In a welcome move for homebuyers, the Union Cabinet has reportedly approved amendments to the Insolvency and Bankruptcy Code (IBC) allowing the status of financial creditors to homebuyers. This status means a homebuyer, who had paid money for buying property in a project that has been stalled by insolvency, will have equal rights with other creditors like banks and institutional lenders, making it easier for her to recover her money.
"This is a great news for homebuyers," says Ramesh Nair, Chief Executive and Country Head, JLL India, adding, "Previously, if any realty firm went through bankruptcy, the priority of recovering dues from the project was first given to financial creditors such as banks and institutions, followed by operational creditors such as vendors and employees. Homebuyers were widely regarded as merely consumers and did not specifically fall under the liquidation claim waterfall, placing them at a disadvantageous position and exposing them to significant risk upon investment in under-construction projects."
The Union Cabinet, during its previous discussion, had expressed concerns about homebuyers not being involved in the insolvency process like creditors and were also not allowed to initiate the insolvency process. The Cabinet went on to examine the peculiarity of the Indian real estate sector where the delay in completion of under construction apartments had become a common phenomenon. It recognised that amounts raised under homebuyer contracts are significant and contribute to the financing of construction of an asset in the future, thus categorising them as secured financial creditors.
In the current financing landscape, majority delinquent real estate assets are either restructured or taken over by new sponsors and subsequently refinanced - especially when the project is structured as a special purpose vehicle. Therefore, it is only in cases where the developer is under extreme financial duress that financial institutions are likely to proceed under the IBC.
Following the Cabinet ordinance, homebuyers will share equal priority, in terms of default waterfall, with lenders, in case of bankruptcy-led liquidation. Accordingly, homebuyers will be part of the Committee of Creditors that approves a resolution plan and their voting rights will be in line with their advances or money paid to the builder or developer.
India Ratings and Research (Ind-Ra), however, feels that the final contours of the code needs to be seen for smooth functioning of the committee, considering several homebuyers and voting rights. "This will strengthen home buyers' right and power in case of bankruptcy of the developer and any default in payment or planned schedule. It may strengthen real estate buyers' (end-customers) protection and boost the customer sentiment," it added.
As operational creditors, homebuyers' interests are not fully optimised up till now, as opposed to other operational creditors in other business under the ambit of IBC. With the proposed revision, homebuyers will be equally treated with financial lenders in the liquidation proceeds of the defaulting builder.
However, Ind-Ra feels this could negatively impact lenders since recovery proceeds will now have another layer of distribution, which was not factored in at the time of origination of loan to the developer. This would effectively increase the realised haircuts for the financers. In other words, without changes in probability of default, loss given default (LGD) could increase for the financiers.
"On the contrary, home buyers could recover some portion of their dues in case the builder defaults as against the current scenario where buyers have to depend on the residual value after financial creditors are paid, which entails higher hair-cuts. We believe end-users' propensity to initiate case under the IBC would be much lower than investors', considering the end-use and emotional attachment with the property for the former," the ratings agency added.
Echoing similar sentiments, Anuj Puri, Chairman - ANAROCK Property Consultants, says, it needs to be seen how the resolution mechanism for claiming the dues actually falls in place for the concerned homebuyers. He said, "In fact, to be truly relevant, the entire implementation process needs to be clarified to homebuyers. They need to know how exactly they will be represented in the creditors' committee - in other words, whether the National Company Law Tribunal (NCLT) will appoint a resolution professional to represent their rights and interests."
"That said, this amendment will certainly go a considerable way in bringing more transparency into the overall funding of projects across the country. With homebuyers now getting the opportunity to claim their dues from builders, there is an even stronger burden on developers to deliver on time. We will now see builders become more cautious while taking funds from financial institutions and banks, as they would now also be accountable to homebuyers as well as the financial institutions if their business goes belly-up," Mr Puri added.
Ind-Ra sees this move of granting creditor's status to homebuyers as positive for housing financiers over the long term. It says, "Besides home buyers, the ordinance will benefit housing financing companies' asset quality, especially developer-led originations, though with a lag. Housing finance companies, though not a direct beneficiary of the policy change, could get some comfort as buyers' (home loan taker) rights over a defaulting builder and cash flows on liquidation will enhance. Eventually, with increasing customer confidence there will be more takers for home loans, benefiting housing financiers."