How to bring down your home loan interest
Date : January 9, 2018
Category : Art of Home
While buying a home, apart from the most crucial aspects like the right property of choice, location, savings, etc., the key factor remains the home loan and the interest rate offered by banks and other financial institutions. It is very important to develop a clear understanding about the interest rates, the reason of the variation in rates, the long-term effect on the EMIs, and rules and processing charges about future transfer of loan from lender bank to some other bank or institution.
Understandably, EMIs form the largest expenditure of a household on a monthly basis that stretches for over a decade or two decades. A slight difference in rate of interest on home loan offered by various banks and financial institutions, which may appear negligible in the beginning, has a significant impact on the amount paid in the longer run. Hence, the emphasis on understanding the fine-print and choosing the best lender for a particular property, city or amount of loan required. This way you can reduce the burden and mitigate the impact the home loan would have on your income. Lower interest rates is a dynamic phenomenon that buyers should take advantage of instead of continuing with lenders with higher interest rates.
The following are a few tips that help you take advantage of lower interest rates through various methods:
Transfer your loan to MCLR
It was a long-standing complaint of home loan borrowers with banks that banks ignore the existing borrowers when reducing interest rates benefitting new borrowers. Reserve Bank of India had also accused banks of not passing on the benefits of lower interest rates to the existing base of borrowers. Then came the RBI intervention aimed at resolving this discrepancy when RBI mandated banks to switch over to Marginal Cost Based Lending Rate (MCLR) based lending rates from April 01, 2016. With this initiative, all new floating rate home loans are processed on the basis of MCLR. And an equally significant rider that came through was the option that even the loans issued before April, 2016 can now be transferred to MCLR if the existing lender has higher interest rate. Previous borrowers can now switch their balance home loan to any other bank that offers lower interest rate.
In comparison to the base rate and BPLR systems, MCLR is a more dynamic and effective option that is directly linked with repo rate. Thus, MCLR reflects the changes in the policy rates immediately, and you get the benefit of lower interest rates much faster. Repo rate is used to calculate MCLR making it more reflective of any changes in the policy rates and beneficial for home buyers. Moreover, RBI has made it mandatory for the banks to review their MCLR on a monthly basis and reset the interest rate at a periodic interval of less than a year. And this mechanism of resetting the interest rates and schedule have to be clearly communicated to the borrowers by the bank at the time of disbursing the home loans. These guidelines and rules have rendered MCLR a much more transparent rate-setting mechanism. Now the banks are bound to pass over the benefits of repo-rate reduction to the borrowers based on the provision of fixed interest rate reset schedule.
In recent years, a decline in the interest rate has been registered, thereby, making it an attractive option to switch to MCLR so that you benefit from future rate reductions. But for this switch to MCLR, your current lender bank may charge a conversion fee of about 0.5% on the outstanding amount of home loan, with taxes. Also, it is important to note here that switching to MCLR is a one-time option which means that once you have opted for MCLR, you cannot go back to previous system or rate.
Reset your loan to lower rate, in case of NBFCs
Since, home loans from Housing Finance Companies (HFCs) and Non-Banking Financial Companies (NBFCs) currently do not come under the purview of MCLR, the borrowers may choose to reset their home loans to the current lending rate to enjoy the benefits of lower interest rate. Borrowers may be charged a conversion fee of upto 1% of the outstanding loan amount for this resetting to lower rate. Similarly, banks also provide this facility of switching from higher fixed rate to lower rate on the payment of a conversion fee. Different lenders may charge different conversion fee.
With NBFCs and HFCs, the base rate doesn’t change, only the spread changes. For example, a lending agency has a base rate of 15 per cent and a spread of -5 per cent, then it would allow you to change your spread to minus six per cent. This results in a drop of interest rate bringing it closer to about 9% [15 + (-6)]. With this provision, the borrowers may continue with the same EMIs, and even go for reducing the loan tenure.
Settle your loan in part or full with prepayments
With the restriction on lenders from charging prepayment of floating rate home loans, it is now easier for home loan borrowers to settle their outstanding home loan balance, fully or partially, by making prepayments. However, this restriction, as mentioned above, is only for home loans based on floating rate. For fixed rate home loans, lending agencies charge prepayment charges of upto 2% of the outstanding loan amount.
In case of going for prepayment, it is advisable to ascertain that saving you make in interest amount is higher that the prepayment charges you are paying.
Refinance your balance home loan
In case, you find that your current lender isn’t ready to reduce the interest rate and/or reset other terms and conditions, you can go for the option of refinancing your balance home loan, or in other terms, transfer the balance home loan to the other more suitable lender. Many home loan borrowers who are with NBFCs and HFCs find this option advantageous and transfer their balance home loans to banks and benefit from MCLR-based lending rates.
In this case, the new lender pays the entire balance home loan amount to the original lender enabling you to enjoy lower interest rate on that balance home loan, along with other benefits from favourable terms and conditions. But this is also a lengthy process as it primarily means the same cycle of loan approval from the new lender as happened previously with your original lender. Also, refinancing or transfer of balance home loan makes more sense and becomes beneficial only when the new lender offers a difference of minimum 75 bps or more on interest rate and the remaining tenure of your home loan is more than 10 years.
Increase EMIs with your raised income
Usually, banks calculate your monthly EMIs based on your monthly income and prefer your EMIs to be under 40% of your monthly income. With your enhanced income over years, you may choose to increase the EMI amount you pay per month. The lender, banks or NBFCs, will revaluate your revised repayment capacity based on your current salary slips and bank statements. This way, you can reduce the tenure of your home loan.
Analyse the cost and benefit
All the ways discussed above to reduce the interest rate come with a charge, usually called conversion charge by the banks and other lending agencies.So, it is strongly recommended that the borrower should do a cost-benefit analysis before reaching any final decision and ascertain the total cost one would be paying to take the benefit of lower interest rate and the estimated savings from lower interest rate.