Sizeable loan amounts and repayment periods of up to 30 years make home loans the biggest financial commitment for most home loan borrowers. The long tenures often lead the interest component to exceed the loan amount. Therefore, many borrowers tend to reduce their home loan interest costs by making partial prepayments during the loan tenure. Given that most banks and housing finance companies (HFCs) offer home loans at floating interest rates, existing borrowers making partial or full repayment are not charged any prepayment penalties.
Here are some factors that existing borrowers should consider while making home loan prepayments:
Choose between reducing their EMI or loan tenure
Existing borrowers opting for home loan prepayments have to decide between two options – either minimise their EMI component or reduce their loan tenure. Although they can save more on their interest costs by reducing the loan tenure, reducing their EMI amount will increase the percentage of disposable income. Therefore, the decision to select either option depends primarily on whether the borrower wants to bring down his/her overall interest cost or reduce their EMI burden.
Savings on interest payout from home loan balance transfer
Existing borrowers can use the home loan balance transfer (HLBT) facility to transfer their ongoing home loan to another lender at lower interest rates and/or better terms and conditions. The HLBT facility is especially useful for home loan borrowers with improved credit profiles who can avail housing loans at reduced interest rates. Home loan borrowers can visit Paisabazaar’s website to check and compare the latest HLBT interest rates offered by multiple lenders. Those exercising the balance transfer option can benefit from the reduction in overall interest payout without adversely impacting either their liquidity or their existing investments. Borrowers should consider the estimated savings by using the home loan balance transfer facility before they decide to transfer their existing loan to another lender.
Factor in the returns generated from existing investments
Although the interest rates on home loans are among the lowest as compared to other retail loan products like personal loan, loan against property, loan against securities, etc., they are usually higher than returns generated by most fixed-income instruments. Therefore, if home loan borrowers have parked their surplus funds in fixed deposits, short-term debt funds or other fixed income products not earmarked towards fulfilling their crucial financial goals, they can use them for home loan prepayment. However, borrowers should avoid redeeming their equity funds for prepaying their home loans, as the long-term returns generated from these investments are usually much higher than the interest rate of home loans.
Avoid prepaying your home loan using emergency funds
Emergency funds are created to handle financial exigencies and/or meet unavoidable expenses including existing EMIs, insurance premium(s), rent, tuition fees for children, etc. in case of loss of income due to illness, unemployment or disability. Your emergency funds should ideally be large enough to take care of any unavoidable expenses for at least 6 months. Existing borrowers using their emergency funds to prepay their home loans may have to liquidate their existing investment(s) at suboptimal prices or avail future loans at higher interest rates in case of adverse financial situations.
Avoid redeeming investments earmarked for crucial financial goals
Many home loan borrowers tend to prepay their home loans by redeeming their existing investments set aside to fulfil their crucial financial goals. However, doing so may adversely impact their immediate liquidity position and long-term financial health. It may also force them to avail costlier loans in future to fulfil their financial obligations.
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