A two-paragraph circular is spreading disquiet among those who usually pick their way with ease through a thicket of title deeds and labyrinthine building plans.

The circular, issued by the Reserve Bank of India, advises all commercial banks to ensure that real estate loans are disbursed only after ensuring that the borrowers have received permission from authorities for the project.

The seemingly innocuous rider has landed builders in a chicken-and-egg situation: cash first or clearance first? Without the bank loan, some promoters cannot buy land. But banks need evidence of permission, which authorities will not give until land is bought.

The circular, issued on March 1 to all scheduled commercial banks, says: “We advise that while appraising loan proposals involving real estate, banks should ensure that the borrowers should have obtained prior permission from government /local governments/other statutory authorities for the project, wherever required.

“In order that the loan approval process is not hampered on account of this, while the proposals could be sanctioned in normal course, the disbursements should be made only after the borrower has obtained requisite clearances from the government authorities.”

The advisory does not refer to land purchases specifically but builders fear the biggest casualty will be that segment.

“For the real estate business, land is the raw material. Most builders like to keep a land bank. Now with bank finance not available for land acquisition, the real estate sector is going to get affected significantly. In India, construction activity has grown at least 10 times than what it was even three years back. It’s quite perplexing to see something like this now,” says Pradeep Chopra, the secretary of Credai (Bengal), the apex real estate body.

According to Chopra, the circular has already started making an impact with the number of developers participating in recent land auctions coming down significantly.

“There is a massive shortage of dwelling units in India and the real estate industry is finding it extremely difficult to meet the demand. Such circulars will create nothing but an impediment to growth. Today, they are stopping banks from loaning money to buy land; tomorrow they may issue a guideline prohibiting banks from funding construction activity,” Chopra adds.

The RBI circular makes it clear that its intention is to curb “excessively risky lending”, not hamper the growth of the real estate business. In fact, the advisory stresses that “the development of the real estate sector is welcome”. But it adds that “there is a need for the banks to curb the excessively risky lending by exercising selectivity and strengthening the loan approval process”.

“The RBI wanted to curb the risky lending practices prevalent in the real estate sector for quite some time now. The RBI, being the central banking authority, wants to prevent over-exposure in one particular sector. We have repeatedly cautioned all financial institutions against over-aggressiveness in going ahead with credit to the real estate sector,” says a senior official of the central bank.

Officials of other banks felt that the guideline was just a “preventive” measure.

“The RBI is worried that the real estate bubble may burst since the banks’ exposure to the sector has been growing very fast. Developers should not worry too much. The guideline will not lead to a slowdown or come in the way of growth. There is no restriction as such. Once a developer obtains all licences, we are open to financing his or her needs,” says J. Lakshmi, deputy general manager, small and medium enterprises, SBI.

However, developers are of the opinion that the guideline would stymie growth and they are likely to be forced to look at other sources for funds. “We have to explore alternative sources. Real estate venture capital funds and initial public offering are becoming strong possibilities,” says Chopra.

But such options will be accessible only to the big players. Besides, the volume of funds raised from these sources is unlikely to match the cash flow that can be generated from banks.

Credai has come out with a few proposals to ease the curbs. According to one suggestion, the promoter should be told to stump up 25 per cent of the value of the land while the bank provides the rest as the loan.

This should only be done after the bank is satisfied with the title deed of the property as well as the feasibility of the project. Besides, the builder can be asked to provide collateral security if necessary.

The ball is in the apex bank’s court now.