Whenever housing finance companies and banks hike home loan rates, a wave of uncertainty hits millions of floating rate borrowers. Usually, a hike in interest rates translates into lengthening of the loan tenure, with the EMI remaining the same. If the borrower does not want to extend the tenure, he could either increase the EMI amount or pay off a chunk of the outstanding loan.
The latest hike takes floating home loan rates to 9.5%. If somebody took a housing loan of Rs 20 lakh on a floating rate of 9% in July 2006, the latest hike would increase his loan tenure by almost 27 months inflate his EMI by close to Rs 650 or require him to make a prepayment of around Rs 68,000.
The option chosen by a borrower would depend on his financial position, his personal preference and his understanding of the implications of the rate hike. There are borrowers who can’t raise their EMIs because their finances are already stretched. But some borrowers stick to the same EMI even though they can afford a higher outgo. Some borrowers don’t want to extend their loan tenure, preferring instead to increase their EMI. And then there are those who want to retain both the original EMI and the loan term by making a part prepayment.
Housing finance companies usually extend the tenure instead of increasing the EMI. That’s simply because they don’t want to go through the rigmarole of returning the post-dated cheques submitted by the customer and getting fresh ones for the increased EMI.
However, this can be a costly proposition for the borrower. Among the three types of home loan borrowers analysed by MONEY TODAY, Mr Same EMI finds the going easy because his monthly outgo remains unchanged despite the rise in rates. But since his tenure has increased, he will end up paying almost Rs 3 lakh more than Mr Fixed Tenure and Rs 3.8 lakh more than Mr Ready Cash as interest on the loan. Mr Fixed Tenure would be able to contain the impact of the hike to some extent by increasing his EMI. But it is Mr Ready Cash who gets the best deal. While his EMI remains the same, he nullifies the increase in the loan term by reducing his outstanding balance. Of course, if someone has that kind of cash and liquidity, he should not have gone in for such a huge loan and for such a long tenure.
Moral of the story: if interest rates are on the rise, try and repay as much of your home loan as you can to minimise the impact of the rate hike.