Taking a home loan is easier said than done. Though in today’s scenario every Bank & Financial institution is eager to lend but getting a loan sanctioned can be a difficult task. It should be notes that, like any other financial product, it is important to be aware with how home loans work to avoid any unwanted post loan sanction/disbursal surprises. Here are some important things you should know before signing on the loan agreements.
Factors effecting the Loan Eligibility
A laymen’s way to calculate your loan eligibility is by calculating the Equated Monthly Instalments (EMI) or the current as well as future obligations. Banks usually restricts the monthly loan instalments at 40-50% of the borrower’s gross monthly income considering that 50% of the income would be required to meet other personal necessities. This percentage is termed as “Fixed Obligation to Income Ration” (FOIR). If you have an existing liabilities, say an existing running loan, then your eligibility goes down. Some banks are sensitive about the number of dependants you have. Higher number of dependants implies lower repayment capacity as more money will be required to meet the personal basic necessities.
Apart from your financial strength your profile also helps the bank in defining your loan eligibility. For borrowers with stable source of income it relatively easier to get loan than borrower with erratic earnings. Your age determines how many earning years do you have which define your re-payment capacity and eventually decided the tenure of the loan. Usually, loan tenures do not go beyond your retirement age , unless you’ve a younger co-borrower in the loan.
The co-borrower has to be at least 21 years for most of the banks. Also, if the co-borrower is earning their income can clubbed while considering the loan eligibility this allows you to get a higher loan amounts. The value of the property is also considered before sanctioning the loan. Banks usually cap the loan amount at 70-80% value of the property or 90% of the registration values which ever is lower, this is termed as Loan-to-Value (LTV).
Your Loan Interest Type
You must be aware that there are two types of prevailing Interest rates applicable in Loans. “Fixed Interest & Floating Interest rate”. As the name suggest, a fixed rate loan is where the interest rate doesn’t change with market fluctuations. Usually, this rate is 1-2.5% higher than the floating rate home loan. Floating interest loan, on the other hand, varies according to the money market conditions. The clause varies from bank to bank and is invoked either after a fixed period or change in interest rates which is usually governed by RBI.
A fixed interest rate may seem more attractive in a high interest regime, experts advice otherwise for various reasons. First, the fixed nature of the interest itself is a disadvantage in a long-tenure loan like home loan where rates are bound to come down some time even if they are high at present. Therefore, a floating rate makes more sense unless if the economy promises a sharp rise in interest rates in the near future.
The Rate Negotiation
Whichever option you, choose Fixed or Floating rate of Interest, do not forget that you can negotiate on the interest rate irrespective of what is being marketed by the Banks & Financial institution. The lenders always work on the risk based pricing model while sanctioning a loan. Though the bank would always have an upper-hand still you can negotiate on the rate of interest, especially if you are an existing customer with a long relationship with the bank or have a clean track record in the re-payments of EMI’s. These factors can be used negotiate your new loan amount and the rate. Every bank wants good business and a customer high credit score, which gives you a bargaining power.
Last but not the least, try to purchase the loan at the end of the month. Banks have their monthly targets and may be more flexible as they do not want to lose business.
Longer tenor means costlier loan
In a loan the actual quantum of interest paid is directly influenced by the tenor of the loan, for long tenors, you usually pay more interest than your principle amount. Consider a situation where you have taken a loan of Rs 10 lacs at the rate of interest of 11% for 5 years the total payment made will be Rs 12,74,820 while on the same loan of Rs 10lacs at same rate of interest of 11% for 10 years, the total repayment made will be Rs 15,85,880.
The RBI has been hawkish in its monetary policy for quite some time now. An increase in the base rates means the banks have also been increasing their floating home loan rates. For the borrower it means a higher EMI. Many borrowers can’t afford such rise and often request the bank to re-adjust (increase) the loan tenor to bring down the monthly outgo. While it can be a temporary relief if you are in a desperate situation, in the long term you actually end up paying more.
The Fine Print in the Loan Agreement
A home loan agreement is a legal document and therefore often incomprehensible. However there can be quite a few devils hiding in the details.
You may think a ‘default’ is only if you do not pay the EMI. However, there are some banks who define default as when the borrower expires, gets a divorce (in case of joint-loans), or the borrower is/are involved in any civil litigation or criminal offence.
Also, some banks have a security clause that makes that entitles the bank to demand additional security along with your loan amount in case property prices fall. If you fail to pay up, you’ll be marked as a defaulter.
Be careful about the add-on charges and penalties. It’s not just the interest that you pay. There are additional charges such as administrative and service charges or processing fees. Also, there are penalties like on pre-payment of the loan, Bouncing cheque charges, Penal Interest etc. Consider these when comparing the deals offered by various lenders.
You can Switch lenders
Taking a loan from a bank doesn’t mean you are stuck with it forever. In extreme situations or in case you are getting a significantly better deal from another lender, you can always switch. This is termed as Home Loan Balance Transfer. Most banks don’t have any pre-payment penalty anymore on floating rate loans. Therefore, processing fee is the only additional cost you have to bear. Try negotiating on this as well or at least ask for a reduction if not a full waiver.