Don't be shy of shifting lenders if you see a significant benefit

Old customers should seek best rates, or go for balance transfer

In response to a public interest litigation (PIL) filed by Moneylife Foundation, the Supreme Court has directed the Reserve Bank of India (RBI) to respond within six weeks to representations made by the Foundation on unfair practices followed by banks in setting their floating-rate loans. Hopefully, this and similar other efforts will lead to greater transparency in the way interest rates are set on home loans. 

In the meantime, customers need to be proactive so that they are able to get the best rates in the loan market. 

The PIL has raised several issues. It says that there is opacity in the way floating interest rates are calculated. Also, there is disparity in the rates charged from old and new customers. When the RBI cuts the repo rate, lenders often do not pass on the benefit of lower rates to existing customers while giving it to new borrowers. 

Also, banks and non-banking financial companies are quick to raise lending rates when RBI hikes the repo rate. Also, a conversion charge is levied from old customers to move them to the same bank's best rate. 

RBI committee's recommendations not implemented: A report produced by the Janak Raj Committee, which was published in October 2017, had also pointed to arbitrariness in calculating the base rate and the marginal cost of funds based lending rate (MCLR). “The study group set up by the RBI had found that reduction in MCLR rate was transmitted to actual lending rates with a lag of six months in the case of private sector banks and more than that in the case of public sector banks,” says Ratan Chaudhary, associate director and head of home loans, Paisabazaar.com. The report had also pointed out that the spreads charged over the internal benchmark undermine the integrity of the interest rate setting process. Large reductions in the MCLR are partly offset by increasing the spread, which reduces the pass through to customers.

The committee had recommended linking of lending rates to an external, market-based benchmark to make rate setting and pass-through more transparent. 

However, this recommendation has not been implemented, though the committee had set a deadline of April 2018. Only Citibank introduced a home loan linked to an external benchmark (the three-month GoI T-Bill Benchmark rate) in March this year.  

Move from base rate to MCLR: The MCLR regime began in April 2016. However, there was no sunset clause on the base rate, which means that it was not made mandatory for banks to move all their customers to MCLR-based loans. Many customers who took loans more than two years earlier are still on base rate linked home loans. “The larger number of customers are still on loans linked to the base rate. Such borrowers are paying much higher rates. They should shift to the best MCLR-linked rates available at the earliest,” says Aditya Mishra, founder and chief executive officer, SwitchMe, a digital home loan broker. If you look at the table above, the base rates of banks are considerably higher than their MCLRs. 

MCLR applies only to banks: While the MCLR has its shortcomings, experts say it is better than the base rate regime. However, MCLR applies only to banks and not to housing finance companies (HFCs). “HFCs are a large part of the market and are even gaining share over banks. But as the MCLR doesn't apply to them, their rate setting process is less transparent than that of banks,” says Mishra. In the MCLR regime, older customers get the benefit of rate changes faster. Transmission is slower in the case of HFCs. 

Shift to a lower rate: All home loan customers need to compare their own rates with the best available in the market, and shift if there is a significant benefit. One option, which is easier procedurally, is to refinance your loan with your existing bank and move to its best rate. “The repricing fee for resetting the spread on the MCLR varies across banks, depending on their original loan agreement. While it may go up to two per cent of the outstanding loan amount, lenders may also waive off this fee completely,” says Chaudhary.  

Before deciding to shift to another player, use online home loan balance transfer calculators to calculate the exact amount you will save from a balance transfer. Keep the existing residual loan tenure and the proposed tenure after the loan transfer the same when doing this calculation. “The savings will be higher for larger outstanding loan amounts with longer residual tenures,” says Chaudhary. 

All the usual costs associated with a fresh home loan application have to be paid for a balance transfer as well. While the processing fee can go up to 0.10-1 per cent of the loan amount, many lenders have a cap of Rs 20,000-50,000 on it. Mishra points out that banks that have lower home loan rates often run schemes wherein they waive the processing fee for balance transfer to be able to attract quality customers. There are a few other charges like legal and valuation charge (typically less than Rs 10,000), stamp duty (varies from state to state). Deduct these costs from the savings (from loan transfer) to arrive at net savings.  

Rishi Mehra, CEO, Wishfin.com suggests that customers should negotiate with both their existing bank and with a new one simultaneously and then go with the one offering a better deal.