We often hear due diligence in the context of major financial deals such as mergers and acquisition, project financing and other commercial deals. Due diligence is often regarded as an excruciating process to determine the economic, financial, technological, social or environmental impact or the holistic pre-evaluation of an event or substance. Real estate ownership and investments are such processes which are incomplete without proper due diligence.
Real estate is an investment which generally involves a leverage component, sometimes even in large proportions. As per the old saying about the use of leverage in any financial investment, leverage is a ‘two sided sword’! Returns can be substantial on one hand, while on the other hand you can lose more than your invested money. Due diligence plays a crucial role here in deciding the proper real estate investment!
First and foremost thing required during the entire process of due diligence is the persistent independence and objectivity of the person doing it! A biased due diligence is a waste of valuable time and money.Due diligence is important in every real estate transaction, be it residential leasing, commercial leasing or any outright purchase. It is more important for an ongoing project as compared to a completed one, as the risk is higher. With an increased number of real estate developers being penalized by the NCLT (National Company Law Tribunal), it is imperative for home buyers to know the following things during the entire process of property screening, selection and deal closure.
- Infrastructure diligence: Be sure that the subject property is not deprived of public transportation, basic social infrastructure such as schools and hospitals, shopping as well as recreational centers. Also, be updated upon the ongoing and promised infrastructure developments by the government. (Click here to know more about the ongoing infrastructure projects in top cities of India)
- Legal diligence: It is the most important process of due diligence and has the widest scope. Firstly, check the land title (current as well as past) and the legal description of the property. Secondly, check if the Zoning and Environment Clearance certificate is obtained by the project (NGT link). Next, all the approvals such as commencement certificate, completion certificate, occupancy certificate, etc. as per the construction status of the project should be in place to mitigate the completion risk. Lastly, home buyer should have a clear understanding of all the covenants as well as terms of conditions of the sale agreement; raise red flags where you see any discrepancy.
- Physical diligence: It involves the physical inspection of the property, which is a must before entering into a real estate transaction! In case of an ongoing project, gauge the status of the work, speed of construction, landscaping and structural robustness of the building. In case of a completed project, check the maintenance facet, visible structural defects and conditions of peripheral building services such as electrical, plumbing, elevators.
- Project diligence – It involves evaluation of the various nuances of the project. Primarily it involves the project deliverables such as the total area (Carpet, Built-up and Super Built-up area), parking space, type and quality of amenities and interior designing (if any). Moreover, financial diligence is also crucial and falls under this criterion. How much debt has the developer taken and under what conditions? Also, which banks have pre-approved to provide home loans for the project?
- Developer diligence: The importance of this step has increased in recent years, with some developers unable to deliver the flats in the expected timeframe. Some important things to keep in mind are – number of projects delivered by the company, key management profile, number of operational years, ongoing litigations or criminal proceedings on the management, etc. Also, due diligence on the contractor who has constructed the building is advisable.
- Market diligence –Before buying a property you need to understand the macro economics of the stated real estate market. It will help you understand which property to buy and at what time. You can use a third party consultant for the same. HDFC Realty is a pioneer in the consulting and valuation business. Contact us for an accurate and comprehensive due diligence of real estate options!
Sources of due diligence are equally important. Some of the credible sources are newspaper, government authorities, real estate research reports, etc. RERA’s (Real Estate Regulatory Authority) online website has made the process of due diligence simple, less time consuming and accurate.
Risk is the uncertainty of things. Due diligence can help reduce this risk substantially. It can also help in the process of price discovery or revelation. Due diligence is not mandatory by government, but still a real estate investment requires due diligence to differentiate which projects are successful and which ones are doomed!