Home Loan Prepayment is financially beneficial for Home Loan Borrowers. It helps to reduce Interest burden thus overall cost of property. Any type of debt including Home Loan is not good for financial health of an individual. Average Home Loan tenure in India is 8 years which means Home Loan Prepayment is preferred by borrowers to clear off Home Loan. Normally Home Loan Prepayment is done when we receive annual bonus or any exiting investment mature. As i mentioned in my other posts also that Home Loan Interest increase the overall cost of property. Assuming, your current Home Loan ROI is 10% and you have availed 80% of property value as Home Loan. In present scenario, average appreciation in property value is 5%. Infact in few cities, there is a drop in property prices during last 1 year. Effectively your property value is depreciating by approx 3% on yearly basis if it is on Home Loan. I have also explained these points in detail in my post 5 Disadvantages of Home Loan. To summarize, Home Loan eats into return from your property.
Now you must be wondering, What about Home Loan tax benefits i am availing on Home Loan Principal and Interest. You are right but considering average Home Loan ticket size of 40 lakh. 1st year interest outflow will be approx 4.03 Lakh @ 10.15% ROI. For Self-occupied property borrower will claim interest deduction of 2 lakh. Now catch is that Borrower has to forego Tax benefit on HRA allowance which is never accounted in cost benefit analysis calculation even by well known Financial Planners. In same case, considering EMI will be 39k per month for 20 year Home Loan thus monthly income of a borrower must be approx 97.5k. With conservative basic salary of approx 58k i.e. 60% of Post tax salary borrower must be claiming HRA of Rs 23400 per month @ 40% of Basic Salary. HRA benefit cease to exist in case of self occupied property. In short, we need to account HRA loss of approx 2.8 lakh from Income tax calculations which will square off the income tax deduction of 2 lakh towards Home Loan Interest.
I am not saying that we should not avail Home Loan but at every time we receive some funds, we should utilize Home Loan Prepayment option to clear Home Loan asap. Home Loan is required because it is not feasible for middle class to save huge sum upfront to buy their dream home without availing Home Loan. Infact Home Loan is responsible for the growth of Real Estate Sector. While making Home Loan Prepayment, lot of doubts creep into the borrower’s mind. Lets check out 5 such important points which will help to clear doubts related to Home Loan Prepayment
Should i invest or make Home Loan Prepayment
The biggest doubt in the mind of a borrower :). Recently one of my client Pooja Goel from Chandigarh asked me same query. She received her annual Diwali bonus of Rs 3 lakh in the month of October. She was in a dilemma whether to invest this amount or make Home Loan Prepayment. I asked her where she is planning to invest this money. She gave me 2-3 options like Bank FD, Post Office Savings Scheme or PPF. In all these options, max return which she will be able to generate is upto 8.5%. Now i asked her that with an investment of 3 lakh and return of 8.5%, she will get max returns of approx Rs 25500 p.a. Alternatively, if she opt for Home Loan Prepayment then she will save Rs 30450 p.a. towards Home Loan interest. Between 2 which is wiser option. Without any doubt answer was prepayment of Home Loan. Sometimes due to bias, we fail to identify lost opportunity.
At the same time i suggested her that if she is confident of generating annual returns of more than 10.15% (Home Loan ROI) through investment tool then it will be wiser decision to invest the bonus amount. In short, Home Loan Prepayment is better option in majority of cases as average returns is in the range of 8%-9%.
Should i reduce EMI or Home Loan Tenure
Another dilemma in the mind of a borrower whether to reduce EMI or Home Loan Tenure at time of prepayment. By default, Home Loan tenure is adjusted/reduced on Home Loan Prepayment but some borrowers opt for reduction in EMI amount. I always suggest my clients to reduce Home Loan tenure instead of EMI. Reason being, it will help to reduce total interest outflow. Financially it is more beneficial to reduce Home Loan tenure instead of EMI otherwise there is no monetary benefit of Home Loan Prepayment. Besides Home Loan Prepayment to reduce interest outflow, it is always advisable to increase EMI amount as and when Salary level increase.
Who can make Home Loan Prepayment?
Life is zero sum gain therefore if Home Loan Prepayment is beneficial for borrower so it is financial loss for Home Loan provider. Banks borrow money based on long term commitment. Funds received through Home Loan Prepayment needs to be re-deployed by bank through credit channel which is cost to banks. Normally banks discourage borrowers to prepay. One of the most common way to discourage is that bank refuse to accept prepayment if the borrower is unable to visit the branch physically. In IT age, it is surprising that facility of online prepayment is not enabled by almost all Home Loan providers for prepayment of Home Loan. I would like to clarify that if borrower is not present physically then he/she can issue letter of authorization to any of his representative who can make Home Loan Prepayment on the behalf of borrower. There is no restriction in this regard as the banks point out.
Do’s & Don’ts of Home Loan Prepayment
I am listing imp do’s & don’ts when you plan to prepay Home Loan
1. Kindly carry your Govt issued photo id proof like PAN, Driving License, passport etc.
2. You should also carry your cheque book because besides cheque towards Home Loan prepayment, you also need to pay Simple Interest for the month towards principal being prepaid e.g. if you are making a prepayment of 5 lakh on 20th of the month then this principal amount will be adjusted in your Home Loan account w.e.f 1st of same month. You need to pay simple interest for balance 20 days for which you need another cheque leaf.
3. Don’t forget to take acknowledgement of payment. Acknowledgement will also mention principal outstanding after prepayment and balance Home Loan tenure or new EMI as the case may be. Acknowledgement should be signed and stamped by the authorized representative of the bank.
4. In case, your EMI is debited through cheques and your EMI is reduced/revised post prepayment then you need to issue fresh cheques with revised EMI amount. Don’t forget to collect the unused cheques from bank to avoid misuse.
5. Please mention your Name, Home Loan Account and Mobile No behind all the cheques.
6. Some banks insist on source of fund for Home Loan Prepayment therefore kindly carry last 6 months bank statement of bank account from which you are prepaying the amount.
Updation of Prepayment details in CIBIL database
Last but not least, it is critical that Bank update your Prepayment details in CIBIL Database. Your current balance against Home Loan account in CIBIL report will be updated with revised principal outstanding. Normally CIBIL database is updated within 45-60 days from the date of payment. After 60 days, pull out your CIBIL report to check the same. Now you must be wondering why it is important at the time of prepayment. Answer is very simple, your overall credit worthiness depend on balance outstanding. Home Loan Prepayment will reduce balance outstanding and increase your credit worthiness which will improve CIBIL score.
I covered all the important points related to Home Loan Prepayment. Hope you liked the post. You can post your queries or share your views, comments and feedback on this post through following comments section.
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