030 20701 12329 2246002

134 May-23 33030 20588 12442 2233560135 Jun-23 33030 20474 12556 2221004

136 Jul-23 33030 20359 12671 2208334

137 Aug-23 33030 20243 12787 2195547

138 Sep-23 33030 20126 12904 2182642

139 Oct-23 33030 20008 13022 2169620

140 Nov-23 33030 19888 13142 2156478

141 Dec-23 33030 19768 13262 2143216

142 Jan-24 33030 19646 13384 2129832

143 Feb-24 33030 19523 13507 2116325

144 Mar-24 33030 19400 13630 2102695

145 Apr-24 33030 19275 13755 2088940

146 May-24 33030 19149 13881 2075058

147 Jun-24 33030 19021 14009 2061050

148 Jul-24 33030 18893 14137 2046913

149 Aug-24 33030 18763 14267 2032646

150 Sep-24 33030 18633 14397 2018248

151 Oct-24 33030 18501 14529 2003719

152 Nov-24 33030 18367 14663 1989056

153 Dec-24 33030 18233 14797 1974259

154 Jan-25 33030 18097 14933 1959327

155 Feb-25 33030 17961 15070 1944257

156 Mar-25 33030 17822 15208 1929050

157 Apr-25 33030 17683 15347 1913702

158 May-25 33030 17542 15488 1898215

159 Jun-25 33030 17400 15630 1882585

160 Jul-25 33030 17257 15773 1866812


7/18

Annexure-1



182 May-27 33030 13750 19280 1480767

183 Jun-27 33030 13574 19456 1461311184 Jul-27 33030 13395 19635 1441676

185 Aug-27 33030 13215 19815 1421861

186 Sep-27 33030 13034 19996 1401865

187 Oct-27 33030 12850 20180 1381686

188 Nov-27 33030 12665 20365 1361321

189 Dec-27 33030 12479 20551 1340770

190 Jan-28 33030 12290 20740 1320030

191 Feb-28 33030 12100 20930 1299100

192 Mar-28 33030 11908 21122 1277979

193 Apr-28 33030 11715 21315 1256664

194 May-28 33030 11519 21511 1235153

195 Jun-28 33030 11322 21708 1213445

196 Jul-28 33030 11123 21907 1191538

197 Aug-28 33030 10922 22108 1169431

198 Sep-28 33030 10720 22310 1147120

199 Oct-28 33030 10515 22515 1124606

200 Nov-28 33030 10309 22721 1101885

201 Dec-28 33030 10101 22929 1078955

202 Jan-29 33030 9890 23140 1055816

203 Feb-29 33030 9678 23352 1032464

204 Mar-29 33030 9464 23566 1008898

205 Apr-29 33030 9248 23782 985116

206 May-29 33030 9030 24000 961116

207 Jun-29 33030 8810 24220 936897

208 Jul-29 33030 8588 24442 912455

209 Aug-29 33030 8364 24666 887789


8/18

Annexure-1



231 Jun-31 33030 2881 30149 284091

232 Jul-31 33030 2604 30426 253665

233 Aug-31 33030 2325 30705 222960

234 Sep-31 33030 2044 30986 191974

235 Oct-31 33030 1760 31270 160704

236 Nov-31 33030 1473 31557 129147

237 Dec-31 33030 1184 31846 97301

238 Jan-32 33030 892 32138 65163

239 Feb-32 33030 597 32433 32730

240 Mar-32 33030 300 32730 0

(Source : EMI calculator on www.loanwala.com)


9/18

Year

Rent after Taxes*

(Rs)

Discounting Rate for

PVF ** PVF ** Total PV (Rs)

1 116088 9.54 0.9523 110,551

2 124380 9.52 0.9108 113,285

3 132672 9.49 0.8721 115,703

4 140964 9.46 0.8361 117,860

5 149256 9.43 0.8023 119,748

577,147

* For details, Please refer Working Note 1

** For details, Please refer Working Note 2

I. PV of Cash Outflows under Rent alternative


10/18

Year EMI (Rs)Loan repaymnet

for the year (Rs)

Tax Advantage on

interest * (Rs)

Loss of interest due

to withdrawal of PF #

(Rs)

Net cash

Outflows (Rs)PVF * Total PV (Rs)

