FOR most homebuyers, paying the equated monthly installment (EMI) for the loan means a big cash outflow. Any reduction in the interest rate is beneficial for borrowers, especially in case of a floating rate home loan. While the Reserve Bank of India reduced the repo rate by 25 basis points to 6.25% on October 4, banks may soon reduce their marginal cost of lending rate.
Increase your EMI amount
One of the immediate benefits of a rate cut is that a new borrower’s home loan eligibility amount will increase. When lenders reduce the interest rate of home loan, for an existing borrower the bank either keeps the EMI unchanged and reduces the loan term or reduces the EMI and increases the loan tenure. It always makes sense to either keep the EMI amount unchanged or increase the EMI so that the interest outgo for the entire tenure is reduced significantly. Analysts say when the interest rates drop, the borrower should increase the EMI and accelerate the repayment of the outstanding principal.
Ideally one’s EMIs should not exceed 40-50% of his monthly income. If the EMI is much lower than this, increasing EMI is an effective way to make sure the loan is paid out early. Increase in EMI can be requested at any point of time during the loan and usually there are no charges for such a request.
The natural tendency for most homebuyers is to prepay the housing loan as soon as possible. The strategies borrowers adopt to make their prepayment vary widely. One can opt to make partial payments at regular intervals, say every six months or one year to repay the loan quickly and save the interest as banks and housing
finance companies do not charge any pre-payment penalty for principal
A borrower can prepay the total outstanding from their own savings and close the loan. However, it will take away all cash and one can miss out any alternative investment option where the rate of return is more than the home loan rate. Typically, in a home loan, the interest payout is much higher in the beginning of the payment schedule. As one repays the principal amount, the interest part starts reducing while principal component increases. So, it
makes sense to prepay at the beginning of the loan tenure than later in the payment schedule.
Refinance the loan
If your lender is charging you more interest rate, do switch the bank. A borrower can approach another bank with lower interest rate to refinance the loan. However, one has to keep in mind that sometimes the interest rate differential can be so low that the borrower may end up paying more in one-time charges than saving in lower EMI.
Ensure that the difference in the interest rate
between your existing lender and the new one is at least 75-100 basis points as you have to pay processing (around 0.25% of the loan due) and legal fees to switch the existing loan to the new lender. It makes sense to switch the loan only if more than seven years of repayment remain. It is not always advisable to shift the home loan from one bank to the other just because of lower interest rate. The borrower must calculate the actual amount that he can save by switching the loan and after adjusting all the charges.