This article was updated on 24 February 2020.
Property investors who are considering GRR schemes, which promise a fixed rental income for homebuyers for a certain period of time, should proceed with caution as such ‘schemes’ are not governed by the Housing Development (Control & Licensing) Act.
Time and again, HBA has cautioned homebuyers to be wary of the property projects offering ‘Guaranteed rental returns’ (GRR). In the current weak market sentiments, developers will be ‘hanging the carrot’ to entice those naïve homebuyers and laid back investors.
The sale and purchase agreement (SPA) is covered by the Housing Development (Control & Licensing) Act (HDA) and its Regulations, but the GRR scheme is not. Thus, if there is a case, it will be brought to the Civil Court as the Housing Tribunal has no jurisdiction.
We have posed a few important questions readers should ask themselves:
1. What is a GRR scheme?
Call them what you like – leasebacks, buy-to-let, cashback, or own-for-free. Property developers have come up with creative plans to woo investors with GRRs on yet-to-be-built properties.
In this scheme, developers would agree to pay buyers rentals ranging from 8% to 12% per annum or a proportion of the purchase price for a certain length of time.
This kind of purchase, which has become increasingly common judging from the press advertisements, sounds enticing to investors who do not want the trouble of managing their own investments. You buy the property, and you get the rental returns thrown in.
While GRRs could be very attractive, investors need to know that the scheme is not as simple as it seems. In fact, they are very much like those ads that appeal to our desire to lose weight quickly, get rich fast or strike the lottery – all sales and marketing gimmicks.
2. What are the risks of a GRR scheme?
If a developer is offering GRRs, the buyer has no way of knowing whether that property is going to achieve its promise in the open market. The developer may not be able to get the guaranteed rent or worse, might not even manage to secure a tenant (s) during the guaranteed period.
Generally, GRRs are best for the laidback investor. Some people will value the “simplicity” of the deal. However, there are issues that buyers have to be aware of before entering into such agreements. A typical mortgage lasts 20 years. If you have a guaranteed rental for just three years, what will happen in the remaining 17 years? You are left to sink or swim on your own.
A typical table of returns will show potential buyers a surplus income. A potential investor has to take into account the cost of maintaining the property, the taxes that come with being a property owner, the cost of maintaining the mortgage and all other fees related to acquiring the property.
Under most GRR schemes, you will need to buy a furniture package with the apartment and commit yourself to the management charges and sinking fund of the building, on top of the regulatory quit rent and assessment tax.
All of the above will often take a substantial bite out of any rental money each month. GRRs are specifically aimed at selling units to investors, so in most situations, 500 apartments will be going to the rental market rather than owner-occupiers. You will need to consider the fact that these 500 will be chasing tenants at the end of the guarantee period and most particularly, how many prospective tenants there are available.
In areas of high competition, landlords will have to reduce the rent to attract available tenants. Consequently, the market value of the properties will go down rather than up.
If you decide to sell, you will also be limited to buyers who will be mainly investors. Sellers will also find themselves competing with developers who are offering higher rental returns with newer developments.
When supply is more than demand, developers will look for ways to avoid having to reduce prices. While GRRs may offer attractive secure returns, it will be a false economy in the long run if the buyer ends up overpaying for the property.
A guarantee is only as good as the company who underwrites it. Even if the GRRs seem reasonable and are offered with honourable intentions, investors need to be sure that the developer would be able to sustain the returns if the rental or sales market were to take a turn for the worse. If developers were to default on the payments due to buyers, these buyers will likely default on their respective loan repayments, thereby setting off a chain of events with dire consequences.
The terms and conditions in GRR agreements are not regulated by law. As such, inexperienced investors may not understand that the fine print is often written in the guarantors’ favour. Example of such clauses:
“Provided always and it is hereby agreed between the contracting parties hereto that the Developer reserves its right to terminate the GRR agreement for any reason whatsoever by giving two months written notice to the Purchaser wherein such a case the Developer’s obligation to pay the guaranteed return to the Purchaser shall cease from the date of such termination. Such notice is deemed to have been received within three (3) days from the date of the letter.”
3. Has HBA received complaints about them?
Yes, HBA has received numerous complaints from naïve and unwary homebuyers pertaining to GRR.
We have published many articles and appeared in interviews to forewarn buyers of the GRR “gimmick”. Buyers should be matured enough to seek knowledge to make an informed decision.
Quite some time ago, we received an email from an observer who was at a developer’s office. He narrated this incident where he witnessed an elderly man who had just taken vacant possession of his investments, comprising four units of apartments with a GRR scheme. He was demanding that the developer take back the units and refund him in full on the purchases.
The man had discovered that the four units he purchased under the developer’s GRR scheme had depreciated in value by 25%. To add salt to the wound, the developer had terminated the GRR scheme as allowed in their agreement, leaving him frustrated with his “failed” investment. Did the “generous” developer give him any refund? Your guess is as good as mine.
These developers are not regulated by the governing Housing Ministry who issues a license to housing developers. As far as the Ministry is concerned, these GRR Contracts are between the buyers and the developers/ their subsidiaries/ hotel operators/ service provider and the Ministry has no role here to regulate them. The aggrieved victim could not even file their case with the Housing Tribunal as these type of cases are not within the scope and jurisdiction of the Tribunal for Home Buyers Claim.
4. Is it completely legal?
Yes, it is signed between two consenting parties and their terms and conditions are within the four corners of the Contract.
Buyers are advised to seek independent legal advice from their own lawyers and not to rely solely on the developer’s facilitated scheme of “Free Legal Fees”.
5. What recourse does someone have if they fall victim to a bad scheme?
If the amount of indebtedness is substantial and it warrants a civil case against the party (offering the GRR); and that it is also worthwhile to sue after conducting sufficient financial checks on the said party – then, go ahead and sue after negotiating a reasonable fee with your lawyers.
Consider whether it is worthwhile to ‘throw good money after bad’. Will you succeed to reap in the fruits of your successful litigation or just a mere ‘paper judgement’? Mind you the ‘paper judgment’ is not even tax deductible. One could also try to file their case with the Consumer Tribunal whose jurisdiction is only up to RM25,000.
Investors should proceed with caution
GRRs offered to investors should be checked carefully against the local market and competition. A simple survey within the location will give an investor a fair idea of the state of the local market. If market prices are lower than the proposed rent, incentives and discounts being offered to woo the buyers, then this is an issue to be considered. If guarantees of rentals are higher than the existing market rate, then a rent decline after the end of the guarantee is likely. It is a classic case of caveat emptor, rental guarantees can sometimes guarantee investors nothing but heartache.
Anyone who has any real estate experience knows there is no such thing as a guaranteed rental. Real estate, as with any other type of investment, has its ups and downs.
There are times when one cannot rent out. Anyone who says that he is able to predict the future is bluffing. Our economic cycle goes through cyclical changes that respond to economic and other happenings in, as well as, outside our country. Projected monetary returns that cannot be guaranteed (or self-guaranteed) are doubtful in nature.
Had it been so profitable, don’t you think that the developer, their shareholders and related companies would have snapped them up first, before being made available in the market?
While it may seem very impressive for said property to increase in value by RM330,000 (or 16.5 times), we must remember that this appreciation occurred over a span of almost 40 years. We have worked out that the compounded annual increase for this property from 1977 to 2017 is 7.42%. However, a large factor for this increase is due to inflation and when we talk about inflation, there is always the official inflation rate and the ‘real’ Inflation rate that’s borne by the rakyat.