Just the way a perfect home weathers all kinds of seasonal changes, a home loan too stands up and down in interest rates. Home loans are typically meant for the long haul. Being long-tenured products, these come with built-in flexibilities and other features for the borrowers.
Today, at 8.35 per cent, housing loan interest rates are at a seven year low. If you have decided to buy a house for yourself, the timing is nearly perfect. “Buying a house for personal use with a loan is a good thing, the net cost of capital for borrowing is similar to rental expense, after accounting for inflation,” says financial planner Renu Maheshwari.
Once you identify a suitable property, the next step is to shortlist ideal lenders and home loan schemes, given the wide variety of schemes and loan variants on offer. If you plan to purchase your house in the future, be sure of how you develop your credit history today. The reason being, your credit card swipe and repayment history goes into building a credit score for you. Unlike other loans, you are stuck with home loans for a longer period of time—10-20 years—which means that your strategy to service the loan cannot be static through the tenure.
To benefit the most from the loan that you take, you should work towards devising a strategy that can serve your interest well. “Lenders have slashed the time it takes to process a loan. Then, there are pre-approved loans from banks which can be utilised on the fly, an innovation witnessed these days,” says Suresh Sadagopan, founder, Ladder7 Financial Advisories.
You would do well to take your time to study the schemes instead of opting for the one that promises a quicker approval. Put a plan in place before borrowing, in addition to regularly reviewing your repayment goals. The basis of arriving at a home loan interest rate, the advantage in switching loans and prepayment are some of the features that you should understand before going in for a loan.
Every home loan disbursed after April 1, 2016 is linked to the banks’ marginal cost of fund based lending rate (MCLR), the RBI mandated revised methodology for computing benchmark lending rates that have replaced the base rate regime. It is calculated by taking into account parameters like the bank’s incremental cost of funds, cost incurred for maintaining the cash reserve ratio, operating costs and tenor premium. The spread applicable to you will depend on the bank’s business strategy, market competition and credit risk.
The objective was to force banks to be more responsive to interest rate movements in the system, so that policy rate cuts by the RBI would be passed on to the end-user. Also, existing borrowers often feel short-changed as banks refuse to fully transmit benefits of RBI’s rate reductions citing higher cost of funds even as they offer lower rates to newer borrowers. MCLR was aimed at resolving such grouses.
The purpose is to make banks more responsive to policy rate revisions, but do note that MCLR loan contracts come with reset clauses, where changes in interest rates are effected at pre-decided intervals. Banks use their discretion to spell out the reset period, which is typically either six months or one year for home loans. The home loan rates are pegged at six-month or one-year MCLR. SBI’s home loan contracts, for example, have an annual reset clause, which means that your rates will be reviewed and revised every year on the pre-fixed date in your contract.
Therefore, you will have to forgo benefits of any rate reductions post this date, though on the flipside, you will also be insulated against rate hikes during the period. Read the clause carefully before choosing your bank—in a softening interest rate scenario, a bank that offers a six-month reset clause could be a better bet.
Any contract between a bank and its retail customer, as RBI itself has earlier noted, is heavily loaded in favour of the former. As a result, individuals have little scope to negotiate, particularly on home loan interest rates, despite a clutch of banks competing for a common customer base. Whatever the repayment track record of a loan applicant, a uniform home loan interest rate is offered to all. State-run lender Bank of Baroda has, however, made a departure from this established convention by offering a 100-basis-points concession to borrowers with favourable credit scores.
For instance, while home loan-seekers with a credit score of under 724 are charged interest at 9.35 per cent, those with a score of more than 760 have to shell out a much lower 8.35 per cent. “In the future, we might see more banks following suit as differentiated interest rates based on the credit scores of borrowers is one of the intended benefits of a robust credit information ecosystem,” says Kalpana Pandey, managing director and CEO, CRIF Highmark, a credit information company. Even if your bank does not have such a policy, ask for a reduction in processing fees or a waiver citing your higher credit score.
Another arrow in your negotiation armour, loan refinance entails transferring your loan to another lender who is willing to offer you a better deal. The new lender takes over by paying off your existing bank. While the purpose of the MCLR regime is to facilitate a fairer interest rate structure for all borrowers, banks do tend to circumvent the system and lower the rates sparingly, leaving existing borrowers disappointed. While loan agreements are indeed skewed in favour of the lenders, borrowers can smartly use the refinancing tool to curtail their interest payment.
For instance, if a borrower with a Rs 50-lakh outstanding home loan carrying an interest rate of 9 per cent per annum over a 30-year tenure decides to shift to another lender offering a rate of 8.5 per cent, she can net savings of Rs 20.62 lakh on interest outgo even after paying a 0.5 per cent processing fee as the tenure shrinks by 51 months. “Even if you have availed of credit-linked interest subsidy under the PMAY scheme, you can transfer the home loan,” points out Harsh Roongta, an independent financial advisor. With elimination of prepayment penalties, there is no reason to hold back.
Refinancing the loan may seem tempting, but don’t follow this route, especially if you are servicing the loan closer to its tenure, as you would have paid the major part of the interest component in the initial years of the loan. Yet, most home loan borrowers pay off their loans much before time, rather than service EMIs till the end of the original tenure. Having toiled hard to realise your dream house, do not fall prey to sellers spiel on loan rates and other deals. Borrow wisely and repay timely to enjoy your life in the dream house you bought with so much passion.
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