Different banks quote their interest rates differently. Some might quote rates with an annual rest, while others may quote rates with a monthly rest. In every case the bank will usually quote the ‘annualised rate’, which is obtained by multiplying the rate per rest period into the number of rests per year. For example: In the case of a monthly rest with 1 per cent interest being charged per month, the annualised rate =1 per cent* number of months in a year =12 per cent.
Of late, home loan interest rate has been a concern for many due to its volatile behaviour. Banks and institutions often resort to arithmetical jugglery so as to mask the real rates and show attractive rates. So, it is good to approach a bank armed with the knowledge about different calculations of interest rates.
Interest rates can be calculated at a flat rate keeping the outstanding amount (i.e, the amount on which interest is calculated) constant throughout the loan tenure or at a reducing balance rate, which lowers the outstanding amount as the loan is paid back.
What’s flat rate?
For instance: If you took a loan of Rs 10,000 with a flat rate of interest of 10 per cent over five years, then you would pay Rs 2,000 + Rs 1,000 (ie, 10 per cent of the loan) =Rs 3,000 every year. Over the tenure of the loan, you would end up paying Rs 15,000.
What’s reducing balance rate?
If instead of a 10 per cent flat rate (in the above example), you were charged a 10 per cent annual reducing balance rate, you would pay Rs 1,000 as interest in the first year, Rs 800 as interest in the second year, Rs 600 as interest in the third year, Rs 400 as interest in the fourth year and by the last year you would only pay Rs 200 as interest. That is, over the tenure of the loan you would end up paying Rs 13,000 ie, Rs 2,000 less than you would have paid with the 10 per cent flat rate.
Tip: An X per cent flat rate is always more expensive than an X per cent annual reducing balance rate. So insist that the bank quotes you a reducing balance rate for all kinds of loans.
What’s ‘rest’?
The term ‘rest’ comes into the picture only for reducing balance loans. In a reducing balance loan with each EMI paid, the outstanding loan amount is recalculated. A ‘rest’ is the period in which the bank recalculates the loan amount outstanding based upon the amount of loan paid back through Equated monthly installments, i.e. EMIs. Note that this is also the periodicity of compounding.
Rests can be annual, monthly, weekly and even daily!
Let us understand how the difference in the rest period affects the loan taker.
Annual rest: The bank recalculates the outstanding loan amount at the end of 12 months. That is, even though the borrower pays his EMI every month and the loan balance reduces every month, the outstanding loan amount is not adjusted till the end of the year.
Monthly rest: The bank recalculates the outstanding loan amount at the end of each month. That is, the outstanding loan amount on which the interest is charged goes down every month.
Tip: An X per cent annual reducing balance rate is always more expensive than an X per cent monthly reducing balance rate. So bargain for your loan to be calculated on monthly rest basis.
Let’s look at a simple illustration of annual rest versus monthly rest. Assume two scenarios:
1. You borrow Rs 5 lakh at a 12 per cent annualised interest rate at annual rests
2. You borrow Rs 5 lakh at a 12 per cent annualised interest rate at monthly rests.
| Annualised interest rate | 12 per cent |
| Loan tenure in months | 240 |
| Loan amount | Rs 5,00,000 |
| Type of Interest Rate | Annual Rest |
Monthly Rest |
| Number of compounding periods | 20 | 240 |
| Interest rate in each compounding period | 12 per cent | 1 per cent |
| EMI | Rs 5,578 | Rs 5,505 |
| Total interest paid | Rs 8,38,788 | Rs 8,21,303 |
As detailed above, it is clear that you would end up paying less as interest with a monthly rest than you would with an annual rest. That is, you will always pay more interest on an X per cent annual rest rate than you would on an X per cent monthly rest rate.
Tip: Different banks quote their interest rates differently. Some might quote rates with an annual rest, while others may quote rates with a monthly rest. In every case the bank will usually quote the ‘annualised rate’, which is obtained by multiplying the rate per rest period into the number of rests per year. For example: In the case of a monthly rest with 1 per cent interest being charged per month, the annualised rate =1 per cent* number of months in a year =12 per cent.
To compare loan offers from multiple banks, you need to calculate the total amount of interest you would pay for each offer. This will enable you to compare offers even if their interest rates are quoted differently.
It is very very useful article. thanks. Literally I was not able to understand various interest rates and terminology used by banks when it comes to housing loans. Your article simplified things and it is easy to understand and calculate. Thanks a lot.
It is very good information. thanks. Literally I was not able to understand various interest rates and terminology used by banks when it comes to housing loans. Your article simplified things and it is easy to understand and calculate.
Raghu and Shekar thanks for dropping by and voicing similar thoughts on the article. We are glad that you liked it, please keep coming back for more such articles, which are being posted here for readers just like you. Thanks.
