Home loan interest rates are often the first thing that people keep in mind before applying for a loan. However, what does one do in a scenario where interest rates keep increasing? With the increase in incomes, the repayment abilities of those applying for home loans in their late 20s and early 30s is considerably higher in recent times. This is why buying homes is an aspiration that is now open to those earning well and in their early stages of professional life.
However, a home loan represents a major financial commitment and that too for a longer period of time. Managing a home loan can be a slightly tough affair in case rates of interest keep fluctuating over a period of time. The RBI did hike repo rates previously although they have moderated now. However, the MCLR of several banks had increased sometime earlier, making home loans more expensive and deposits better yielding in terms of overall returns.
Tackling increases in home loan interest rates is something that people most often wish to know since rates can fluctuate with the passage of time. Here are some tips that you have to keep in mind in this regard.
- Analyze debt that is outstanding- The home loan may possibly be the largest debt that you have on hand. However, there may be some other debts which you are repaying including personal loans and credit cards among others. You should always emphasize on repayment of unsecured personal loans or credit cards which have higher rates of interest. You should try to pay off these loans so that you have more room to repay higher EMIs in case home loan interest rates go up in the future.
- Analyze your investments and overall cash position- You should always focus on bumping up your own savings and cash position as much as possible in order to have a surplus which will enable you to repay the loan before the conclusion of the tenor. This surplus can be garnered from your current investments or you may even plan for new investments in order to raise funds for clearing off the loan in a faster time period. You can opt for investments which are more secure in the long term like FDs or recurring deposits along with mutual funds for the short term based on your financial advisor’s guidance. You should analyze your monthly expenses and work out how much you can invest for repaying debt earlier.
- Don’t make debt repayment the only goal- Make sure that you invest for clearing off debt only after your other goals like retirement planning and building corpuses for other goals are on track. Do not compromise on the same and also on your basic monthly expenditure. Make sure you have a reserve cash flow of 3-4 months’ salary before you start investing more. Debt repayment should be a key goal but not the only goal that you have.
Assessing impact of home loan interest rate increases
The loan tenor and what stage you are at are crucial factors when it comes to building a strategy for repaying off your home loan and managing any fluctuations in interest rates. Part pre-payments make for a good option when it comes to lowering the overall interest costs on your home loan. This will be a good decision if you are in the early years of your home loan. You can also ask for a longer reset period up to two years from your financial institution in case the MCLR for this tenor is also the same. This is something that can be tried in order to make the loan more manageable.
Suppose you have taken a home loan of Rs. 30 lakh from your bank with a loan tenor of 20 years and interest rate of 8.4%. The EMI that you were paying was Rs. 25,845 and the total interest amount payable on the home loan was Rs. 32,02,832. Suppose, after you have paid off around 24 EMIs over two years, the rate of interest goes up to 8.90%. Till this time period, you have paid roughly close to Rs. 6 lakh in cumulative EMIs in this period. However, the principal amount repaid is only Rs. 1,20,455 with the remainder being paid towards interest. As a result, the balance amount of the loan is still Rs. 28,79,545. Now, for a revised interest rate of 8.90% for the balance amount and a tenor of 18 years remaining, the EMI will naturally increase to Rs. 26,786 every month. This indicates an increase of Rs. 1,031 every month. Additionally, the long-term interest costs will also rise exponentially in the bargain.
What can you do?
Strategic prepayments are the best way to keep the interest costs down and manage the home loan effectively in such a scenario as mentioned above. Prepaying Rs. 50,000 or even Rs. 1 lakh annually will help you slash the interest costs substantially while you should keep your EMI amount constant without reducing the same in order to clear off the loan that much faster. The total number of payments will reduce with every prepayment and so will the overall outgo in terms of interest. However, for those who are coming to the end of the home loan tenor, it would make sense to maintain the home loan like it is till the last few months or 1-2 years is completed. This is because you will not get the benefits of a lower interest outgo since the last few years’ EMIs will mostly focus on reducing the principal component of the loan. Make sure you maintain the loan and maximize tax deductions if you are nearing the completion of the home loan.
You can also consider a home loan balance transfer if you are in the early or middle stage of your home loan. Transfer the loan to another financial institution after comparing interest rates and the payable EMI. Go for this only if you see that there is a substantial reduction in interest rates and overall interest costs. Compare these savings to the cost of transferring the home loan, i.e. charges and so on. Thereafter, if you see that you stand to save quite a bit, you can opt for the same.