Bangalore Real Estate Trends

Ashish Gupta outlines two strategies to manage a higher interest rate on your home loan

With the continuing increase in home loan interest rates, it is becoming difficult to manage the EMIs for many. Banks have been increasing the rates on home loans.

Consequently, the EMIs are increasing. The EMI is the monthly repayment towards a home loan and includes the principal as well as the interest components.
The floating reference rate (FRR) or prime lending rate (PLR) is determined by market conditions and the cost of funds for banks. As a result of the increases in key interest rates by the Reserve Bank of India (RBI), the benchmark reference rate (FRR or PLR) of banks has gone up and the floating interest rates on home loans have been increasing. Interest rates, which were hovering around eight percent two years ago, have almost touched 10-12 percent, making EMIs higher significantly. If you have opted for a 'teaser loan', the effective hike in interest rates will be much more, after the initial period of discount.

Consequently, banks are increasing the EMIs. Also, the balance loan tenures are being revised. Obviously, rising EMIs upset the budget of a borrower. However, there are various options available to meet the rising interest rates.

One option is to reduce your loan tenure. A lower loan tenure offers you the benefits of a reduced outflow of gross interest and faster repayment of the loan. You can reduce your loan tenure by increasing your EMIs or making a part prepayment on your loan, or a combination of these two options. In case you make a part prepayment on your loan, the interest is calculated on the lower principal amount, and you will be required to pay either a lower EMI or the same EMI even after an interest rate increase. So, if you have spare money, you can choose this option.

Usually, a part prepayment on a loan does not attract any charges. However, some banks levy a charge on all part prepayments made in the last year, on foreclosure or in case of transfer of the loan from one bank to another. Under normal circumstances, you can look at the loan transfer option. However, in the present scenario, with all banks increasing the interest rates, it may not be worthwhile to explore this option.

The other option is to pay the same EMI, but increase the tenure. This way, the EMI outgo remains the same. The borrower does not feel the pinch immediately. A higher proportion is allocated toward interest. The portion of EMI allocated towards the principal is reduced. However, there is a limit up to which the bank will stretch the loan tenure - generally it is restricted to the working age of the borrower. If the increased repayment tenure goes beyond the retirement age of the borrower, the bank will ask the borrower to pay higher EMIs. In fact, in some cases, the interest amount may exceed the EMI amount, which results in the bank increasing the EMIs.

On the other hand, in case the interest rate comes down, it may be beneficial to continue with the same EMIs. This way, the loan is repaid faster and the loan tenure comes down. It results in substantial savings in interest paid.

In case of a fixed rate loan, the EMI will remain the same for the period during which the interest rate is fixed.

IN VIEW OF THE INCREASE IN INTEREST RATES, IT IS ADVISABLE TO REDUCE YOUR LOAN TENURE WHICH WILL ALLOW YOU TO REPAY THE LOAN FASTER

THE OTHER OPTION IS TO PAY THE SAME EMI BUT INCREASE THE TENURE. THIS WAY THE BORROWER DOES NOT FEEL THE PINCH IMMEDIATELY

_{Source: TimesProperty Dt: 20-5-2011}