Margin Money Concept In Under Construction Property Home Loan

What is Margin Money in Home Loan?

Margin percentage is a concept which is quite prevalent in home loan cases and the loan borrower is normally not aware of it until he has availed the loan. Nobody in the bank sales team will explain you the concept as it may confuse their prospective client which is you.

We, as a loan borrower never try to find out the intrinsic details while applying for loan as we are in hurry but find their policies strange and consider them as betrayal by bank when we actually encounter them.

One of them is Margin percentage and I myself was surprised to learn this concept when I went to get the first disbursement of loan.

Here is the explanation of what it is and how it affects you as a loan borrower:

Lets understand the whole thing with an example.

Story-line:

Property cost: Rs. 50 Lakhs
Your contribution: Rs. 20 lakhs
Home loan: Rs. 30 lakhs
You apply for loan and get the approval done from bank. Your payment plan to builder/developer is construction linked plan i.e. you have to make payments on the basis of construction stage and this plan is shared with you by builder in advance.
Margin money home loan india - How the payment is divided between you and bank?

Margin money home loan india – How the payment is divided between you and bank?

What is Margin percentage?

If you take a closer look at your home loan documents, you will find this margin money percentage clearly written on it. In our example it is calculated as follows:

Margin percentage = [(Your contribution in total value of property) / (Total value of property)] * 100
Margin percentage = [20,00,000 / 50,00,000] * 100
Margin percentage = 40%

Lets assume that you have the following construction linked plan:

Contruction stage Amount to be paid to developer
Contruction stage 1 5,00,000
Contruction stage 2 10,00,000
Contruction stage 3 10,00,000
Contruction stage 4 10,00,000
Contruction stage 5 10,00,000
Contruction stage 6 5,00,000

Let us also assume that you have already paid Rs. 5 lakh (construction stage 1) amount to developer as a booking amount and now have taken loan of Rs. 30 Lakhs from bank with the condition that you will pay remaining 15 lakhs from your own sources.

Now, whenever we have this situation, we as a normal human being think that the bank will pay the amount demanded out of Rs. 30 lakh to builder as and when they demand and we will collect rest 15 lakhs from some sources that we have to pay (15 lakhs out of pocket). We automatically assume that our turn to pay would fall in construction stage 5 and 6.

As the normal construction time of a property is 36 months, we assume that we have sufficient time to collect that money and we are bound to make payments at the time of possession of property.

This is the biggest misconception and gets clarified only when the home loan disbursement is actually made by bank.

Nobody from bank sales team will ever tell you the fact that you also need to make payments of your portion i.e. margin money or margin percentage as and when bank makes a payment to builder.

Why?

Banks always maintain their position in making disbursements to the builder in the sense that they will never pay more than their margin percentage in the total value of the property at any given point in the construction stage.

This is a way of maintaining the risk ratio and to avoid overexposure of bank in making payments to the builder.

You know how things work out in India – it may happen that Bank pays the whole 30 lakhs to builder and then both you and builder get untraceable! All this is to avoid that scenario and keep you (the loan seeker) always invested and active in payments.

How will the Margin percentage or amount be divided in each payment?

In our example, your margin percentage is 40% and bank will contribute rest 60%. This means that whenever bank will disburse an amount to developer, it will always maintain this percentage and will never let its own portion grow more than 60%.

So, when you actually go to bank demanding to pay the ‘Construction stage 2′ payment i.e. Rs. 10 Lakhs, bank will evaluate the situation as follows:

Total payment to builder till this point 5,00,000 (Already made by you)
Total payment to builder After this point 5,00,000 + 10,00,000 = 15,00,000

Your contribution in property after this payment = Rs. 5 Lakhs i.e. 33.33% of total payment made to developer till today (5,00,000/15,00,000 *100)
Bank’s contribution in property after this payment = Rs. 10 lakh i.e. 66.66% of total payment made to developer till today (10,00,000/15,00,000 *100).

Now, as per the home loan agreement, margin money percentages are 40% and 60% for you and bank which is violated if bank pays the full 10 lakh in this payment. You can clearly see that your portion reduces to 33.33% and bank’s increases to 66.66%.

So, in this situation, bank will never make the full payment of 10 lakh to builder. Instead it will ask you to pool in the amount in 10 lakh cheque which will help maintain the margin percentages. i.e. Rs. 1 Lakh.

So, If you pool in Rs. 1 Lakh and bank pays 9 Lakh in this payment to developer, the final scenario looks like this:

Your contribution in property after this payment = Rs. 6 Lakhs i.e. 40% of total payment made to developer till today (6,00,000/15,00,000 *100)
Bank’s contribution in property after this payment = Rs. 9 lakh i.e. 60% of total payment made to developer till today (9,00,000/15,00,000 *100).

Hence, this satisfies the MARGIN percentages as laid down in the home loan agreement.

How would the future payments look like?

So, every time, bank makes a disbursement according to demand by developer, bank will apply the same logic and ask you to pool in money if the margin money percentages are breached. The subsequent payments would like this:

Cons. stage Amount to be paid to developer Bank’s Share (60%) Your Share (40%) Balance
Cons. stage 1 5,00,000 0 5,00,000 5,00,000
Cons. stage 2 10,00,000 9,00,000 1,00,000 15,00,000
Cons. stage 3 10,00,000 6,00,000 4,00,000 25,00,000
Cons. stage 4 10,00,000 6,00,000 4,00,000 35,00,000
Cons. stage 5 10,00,000 6,00,000 4,00,000 45,00,000
Cons. stage 6 5,00,000 3,00,000 2,00,000 50,00,000
30,00,000 20,00,000

It is important to understand the above concept and plan accordingly else you might find yourself in a surprise when bank will not disburse the loan payment even though the loan is sanctioned and everything looks fine.

Why do bank ask you to maintain margin percentage?

  1. The main reason for doing this is that Banks do not want to pay more than what they have sanctioned as per home loan agreement at any given point in the construction stage of property. The situation is different if you buy a ready to move in property in which case bank’s make one time payment to developer/seller. In this case, you would have also paid the margin percentage money in one go itself i.e. at the time of buying the property.
  2. There is an element of risk involved in financing under construction properties that it may not get completed on time or developer may default or any other unforeseen circumstances. Bank always wants to make sure that you have invested sufficiently in the property as per the commitment in home loan agreement.

Comments/suggestions are most welcome.

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