Off-plan buying: Is it still safe?

The Hass Property Index for the fourth quarter of last year raised questions about the off-plan buying model that has steadily picked up, but developers say it is a non-issue, writes Ferdinand Mwongela.

With the vibrant real estate industry, developers came up with innovative methods of attracting buyers who also, with time, embraced these ideas in a previously conservative market. One such idea is the off-plan buying model that, after a slow pickup, has become the darling of both developers and buyers. Developers go into a project with the assurance of sale already made, while buyers reap from huge discounts offered at the beginning.

However, the Hass Property Index for the fourth quarter of last year showed mixed fortunes for developers and buyers, which included casting doubt on the sustainability of the off-plan method of property buying.

This is not the first time a not-so-rosy picture has been painted of the local property market. As the global property market came crashing in 2009/2010, the local industry was awash with whispers of a possible bubble burst, one that never came to be.

However, interest rates went through the roof late last year as the Central Bank of Kenya struggled to bring under control the slide of the Kenya Shilling against major world currencies. This too, pundits claim, did not greatly affect the development of houses, especially considering the low number of mortgage holders in the country.

"The tripling of interest rates — devastating as it is proving for business, economic growth and new construction — has had little impact on house prices," said Farhana Hassanali, the Hass Consult business development manager.

On the other hand, however, the index raised certain issues. Hassanali, for example, pointed out that financial pressure is the main challenge for developers.

Financial pressure

"The developers now completing building are under a great deal of financial pressure. Their costs have climbed sharply and now their finance costs have jumped and their access to finance has been curtailed. The reality is that there will now be some developers who will not make it through this ever narrowing walkway," she said.

Hassanali added that the market would see some building work abandoned on bankruptcy and there might not be finished housing that can be sold at discount.

"These half built premises will present a real blow to those who have paid deposits and to the developers themselves," she warned.

This in essence raises doubts on the viability of the off-plan model, with Hassanali saying buyers would be well advised to choose solid developers.

"We now see developers retreating at speed. Very many building plans have been shelved, at least for the time being. Where constructions are underway, future phases have been postponed and current phases down-sized, meaning the supply of new housing is being drastically reduced," she said.

Minimal Loss

However, Sue Muraya, the director of Suraya Property Group Limited, has used the model for some time and says it is stable and sees no trouble in the horizon. She asserts that off-plan buying is still the best, adding that buyers attracted to this model buy it because of the lower prices of the houses compared to when they buy a ready product.

She argues that buying at the end means the price will include the capital gain, the profit margin as well as the prevailing interest rates, which will be much higher than off-plan buying.

"You have done your research (before making your offer) and here there is a certain relationship based on how construction is going," she says.

Those in the industry, however, say even if a developer were to stall halfway, the loss to the buyer would be minimal.

The off-plan model employs several methods of payment, depending on the developer. The deposit could be paid directly to the developer or deposited in an escrow account.

George Laboso, the head of mortgage services at Family Bank, points out that even when a client takes out a mortgage to buy off-plan, the amount is only released once the house is complete.

"We do not pay until the house is complete. We (mortgage financiers) do not finance 100 per cent, but we give about 80 to 90 per cent," he explained.

The buyer is required to raise the remaining percentage, which in most cases is equivalent to what the developer is asking as deposit.

In this scenario, the buyer will pay this ten to 20 per cent to the developer as a deposit and the bank will release the bulk of the payment once the house is complete.

Daniel Ojijo, the executive chairman of Mentor Holdings, also sees no risk in the off-plan model. He points out that by the time of commencing a project, a developer has mitigated risks such as the elements of project finance, "unless someone does not know how to go about it".

Market forces

"You cannot go into, say, a Sh300 million project and you have Sh10 million without knowing where the balance will come from," argues Ojijo.

He adds that financiers are aware of the market forces and any changes and would not abandon a developer.

"A financier will not abandon you because the interest rates have gone up. They have already given a commitment," he says.

Ojijo adds that the off-plan model presents certain advantages, including substantial discounts.

"People who buy off-plan do so because of substantial discounts, maybe 30 or 40 per cent," he says.

The index also raises pertinent questions. It agrees that the property prices are high, revisiting the fear that at some point, buyers could be left holding properties that are worth less than they paid for if the market corrects itself.

"Both house prices and rentals in Kenya are unusually high as a proportion of average income by global standards," said Hassanali.

She, however, pointed out that the country still remains short of housing stock, saying the only things that could possibly cause a slide would be a massive increase of the population available to buys or a sudden arrival on the market of large amounts of housing that is currently owned and lived in, as a result of home loan borrowers defaulting.

Given the low number of mortgage holders locally, however, the second scenario is a little out of its time.

"We see no likelihood or even possibility of a wave of mortgage defaults that would lead to a tumble in house pricing," Hassanali said.

All in all, the property market came into last year chased on its heels by the ghosts of rising costs of construction and interest rates that more than doubled as the year wore on.

This not withstanding, developers express confidence in the market.