Loan repayment - how to cope with interest rate hikes?
Low home loan interest rates which had contributed to the real estate boom during the past few years are now spiraling upwards upsetting the calculations of borrowers. Higher interest rate means a higher monthly payment to the financial institution or an extended tenure for repayment. Coupled with escalating price of properties due to higher input costs the rate hike has compounded the woes of a homebuyer. The recent RBI steps like hike in CRR and repo rates to bridle inflation have forced banks to raise interest rates on home loans.
Some banks have already asked borrowers to pay the differential interest as a single sum by the end of the financial year. Others have increased the loan tenure. When the housing loan rates were 7 to 8.5 per cent banks vied with one another to slash it down further to woo customers. Interest rate that remained as low as 7 percent five years ago has more than doubled now. Some banks have only raised their floating rates. Some have increased the processing fees on all loans. It is a tricky situation for borrowers.
Impact on EMI
For a .5 per cent hike in the home loan rates, the borrower will have to shell out anywhere between Rs 25 and Rs 35 per month extra on every Rs 1 lakh borrowed. The EMI is calculated based on the interest rate, loan amount and term. On a home loan, the EMI for a Rs. 20 lakh loan at 13 per cent for 20 years is Rs 23,432. If interest rate goes up by 1 percent EMI is Rs. 24,871. Additional monthly burden is Rs.1439 and yearly outgo Rs.17,268 more. EMI has two parts — the principal and interest. The money that goes into the interest component will be higher. When interest rates rise the interest component of the EMI too increases and the principal repayment component comes down. Borrowers who have opted for floating rate are the worst sufferers during interest rate hike.
How can borrowers beat the inflation? It is always better to pre-pay the housing loan if extra cash is available with you. A customer can liquidate fixed deposits if any to prepay the loan, as the yield will be lower than the interest on home loan. Before opting for prepayment a customer has to ascertain whether the loan agreement has any clause on pre-closure penalty. Charges vary from 2 to 3 per cent. Another disadvantage is that the income tax benefit available for repayment of interest up to 1.5 lakh per annum won’t apply in the case of foreclosure. SBI is one of the banks that charges no penalty if the loan is pre-closed from own savings or windfall gains.
Part-prepayment
Another option is part pre-payment to help reduce the loan tenure and interest rates. This can lower the EMI and thereby limit the interest cost. The problem of penalty on pre-closure of home loan can be got over by resorting to partial payment of principal amount as no bank levies penalty on part-prepayment. It is tempting to migrate from floating rate to fixed rate. But this also will invite a charge. Besides, genuinely fixed home loans for long term are not available now.