A B=A x 12 C D E=B-C+D F G=E x F

1 33,030 396,360 46,350 89,256 439,266 0.9523 418,313

2 33,030 396,360 46,350 96,840 446,850 0.9108 406,991

3 33,030 396,360 46,350 105,072 455,082 0.8721 396,877

4 33,030 396,360 46,350 114,000 464,010 0.8361 387,959

5 33,030 396,360 46,350 123,684 473,694 0.8023 380,045

Less PV of Profit on Sale value of house at the end of 5 years (1920954*0.8023) @ 1,541,181

Add : PV of Tax Liability due to Long Term Capital Gains @ 107,964

556,968

Mr Badlikar's Annual saving through PF is more than one lakh. Therefore no tax rebate shall be applicable for the Principal amount

* For details, please refer Working Note 2

# For details, please refer Working Note 3

@ For details, please refer Working Note 4

Since the PV of cash outflow in Borrow & Buying Option is less than Rent Option, therefore Mr Badlikar should buy the house

by taking a loan from the bank. The house may be disposed off at the end of his tenure in Chandigarh

II. PV of Cas Outflows under Buying Alternative

III. Recommendation


11/18

Working Note 1

Mr Badlikar's taxable salary in 30% bracket is more than 5 lakh (given), and the amount of House

rent payable is much less than 5 Lakh (as shown below), therefore he will enjoy a tax rebate

in the highest income tax bracket for the full house rent paid

Month House Rent Paid Tax Saving (@30%+3% Edu Cess) Rent After Taxes

1 14000 4326 9674

2 14000 4326 9674

3 14000 4326 9674

4 14000 4326 9674

5 14000 4326 9674

6 14000 4326 9674

7 14000 4326 9674

8 14000 4326 9674

9 14000 4326 9674

10 14000 4326 9674

11 14000 4326 9674

12 14000 4326 9674

Total for the year 1 168000 51912 116088

13 15000 4635 10365

14 15000 4635 10365

15 15000 4635 10365

16 15000 4635 10365

17 15000 4635 10365

18 15000 4635 10365

19 15000 4635 10365

20 15000 4635 10365

21 15000 4635 10365

22 15000 4635 10365

11 of 18


12/18

Working Note 1


23 15000 4635 10365

24 15000 4635 10365


25 16000 4944 11056

26 16000 4944 11056

27 16000 4944 11056

28 16000 4944 11056

29 16000 4944 11056

30 16000 4944 11056

31 16000 4944 11056

32 16000 4944 11056

33 16000 4944 11056

34 16000 4944 11056

35 16000 4944 11056

36 16000 4944 11056


37 17000 5253 11747

38 17000 5253 11747

39 17000 5253 11747

40 17000 5253 11747

41 17000 5253 11747

42 17000 5253 11747

43 17000 5253 11747

44 17000 5253 11747

45 17000 5253 11747

46 17000 5253 11747

47 17000 5253 11747

48 17000 5253 11747


12 of 18


13/18

Working Note 1


49 18000 5562 12438

50 18000 5562 12438

51 18000 5562 12438

52 18000 5562 12438

53 18000 5562 12438

54 18000 5562 12438

55 18000 5562 12438

56 18000 5562 12438

57 18000 5562 12438

58 18000 5562 12438

59 18000 5562 12438

60 18000 5562 12438


13 of 18


14/18

Working Note 2

The amount of interest payment varies from year to year, but the tax rebate is available on Rs. 1,50,000

or actual interest payment, whichever is less.

From the payment schedule, it is evident that the interest payment in first five years is always more than Rs 1,50,000.

Therefore, tax rebate on the interest is available only on Rs 1,50,000.

Since the ratio of tax saving to the interest paid shall vary each year, therefore, cost of debt after taxes will

also vary from year to year.

Extrapolated PVF at the cost of Debt

Year1 Year2 Year3 Year4 Year5 Remarks

A Interest paid during the year 349,694 344,294 338,268 331,546 324,046 As per payment Schedule

B Amount of Interst Eligible for Tax Rebate 150,000 150,000 150,000 150,000 150,000

