If you are planning to raise a home loan to buy your own abode, then it is vital that you apprise yourself of a number of key terms before you sign on the dotted line.
Did you know that the instalment on home loan you are supposed to pay today can fluctuate widely in the years, or even months, to come? Or, were you aware that you may be entitled to a lower rate of interest than your friend in office simply because you have a higher credit score.
Also, are you aware that the rate of inflation that prevails in the market has a direct bearing on the equated monthly instalment (EMI) you pay on your loan? And not to forget: you are supposed to arrange a part of the loan on your own before being entitled to raise the remainder of the sum.
Key terms to know before you raise a home loan:
1. LTV (loan to value): You must be aware that you can’t raise loan for the entire cost of property. You can only raise loan for a part of the property’s value which is usually known as loan to value, or LTV.
For loans up to ₹30 lakh, LTV ratio is 90 percent of the property value and for loans between ₹30 lakh and ₹75 lakh, LTV ratio is 80 percent. And for loans of higher denomination, LTV ratio is 75 percent.
2. Processing fee: When you raise home loan, you need to pay a small amount as processing fee that lowers the sum that you receive after deduction of this fee. It is charged as a small percentage of the loan amount, and is referred to as administrative fee by some lenders.
3. Instalments you pay: The equated monthly instalment that you pay comprises principal and interest. The initial EMIs have a higher component of interest vis-à-vis the latter instalments.
4. Impact of inflation: The interest which the banks charge is a function of prevailing inflation in the market. When inflation inches higher, interest rates in the market also march upward, thus raising instalments proportionately.
5. Impact of repo rate: When inflation is high, Reserve Bank of India (RBI) tends to raise the repo rate. In other words, the banking regulator starts charging a higher interest on short term loans it gives to commercial banks, thus raising their cost of raising capital.
When this impact trickles down to end user, the home loan borrowers are made to pay a higher interest to the banks. In other words, their EMIs see an upswing.
6. For lower rate of interest: Banks and other financial institutions usually offer lower rate of interest to the borrowers who have a higher credit score of 750 and above, and for the loans of smaller denominations.
The borrowers who have poor credit score are made to pay a higher rate of interest.
7. Concessions offered: Some banks offer concessional rate of interest to female applicants. This is usually done to incentivise women to become asset owners, and men to buy fixed assets in the names of their better halves.
8. Prepayment: In the rising interest rate cycle, some borrowers tend to prepay a part of loan in order to avoid paying higher EMIs. Investment advisors usually recommended investors to prepay a part of their loan -- particularly when they have a surplus cash in form of bonus, etc.
Alternatively, if you decide to park that surplus money in your bank as a fixed deposit (FD), you would earn an interest at a rate, which would be lower than what you end up paying on your loan.