Why Off-plan Schemes Remain Popular For Home Ownership

Off-plan Schemes are to property developers what music is to the soul! If you put any number of property developers in a room to discuss off-plan real estate schemes, the consensus will be that they (off-plan schemes) are the next best thing to sliced bread! And homebuyers and property investors are bound to concur.

What Are Off-plan Schemes?

The common description of off-plan schemes is that they are typically an arrangement under which property buyer/ investor contracts a property developer for the acquisition of a property that has yet to be constructed. The buyer/ investor commences payment for the acquisition of the property before construction and during the construction period. Ordinarily, the buyer will have completed payment of the agreed purchase price by the conclusion of construction.

Usually, these schemes are for the construction of residential and commercial complexes (what are popularly called estates, gated communities, blocks of apartments/ flats etc.) where a sizable number of units are available for offer to the market. The entire number of units available are often released into the market in phases to encourage early adoption by buyers as progressive phases of construction are priced at increasingly higher prices and thus more expensive to acquire. By becoming an “early adopter” and buying into the construction project when it is still “conceptual”, the developer “rewards” this assumed risk by “paying” the buyer for his opportunity cost via a substantial “discount” on the property (compared to what late adopters eventually pay).

While off-plan investing in this market is primarily for residential spaces, in countries with a robust property development real estate sector, off-plan schemes are primarily used to develop commercial property for long-term leases such as hotels, private hospital facilities, commercial office space, other institutional property and even residential spaces.

The Property Developer’s Objective

The property developers objective is to demonstrate to financiers that there is sufficient interest in the development thereby attracting the finance required to mobilize the development. With a sufficient number of buyers onboard, the property developer can show that the project is bankable and can use the deposits to demonstrate the project’s credibility to potential lenders thereby securing project finance.

Confirming a property developers ability to deliver the project in a timely fashion and to acceptable standards is obviously key to both buyers and lenders. The inherent risks associated with off-plan investing require a higher level of due diligence and investor prudence.

Well executed, an off-plan property acquisition scheme should ideally provide the buyer or investor with an immediate equity stake in the property on the day that the property is move-in-ready; or at least a higher-than-average equity stake in the property than if the buyer/investor had only paid for the property at completion of construction.

An Alternative View of Offplan Schemes

Quick disclaimer: Our market is an open and free market so this opinion is my own. Importantly, I have no fundamental gripes with off-plan property development schemes or those who conjure them up.

While it is accurate and true to describe off-plan schemes as above, the description offers a dim and incomplete perspective because it doesn’t fully explain why off-plan schemes are so popular with property developers. Is it possible that the buyers/ investors in these schemes are their principal beneficiaries?

Off-plan property development schemes are also unregulated financial tools devised by property developers to legally secure cost-free, risk-free financing to undertake property developments. They allow developers to legally bypass any regulatory scrutiny and achieve wealth maximization at the lowest cost.

Allow me to me break it down:

• Unregulated because in this market, property developers are not required to float any of the conventional financial instruments to raise capital from the public that other corporate entities in the market may be required to use for similar purposes.
• Cost-free because it is the property developer that determines the “benefits” pegged to the opportunity cost to the buyer and not vice versa. The deposits paid by the buyers are “interest-free”. Technically home-buyers and property investors are financing the development (the counter-argument to this is that the homebuyer is rewarded by the developer through both a discount and an immediate equity stake implying automatic capital gains in the property. To which I say, hmmm….NO! The homebuyer isn’t rewarded by the property developer but by the market for undertaking a risky venture. Big difference.)
• Risk-free, automatically because all financial risks vest with the financier there being the negligible cost of capital to the property developer. I’m sure there is a counter-argument for this too but I’m still not biting.

Besides being cost-free and therefore risk-free to the property developers, off-plan schemes are popular because they are essentially agreements governed within general consumer protection mechanisms. It is arguable that because they are capital-raising mechanisms, there should be separate frameworks to manage and regulate the industry.

The Market’s Preference for Offplan Schemes

But off-plan schemes are not just popular with property developers. Indeed in this economy, next to the “build option”, off-plan schemes rank way more popular with home buyers and property investors than mortgages likely ever will. Mortgages, the traditional, more secure financial instrument to secure homeownership are dreaded – unpopular in part because of the market’s loathing and mistrust of mortgage lenders, an unpredictable interest regime and the comparatively more burdensome, complicated nature of the mortgage application process. It’s not just that homebuyers’ avoid mortgages, it’s the very idea that off-plan schemes ostensibly allow property developers to “borrow” from the market without the rigours of the mortgage process.

For many in Kenya’s burgeoning informal sectors – the self-employed and business owners – the cost of financing homeownership through regular monthly payments is still an unsustainable prospect when pitted against a series of bulk payments spread out over a specified period. The options to finance home purchase are accessible to only a limited audience and the alternatives aren’t preferable.

So, despite any shortcomings, off-plan schemes will foreseeably remain popular because they do provide an acceptable means to an end – the homeownership dream. And like any tool whose purpose it is to enable the efficient completion of tasks, off-plan schemes have proved viable at facilitating the desired objective of homeownership. The same tool, unfortunately, can and has been wielded deceitfully to defraud home buyers and investors.

Conclusion:

• Homebuyers and property investors need to develop a clear picture of a property developer’s industry standing before engaging with them on any off-plan scheme. Consult widely with professionals and undertake your research before and during the construction period.
• More needs to be done in the way of ensuring compliance with or actual enforcement of standards and contractual obligations besides peer-reviewed measures, and in the way of consumer education and protections in securing investments in property ownership through property development schemes.
• Homebuyers and investors can mitigate the risks associated with off-plan schemes by gaining insight into property developers credibility, reputation or industry standing. Despite the absence of strong market regulation, credibility can be ascertained via professional associations such as the Kenya Property Developers Association and others. To assume that property developers will execute their pledges both professionally and ethically may be foolhardy, far less than ideal or desirable.
• Because homeownership will remain a bastion of financial freedom in most people’s hearts and minds – whether perceived or real – off-plan schemes will remain a preferred path to the homeownership dream.