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Home Loan Rates Have Touched 9%+. Should You Prepay?

The interest and principal repayment on such EMIs are deductible from their taxable income under the old tax regime as per the prescribed limits. This allows them to lower their tax burden and thus increase their disposable income. So, if your income falls under the taxable slabs, and you are considering buying a house on loan, it can save you some tax.

India witnessed robust growth in residential real estate sales in FY 21-22. This was primarily driven by pent-up demand post the Covid-19 pandemic, low-interest rates and rising disposable incomes. Most middle-income households finance the purchase of their homes through a loan, and given the low-interest rates, many purchasers did go for a home loan. In Nov 2021, the home loan rates went as low as 6.55% offered by a few banks; this has now climbed up to 9.05%. So the question is, what should a home loan borrower do?

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When Interest Rates Increase, Should You Prepay Your Home Loan Early?

Home buying is a big financial commitment because it involves a long-term financial obligation. For most people, the mortgage payment is the largest monthly expense, which can last 15 to 30 years. You should keep several things in mind when getting a mortgage, including the loan term, the interest rate, and the payment schedule. Also, the interest rate is an important factor because it determines how much money you will pay over the life of the loan.      

When interest rates increase, there are mainly two factors to consider if you want to pay off your home loan early. This includes your financial goals and current financial situation. Let’s look at each of these factors in more detail.

Financial Goals

The decision to prepay your home loan early largely depends on your financial goals. For example, prepaying your loan may be the best option if your goal is to reduce debt. You can use the extra payments towards the principal to reduce the loan balance, which can help you pay off the loan more quicker. Additionally, you can save some money on interest by reducing the principal amount.

Whereas, if your goal is to maximise your investment returns, prepaying your home loan may not be the best decision. Instead, you may consider investing the extra money into other investment vehicles that have a higher potential return on investment. For example, investing in stocks, bonds, or mutual funds may generate a higher return on investment than the interest you save by prepaying your home loan early.

The Reserve Bank of India, on February 8, 2023, increased the repo rate by 25 basis points, making it a total increase of 2.5% since May 2022. When the RBI increases the repo rate, the home loan interest rates go up because the cost of borrowing for the banks becomes higher, and the banks pass it on to the borrowers. As mentioned, the lowest home loan rates have shot up from 6.55% to 9.05%.

Therefore, a customer currently paying a monthly EMI of ₹18,713 for a home loan of ₹25 lakhs for a 20-year tenure, will have to pay ₹22,574 per month after the hike, given no change in loan tenure. If the term of the same loan is 30 years, the EMI will increase to ₹15,884 from ₹20,206 per month, given no change in loan tenure.

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Current Financial Situation

Your current financial situation is another factor to consider when deciding whether to prepay your home loan early. If you have a steady income and a sizable emergency fund, you may be in a better position to prepay your home loan. This is because you have a financial buffer that can absorb any unexpected expenses that may arise.

On the contrary, prepaying your home loan may not be feasible if you have a limited income and no emergency fund. You can focus on reducing your other high-cost debts if any.

Wrapping Up

In summary, if you have extra funds and no other high-interest debt or pressing financial goals, prepaying your home loan early if interest rates increase could save some money in the long run. However, before deciding, consider the above factors and weigh the potential savings against any costs or risks.

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