Express press service
NEW DELHI: Banks and housing finance companies have started raising lending rates after the Reserve Bank of India (RBI) raised the repo rate – the rate at which banks borrow from RBI to cover their loan shortages. short-term funds – by 40 basis points.
As a result, existing home borrowers, who switch to variable rate loans, could see the cost of their loans increase by 30 to 40 basis points, if they haven’t already. And if you are not yet aware of the revision of the interest rate of your mortgage, it is likely that your lender has already increased the term of your loan, without you even knowing it.
When interest rates rise, a home loan borrower’s interest burden would increase, and this must be offset by either an increase in the term of the loan or an increase in the EMI.
If not chosen otherwise, the bank will increase the term of the loan instead of increasing your equivalent monthly installment (EMI), simply because changing the term is less hassle for the bank as well as the borrower than changing the EMI.
Increase in EMI with seniority
The dilemma a borrower might now face is whether to let tenure increase or EMI.
The short and straight answer to this question is that if you can afford it, you should raise the EMI.
If your budget allows, you can let the EMI increase so the loan closes on the original schedule, otherwise it’s good to let the term increase, says Harsh Roongta, a registered investment adviser with Sebi-only.
However, the situation for mortgage borrowers is not that simple as the latest rate hike is likely just the start of many such hikes in the future.
Dr. Soumya Kanti Ghosh, Group Chief Economic Advisor, State Bank of India, predicts another round of rate hikes in June and August.
It says, “During the pandemic, RBI had cut the policy repo rate by 115 basis points in 2 instances (first 75 basis points in March 2020 and then 40 basis points in May 2020) and it has remained unchanged since then. . With the current 40 bps rise in the repo rate to 4.40%, it looks like the rate cycle has turned around and RBI will continue to raise rates and could reach the pre-pandemic level of 5.15. % by the end of March 2023.”
Given this situation, home loan borrowers might need to think about increasing the EMI or even making prepayments to ensure that the term of their home loan does not increase too much.
Adhil Shetty, CEO of fintech company BankBazaar, says, “If you are unable to opt for a higher EMI, then you need to schedule regular prepayments. This is only the first hike and the global situation indicates that we could see a 200 basis point increase in interest rates over the next year or so.
He therefore advises against home loan borrowers keeping the current EMI without making prepayments, as this could end up extending tenure by a decade or more and doubling the cost of the loan.
Do the math
If you have an outstanding loan of Rs 50 Lakh loan at 7% with 10 years term remaining, and the interest increases by 40 bsp, you will need to pay around Rs 1,000 on your current EMI to ensure the loan is closed the calendar (assuming interest remains at 7.4% for the remainder of the term).
But if you don’t increase the EMI and let the term increase, you’ll have to pay an additional four months to close the loan.
If loan rates are to increase to 8.5% over the next 12 months, the loan term may increase by 12 to 14 months given that the EMI remains the same.
Prepaying is a good option to ensure that your loan term does not increase for a very long time, even if you continue to pay the same EMI. Early repayment also ensures that you pay less interest for the loan.