Select Page

A home loan helps you buy a house but it is also a loan which many people want to pay off as soon as possible. So many people have the question, ‘If I have an outstanding home loan, and I receive a bonus or lump sum payment, should I use it to prepay home loan?’ However, prepayment on a home loan, may not always be the best financial decision that one can make. There are multiple factors which one must consider before deciding to pre-close their home loan.

Prepayment is when you repay your home loan (partly or fully) ahead of time. It reduces the outstanding principal which in turn reduces the loan tenor or EMIs. Before prepaying your home loan consider the following:

  • Your feelings or psyche towards the loan. Are you comfortable with the loan? Does it seem like the sword of Damocles hanging over your head?
  • The amount for your goals, emergencies, etc.
  • How will you use the loan – repay the other loans or invest?
  • Tax benefits
  • consider the stage of your home loan tenure
  • consider prepayment charges, if any

Suppose you purchase a home loan of Rs 50 lakh at 8.5% for 20 years to purchase a house worth Rs 62 Lakhs.

If you continue your loan till the end, then the total interest paid by you will amount close to Rs 54 lakhs. But if the tenure of the same loan is for 10 years, the total interest will be approximately Rs 24 lakhs.

So by reducing the tenure by 10 years the interest payments reduce by 30 lakhs! The longer the tenure of the loan, the more the interest you are paying, so part prepayments are a good way of saving on interest payments.

Before Repayment of Home Loan

Prepayment charges

In Jun 2012, the Reserve Bank of India (RBI) asked the banks to stop levying foreclosure charges and pre-payment penalties on floating rate home loans. This is applicable for home loan balance transfer process too. Before this, banks would charge 2-5% of the unpaid principal for full/partial prepayment. For the fixed rate loan, even today the lender can charge penalty.

Your comfort level

Holding a debt is an unwanted and distressing thought for many individuals. Even if they are comfortable paying the EMIs, they certainly aren’t at peace mentally. If you feel as if the sword of Damocles is hanging over your head, then just pay. In such case, you should repay the loan provided you have built an emergency fund, and you have no other high interest loans like Credit card or Personal Loans.

Building an emergency fund

If you don’t have an emergency fund, then it should take priority before prepaying the home loan.

Other Loans

Home loan interest rate is generally lower than the rate of interest charged on other loans such as personal loan or credit card loan. Therefore, if you want to reduce debt, it is better to prepay high interest-bearing loans as against housing loans which carry a lower rate of interest.

Investment for higher returns

You should consider the post-tax return. For those in the 30% tax slab, and with an outstanding home loan balance less than Rs 20 lakh, the effective cost of loan is only 6.65%. Therefore, you can invest in options which will generate higher returns.

For example, PPF, Sukanya Samruddhi Yojana and listed tax-free bonds, offer higher annualised return than 6.65

If your time horizon is longer and you can take a risk, then you can consider investing in equities, either through mutual funds or directly which can generate better returns.

Tax Benefits of Home Loan

Home loan customers are confused whether to utilize the tax benefits of home loan or save on interest. Tax benefits of home loan are shown in the table below

Deductions Section Maximum Deduction Conditions
Principal 80c 1.5 Lakhs A house property should not be sold within 5 years of possession
Interest 24B 2 Lakhs The loan must be taken for purchase or construction of the new house. It is not to be used for buying plot or land. The construction should be completed within 5 years from the end of financial year in which the loan was taken.

If joint holders share the EMIs, both can claim Rs 2 lakh each in interest deduction

Interest 80E 50,000 The value of the property should not be more than Rs 50 lakhs Loan amount should not be more than Rs 35 lakhs
Stamp Duty 80C 1.5 Lakhs It can be claimed only in the year in which it is paid

If the annual interest amount is more than 2 lakh rupees, then by prepaying the loan you save on future interest payment. For example, the annual interest on a Rs 70 lakh outstanding loan, at 9.5%, comes out to be Rs 6.65 lakh. After considering 2 lakh rupees deduction under Section 24C, the interest amount will fall to Rs 4.65 lakh, so the effective cost of interest will reduce from 9.5% to 8.64%, for those in the 30% tax bracket. The image below shows the tax benefits based on tax brackets and amount of loan.(ref: Times of India)

How Home Loan cuts Tax Prepayment of Home Loan

How Home Loan cuts Tax

The main benefit of prepayment is the reduction in interest outflow. During the initial stage of the home loan, the interest component in the EMI is highest. Therefore, prepayment of loans in the mid-to-late stage may not give you the full benefit of saving on interest. In such cases, it is prudent to invest the surplus funds.

By prepaying your loan, your future tax benefits also go away. For instance, if by prepaying your annual interest falls below 2 lakh rupees. Then you won’t be able to use the entire 2 lakh limit In case of joint account holders, there is no need to prepay if the outstanding amount is less than Rs 40 lakh.

You can play around with prepayment calculators to know how much you will save. https://www.switchme.in/calculator/prepayment  or https://emicalculator.net/home-loan-emi-calculator/

Closing the Loan

When it comes to loans, fully paying loan does not mean that the loan is closed.  To ensure that the loan is fully closed, you need to take a few steps.

  • You must ensure that you receive all your original property papers back and get the acknowledgment that you have received them, from the bank. You need the sale deed in resale or legal purposes in future
  • Update your credit report: It is your duty to confirm the update of your credit report. This update on the credit rating agency’s website takes 40 to 60 days
  • The Encumbrance Certificate (EC) proves that the property is free from monetary or legal liabilities.
  • Get No Objection Certificate (NOC) from the lender
  • Get Lien terminated. Lien is a legal right granted by the owner of the property, by law or otherwise acquired by a creditor. It serves as a guarantee for an underlying obligation, such as the repayment of the home loan.

As discussed above before prepaying the home loan one needs to consider various factors such as emergency funds, opportunity cost, tax benefits on the home loan. What do you think one should consider before prepaying the home loan?

Share
123movies

If you love watching movies online for free, moviebox pro apk is one of the best in the market.

123 free movies cuevana.email