Taking a home loan to buy a piece of property for self-consumption is a wise decision. For, it ends the vicious cycle of rent payments and adds directly to your tangible assets over a period of time. What is wiser for any borrower, however, is to repay the loan as quickly as possible.
Consider this: you take a home loan worth Rs 30 lakh at an interest rate of 9%, payable over a period of 30 years. If you set the principal aside, net payable interest sums up to more than Rs 56 lakh, taking the total amount payable to the lender to more than Rs 86 lakh. If the same loan instrument is considered for a loan period of 10 years, you can save more than Rs 41 lakh – enough to buy another house!
“A longer tenure will always result in more net payable interest, which in turn will increase the cumulative financial cost of taking a loan. It is, therefore, always advisable for borrowers to pay off loans as soon as possible to enable significant savings,” says Manish Chaudhari, Co-Founder and CRO at Cointribe.
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Here are some smart ways which can help you in closing your loan early:
1. Apart from the actual EMI payment, make a monthly savings target towards home loan prepayment. A mere 5% addition to your EMI on a month-on-month basis can dramatically change your overall loan tenure. During the initial period, a major component of your EMI is diverted towards interest and not the principal amount. “Making part prepayments directly reduces your principal amount, thus also significantly bringing down the interest applicable over the loan period. If your bank does not allow you to make monthly prepayments, you can create a saving pool that can be mobilized annually towards the prepayment. Doing so can significantly reduce your overall loan tenure and net payable amount. However, due consideration must be given to any prepayment charges, if such charges are levied by your bank,” says Chaudhari.
2. As and when your disposable income increases, look towards reducing the loan tenure by increasing the EMI. It is advisable to maintain your income-to-debt ratio with the increase in your earnings. This helps you to get the loan repaid quickly, and also enables you to rein in excessive spends post-salary hike. Similarly, in the case of falling interest rates, always go for tenure reduction instead of the more popular option of reducing your EMI. Any reduction in EMI only results in increased interest outflow. Furthermore, transferring your loan to a MCLR-based loan instrument with a short reset period will help you reap the benefits of any interest cuts effectively.
3. In case of a construction-linked loan, start by paying the EMI rather than a pre-EMI. “Although the latter might appear to be the more appealing option of the two, all of your pre-EMI payments will end up paying for the loan interest with no change in the principal amount. Additionally, if the construction gets delayed, it will further increase your overall loan cost. Paying EMI ensures that the principal starts reducing from the very first payment, and also eliminates the risk of inflated expenditures,” informs Chaudhari.
4. Use your one-time payments, such as incentives and bonuses, to make bulk prepayments. This is a prudent economic decision which will enable you to reap higher benefits in the long run.
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5. Make use of innovative financial services which reduce the interest outflow. Avail flexible loan instruments, such as home saver product or a smart overdraft facility, which allow you to park excess funds in a linked transaction account. Despite being subject to zero interest, the parked sum does not compromise on the borrower’s liquidity as the sum can be withdrawn without any procedural requirement.
The topmost priority for any borrower must be to reduce liabilities as much, and as soon, as possible. Taking this wise decision today will pave the way for a more promising financial future tomorrow.