WHAT TO DO WHEN HOME LOAN INTEREST RATES DROP?

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This year, Union Budget and the subsequent reforms brought good news for homebuyers in the form of lower interest rates on home loans. Banks rushed to reduce their home loan interest rates to offer buyers with better deals to buy the home of their dreams. The reduction in rates is good for new homebuyers who will get home loans at the lower rates. But how will the existing borrowers get benefits of these revised rates?

Existing borrowers have the option of home loan balance transfer which means that they can transfer the remaining amount of their home loan to another bank that is offering a lower interest rate. Since it a competitive market, some banks also give the option of resetting the interest rate so that the customers do not go to another bank.

To understand these two options better, we first need to know how home loan interest rates are charged by the banks.

 

What are the two types of home loan interest rate models?

Of late, banks have started following the MCLR models. On the other hand, independent housing finance companies are still using the prime-lending model. MCLR stands for Marginal Cost of fund-based Lending Rate. It is a benchmark rate below which the bank cannot lend.  Parameters like marginal cost of funds, operational cost, negative CRR cost and the tenure premium are taken into consideration to calculate the MCLR. Prime lending rate model is treated as reference rate for lending. Banks offer rates lower than prime rate to applicants with good credit score, whereas those who have poor credit score will be charged a higher home loan interest rate.

 

Benefits of MCLR over PLR

MCLR has been recently rolled out by the RBI to offer more transparency in the Indian lending market. Some of the advantages of MCLR model are-

  • These home loan interest rates are more dynamic and determined by the money market conditions and prevailing reforms. This dynamic environment is beneficial for the borrowers.
  • MCLR reflects the incremental cost of the sum and changes every month, thus offering the benefits of a lower rate to the homebuyers.
  • As opposed to PLR, MCLR actively reacts to the changes in the market.

One should remember that the home loan interest rates under MCLR model change only at a date predetermined at the time of taking the loan. Between two rate-reset dates, an MCLR works similar to the fixed lending rate.

 

Why should you transfer your home loan when interest rates drop?

Policy reforms and rate reductions make the environment better to take new home loans. However, existing borrowers can also make the most of this situation by transferring the balance of their home loan to another bank that offers better rates. This is a wise step to take in the early periods of your loan. Under this, the entire unpaid principal amount is transferred to another bank at a lower home loan interest rate. The new bank pays the entire outstanding amount to your previous bank and now you have to pay the EMIs for the same amount to the new bank at lower interest rates.

For example, if 50 Lakhs of your principal amount stands unpaid at 12% interest and you transfer it for a reduction of 50 basis points bringing the interest rate to 11.5%; you will save around 2.87 Lakhs in interest which is a considerable amount.

Here you should also know that home loan balance transfer is a lengthy process and involves documentation and formalities just like taking a new home loan. The bank will check your credit score and will take on the transfer only when fully satisfied. You will also have to pay certain amount as processing fee.

 

How to negotiate with your bank to reset your home loan interest rate?

Resetting your interest rate at the same bank is a much simpler process. Given the competitive sentiments in the market, banks do not want their customers to go to a different bank. You can simply do this by writing to your bank. There are two scenarios- the bank can either reduce your tenure or the interest rate. When tenure is reduced, though the EMI remains same, interest component reduces and principal repayment is increased. When the bank reduces your interest rate, it requires you to submit a new ECS and cancelled cheques.

 

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