If you are servicing a home loan, and you have decided to prepay it to reduce your overall outgo in terms of interest payment, there are few possibilities you can consider.
You can either pay the full amount outstanding upfront, i.e., completely repay your loan before tenure, or, you can make part payments in lump sum to reduce your overall outstanding loan amount.
One of the reasons why many borrowers consider prepaying their home loan is the high interest cost, which forms the major component of the equated monthly instalments (EMIs) in the initial phase of the loan tenure.
While prepaying a home loan is something every borrower would want to do to save money, it is always advisable to do a detailed cost-benefit analysis before arriving at any such decision.
Let us look at the pros and cons, including some instances where it is not advisable to prepay a home loan.
Lower Or No Savings
One should not prepay a home loan if they do not have any savings. “With so many other big financial tasks ahead of them, it may not make sense for borrowers to prepay a mortgage. Not only will they no longer have those future retirement and investment opportunities available to them, but it could also affect their other expenses,” says Atul Monga, co-founder and CEO of BASIC Home Loan.
Losing Out On Tax Benefits
Where one prepays a home loan, they stand to lose out on tax benefits. Prepaying a home loan may sound like a great way to avoid missing monthly payments, but always remember that prepaying a home loan could result in losing out on tax benefits and taking more risks with your finances.
Financially Imprudent In Case Of Other High-Interest Debts
Prepaying a home loan is not as imprudent as one might think. However, there are two scenarios where it would not be financially prudent to prepay a home loan: when the borrower has other high-interest debts, or when the borrower’s income has been reduced.
“The fact that they spend their extra money to pay off the lower interest loans, rather than the higher interest debts, will often make a house purchase more prudent,” says Monga.
Hence, prepayment of a home loan may seem like an attractive proposition for the existing borrowers, as it allows them to reduce both their interest costs and overall repayment burden. However, the prepayment charges as well as the reduction in liquidity could become a dampener.