C Tax Advantage on Interest (B x 0.309) 46,350 46,350 46,350 46,350 46,350 **

D Cost of Debt after taxes [11%(1-C/A) 9.54 9.52 9.49 9.46 9.43

E PVF at 9% (monthly payment table) 0.955 0.915 0.878 0.843 0.81 ##

F PVF at 10% (monthly payment table) 0.95 0.907 0.866 0.828 0.792

G

Extrapolated PVF at the cost of Debt after

taxes 0.9523 0.9108 0.8721 0.8361 0.8023 Explained below

** Since Mr Badlikar's taxable salary in 30% bracket is more than 5 lakh, he will enjoy a tax rebate in the highest

income tax bracket for full Rs. 1,50,000

## The rent is to be paid at the end of each month, we will use the PV table for monthly payments

Extrapolating the PVF at the cost of debt

PVF at 9% (from monthly payment table) 0.955

PVF at 10% (from monthly payment table) 0.95

Difference in PVF per 1% change in discounting rate 0.005

Cost of Debt in Y1 9.54

Extrapolation is required for additional 0.54% 0.955 - (0.955-0.95) * 0.54


15/18

Working Note 3

Interest Schedule on amount withdrawn

from Provident fund to purchase the flat

Month Amount (Rs) Interest Rate Interest (Rs)

1 1,050,000 8.50% 7,438

2 1,050,000 8.50% 7,438

3 1,050,000 8.50% 7,438

4 1,050,000 8.50% 7,438

5 1,050,000 8.50% 7,438

6 1,050,000 8.50% 7,438

7 1,050,000 8.50% 7,438

8 1,050,000 8.50% 7,438

9 1,050,000 8.50% 7,438

10 1,050,000 8.50% 7,438

11 1,050,000 8.50% 7,438

12 1,050,000 8.50% 7,438

89,256 Add this to Next Year Pricipal

13 1,139,256 8.50% 8,070

14 1,139,256 8.50% 8,070

15 1,139,256 8.50% 8,070

16 1,139,256 8.50% 8,07017 1,139,256 8.50% 8,070

18 1,139,256 8.50% 8,070

19 1,139,256 8.50% 8,070

20 1,139,256 8.50% 8,070

21 1,139,256 8.50% 8,070

22 1,139,256 8.50% 8,070

23 1,139,256 8.50% 8,070

24 1,139,256 8.50% 8,070

15 of 18


16/18

Working Note 3



25 1,236,096 8.50% 8,75626 1,236,096 8.50% 8,756

27 1,236,096 8.50% 8,756

28 1,236,096 8.50% 8,756

29 1,236,096 8.50% 8,756

30 1,236,096 8.50% 8,756

31 1,236,096 8.50% 8,756

32 1,236,096 8.50% 8,756

33 1,236,096 8.50% 8,756

34 1,236,096 8.50% 8,756

35 1,236,096 8.50% 8,75636 1,236,096 8.50% 8,756


37 1,341,168 8.50% 9,500

38 1,341,168 8.50% 9,500

39 1,341,168 8.50% 9,500

40 1,341,168 8.50% 9,500

41 1,341,168 8.50% 9,500

42 1,341,168 8.50% 9,500

43 1,341,168 8.50% 9,50044 1,341,168 8.50% 9,500

45 1,341,168 8.50% 9,500

46 1,341,168 8.50% 9,500

47 1,341,168 8.50% 9,500

48 1,341,168 8.50% 9,500


49 1,455,168 8.50% 10,307

16 of 18


17/18

Working Note 3


50 1,455,168 8.50% 10,307

51 1,455,168 8.50% 10,307

52 1,455,168 8.50% 10,30753 1,455,168 8.50% 10,307

54 1,455,168 8.50% 10,307

55 1,455,168 8.50% 10,307

56 1,455,168 8.50% 10,307

57 1,455,168 8.50% 10,307

58 1,455,168 8.50% 10,307

59 1,455,168 8.50% 10,307

60 1,455,168 8.50% 10,307

123,684

17 of 18


18/18

Working Note 4

Value of the House at the beginning of the

year Appreciation during the year @8% **

Appreciated value at the end of

the year

Year 1 4000000 320000 4320000

Year 2 4320000 346000 4666000

Year 3 4666000 373000 5039000

Year 4 5039000 403000 5442000

Year 5 5442000 435000 5877000

** rounded off to nearest thousand

Principal Amount Paid in Year 1 46667





Total Principal Amount Paid in 5 Years 293954

A Sale value of the House 5877000

B Amount of Loan taken from the Bank 3200000

C

Balance amount of Principal amount to be

returned to Bank 2906046

D

Amount to be deposited back to Own

Sources 1050000

E Profit (A-C-D) 1920954

Chane in Cost inflation Index every year

wrt previous year 6%

Indexation Factor in 5th year 1.34

Indexed Cost of Acquisition 5352902

Long Term Capital Gains 524098 Sale Value - Indexed cost of acquisition

Tax Liability on Capital gains 107964

House Rent or Buy Decision

Documents

Transcript of House Rent or Buy Decision