Home loan is a big responsibility as its repayment takes up a big chunk of a homeowner’s income. A slight change in interest rate can have big impact on the repayment amount, causing a huge stress on the finances of the borrower. There are several other factors which complicate the home loan borrowing process and may be cause of distress for the borrower. Following are the major problems which are generally followed by the home loan borrowers. These problems can be alleviated by using caution.
Floating Rate of Interest:
Majority of home loans are taken on floating interest basis, which means that the interest rate keeps changing during the tenure of the loans. Generally Prime Lending Rate (PLR) or Base Rate is used as benchmark and the floating interest rate is determined on the basis of change in this benchmark figure. As an example, if a borrower had taken a loan at 250 basis points below the PLR and at that time PLR was at 13.5%, the effective interest rate would be 11%. Consequently, if PLR goes up to 14%, the interest rate would increase to 11.5%, leaving you with higher corpus to repay.
There are several remedies available for this situation. The banking companies generally offer fixed and floating interest rate loans. If you are not willing to take risk, you may opt for fixed rate interest, which does not respond to changes in PLR or base rate. Fixed rate is generally above the floating rate, but saves you the anxiety of fluctuation.
Another option is to refinance. This is generally applicable in the case of falling interest rate scenario. Banking companies offer more attractive rates on new loans. So, if a borrower finds that the current interest on the loan is substantially higher than the rate offered on the new loan, it may be feasible to prepay the existing loan and obtain the new loan at more attractive interest rate.
Recently Reserve Bank of India removed the restriction on prepayment penalty, which has made refinancing even more enticing. Earlier financial companies used to impose penalties to detract early payment of loans. However, this levy is not permitted under the law. However, there may be several other costs associated with the refinancing. Banks generally charge various fees such as registration fee and processing fee on new loans. You should ensure that the difference in interest rate is enough to cover these expenses and give you net benefit.
Refinancing is generally done with a new bank. However, in the wake of increasing incidences of refinancing, the banks have started offering such facility to their existing borrowers. This facility is however extended on case basis and is not offered to all the borrowers of the bank.
Rigidity of Loan Parameters:
While taking a loan, the customers agree to various parameters such as Equated Monthly Instalments and loan tenure. EMI is based on the amount of loan taken, tenure and the interest rate. Banks rarely oblige a customer by changing their EMI as it involves extra processing costs. As a result, many customers may face fiscal hardship in paying their EMIs. Similarly, the banks are not willing to readjust the tenure of the loan as well. This inflexibility does not work in favour of the borrower and thus is a major cause of worry for them.
Fine Prints & Clauses:
Most of the borrowers fail to pay attention to fine prints of the loan. There are various clauses included in the contract as well, which are not paid attention to by the borrower. One such clause is Reset Clause. This clause gives the bank power to change the fixed rate interest. Despite its nomenclature, fixed interest rate is not fixed for the entire tenure of the loan. The loan agreement generally specifies the situation under which the bank may revoke the earlier rate of interest and impose a new one. This generally happens in the cases where there is steep rise in interest rate. Before taking a loan, the borrower should pay attention to this and other clauses. The borrower should ensure that the terms of the loan are fair and square.
Reserve Bank of India continuously monitors the situation and brings about laws and regulations to keep the market fair for the borrowers. It is looking to make the home loan process simple and transparent for the borrowers. The market is likely to get more regulated in the near futures, alleviating most of the problems faced by the current borrowers.