Cheers
Abitha
It is high time that RBI compell its banks to mention the rate of interest only on daily reducing method and no other method, which will help the customers to
know the right rate ofinterest and will not get cheated. It is the duty of RBI but it has always taken care of its Banks at the
cost of the innocent customers of Banks, who being cheated day in and day out in front of the Controller i.e. RBI.
Thanks mate very useful article. I was fortunate to come acroos the article at right time. once again thx.
Shiva
Pls do share ur experience with us. What i really want to know is, did your bank actually agree to ammend its "rests" based on your instructions..?
My experience is "they usually don't !"
They will follow their internal guidelines only and YOU dear borrower, will just have to take what they offer.
Anyway, i wud love to be contradicted, if it is indeed true that ur banker agreed !
Good luck !
Good, informative article. It's a shame that banks indulge in such jugglary with the sole purpose of cheating their customers and RBI just sits quiet and doesn't do anything.
Can you also give us the formula used to calculate EMIs based on Annual Rest and Monthly Rest?
dear frnds,
Pvt. Banks is not less than a mafia.
Whatever we understand, once trapped in their net, nothing can save you.
Thanks
Hi Sudhir, you said it, no matter how much you know and how genuine your calculations or cause, once trapped in their net, nothing really can save us!!!
hi seema,
its hard to beleive that i really happened to me.
seriously i am suffering beacuse of my desicion of getting a home loan from a private bank.
thnks
wats ur experience.
do let me know if possible.
Thanks
hi seema,great to meet someone who seems to be in same pain as i am.
how can we fight back…do u have any idea
thnks
hi seema, do u think that govt. of india will take a front foot to save us.
You can tranfer your loan from pvt bank to Govt bank. For this you may have to pay a processing charge of (I am not sure but) 2%. But if an overall calculation is still less than what u are paying right now, you can go ahead.
we were paying an EMI of Rs9000/- to hsbc for housing loan, upto jan 2008,suddenly it went upto 13000/- per month,how come?
It's very true and in the same opinion with every one. The depicted calculations would be very helpful for lenders…. ThanX once again for the detailed calculations
better understanding
The article is very useful, no doubt…but the big question is how many lending instiutions actually allow a borrower to negotiate the finer aspects like monthly or yearly rests, etc etc.
ALL terms are usually loaded in favor of the Institution only, leaving us hapless borrowers at their mercy.
In my experience its always a "Take it or leave it" policy!
Unless of course the situation has changed recently and am not aware of it!
I think the time is changed. There was a time when u ran after banks, asking for the laon. But now banks try to convince you "why you should take laon from their organisation". Atleast this is true for my case, I was offered with a number of option.
You should do the investigation and calculation for every aspects very carefuly, before taking decision.
This is quite an interesting article. Such things are really useful for common audiences who really dont have access to such guidance.
Government should nt have made privatization instead to ruin citizen from all ends like this. home loans make victim for poor & middleclass employees always.
Better policy should be reviewed by government authority before releasing this type of loan worms.
Well written article articulating different facets of loan interest calculations
SS Jamwal
Before other readers conclude that i am a disgruntled contributor here, let me clarify that i think these articles are simply brilliant, especially for the "not so initiated" persons like me.
Extremely useful and informative, i always spend time going thru them.
Keep the good work going – MSN Finance , BankBazaar.com.
Regards
This was a very useful article. It opens up a hitherto uncharted territory for me. Thank you very much.
Some nationalized banks ask for PAN no even for small FD’s , is it necessary for giving PAN no when our income ( means Interest on FD) doesnot exceed Rs. 10000. If bank insist what should be our action
This article is very helpful for initial understanding of loan policies. If you extend the analysis with taking official details from various banks/ institutions about their schemes and offers with plus & minus of each scheme, it will make your website as one of the most visited website in India.
Brilliant article.
I checked with my home loan agent of LIC if the loan taken is a monthly rest or a annual rest?He says that is a deep questions and does not know about that.i went thru the sanction letter,but nothing of that type is mentioned in that..can anybody clarify from where i can find this details?
Thanks, Good explanation
Really good article. I gives clear picture on home loans jugglery by banks.
Actually this information is very helpfull for me bcs I am planning to take Hosing loan. Now I came to know what is the arithmetical jugglery from all banks. They never explaine fully understanding us, if anybody understanding fully 50% costomers they will lose. So be aware of taking a loan .
Thank you
thank you for such an informative article
thanks !! very helpful post!
Brilliant work..It is quite informative…
In India with most banks there is very less one can do in terms of bargaining. Whatever they say, the DSA and others just insist it is their policy/procedure etc. and cannot be changed…. So the customer either takes it or leaves it. Most banks do not encourage any bargaining / negotiation.
Very useful article..! Just happen to see it at the right team when I am doing a research for my first home…!!
Its good article must read before taking the Home loan.
New to know about this. The banks charge is almost same but make different calculations. No way to escape or there is a way out