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Should you choose a repo rate linked home loan?


Should you choose a repo rate linked home loan?

The Reserve Bank of India (RBI) has certainly stirred the cat amongst the pigeons in a manner of speaking! You must know that we are referring to the recent 35 basis points cut in the repo rate by the apex bank which was the 4th such consecutive reduction of the repo rate. Now you must be wondering as to why the RBI is positioning itself as a champion for home loan borrowers and those looking to reduce their debt burdens by way of lower rates of interest and lower EMIs in turn?

This is because of the current economic conditions where the RBI wishes to ease up credit flow into several priority sectors and stimulate demand and consumption. Demand should certainly go up for home loans and residential real estate as a result of cheaper interest rates for instance. This is certainly coming as welcome news for homebuyers although they now have another dilemma to contend with. Should they choose home loans which are linked to repo rates since several banks including the biggies are now offering these products? Or, should they stick with the regular MCLR linked home loans? Will choosing a repo rate linked home loan be more lucrative? These are the current questions swirling around in the minds of aspiring homebuyers and home loan applicants. Well, read on for more!

Key developments leading to the introduction of these loans

Repo rate home loans are those where the interest rates are tied to an external benchmark which is the repo rate in this case. This is the rate at which banks borrow money from the RBI and this has been laid out in the last MPC (monetary policy committee) review and meeting. State Bank of India (SBI) was the first off the block with a new home loan scheme where rates of interest would be tied to the repo rate. This was made effective from July 2019 itself. Thus, in case of any changes to the key policy rate or repo rate, the lending rate will change accordingly from the very first day of the following month which may be really lucrative for borrowers, considering the overall 110 basis points cut in repo rates over a short period of time.

The introduction of this scheme has its genesis in Indian commercial banks being criticized by the Reserve Bank of India (RBI) for not transmitting rate cut benefits swiftly to end-customers. For example, the MCLR offered by State Bank of India for October last year and August this year stood at 8.5% and 8.25% respectively. The 1-year MCLR for ICICI Bank was the same in this entire period at 8.65%. Yet, in this duration, the repo rate has come down from 6.5% to 5.4% which is massive. It is thus clear that Indian banks have not been passing the rate cut benefits faster to borrowers. Hence, SBI and several other banks will now emphasize on repo rate linked home loans to ensure direct benefits for customers should the repo rate keep coming down further. If it goes up, however, then home loan rates may get costlier in the future too.

More updates that you should know about

In its MPC (Monetary Policy Committee) meeting last December, the apex bank had directed Indian banks to link all retail loan offerings with floating rates to external benchmarks from April this year. The RBI had then stated that banks should be benchmarking rates to either the 91-day or 182-day yields from Treasury Bills of the Government of India or the RBI’s repo rate or an external benchmark that has been made by the FBIL (Financial Benchmarks India Private Limited) or even the FBIL.

Yet, in the consultation phase, many banks opposed this move of linking their lending rates to any such external benchmark. They emphasized upon the fact that their costs of acquiring funds were not tied to external benchmarks as mentioned earlier and hence this led to the move being delayed without any recent updates on the same. Nothing has been officially announced in this regard till now by the RBI although some banks are now coming up with repo rate linked home loan offerings.

What should you choose?

In the past, floating rate home loans necessitated rates that were tied to the MCLR or Marginal Cost of Funds based Lending Rate. Yet, now borrowers can compare this with the repo rate linked home loans. The loan tenor will be up to 33 years and in order to qualify for the repo rate home loan from SBI, the borrower is required to earn at least Rs. 6 lakh annually. In this scheme, customers have to repay at least 3% of the principal loan amount annually in EMIs.

The repo rate linked home loans are being majorly targeted towards home loan borrowers in Tier-1, 2 and 3 cities. Loans are available only to borrowers who cross a certain income threshold at SBI and the same model may be followed by other banks as well. The loans linked to repo rates are approximately 10-30 basis points more affordable in comparison to MCLR-linked home loans. This may equate to long-term savings on the interest outgo. If you do not have issues in adjusting to the latent volatility of interest and EMIs, you can consider opting for the repo rate linked home loan. MCLR linked home loans will have a longer reset period of 6 months or 1 year before the new rates come into effect. This is not the case with repo rate linked home loans since it will take only a month for your EMI and interest outgo to change. Decide carefully depending on your needs, wants and lifestyle preferences.

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