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Every person dreams of buying a home and, today, home loans are the means to fulfill this dream. However, buying a house using a home loan requires financial planning and prudence since it is a major financial commitment. There are, however, several elements to consider while arranging for a home loan.
Amount of Loan: The amount of loan to be borrowed is based on the cost of the house, one's monthly income, age, job stability and other financial commitments. Based on certain parameters, some bankers may also provide a loan which is more than one's actual networth. In the end it is one's responsibility to analyse the networth and decide the amount to be borrowed. One should also consider future plans and funds required for such plans before taking the loan.
Down Payment: Every borrower has to raise a minimum amount of money, decided by the bank, which will not be covered by the loan. This down payment along with the bank loan together will be the value of the property. Planning for the down payment should start in advance and include sources like liquidating fixed deposits or mutual funds, bonuses or any other extra income, money from family members, relatives or close friends, and by bringing down unnecessary expenses.
Interest Rate: The interest component has to be planned carefully because while applying for a home loan, there are two options: Fixed Rate or Floating Rate. In a fixed rate loan, the interest remains same for the entire loan tenure, while for a floating rate loan, the home loan rates change with changes in the market rates. It should be noted that when the interest rates are rising, it is preferable to opt for a fixed rate option and vice versa. However, it is difficult to shift between fixed and floating rate plans later, as the lender may not be comfortable to change the rate easily. If the interest rate goes down the lender may lose the opportunity to earn higher interest. Also, it will have charges associated with it like processing fees. Sometimes it comes as a new loan where you have to pay prepayment penalties for old loan and again apply for new loan, especially for fixed interest rate loans. Prepayment penalties have been abolished by the Reserve Bank of India and National Housing Bank on floating interest rate loans.
Repayment Period: Depending on one's repayment capacity, one can choose from a range of short tenure or long tenure options. Monthly Equated Monthly Installments (EMIs) are higher for shorter periods and vice versa. Also, lower EMIs means more number of EMIs, which means more interest paid.
Sometimes, when one has a windfall and has excess cash on hand one can also opt for prepayment of loan, through which one can save a lot of money by avoiding the interest cost. It is essential to find out and keep note of any prepayment penalties that banks may levy and factor it into your choice of home loan provider. Banks and NBFCs have abolished prepayment penalties for floating interest rate loans.
Penalty and Charges: One should be aware of the processing fees and late payment terms and other penalties while taking up the loan. Such elements are usually not discussed while the loan is taken. Banks may also charge for changing any other terms of the loan. These elements vary from bank-to-bank and they can be negotiated with the respective bank.
Security: It should be noted that usually in this transaction, the purchased home itself stands as security until you pay back the entire loan amount with interest. However, also be aware of any other security, which has been attached to such loan transaction. Lender may ask for interim security if the property is under construction. Collateral or interim security could be in the form of pledged shares and/ or other investments. It can also be the assignment of life insurance policies to the extent of loan amount. Also, try keeping financials and credit rating healthy, as it determines the terms of the loan taken.
Insurance for Home Loan: Insuring the home loan is important since it offers a cover in case the borrower is unable to repay the loan, due to any circumstances. In such circumstances, the insurance company will pay your loan.
Tax Benefits: The borrower enjoys tax benefit on both interest and principal
- Under section 24(d) of Income Tax - The maximum permissible deduction of interest payable on the home loan is up to Rs 1,50,000 for self-occupied property. Also, in the last budget, the Government has allowed additional deduction on interest of up to Rs 1 lakh on a loan of up to Rs 25 lakh
- Under section 24(d) of Income Tax - There is no limit on deduction of interest paid on the home loan for let out property
- Under Section 80(c) of Income Tax - The maximum permissible deduction of principal re-paid on the home loan along with other savings and investments is eligible for tax deduction up to Rs 1,00,000.
Clubbing of Income or Joint Ownership: The eligible amount of loan can be increased when spouses club their income, that is, where both husband and wife are earning, they could take a joint loan. This will also help in sharing the burden of repayment.
The key benefit of taking up a joint loan is that both co-owners are eligible for tax benefit separately.
For example, if a self-occupied property is jointly held by husband and wife, both will get benefit of Rs 1.5 Lakh each which add up to total benefit of Rs 3 Lakh.
Summary:
a) It is important to discuss the terms and charges, before taking the loan.
b) Always do a self-analysis of the financial situation before deciding on the amount of loan to be borrowed.
c) Compare the Term of Loan, Interest Rate, Security involved, penalty and fees of various banks before taking a loan.
d) If it is possible, it is always better to go for a joint loan.
