What are BPLR and MCLR, and how do they impact your home loan rates?

The rate-setting method by Indian banks on home loans has evolved over the years. Let's start with BPLR.
 
What is BPLR?
The rate at which commercial banks charge their customers who are most credit worthy
 
The Benchmark Prime Lending Rate or BPLR was introduced by the Reserve Bank in 2003. It is the rate applied by a bank to its most creditworthy customers. But the major problem with BPLR was lack of transparency. Banks could lend below the BPLR to privileged customers. 
 
So, in 2010, the Reserve Bank of India introduced the Base Rate system, which replaced the BPLR system. It was used as the benchmark rate by banks for lending till June 2010. Currently, the housing finance companies lend at retail prime lending rate, which is similar to BPLR.
 
What is the base rate system?

• Banks were not permitted to resort to any lending below this benchmark
• Banks were required to review the Base Rate at least once in a quarter

 
Base Rate is linked to...

• Cost of fund
• Unallocated cost of resources
• Return on net worth

 
According to the RBI, banks can fix the BPLR with the approval of their Boards. The base rate is linked to the cost of raising funds, unallocated cost of resources and return on net worth.
 
Banks are allowed to determine their actual lending rates on loans and advances with reference to the Base Rate and by including such other customer-specific charges as considered appropriate.
 
Now, whenever RBI changes the Repo Rate under Base Rate, the changes in interest rate are not automatically transferred to borrowers.

 
Therefore, in April 2016, the RBI introduced MCLR to tackle problems related to the Base rate regime.
 
Banks stopped lending on base rate from April 2016. But, loans taken between June 2010 and April 2016 from banks remained on the base rate mechanism.
 
Banks were now asked to apply the ‘Marginal Cost Lending Rate’ or MCLR, as it passes on the benefit of a change in Repo Rate to borrowers.
 
What is MCLR?

• Minimum interest rate below which financial institutions can't lend
• It is a benchmark lending rate for floating-rate loans

 
The main aspects while calculating MCLR:

• Marginal cost of funds
• Operating costs
• Cost of Carry in the Cash Reserve Ratio (CRR)
• Tenor premium

 
The MCLR is determined by the current cost of funds, in contrast to the base rate, which is governed by the average cost of funds. It also provides transparency in the procedure followed by banks to arrive at interest rates on advances.
 
MCLR is considered better in all respects because rates based on this system are more receptive to the changes in the policy rate. Any change in the Repo Rate is reflected almost immediately. This also ensures that the country’s monetary policy is implemented effectively across all spheres.
 
Now, if you are planning to take a loan from a bank on a floating rate to buy a house, it will be linked to MCLR. And remember, you always have the option to convert your loans from base rate to MCLR.

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