HDB BUYERS BEWARE:
Cashback deals can backfire
BY LARRY HAVERKAMP
mail@AskDrMoney.com
Feb 8, 2005
CASHBACK is taboo under HDB rules.
It happens when a buyer and seller conspire to overstate the selling price of a flat.
The purpose is to help the buyer to get a larger loan from the bank or HDB. More subtly, it also helps the buyer convert CPF money into cash.
Bank loans are the main target of cashback schemes. In a way, banks have brought this problem on
themselves by making high property valuations.
But change is in the air. Yesterday, it was reported that from Apr 1, the CPF Board may recognise only valuations from HDB's panel of approved valuers.
This would certainly reduce cashback transactions but would it eliminate them?
I spoke to property agents who pointed out that all HDB sales fall into three categories: Those below valuation, at valuation and above valuation.
As I will explain, whenever there are sales below valuation, cashback is possible. In fact, it is likely as property agents aggressively push these deals.
Even with the proposed reforms, it is still important to understand and avoid the pitfalls of cashback deals, especially for buyers.
HOW IT WORKS
Let's say an HDB flat is valued at $300,000.
The buyer pays the seller $300,000 - of which $240,000 is from a bank loan, $12,000 is the required cash payment (4 per cent of purchase price) and the remaining $48,000 is from CPF.
To make it simple, I assume the true value of the flat is $252,000. After the sale, the seller gives the buyer cashback of $48,000 ($300,000 - $252,000).
In effect, this converts $48,000 of buyer's CPF money into cash. But the buyer usually doesn't get all of the cashback payment. A property agent and lawyer often take a cut.
This plus the required 4 per cent cash payment can reduce the buyer's cashback by more than half.
In our example, the buyer used $12,000 cash for the downpayment. On top of that, legal fees could come to $3,000 with another $15,000 going to the housing agent.
This leaves the buyer with just $18,000 from his original $48,000 cashback.
Some buyers are desperate for cash. Others don't understand how expensive cashback is when you consider the agent and lawyer costs.
Others think cashback is 'free money'. They don't see it as simply a transfer from their CPF ordinary account to cash. Income or profit is NEVER generated from cashback.
HOW WIDESPREAD?
Estimates of the number of HDB resale transactions involving cashback range from 30 to 80 per cent. Last week, the Straits Times sent reporters to pose as buyers and found all 7 agents they contacted offered cashback schemes.
A good place to look for evidence of cashback deals is on the HDB website under resale transactions.
I printed out a list of four-room transactions in 10 neighbourhoods for November to January totalling over 300 transactions. I asked three housing agents: 'Which HDB resale prices are too good to be true?'
For example, 31 four-room flat sales in the 800 block of Yishun sold for an average price of $215,000 during November to January.
One flat sold for $280,000. My agents said this was likely a cashback deal. But other transactions are not so clear-cut.
The agents felt that about one-third of the transactions looked like they could be cashback deals.
WHY IS IT HAPPENING?
Many don't see it as wrong. A property agent told The Straits Times: 'No-one gets hurt as long as the buyer goes in with his eyes open.'
This is not quite correct since a third party - the bank - does get hurt. Cashback causes the bank to
underestimate the true risk of the loan.
In our example, the bank thinks it is making a loan equal to 80 per cent of the property's value. In reality, it is making a loan equal to 95 per cent of the property's value. Cashback ALWAYS tricks the bank into making a riskier loan than it intends.
On the other hand, banks also benefit from a larger loan since the interest payments it receives are higher.
It seems to be an easy crime to get away with. Only one agent has been caught so far. That agent was fined $8,000 for her role in inflating the flat's price by $100,000.
It is a buyer's market and many buyers demand cashback deals.
Eight realtors reportedly said 80 per cent of the calls they get from agents acting for buyers are seeking cashback deals.
Property prices are down, home sales are flat and commissions are stuck at 2 per cent for the seller and 1 per cent for the buyer. Buyers are often charged zero per cent. Cashback deals seem to offer an easy way for agents to make a quick profit.
MY ADVICE
It is the buyer who benefits from cashback but I would say it is not worth it. It is expensive if the property agent and lawyer take a cut, which is typical. And there is always a risk of getting caught.
Also, the buyer CANNOT rely on a contract that requires the seller to return his over-payment
since contracts for illegal activities are unenforceable.
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Should you use all your CPF to pay your HDB loan?
HERE is a problem: Suppose you buy a four-room HDB resale flat for $250,000. You borrow 80 per cent from HDB, which comes to $200,000. The 20 per cent downpayment costs $50,000 and it comes from your CPF ordinary account.
Suppose you have $80,000 in your ordinary account. Then, HDB doesn't take just $50,000, but the entire $80,000 and applies it towards your purchase.
But there is a way out. If you want to keep a cushion, like $30,000, you can do it.
All you need to do is switch the $30,000 into a fixed deposit for one month during the time your HDB purchase is being processed. Then HDB will take ONLY the $50,000 it finds in your ordinary account.
After one month, switch the money back to your CPF account to earn the higher 2.5 per cent interest.
I believe HDB has no objection if you use this strategy to put less money in your flat and keep more money in your CPF ordinary account.
HDB told me: 'The amount of CPF monies to be set aside will be determined at the point of purchase and based on the available amount of CPF monies in the flat buyer's ordinary
account at that time.'
On the one hand, if you pay down your housing loan, it reduces interest costs.
On the other hand, it is risky. Should you lose your job and your CPF ordinary account is close to zero, you run the risk of defaulting on your HDB loan. It is safer to keep some money in your ordinary account, in case of emergencies.
It doesn't cost much. You earn 2.5 per cent in your ordinary account and your HDB concessionary loan rate is 2.6 per cent. The 0.1 per cent difference costs you just $1 per year for every $1,000 borrowed.
Think of that $1 as an insurance premium. Having money in your CPF ordinary account will come in handy should you find you are unable to continue your CPF contributions.