Tuesday, February 3, 2009

Rental Guarantee Gimmick or Reality

Several property developers, especially serviced apartments' offers rental guarantees to entice buyers. Examples are Lot 163, Swiss Garden Residences and few others. I have never purchased into such investments but nevertheless it leaves me rather curious how these scheme actually work besides getting people to sign the SPA. Take Lot 163 for instance, it comes with an 8% rental guarantee within a 5 year period. That means, an average unit costing RM450,000 would provide one with a guaranteed monthly income of RM3000.

That was of course, year 2004 when those one bedroom units cost around RM700psf. Just last year in the year 2008 the developer price psf has sky-rocketed to RM1200psf. The units costing RM450,000 now costs almost RM1million. There are still several developer units available and I was informed that the 8% rental guarantee is still in place. I didn't ask for more details and unfortunately left the showroom wondering if that means the developer will guarantee an income of over RM6000/month. That means over the 5 year period, you will get at least RM360,000! But one is hard pressed to rent out their one-bedroom units in Marc Residence or Parkview for RM4000, how is the developer going to offer a RM6000 guarantee?

Then when I was in Bangkok over the Chinese New Year and chanced upon this article in the Bangkok Trader weekly magazine which gave me more insight, re-produced with permission from the writer:

Thinking Outside the Box - Rental Guarantee Gimmick or Reality
by Rene-Philippe Dubout

Nowadays, nearly all developers are offering rental guarantees to their buyers. The promises of return vary from one developer to the other. Depending on the developer, the amount of the guarantee will either be a fixed return or based on profit sharing. The developers offering fixed guarantees generally propose to their buyers a yearly return of between 8% and 15% (based on your property's purchase price), depending on how desperate they are to sell. Those presenting a proft-sharing based guarantee will offer 40% to 60% of the rental's net profits to their buyers.

Now what should you think of those guarantees? First, be very careful because some developers only promise the rental guarantee in their marketing documents but not in their contract agreement. Also, often the "guarantee" isn't given by the developer, as such, but by a company to be set-up at a later date to provide services to the project. I have also seen a project where the developer was supposedly offering an 8-year guarantee but wasn't bidding beyond three years. If a developer presents you a profit-sharing based guarantee, you have to be wary of the contract drafting. While the fixed-return guarantee contracts are easy to grasp, the profit-sharing based guarantees are more complex. Be sure that the developer's share of the profits is calculated on the base of the net profit, not the gross profit. Don't forget to check that the net profits are clearly defined and that there are no hidden costs left outside the picture that you will have to pay for from your share of the profits.

Can I trust the developer to deliver the rental guarantee? At the end of the day, the real issue isn't only the content of the guarantee but whether the developer can deliver. To provide rental guarantee isn't as easy as it looks. Buyers will generally come during the high season and imagine that the rental guarantee will be a piece of cake. But the truth is that, in most destinations, half of the year is low season when it's more difficult to rent out a house. Also renting out real estate properties on a daily or weekly basis is a lot more work than one can imagine. There's a lot of work upstream (negotiating agreements with travel agencies etc.) and downstream (services, maintenance). If you're really looking for an investment product, you should purchase a house in a compound that is managed by a 5-star hotel group. At least, professionals will manage your property. Finally, know that most of the time, the rental guarantee will be provided not by the developer but by a small company (generally a start-up) that will have a low capitalization and no previous track record. Therefore, if there's any problem with the rental guarantee, your only recourse will be to sue this company, for all the good it will do to you at the end.

Why don't Thai top developer offer rental guarantees? Now, the fact is that Thailand's top developers (that is, Raimon Land, Sansiri, Natural Park...) don't offer their customers a rental or return guarantee, and the reason is because they don't need it to sell their projects. This is because their projects are good, and you are quasi-assured of a return on your investment when purchasing from them. In my opinion, the rental or return is more a gimmick used by first time developers to help them in their projects than a reality. So my advice to you if you are offered a rental or return guarantee is to refuse it and negotiate a discount on the purchase price instead... at least you get something real. If you want to accept it - and it doesn't cost anything - then don't get your hopes too high. My recommendation is to base your decision when buying a property on the reliability of the developer. Don't purchase only because the developer promises you a better guarantee than the others. You might regret it.

The author Rene-Philippe Dubout has been a lawyer since 1990 when he was admitted to the Geneva bar in Switzerland. He practiced in Switzerland before moving to Thailand in 1999. In 2002, with a group of Thai lawyers, he founded Rene Philippe & Partners as a local law firm. He has lectured at several Thai universities and is a speaker at numerous conferences and seminars. He can be contacted at contact@renephilippe.com

Rene has written a book "How to Purchase Real Estate Offshore Safely: The case of Thailand” to educate buyers of offshore real estate and provide them with the necessary tools for ensuring a safe purchase. The book includes the Rene Philippe Developer Test, an easy do-it-yourself test designed to give buyers or real estate agents the opportunity to check the reliability of real estate developers and purchase real estate safely. Readers will be able to learn all about the critical issues to be considered before deciding to buy offshore real estate and how to avoid the many pitfalls or traps awaiting unsuspecting buyers. The ultimate objective of this book is not only to impart knowledge and experience, but to raise buyers' awareness of the potential dangers and how to avoid them. The book may be purchased at https://www.createspace.com/3365230

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