We have been discussing various aspects related to Home loan in our other articles. After deciding to buy a house, you will have to work out the funding requirement. You then have to carry out a survey to ascertain the appropriate lender. Someone who will provide the requisite amount of loan, at the desired rate, and at the least cost. It might appear that the rate is the only aspect related to the cost of home loan. However there are other direct/indirect charges which can increase the cost without adequate reason. While negotiating loan one needs to keep in mind the various options and hidden charges in various forms.
Fixed Interest Rate v/s Interest on Reducing Balance
While most financial institutions offer Interest rate on Reducing Balance, some might offer a lower fixed annual rate. It might appear that the lower fixed rate is better, however one needs to do the calculations to understand the actual difference. For eg, if the home loan amount is Rs 10,00,000/- for one year at 10%, then the fixed interest for the yr works out to Rs 1,00,000/-. Adding this to the Principle amount, the amount to be paid is Rs 11,00,000/-. Dividing this by 12 months, the EMI would be Rs 91,667/-. The same amount at the same rate and period, but under the reducing balance scheme would lead to an EMI of approximately Rs 87,916/-. One can use the Loan Amortization template in Microsoft Excel to compare the options being offered by the loan provider.
Processing Fees on Home Loan
Most institutes will ask for a processing fees and claim that it is same for all customers. This fees is generally in the form of percentage of loan amount. It generally varies with the type of customers, and in many cases, the banks waive them off. One needs to compare the different processing fees before deciding on the source of loan. A difference of 0.5 % on a loan of 50 lakhs will amount to a cost difference of Rs 25,000/-.
Advance EMI
Most financial institutes insist on an advance EMI, which they deduct from the Loan amount. In some cases, it is treated as principle payment only and the resultant EMI appears less. But the down payment required for payment of the house increases due to the reduced loan disbursement. As the loan amount is already assessed, it is better to opt for the EMI in Arrears scheme and not the Advance EMI Scheme.
Home Loan Foreclosure Charges
One may want to pay off the home loan before the tenure ends. The banks take a foreclosure charge which is generally a percentage of the outstanding loan amount. There might also be a situation later when some other bank may be giving a cheaper loan. Switching would be easier in case of a zero, or lesser penalty/charge on prepayment of loan.
Fixed Rate/Floating Rate
Banks generally offer both, ie the fixed interest rate or the floating rate on home loans. One can also opt to change the option midway by paying some charges. You must understand these charges beforehand to make a considered choice between fixed and floating rate. In case of a floating rate, one should ask for the benchmark index and the periodicity of its update. For better understanding, one can ask the change in repayment on every basis point of change in interest rates (one basis point is 100th of 1%). A floating rate is better if you feel that the interest rate in coming years is going to go down.
Bundled Insurance with Home Loan
Though it is not necessary, but lenders also insist on bundling an insurance. They do this to cater for recovery in case of any contingency. You should check the insurance requirement in detail especially whether the premium is reducing with reducing outstanding balance, or is it on the entire principle amount throughout the tenure of the home loan. And in case you do not need the insurance, then one can opt out of it.
Bloating the Loan Amount
Buying house is a big-ticket decision, and also associated with emotions. The smart lenders tend to exploit this moment and lure you into increasing the home loan amount. They do this by highlighting your repayment capacity, or by playing with the collective family emotion to expand the scope of the project. One needs to guard against this tendency and stick to the assessed requirement. Else you will end up unduly burdening your monthly finances.
Conclusion
The borrower should carry out the survey of potential lenders in a detailed manner. All charges, upfront or hidden, should be carefully understood. You must ask the lender to explain the meaning of any term which you do not understand. Once all details are available, then go about negotiating each cost separately. Also ensure that the lender does not adjust any negotiated reduction by increasing something else. Also, ask the bank/financial institute to provide a written offer containing the negotiated terms. This will come in handy later in case of any disputes. Do not take any decision in a hurry, especially when imposed by the lender. If you do this exercise well initially, then you would be in a better position to take mid-course decisions like changing lender, switching between fixed/floating rate, or early foreclosure.