Home loans: Tips to save money

When the Reserve Bank of India hiked the repo rates and CRR on July 29, banks immediately followed suit by hiking their rates. Since January this year, most banks have increased their rates between 1 and 1.5 per cent, thereby leading to a rise in the equated monthly instalments (EMIs) or tenures of home loan borrowers.

There is another option - prepayment-in-parts or one-time to curtail the impact on EMIs.

However, before deciding on it, check whether the EMIs for the home loan (along with other loans) have crossed 50 per cent of the take-home income. "If the EMIs are crossing 50 per cent of the salary, it is time to start controlling the monthly expenses," said Rajesh Saluja, CEO, ASK Wealth Advisors.

Households whose EMIs are less than 50 per cent of the salary need not consider prepayment as interest rates should come down within 15 months. This could be usually in the case of families that have been repaying the loan for more than five years. As home loans are for the long term, rising income ensures that the monthly instalments becomes smaller vis-a-vis the income.

The worst affected lot, due to rising interest rates, are recent home buyers. If you had borrowed Rs 40 lakh in January for 15 years, his EMI would have been Rs 44,216. Now if the interest rate has increased by 1.5 per cent over the last six months (for simplicity we assume that the entire rate rise has happened at one time, rather than a staggered fashion), the restructured EMI will be Rs 47,918 per month, a rise of almost 8 per cent.

"Borrowers, who have taken a loan in the last three-five years should try and prepay part of the loan. Instances of such customers are already on the rise," said Rajiv Sabharwal, head (retail assets and rural finance), ICICI Bank. This will lead to reduction in the principal, which in turn, will reduce the interest payout.

For instance, for the same home loan, if the EMI has risen by Rs 3,702 (Rs 47,918 - Rs 44,216), you could pay around Rs 6.5 lakh at one-go to keep the EMI at the same level of Rs 44,216. Definitely, this is a large amount of money and may not be available easily.

However, if one takes a look at such rises in a staggered fashion, then the first rise would have been from 10.5 per cent to 11 per cent or 11.25 per cent. In this case, paying off around Rs 2.3 lakh would have kept the EMI constant.

For making such prepayments, financial experts suggest liquidation of debt instruments that are not giving great returns, especially  the bank fixed deposits. Before doing so, call up the lender and ask about the amount that you need to pay to bring down your EMI to a comfortable level.

"Though equity investments should not be used for prepayment purposes, in some cases we have used these returns for prepayment," said Kartik Jhaveri, a certified financial planner. When investing in equities, one expects to earn around 15 per cent a year in the long term.

However, if the equity portfolio gives more returns, use the surplus returns to payoff some parts of the loan. "This ensures that the goals of the person are on track and the excess returns can be used to reduce the liability," Jhaveri said.

In case you don't have the money to prepay immediately, Sabharwal suggests that stepping up the EMI outgo, if possible, is a better option than increasing tenures.

Another option, if you cannot prepay, is to switch your home loan from the existing bank to the one that is offers lower interest rates. "However, switching only makes sense if the person gets the economics right.

In most of the cases the person has to pay around 3 per cent upfront on the outstanding loan," said Sabharwal. He suggests a look at the charges involved such as foreclosure charges (2 per cent), processing charges (0.5 - 1 per cent) and the difference between the interest rates.

The apt time to prepay the loan is when you are nearing retirement and still have a housing loan. "Prepay as much as possible. One may even liquidate some equity savings, if required," Saluja suggests.

Then, there are situations where high expenses are expected. For instance, Sachin Anand and his wife used their gold to prepay 40 per cent of the Rs 15 lakh loan they took a year and a half ago. The Anands are expecting a child come November. Realising that the monthly expenses will increase, they liquidated the precious metal. And part of the proceeds from the sale have been kept for maternity expenses.

Yes, home loan EMIs have started hurting now. However, before arriving at any decision about prepaying, a rise in EMIs or tenures, you need to weigh all these options carefully.