What To Do With Your Home Loans As Interest Rates Bottom Out

By Adhil Shetty | March 27, 2017

Interest Rates May Have Bottomed Out But Here's What You Can Do With Your Home Loan

Loan interest rates have been trending downwards over the last two years. However, with the Reserve Bank of India’s last two monetary policy reviews, interest rates were maintained. There has also been a general expectation of further rate cuts with inflation remaining under control. This expectation was fuelled by the demonetisation scheme, which saw reduced economic activity and banks being flush with cash.

However, these expectations were not met. Moreover, the RBI governor did not also hint that there could be a rate cut in the near future. With inflationary forces gathering strength fuelled by factors such as the steady rise in oil prices since January 2016, it may not be wise to expect more rate cuts. Therefore, we can arrive at the conclusion that interest rates may have bottomed out for now.

What this means for Home Loan borrowers

Home Loan borrowers who were waiting for rates to go down further should act now. In this article, we will discuss some steps you can take to optimise your loan payments and reduce your interest outgo.

Broadly speaking, you have two options:

  • You’re not happy with your current rate and want to transfer to a home loan with a lower interest rate.
  • You’re happy with your current rate, in which case you should stick to the loan you have. You should use this opportunity to make principal pre-payments on your loan to secure long-term savings.

Additional Reading: Why You Should Pre-Pay On Your Loan Now

Let’s look at both options closely.

Transferring your loan

Check with your own bank for cheaper loans linked to the MCLR regime. Also, contact other banks and check the interest rates offered on their Home Loans. You can also check online loan aggregators, which will help you compare loan products from all over the industry.

Loans linked to the MCLR are more responsive to rate cuts, meaning the RBI-mandated rate cuts are transmitted to borrowers at fixed intervals set in the loan agreement. You can transfer within your own bank to an MCLR-linked loan at no cost. Transferring to another bank or lending institution would mean having to go through paperwork and paying processing fees and loan balance charges.

Interest rates vary from bank to bank, and a difference of even 0.5% or 1% can make a significant difference to your long-term loan payments, sometimes resulting in lakhs of rupees in savings. But, do remember that you need to deduct the transfer costs from any interest savings you’ll generate.

For example, if you’ve taken out a home loan of Rs. 40 lakh at an interest rate of 10% for a tenure of 20 years, your EMI will be Rs. 38,601 per month. However, if the rate is 10.5%, your home loan EMI will be Rs. 39,335 per month.

The additional half a percent means having to pay nearly Rs. 3.2 lakh more over the course of the loan tenure. From this, you must deduct loan transfer charges to arrive at an accurate savings amount.

Pre-paying on your loan

If you’re convinced that the interest rates have lowered sufficiently, you’re presented with a window of opportunity to pre-pay on your loan. When you pre-pay on a loan when the interest rate is low, you make greater progress in your repayment plan.

For example, you may have taken a loan at 10%, and now the home loan interest rates are hovering around 8.5%. When you pre-pay at a lower rate, you pay off a part of the loan at a lower cost, thus reducing your overall interest costs.

Let’s assume you have a Rs. 50 lakh loan taken at 10% for 20 years. You have paid 60 EMIs at 10%, and your current loan balance stands at Rs. 4,490,122.13. You now decide to pre-pay 10% of this loan, i.e., Rs. 449,012. Let’s understand why making this pre-payment at a lower rate is important.

When you pre-pay with the rate still at 10%, you make interest savings to the tune of Rs. 12.63 lakh over the course of the loan. But if you make the same pre-payment with the interest rate at 8.5%, your interest savings rise to Rs. 16.97 lakh.

Not only can you reduce a greater part of your loan balance by pre-paying with a lower interest rate, you can also gain a stronger position financially where the interest rate will not pinch you when it starts rising again.

The lowering of interest rates is great news for borrowers. They must make the most of this window before the rates start rising again. After all, a penny saved is a penny earned. And with a Home Loan, some smart manoeuvring can save you lakhs of rupees.

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About Adhil Shetty

Adhil Shetty is the Founder and serves as the Chief Executive Officer of BankBazaar.com. Adhil has a Master’s degree in International Relations with a specialization in International Finance and Business from Columbia University in the City of New York, and a Bachelor’s degree in Engineering from the College of Engineering Guindy, Anna University. Adhil is an expert in Personal Finance (Car loan/Home loan and personal loan) and he majorly consults on investment and spends rationalization for the Indian loan borrowers. His guidance is number based with real time interest rate calculations and hence useful for consumer’s real time query.

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