The Reserve Bank of India has raised the repo rate by 25 bps. What does this mean for the average borrower and how can they tackle the situation?
The Reserve Bank of India has raised the repo rate by 25 bps, taking it to 6.25%. The central bank was hinting at a hawkish stance for the past few monetary policy reviews with the prominent banks already announcing a hike in their lending rates (MCLR) a few days back.
So. what does this mean for the average borrower and how can they tackle the situation? Let’s find out.
Immediate Effect Muted
An existing borrower may not witness any change in EMI amount with banks increasing their MCLR in reaction to the RBI rate hike. There could, however, be a change in the tenure of the loan, which would result in raising the total cost of your loan, as a longer tenure means you pay more EMIs.
If you are looking to buy a property with a home loan, you will have to choose between a Fixed Rate and Floating Rate of interest. Fixed rate loans may have a fixed interest rate for part or whole of the loan tenure. If it’s part-fixed, the loan switches to a floating rate after the reset period. The floating rate varies with the change in the market scenario and in the present condition is lower than fixed rates.
Eventual Effect on Overall Interest Outgo
A higher interest rate will eventually increase the long-term interest out-go, thus making your overall loan costlier. In case you are not too comfortable of making any changes to your loan structure, adopt a wait and watch policy for a quarter and take time to understand the impact of the rate hike on your loan.
What Can Borrowers Do
One of the best ways to protect yourself at such a time is by making a pre-payment that would lower your overall interest outgo. This would be a good move for those at the beginning of their loan tenure. You may also try to switch to a longer reset period of up to two years assuming the MCLR for that tenure is the same. This should be enough time for the rates to stabilize. Simultaneously, you can also increase your savings or step up your investments to pre-pay your loan so that the interest outflow is not as high.
But if you are nearing the end of your loan, it is wise not to take any steps and simply maintain the loan till the end of its tenure to collect any useful tax deductions. A higher interest rate would also mean higher deductions for some loans like home and education.
If the impact observed by you is substantially high, you can also explore transferring the loan to other banks after a comparison of the rates offered to grab the best deal.
(The writer is CEO at Bankbazaar.com)