High inflation has been troubling the economy for more than a year, which has forced Reserve Bank of India (RBI) to keep interest rates high to suck extra liquidity and control inflation. Considering the circumstances, a rate cut in coming months seems unlikely. Persistently high rates have made home loan borrowers work out plans to get a respite from the increase in their equated monthly installments (EMI).
The options for a home loan borrower for relief from increase in EMIs include switching to a lender offering lower rates, increasing the EMI, increasing the tenure, or making partial repayments of the outstanding.
Change the lender
It is not always wise to switch lenders just for a lower rate. The borrower must calculate the actual amount that he will save by switching the loan, after adjusting all the charges. It is important to check the peal charges, the pre-payment clause and other terms and conditions before switching.
Also, if the borrower switches the loan and the new lender hikes the rate, it could be a problem. it is important to assess such issues in advance.
Increase the EMI
If you are comfortable with increasing the EMI, you can adjust the higher interest by simply paying more. In such a scenario, everything remains the same — only the EMI is increased, in concurrence with the increase in the interest rate. When there are no significant savings by switching to another lender and the borrower can’t accelerate repayment, it can be a good option.
Increase the tenure
When you find it difficult to cope with the higher EMI burden, and there is no respite even after switching to another lender, consider increasing the tenure. Remember, you can always prepay the loan in future if you have extra funds. Normally, in case of a rate hike, banks offer customers the choice to increase either the EMI or the tenure. Opt for the best option at that time.
Lumpsum part payment
To nullify the impact of a higher interest rate, you can also opt for lumpsum part payment, provided you have some financial backup. Here, the tenure and EMI will remain the same.
Let’s try to understand this with the help of examples. Suppose, a borrower has taken a home loan for 10 years at 10.1%. The processing fee is 1% and the EMI is R13,271. After one year, the bank hikes the rate to 10.75%. The new EMI will be R13,604. The borrower has a remaining
loan of R9,38,980. What are the options available?
* Option 1: Switch to a lender offering a lower rate of 10.4% and processing fee of 1%.
After switching, the EMI will change to R13,424 for the remaining nine years. It means he can save R180 (13,604-13,424) every month if he switches to another lender. Here, switching seems to be better than hiking the EMI.
n Option 2: R25,000 part payment at the start of second year.
At 10.1%, total amount payable in nine years = R14,33,214
At 10.75%, total amount payable in nine years = R14,69,227
At 10.75%, total amount payable in nine years with part payment of R25,000= R14,30,385
It means the borrower can save R38,841 if he makes a part payment of R25,000 at once even at 10.75%. It will also reduce the tenure by four months. So, part payment is a good option, provided the borrower has financial backup.
The borrower can also make partial payments at regular intervals, say, every six months or a year, to repay the loan fast and save interest. There are lots of permutations, but proper assessment is required before opting for one.
Finding the best option
These are points a borrower must analyse to decide on the plan.
* Is he comfortable with higher EMIs?
* What is the remaining tenure?
* Are other banks offering loans at significantly lower rates?
* Is he more comfortable with EMIs after single payment, or after multiple lumpsum part payments?
* What are the additional charges for switching to another lender?
In some cases, the borrower might have opted for an increase in tenure when the rate was increased. Then, after a few years, he might have decided to make lumpsum part payments. He will end up paying less and over a shorter tenure. So, it is not relevant how much extra you pay today, but it is important how much you actually pay during the loan tenure.
Loan repayment requires a borrower to understand the basics of handling his finances in the right way. And there are tricks to overcome the nasty hikes in interest rates.
The writer is CEO, BankBazaar.com