Should You Prepay Your Home Loan in 2021?

Should You Switch to Repo-Linked Home Loans in 2021?

As expected, the Reserve Bank of India (RBI) kept the repo rate constant in its latest monetary policy, earlier this month. The repo rate and reverse repo rate remain at 4% and 3.35%, respectively, after the announcement. 

For prospective homebuyers looking to avail loans, this announcement has come as a relief. After all, it will ensure that home loan interest rates will not harden anytime soon and will continue to remain at attractive rates. Currently, home loans rates are at a multi-year low with some banks even offering loans at interest rates below 7%.

Considering this, is it a good option for existing borrowers to switch to repo-linked lending rate (RLLR)? Well, before jumping to any conclusion, it is imperative to look at certain factors. 

How it all began?

To make the loan pricing transparent, the RBI in September 2019 directed banks and other financial institutions to link their floating-rate home loans with an external benchmark from October 1 that year. 

For the same, the RBI provided banks with an option to link home loans either with the repo rate, the three-month or six-month treasury bill yield, or any other benchmark published by the Financial Benchmarks India Private Ltd (FBIL). 

The benefits

Quicker transmission of rate cuts: The RBI Monetary Policy Committee meets bi-monthly, which means lending rates might change every two months. Thus, a reduction in repo rate will immediately reflect in the interest rate that the bank charges you for your home loan. Not to mention, there is a downside too. If the interest rates are heading upwards, then your outgo of EMI may work out to be higher. 

Affordability ‘may’ increase: Repo rate-linked loans are affordable than the loans linked with the marginal cost of funds-based lending rate, or base rate or prime lending rates. However, many times, the difference might not be substantial. For instance, if the effective lending rate under MCLR is 8.45%, under the repo-linked loan, it will be, say, 8.35%. 

So, should you switch? 

The RBI has allowed existing borrowers under MCLR to move to external benchmarked loans without any fee. However, this only applies if you are switching within the same bank. If you are planning to move your loan to another bank, you will end up paying the processing fee and other charges.

Before you make a switch, do a detailed cost-benefit analysis and figure out if loan under the repo-linked structure is significantly cheaper than under MCLR. Market experts suggest that if you are at the end of your tenure, it does not make sense to move to the new structure. In case, the RBI start increasing the rate, you will end up paying more.  

Important points to remember 

A floating-only option: Repo rate-linked home loans are only available to those borrowers who opt for a floating rate. Fixed-rate home loans are priced differently, and changes in repo rate have no impact on those. 

Being vigilant: Switching to the RLLR means that you have to be alert and closely follow the monetary policy for any changes. Just following the news is not enough! As a borrower, make sure to check your loan account for any expected changes.  

Contingency money:  Under the RLLR regime, it is important to maintain a contingency balance to avoid default, in case the rates are hiked. 

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