For more than 2 years, the home loan has been in the news for the fall in interest rates. It all started seven months after the Narendra Modi government assumed the office when the RBI started a phase of monetary policy easing and which is still on. And it may continue for a fair length of time until the pace of economy changes drastically. The RBI has cut the repo rate, the rate at which the central bank lends to commercial banks, to 6% in August 2017 from 7.50% in January 2015.
The RBI has eased the repo rate by around 1.5% in a span of over 2 years, prompting the banks to lower the loan rates. If we speak of the home loan interest rates, they have fallen from around 10% in 2015 to 8.35%-8.80% now. Won’t you be interested to know the fall in EMI and the overall interest liability in the wake of falling rates? You will nod your head for the same, right! This article answers the query in the best manner possible.
How Much the Home Loan EMI Eased?
The per lakh EMI has now fallen to ₹758-790 from ₹878 in the early days of 2015. The fall in the EMI, which stands for Equated Monthly Installment, has made it easy for many to buy a home which was earlier daunting, to say the least. Similarly, the interest outgo has also come down to ₹1,72,991-1,84,499 from 2,15,926 on a 1-lakh loan.
Funda of Base Rate & MCLR
If you are following the developments in a home loan segment, you would be familiar with the terms like base rate and MCLR, the two loan pricing mechanisms. Any change in either of them brings a change in the lending rates. However, any floating rate loan disbursed after April 1, 2016 comes automatically under the MCLR, abbreviated for Marginal Cost of Lending Rate. The MCLR has proved to be far more responsive compared to the base rate in terms of reducing the home loan rates. Banks have reduced the rates by around 60-110 basis points on an average under the MCLR regime.
Premier lenders like State Bank of India (SBI), HDFC Limited, ICICI Bank, Bank of Baroda and few others have led the rate cut war so far. The base rate mechanism, on the other hand, has not resulted in a bigger reduction of the interest rates. For example-SBI’s base rate has dipped by just 20 basis points in a span of one and a half year.
The base rate, though, has one distinct advantage over the MCLR. Upon a change in the base rate, the interest rates also change. In comparison, any change in MCLR means for new borrowers only and not the old ones. The loan rates for old borrowers under MCLR are generally reset after a year. Few banks also provide the 6-month reset option. The eventual lending rate is a combination of spread along with the MCLR applicable to the date of loan sanction.
Should Base Rate Customers Switch to MCLR?
Given the slow pace of rate cut transmission, base rate customers would do a world of good to their pocket by switching to the MCLR mechanism. So, if your home loan is under the base rate, you can switch the portfolio to MCLR by paying a fee of ₹5,000-20,000. The fee shouldn’t be much of a concern for you as the switch promises to save lakhs of interest which otherwise would go to the bank. Want a proof? Take a look at an example below.
Example– Harish Sharma is servicing a 20-year home loan of ₹30 lakhs under the base rate. The interest rate applicable is 9.50% per annum. He is paying an EMI of ₹27,964. If he continues with the base rate, he would end up paying an interest amount of ₹37,11,345. As of now, he has repaid the EMI and interest for 2 years. In the course of 2 years, he has paid an interest of ₹5,60,235, with his outstanding loan balance being ₹28,89,100.
Seeing the increasing transmission of rate cut benefits for the borrowers with MCLR, he is mulling a switch to the same. His lender offers a switch at 8.45%. If Harish switches, his EMI would fall to ₹26,071. The interest outgo would be ₹27,42,198 in the remaining 18 years of the loan. If we add the interest paid in 2 years and the interest to be paid in 18 years, the total comes out to be ₹33,02,433. The overall savings would then be ₹4,08,912 (37,11,345-33,02,433). Even if a switchover fee of 5,000-20,000 gets deducted, Harish is expected to save ₹3,88,912-4,03,912 over the loan.