Moving into one’s own home is a joy, which is to be felt not explained. It is utopia what with the poojas, house warming functions, searching for just the right furniture and fittings, praises you get for having taken care of the finer parts in construction and decorating the house and the pride in having acquired a physical symbol of success.
After the festivities are over, and with the dawn of a new month, a new realization comes home. For the fortunate few, it is the reminder to fund your bank account, as the loan EMI is due after a week. For others the money simply flew out of the bank account.
It is time for us to act like the fund manager of a mutual fund or investment fund. Taking informed decisions to manage the asset that we call home and the liability that we call housing loan. By being prudent, you can get high “returns” in the form of saving on interest outflow.
Fund Management When Carrying a Home Loan
As a fund manager of the house, one has to find ways to maximize the benefits of the cash flows. Make a list of all the loans and savings/investments that you have made. Do you find places where the savings/investment is giving lesser returns than the loan rates? This can typically be seen with your endowment insurance plans, your EPF and PPF, the postal deposits, sometimes-even ULIPs. Why should you be invested in something when you are paying higher interest to somebody else? It is better to close all or most of these lesser returns savings/investments and divert the funds to close the home loan.
Care should however be taken to replace an endowment insurance plan with a term plan of higher cover. Your employer and your EPF officer will allow withdrawal of funds from the EPF account for buying and closing the loan of a house. The PPF is not so flexible with letting go of your money. ULIPs and the postal deposits can be closed only after the stipulated 3 years of lock-in.
Ways to repay your debt quickly:
There are ways to come out of the EMIs and make your loan tenure shorter:
1. Partial pre-payment
2. Switching to a lower rate
3. Increasing the EMI
Now let us look at the options in more detail. The best part is that, the options do not in any way add to your existing budget.
Partial Pre-Payment
This is the easiest way to close a housing loan faster. The method is to make use of any one-time income like a bonus, salary arrears, gifts from friends/relatives, any wind fall gains from shares, property sold, deposits closed, tax saving investments maturing, closure of savings that are giving you lesser returns than the housing loan, etc to partially close the housing loan.
The effect is that the one-time payments help to reduce the principal balance in the loan. And when the EMIs continue, they have lesser of the principal to cover. So the same EMIs need a lesser time to close the loan. More earlier and more frequently the partial pre-payments happen the faster the loans close.
Banks generally allow partial pre-payment starting from Rs.10,000/-. There are no charges for partial pre-payment of housing loans.
Switching To a Lower Rate
The interest rates current are in a rising trend. There are times when the interest rates start going down too. Based on the interest rate reset period, different banks will reduce their rates at different times. If the reset interest band of your lender is a wider band, you may be at a higher interest rate for a long time after other banks have started to reduce their rates.
Switching to a lower interest rate will shave off a few years from your housing loan. Care however has to be taken about not jumping too many times or with low interest rate differences. This is because there is a charge for switching loans, i.e. prepayment penalty, which the RBI has been stressing, should be removed from the system. While some banks have already done away with it, some still charge if you do not pay from your own sources. However, it could just be a matter of time till it is totally removed from the system easing the cost burden for the loan borrower further!
Do remember that property verification and other legal paperwork will have to be done afresh in the case of a loan transfer. Also, for a loan transfer to be effective you should have a clear track of having cleared all the EMIs on time, every time.
Increasing the EMI
This is another option to close the loan faster. If you can spare a portion of an increment to increase the EMI, considerable saving could be made. For example a Rs.30,00,000/- loan for 20 years will need an EMI of Rs.28,950/-. If you can spare an additional Rs.2,300/- per month, the loan can be closed in 15 years itself.
The EMI can also be increased by making use of money that was going into an endowment insurance plan or a recurring deposit in a post office.
Increasing the EMI can be done at any point during the tenure of the loan. There are generally no charges for increasing the EMI.
Summary
Only after closing the home loan does one really become the owner of the house. Closing the loan as soon as possible not only relieves the mental strain of carrying a debt but also releases more money into the family budget.
A very good article.