LIC Housing scam draws attention to artificial real estate valuations and govt bank support to the sector   

November 25, 2010

Real estate valuations are opaque and the government had openly supported the sector after the financial crisis. The current real estate scam is the outcome of these two factors, say experts

The arrest of eight officials from public sector banks and financial companies for allegedly taking bribes to sanction loans to realty firms, has drawn attention to one of the key factors that has led to this real estate scam: Opaque valuation methods that allow artificially high valuation of properties, making it possible to go for such improper loans.

“It’s not just a matter of involvement of public sector banks or mediators; the system of real estate valuations is the crux of the scam,” said Pankaj Kapoor, CEO & founder of Liases Foras, a real estate rating and research firm. “I think the Central Bureau of Investigation (CBI) got involved in the matter because there could be risky securities on which loans have been given. For instance, a property which should have a value of Rs150 crore is being projected as worth Rs500 crore. That becomes the security on which a bank gives loans and is where the risk comes in,” Mr Kapoor told Moneylife. The real estate sector is the least transparent of the large business sectors. Developers are always keen to get huge finances on artificial valuations on their properties as the industry is unregulated.

Officers in the top management and middle management of Bank of India (BoI), Central Bank of India (CBoI), Punjab National Bank (PNB), Life Insurance Corporation of India (LIC) and LIC Housing Finance were receiving illegal gratification through a private financial services company, acting as mediator and facilitator for corporate loans and other facilities from these institutions, the CBI said in a statement.

“As of now, the name of only one arranger (of the loans) has come out, but I think there would be small and big arrangers in the industry,” Mr Kapoor said.

Being an unorganised and unregulated industry, not just big but small developers too in major cities try to value property rates to their advantage. It is left to diligent banking officials to give loans against valuations that are realisitic. “There were pressures on the PSU banks to give more and more loans to developers,” explained Mr Kapoor.

As a fall-out of the LIC Housing scam “there will be repercussions in terms of increased caution by banks in lending to developers. Borrowing will become more expensive and the process involved in getting loans will get lengthier as banks increase their vigilance levels. This means that we may see a marginal increase in the dependence on private equity,” said Anuj Puri, chairman and country head, Jones Lang LaSalle India.

Experts have been expecting a sharp fall in property rates since last year, when other industries were crippled in the recession; but property rates did not come down significantly as developers continued to get funds from financial institutions.

“In the period of the recession, when real estate prices had to come down significantly, why did the government ask PSU banks to give loans to  the real estate sector? Now we are suffering the effects of that decision. This year we have crossed another peak in real estate rates because the government allowed further infusion of funds in the real estate industry,” Mr Kapoor said. — Moneylife Digital Team