- Want to keep EMI and interest obligations under control? Choose the right type of home loan
- Read this post that tells you the right type based on cost and other factors
Home loans come with a long commitment that can span up to 30 Years. So, if you don’t pick the loan rightly, you might rue later on! The long tenure coupled with massive loan amounts that one has to take to buy a house invariably bring substantial cost for the borrower to bear. However, you always have the chance to bring down your cost provided you choose the right type of home loan. The right type will be the one that brings down the cost substantially while also remaining convenient for borrowers. Even if you haven’t chosen the right type, you can correct things later on. So, this post is for both new and existing home loan borrowers. Read this further to take the right step regarding a home loan.
What are the Types of Home Loans That Exist These Days?
Home Loans are offered at both fixed and floating rates. Then there are lenders that offer both fixed and floating rate types in one home loan. A fixed rate loan means the rate of interest will remain throughout the loan tenure. Whereas, a floating rate loan will have a different rate of interest at different points of time. On the other hand, a fixed-floating rate type of home loan will have a fixed interest rate over a certain period and after that the floating rates will apply. So, which type of home loan should you choose? To decide the right type of home loan, you need to be aware of the cost associated with each of these. Let’s figure out the same.
Repayment Obligations on Fixed, Floating and Fixed & Floating Rate Loans
Assuming the loan amount and tenure to be the same in all three, the repayment will then depend on the interest rate charged on each of these home loan types. Let’s consider an example to understand this.
Example – Three friends Ganesh, Ramesh and Somesh apply for a 20-year home loan of INR 60 lakh each. While Ganesh opts for a fixed rate loan at 12%, Ramesh goes for a floating rate of 8.30%. On the other hand, Somesh applies for a fixed-floating rate home loan, wherein a fixed interest rate of 12% will apply for the first three years and then it will get converted into a floating rate. Let’s assume the floating rate after three years will be 8.30%. How will the repayment pan out for each of these three friends? Let’s check out the table below to know the same.
|Original Loan Amount||INR 60,00,000||INR 60,00,000||INR 60,00,000|
|EMI Payable @12% for 20 Years||INR 66,065||N.A.||N.A.|
|Interest Payable @12% for 20 Years||INR 98,55,640||N.A.||N.A.|
|EMI Payable @8.30% for 20 Years||N.A.||INR 51,312||N.A.|
|Interest Payable @8.30% for 20 Years||N.A.||INR 63,14,976||N.A.|
|EMI Payable @12% for 3 Years||N.A.||N.A.||INR 66,065|
|Interest Payable @12% for 3 Years||N.A.||N.A.||INR 21,17,078|
|EMI Payable on INR 57,78,731 for 17 Years @8.30%||N.A.||N.A.||INR 52,946|
|Interest Payable on INR 57,78,731 for 17 Years @8.30%||N.A.||N.A.||INR 50,22,232|
|Interest Payable @12% for 3 Years+ Interest Payable @8.30% for 17 Years||N.A.||N.A.||INR 71,39,310|
Ramesh is an outright winner with his interest obligations remaining way short of Ganesh and Somesh. While Somesh will pay less than Ganesh but way more than Ramesh. The interest obligation of Ramesh may remain the same as shown in the table above, but will still be lesser than that of the other two. This puts out a theory that fixed rate type of home loan is not something one should have. Even a fixed-floating type of home loan, which is like a teaser home loan, is not warranted. A full-fledged floating rate loan is advisable even as the rate of interest is likely to change from time to time.
Why is a Full-fledged Floating Rate Home Loan Better Than Other Types of Home Loans?
Our backing to a full-fledged floating rate home loan is due to the following reasons –
EMI Remains Constant – Hearing that a floating rate loan will see different interest rates from time to time can make an individual think that the EMI will also change with the same. They may think about what will happen to the EMI when the interest rate will rise. Will the EMI rise? Well, it will not rise, rather it will remain the same. The change in the interest rate will only change the principal and interest component of the EMI, which will remain fixed throughout the loan tenure unless you do a balance transfer or part payment later on.
Lowers Interest Obligations – Floating rate home loans are often disbursed at a lower rate of interest compared to fixed rate loans. A fixed rate loan will be charged 2%-4% above the floating rate loan. Even as the interest rate changes in a floating home loan, the overall repayment remains far lower than the fixed rate as well as the combo of fixed-floating rate loans.
But Which Floating Type of Home Loan is Better?
If you apply for a floating home loan now at a bank, you will get it at the Repo-linked Lending Rate (RLLR)-based interest rate by default. But if you are an old borrower and are servicing the loan either at base rate or marginal cost of lending rate (MCLR), you should get it switched to an RLLR type of home loan. This will require paying a fee to the lender. RLLR-based home loan interest rates are at least 0.30%-0.40% lower than the MCLR and by even more than the base rate. However, if the RLLR-based home loan rate of your lender is more than what’s been the case elsewhere, maybe you should consider a balance transfer and reduce your interest obligations further. Yes, there will be a balance transfer fee but the savings will still be reasonably high even if the new rate is lower than the old one by at least 0.25%-0.50%. If the difference is even more, the savings will be even more. But before going for a balance transfer, check how much time left for your home loan repayment. If the loan has a lot of time left, say 8-12 years, going for a balance transfer will be beneficial. But when the loan is just 2-3 years away from getting finished, going for a balance transfer may not fetch you much benefits.
What If Your Home Loan is on a Fixed Rate?
Simple – get it converted into a RLLR-based floating rate by paying a fee that your lender may levy. If the RLLR-based home loan rate is higher than what’s prevailing in the market, you should do a balance transfer as told above. The balance transfer will be seamless if you have paid all the EMIs without fail. The new lender will do a credit appraisal as well as carry out a verification of the property for which the home loan was taken.