Owning a house was a dream until as recently as five to seven years ago. Our parents just about managed to afford one when they reached their 40s or 50s, after having invested most of their life savings in it.

Liberalisation has changed a lot of things.

1. The salary levels today are appreciably higher than those of our parents.
2. Many families today earn double income.
3. The home loans are both readily available and quite cheap.
4. There are substantial tax benefits available on the home loans. 
5. Real-estate boom has led to easy availability of good home properties.

All this has not only meant that many people are buying houses while still in their 20s or early 30s, but they are even buying second houses. 

There are, however, certain issues that must be considered before investing specifically in a second property today.

Property Prices

There has been a significant run-up in the real-estate prices over the last couple of years. Prices in many areas have doubled/tripled in this time.

Fearing that there may be a bubble in the real-estate prices, RBI has made it increasingly difficult for the builders to access bank finance. Also, the interest rates on their borrowings have gone-up. The idea is to cool down the speculation in the real-estate sector.

Therefore, there is a general expectation that the prices may correct or at most remain stable in the near future.

If that is so, it may be prudent to wait and watch the scenario. Moreover, the second house is an investment, and not a necessity. The objective here is capital appreciation rather than a need for a shelter. Therefore, the decision to buy will differ when buying a second house vis-à-vis the first one.

Home Loan Interest Rates

There has been a more than 50% jump in the interest rates on home loans in the last couple of years – from 7/7.5% pa to about 11.5/12% pa. This higher interest cost adds up substantially to the total cost of acquisition.

Again, the government and the RBI have been cracking down on inflation. As the inflation drops to more modest levels, there is an expectation that interest rates too may cool down.

Therefore, from the financing point of view also, wait-and-watch policy appears to be more practical.

Other Costs

Apart from interest, one needs to consider the other associated costs such as property tax, maintenance charges, insurance etc. All these will add to your cash outflows.

Taxation

There are a few important issues to be kept in mind here:

1. As per the Income Tax Act, one has to pay income tax on the 'notional' rent on the second house, even if the house is not actually rented out. 
2. While, it is a minus point that one has to pay tax even if one is not earning any rent, the plus point is that the entire interest paid on the home loan is tax-deductible. There is no limit like the Rs 1.5 lakhs for the first house where you are staying.
3. Also, if the income from the second property (i.e. notional/actual rent – municipal taxes – 30% of notional value – interest on the loan) works out as a minus i.e. a loss, the same can be to adjusted against other income e.g. your salary.
4. The second house becomes liable for payment of Wealth Tax, which is not the case with the first house (provided the total value, including other assets covered under the Wealth Tax Act, exceeds Rs.15 lakhs).

Renting Out

Since one has to pay tax even if the house is not rented out, it may be a good idea to rent out the house. However, here, one needs to be careful about the tenants. Also due care should be taken with regards to the legal formalities so as to a any dispute in the future.

Renting out is easier if you are in same city. However, if this is not so, then you may have to depend on the brokers. This will add to your costs and risks.

So you need to assess whether you can conveniently and safely rent out your house.

Real-estate MFs

There is no real estate MF at present. However, many companies are actively looking into the matter and we can expect some real-estate funds sooner or later.

MFs are expected to be a better alternative to buying a second property. Some of the advantages include:

1. Instead of investing in one property, one gets a diversified mix of properties.
2. Professionals take care of all the legal issues and documentation.
3. Even with small investment you can take exposure to this sector, which otherwise requires huge investment.
4. In case you need money, it is much simpler to sell the MF units than the property itself. Moreover, you can part-sell your MF investment.

Therefore, going forward, investing in real estate through the MF route may be a comparatively better option.

As prices are no longer running away as in the past one to two years, it may be prudent to make a proper assessment of the various factors discussed above, before you consider investing in a second property.

The author, Sanjay Matai, is an investment advisor and promoter of wealtharchitects.in. He can be reached at sanjay.matai@moneycontrol.com.