Home Loan Interest Rates: Understanding the Fine Print

Buying a residential apartment and transforming it into the home of your dreams is an aspiration that is cherished by most of us. In most major cities like Mumbai and Delhi, though, this ambition cannot be fulfilled without the help of funding from banks, NBFCs, or housing finance corporations. Fortunately, most leading organisations offer home loans at low-interest rates (compared to other loans). A home loan, however, is a long-term financial commitment and can impact your finances for years to come. This makes it essential to understand the loan terms clearly before applying.

Home loans made easy

Home loans allow you to borrow a portion of the price you pay to buy the property by mortgaging it with the bank or lending institution until your debt is paid off. According to existing guidelines from the RBI, India’s central bank, the loan-to-value ratio (LVR) should not exceed 80%. This means that about 20% of the asset value (property cost) must be borne by you from your savings. The bank or lender can provide you with funding for the rest. Once the loan is approved and disbursed, you must make monthly EMI payments to repay the principal and the interest levied on it. Usually, this EMI obligation comes into effect from the very next month. However, in some cases, loan seekers negotiate terms that allow them to start interest repayment from a later date, while the initial EMI may only go towards principal repayment. Let us understand more about the interest repayment, as it constitutes much of your debt obligation.

What determines the interest rate

Most banks in India consider the following factors to determine the interest rate offered to a loan seeker –

• Repo Rate: The Repo Rate is the interest rate determined by the RBI. It is the rate at which the banks in the country borrow money from the RBI. So when this is increased, the cash reserves in the banks tend to fall, in turn prompting a hike in the home loan rates. Conversely, loan interest rates tend to be lower when the RBI decreases the Repo Rate.
• Loan type and tenor: The term or tenor of your loan will often be considered when calculating your interest rate. Long-term loans tend to have lower interest. Similarly, in the case of fixed interest rates, banks tend to charge a higher rate than floating interest. This is because it is expected that, with time, the interest rates will be on the rise, increasing the bank’s earnings.

Types of home loan interest

Interest rates can be fixed or floating. Fixed interest rates remain unchanged over the period of your loan term. These are usually slightly higher than floating rates but give you the ability to predict your EMI over the tenure of the loan. Floating interest rates vary depending on the interest rate changes made by the bank over time. They may give you some relief in EMI when the rates are low but may add to the EMI if rates are hiked. Making the right choice will depend on your ability to assess the economic scenario and accurately predict interest rate varies over time. If you are unsure, picking a fixed rate is a good idea because it helps you calculate your monthly EMI accurately. On the other hand, if you plan to repay your loan early, picking a floating interest rate is a good idea.

Reading the Fine Print

Despite the immense popularity of home loan products in the country, not many loan seekers thoroughly read the terms and conditions of the loans. Here are some of the things to look out for –

• Is the interest rate on the offer fixed or floating? This will impact your EMI payouts if the bank changes its interest rate in the future.
• Is the loan flexible, or does the bank offer staggered disbursals? This will allow you to withdraw the amount periodically and pay interest only on the loan amount utilised.
• Is the loan offered to you conditioned upon your employment? This means that the bank can stipulate that you may have to intimate the bank if you change employers or go into any entrepreneurial venture. The bank may seek additional collateral later if this is a clause in your loan agreement.
• Does the bank charge a penalty or fee for early repayment? This is usually applicable if you have opted for a floating interest rate and the current rates are less than what you had been charged when you took the loan.

A loan agreement between the lending institution and the borrower is legally binding. Therefore, it is important to understand every term laid out in this agreement. As a loan applicant, you can ask the bank for a draft copy to vet and examine thoroughly before you sign the dotted line.