If you are facing cash-flow difficulties and drawing from your savings, even then continue your EMI as the interest on your loan is likely to be higher than what you would earn from your savings
By Joydeep Sen
An equated monthly instalment (EMI) is for purchase of an asset like a house or a car, or it may be for a consumption like credit card expenses converted into EMI. An EMI is a commitment as well as an obligation as the purchase has been made, and you are now paying for it. As against this, a mutual fund SIP is a commitment, but not an obligation as you are deferring your current consumption and saving for the future.
The EMI moratorium, initially allowed from March to May, has now been extended to August. Banks and NBFCs can allow you, at their discretion, to avail of the moratorium on your loan. If you are facing difficulties due to the lockdown, for instance, loss of job or pay cut or general uncertainty, you would be tempted to avail of the moratorium. However, you have to be aware of the catch. For the period you avail of the moratorium, there is no interest waiver.
That means, the three or six EMIs which you are now deciding not to pay, you will have to pay later. Not only that, you will have to pay a hefty interest on this interest (for the three or six months) later on. As an example, if you have taken a 10-year home loan and avail of three months’ moratorium, at the end of 10 years, you will have to pay three more EMIs. But the story does not end there. Interest will be compounded for a period of 10 years (or your remaining period) and the additional EMIs you will have to pay will be much more than three. This is due to the power of compounding; over a long period, the interest on the three or six months of EMI will be a hefty amount. Net-net, in spite of the lockdown blues, if you are in a position to pay your EMIs, it is in your benefit. In case you are in dire straits, then the only implication of the moratorium for you is that you will not be called a defaulter.
For mutual fund SIPs, the reason cited is cost averaging, i.e., you acquire more quantity or units when prices are low. While this rationale is correct and recommended, another benefit that tends to get missed out is the discipline. If the monthly SIP outflows are mandated from your bank account where you receive your salary, you are doing your SIP for sure. That is, it does not get crowded out by the daily / monthly expenses. Had it not been this way, you would miss out on a few SIP instalments.
Again, if you are facing lockdown blues and you are stretched to manage, you may opt for SIP pause rather than cancelling your SIP. The reason, again, is discipline. Once you cancel the SIP, when you come back to normalcy on your earnings, it is human nature to procrastinate the resumption of your SIP. If you just pause it for now, resumption will be that much easier and faster when you normalise. If you can continue, it is that much better as equity prices are relatively lower and corporate bond yields are relatively higher.
If you are facing cash-flow difficulties and drawing from your savings, even then it is advisable to continue your EMI as the interest on your loan is likely to be higher than what you would earn from your savings. The interest on interest over a long period will be telling on you. If you are seeking a loan to tide over the current phase, first see if you have any savings as the cost of the loan will be higher. SIPs can be paused for now.
The writer is founder, Wiseinvestor.in