Prepaying home loan can work for you

With major banks hiking interest rates on loans in recent weeks, borrowers have been at the receiving end. The banks have either increased their loan tenures or pushed up the equated monthly installments (EMIs).

In such a situation, if a borrower wishes to reduce the tenure or the EMI, a good option may be to prepay the loan partially. This holds true especially for those who will be retiring soon. While banks increase the tenure for the younger borrowers, those on the verge of retirement have to contend with an increase in the EMI amount.

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One could use the surplus funds received as year-end bonus, maturing fixed deposits, life insurance policies or national savings certificates to make the prepayment. Albeit, do keep some of that money aside, just supposing you would need it later.



Also, there are steps to follow for prepaying a loan. Foremost, find the charges the bank would levy if you prepay.

Most nationalised banks allow you to prepay your home loan as and when you have any cash surplus. Private banks, however, may levy charges of 1-5% of the amount of loan outstanding.

According to Kamlesh Rao, vice-president and business head of personal finance, Kotak Mahindra Bank, “Banks allow prepayment of a certain number of EMIs or a fixed number of prepayments during a year free of charge. Beyond that, prepayment would attract charges.”

Some banks are also waiving any prepayment charge, as per Harsh Vardhan Roongta, chief executive officer of Apnaloan.com Services. “Prepayment is good for the banks as well, rather than increasing the tenure. So, many are giving a concession or waiving off the prepayment charges.”

A bank might also have set a minimum prepayment amount, if only to ensure that borrowers do not come calling every now and then.

Another way banks, especially private banks, keep frequent prepayers at bay is by putting a limit to the number of prepayments allowed during a loan tenure or year.

Call up your bank or visit the branch to check for these clauses. It is likely even the loan document provided by the bank mentions these clauses.

If there is a higher charge on full prepayment of the loan, one can make a partial prepayment so that a few more EMIs are pending and one can save the amount paid as charges.

Also, ask the officer attending to you as to how much of your total outgo on the loan would be reduced if you prepay a certain amount. Sometimes, a small addition to the amount can make a huge difference.

Alternatively, ask him how much you have to prepay to return to the old EMI and tenure.

Take into account the taxation, too, for the amount you can claim as tax deduction would reduce if you prepay above a certain limit.

Banks even offer a facility of shifting a floating-rate loan to a fixed-rate basis if the borrower feels the interest rates are likely to go higher up. After three years, the borrower is again given an option to stick to fixed rate or move back to floating. However, doing so would have its own costs.

Moreover, the fixed-rate loans are already 300-400 basis points or 3-4% higher than floating rate ones, says Rao. You would be underwater later if the rates don’t move as your had thought they would.

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Do weigh all these options before you get into that bank branch. Once there, you would need a request letter or form stating the loan account number and the amount you wish to prepay. It is better to pay through a demand draft or a cheque as carrying a lot of cash around is not safe and also invites tax.

Suggests that borrowers unable to mobilise enough funds to prepay, but with the capacity to service a higher EMI, should opt for a higher EMI rather than a longer tenure. “By taking the higher EMI option, the interest outgo is reduced and the capital recovery will be faster. If the tenure is of five years, the principal repayment is faster as compared with that in 10-year loan tenure.”