Bank of Baroda and Union Bank of India raised Marginal Costs of Funds-Based Lending Rates (MCLR) by 5 basis points. Similarly, Punjab National Bank and Bank of Baroda also raised their RLLR making loans more expensive. The hike in lending rates has come after the central bank raised the repo rate by 25 basis points (bps) on February 8. This will impact home loan borrowers who have seen equated monthly instalments (EMIs) already rising significantly since May 2022. Borrowers may feel the pinch of the latest hike due to an increase in EMIs. Some borrowers may wonder if it makes sense to prepay the loan.
Here's what you should know when it comes to home loan prepayment.
What is home loan prepayment?
Home loan prepayment is basically paying a certain portion or entire amount of your loan before the completion of the tenure. Some of the benefits of prepayment are seen as lowering the EMI burdens or shortening the loan tenure.
Experts say at the time of taking a house loan the interest component is larger initially, but it reduces gradually. But when you prepay the mortgage, the money goes toward paying off the loan's principle. This means that the principal balance of the outstanding home loan is typically used to compute the interest for the subsequent month. “By prepaying you may lower the interest component of the mortgage. Faster principle repayment enables you to pay off your mortgage early," publication Mint quoted Siddharth Maurya, Resource Specialist, Expertise Real-Estate and Fund Management as saying.
When should you repay the home loan?
Financial experts suggest if the borrower has surplus cash to spare, then they must put in the loan first and try to pre-pay the loan slowly every year. “This reduces the interest burden gradually and the loan can be paid up sooner reducing the overall interest outlay,” Archit Gupta, Founder and CEO, Clear has been quoted as saying. As a result of the prepayment, your loan also gets paid off sooner than you had expected.
Working on the prepayments
For example, if you have taken a loan of Rs20 lakh for a tenure of 20 years at a 7.5 per cent rate of interest. Even as the monthly EMI, is Rs16,111, you end up paying Rs 38.7 lakh at the end of 20 years and the interest cost comes to around Rs18.7 lakh. Going by this, it means that you have paid double the loan amount taken.
In case, of a home loan of Rs25 Lakh for a 20-year tenure at an interest rate of 8 per cent, the EMI comes to Rs20,911. If you prepay a lump sum of Rs5 lakh after 12 months, it will help you save the interest of over Rs12 Lakh.
Home loan income tax benefit
However, there are other factors also like taxation benefits that one needs to consider before taking a final decision.
As a result of the deduction of up to Rs1.5 lakh on principal repayment, taxpayers can avail income tax benefits of up to Rs5 lakh under Section 80C of the Income Tax Act, and up to Rs2 lakh on interest payment. Also, note that an additional tax deduction of up to Rs1.5 lakh is also available for first-time homebuyers as well.
In such a situation, it is better to determine how a foreclosure will affect your tax planning requirement and then accordingly decide.