Once your loan rate has been lowered, consider regular pre-payment. Pre-paying on your home loan during a low rate period is more impactful than pre-paying at higher rates. Pre-pay now to accelerate out of debt.
If you have a home loan, you would be paying attention to the recent developments in the banking industry. The Reserve Bank of India has mandated banks to link interest rates on floating-rate loans to an external benchmark such as the repo rate. Banks, therefore, must step away from the MCLR regime where the benchmark was set by banks internally on the basis of cost of funds.
The RBI took this decision because it wanted interest rate movements on retail loans to be more responsive to repo rate cuts which are being made by the central bank to stimulate growth. Now, several repo rate-linked loans have been launched, mostly by government banks. Repo-linked loans are expected to be more responsive to RBI-mandated cuts. At a time such as this, what should you as an existing borrower do?
Take stock of your loan rate
Check the interest rate you are currently paying. Today, the lowest advertised home loan rate is 7.95% on loans up to Rs 30 lakh for women. Your loan rate is calibrated based on factors such as the loan quantum, loan-to-value ratio, gender, source of income, and credit score. Scan the loan market for offerings similar to the loan you currently have. For example, you may be a salaried male with a loan balance of Rs 55 lakh and a credit score of over 750. What are the loan options on those parameters, and what are their interest rates? Next, assess the gulf between the advertised rates and your current rate. If the gap is significant, it’s time to do some math and consider your options.
What can you save?
Let us say you took a home loan of Rs 50 lakh for 20 years at an interest rate of 9.1% one year ago. Despite the repo rate falling 135 basis points to 5.15% in 2019 alone, let’s say your loan rate is still 8.8%. However, several banks are now advertising rates of under 8.5% for loans like yours. After 12 EMIs, your loan balance would be around Rs 49 lakh.
Assuming a constant rate of 8.8% for the next 19 years, your total interest would be Rs 52 lakh. However, if you were paying a constant rate of 8.2%, your interest would be Rs 49 lakh, which would save you Rs 3 lakh (or an equivalent of around 7 EMIs) over the loan tenure. Therefore, if you’re currently paying a high rate, it’s time to find a way to bring it down.
Approach your lender for options
Your first stop should be to your own lender. Ask what can be done about your high interest rate and if it can be lowered. The lender may offer to cut your rate after the payment of a processing fee. If your loan is still linked to the base rate, your rate may be higher than repo-linked rates. If yours is a bank loan, consider moving to a repo-linked loan where interest rates are lower and you get full value for RBI-mandated cuts. If your loan is from an NBFC or HFC, your lender isn’t mandated to link to an external lending benchmark. In such cases, a fat rate cut may be hard to get, so your only option may be to transfer your loan to another lender, preferably a bank.
Evaluate options from other banks
If you are in the market for a bank home loan, there are several things you need to consider. First, you need to check interest rates. Next, what would it cost to transfer your loan? The new lender will charge processing fees, legal fees, and a percentage of your loan balance (typically under 1%). Weigh these costs against what you stand to gain in terms of interest saved over the course of the new loan. If the net gains are significant—they will be if you are in the first half of your loan tenure – consider making the switch. Also, do not apply to several banks because many simultaneous loan applications can dent your credit score. Thoughtfully shortlist 1-2 options, and apply for the best one.
Lastly, once your loan rate has been lowered, consider regular pre-payment. Pre-paying on your home loan during a low rate period is more impactful than pre-paying at higher rates. Pre-pay now to accelerate out of debt.
The writer is CEO, BankBazaar.com