Get a FREE e-course "Basics of Personal Finance"

           
  • Income Tax: Rules, Forms (ITRs), Filing
  • Investments: Stocks, Mutual Funds, ULIPs, Gold, Real Estate
  • Insurance: Term Insurance, Endowment Plans, ULIPs
  • Loans: Home Loans, Auto / Car Loans, Lease, Hire Purchase

Name:

Email:



An introduction to home loans and factors to consider

This article is an introduction to home loans – it talks about fixed and floating rates, admin and processing fees, tenure, down payment, prepayments and prepayment penalty, foreclosures, etc.

 

In “Settle early in life – buy a home when young“, we discussed that more and more people are opting to buy a house when they are very young, and very rightly so. We also saw that home loans are a big facilitator for this – home loans make it very easy for anyone to buy a home.

So, let’s discuss what factors you should consider when you are taking a home loan. Please remember that although some factors (like interest rate) are more important than others (like freebies offered), you should look at all the factors before finalizing the home loan provider.

 

Rate of Interest

This is the single biggest factor while taking a home loan. The lower the interest rate, the better it is. This is because if the rate of interest is less, you would pay less every month towards interest, and pay more every
month towards principle.

A lower interest rate also obviously reduces the monthly payout or the EMI. A lower EMI is easier to repay.

Lower interest rate also means that you would be eligible for a higher loan amount for a given income level.

Also remember that the interest rate is higher in case of fixed rate loans compared to floating rate loans.

Bottomline

Go in for a bank that offers a lower interest rate.

 

Type of interest rate – Fixed / Floating

You need to check if the bank you are considering offers the type of interest rate that you want. All banks offer floating interest rate, but these days, many banks do not offer fixed interest rate.

To know whether you should opt for fixed or floating interest rate, please read “To float or not to float, that is the question!“.

Bottomline

Go in for a bank that offers the type of interest rate you want.

 

Tenure

Check the tenure for which the bank offers the loan – most banks offer home loans for upto 20 years, but some banks also offer home loans for 25 years.

A longer tenure means that the EMI would be smaller, and you would be eligible for a higher loan amount.

But longer tenure also means that you would end up paying more in the form of interest over the life of the loan.

So, balance these two according to your needs, and decide on the tenure.

Bottomline

If you decide on a tenure upto 20 years, any bank should be fine. But if you want a loan for more than 20 years, do check if the bank you are considering offers it.

(Also check out: “Home Loan / Mortgage Insurance – What to Buy, How to Buy“)

 

Down Payment / Percentage of amount given as loan

Every bank asks for a certain percentage of the loan as down payment. (This is the bank’s way of ensuring that the person taking the loan has a stake in the house from the very beginning).

This down payment can be as low as 0% in special cases – for example, if a builder has tied up with a bank for his entire project. But in most cases, the down payment is between 10-15%.

This means that you would need to provide this amount upfront. And since home loans are for very large amounts, even 15% can be difficult to come up with.

Bottomline

Go in for a bank that asks for a lower down payment. That is, go in for a bank finances the maximum percentage of your home loan.

 

Calculation of interest – Daily / Monthly / Yearly Rest

This again impacts how much you pay as interest on the loan. This factor is not very important these days, as most banks calculate interest at daily or monthly rests. But do confirm this before you finalize your home loan provider.

To understand this better, please come back to read “Understanding EMI – What is Equated Monthly Installment?”.

Bottomline

Go in for a bank that calculates interest on daily or monthly rests.

 

Processing Fee / Administration Fee

Banks charge a “processing fee” to process your home loan application. This is expressed as a percentage of the home loan amount asked for, and is usually 0.5%. This is charged irrespective of approval or rejection of your home loan.

Banks also charge an “administration fee” for disbursing your loan, and this is charged only at the time of giving out the home loan cheque. This is also expressed as a percentage of the home loan amount asked for, and is usually 0.5%.

Most banks these days combine these two, and ask for a total 0.5%. Many banks also have promotion schemes where they cap this fee at Rs. 5000.

Bottomline

Go in for a bank that charges a low processing and admin fee.

 

Time taken to process the loan

This is a qualitative factor – it doesn’t impact you financially, but can still be important. Ask the bank how much time they usually take to process and disburse the loan.

It has been observed that usually, the public sector banks (PSU Banks) have more stringent rules, and therefore take more time in processing your home loan.

Bottomline

If you are in a hurry, go in for a bank that is prompt in processing and disbursing the home loan.

 

Prepayment Penalty

There might be times when you get unexpected or surplus cash, like a large bonus. At such times, you might want to prepay your home loan partially, over and above your scheduled EMIs. (To know if you should prepay your home loan or not, please read “Should you prepay your home loan?“)

Many banks charge a prepayment penalty for such unscheduled prepayments. But there are many banks that do not charge the prepayment penalty upto a certain percentage of the outstanding loan amount (say upto 25% of the outstanding loan amount).

Bottomline

Go in for a bank that gives you some leeway while prepaying your home loan.

 

Foreclosure Penalty

This is the penalty charged in case you want to fully pay back your home loan before time. You may want to do this if you get a large lump sum amount, or if you are getting a home loan from some other bank at very attractive terms.

For example, if you want to refinance your home loan with a bank offering a rate of interest lower than that charged by the current bank.

Bottomline

Go in for a bank that charges the least foreclosure penalty.

 

Requirement of a Guarantor

Some banks, especially PSU banks, require you to provide a guarantor for the home loan. Not everyone would be in a position to find someone with a good financial standing to back up their home loan. So, this becomes a very important consideration.

To know if you should become a guarantor for someone else, please come back to read “To be or not to be a guarantor”.

Bottomline

If you are not in a position to find a guarantor for your home loan, go in for a bank that doesn’t ask for one!

 

Freebies Offered

Many banks offer some freebies along with the home loan. Most common: Home loan insurance offered free along with the home loan. Keep your eyes open for such offers!

To understand home loan insurance and why it is important, please read “Insurance for Home Loan“.

But please consider freebies only if they are of genuine value. Don’t fall for free gold coins!!

Bottomline

Do I need to say anything more?? Freebies are always good!

 

Other Considerations

Banks may offer some other extras from time to time. For example, some banks offer financing for furniture & interior decoration. Again, keep your eyes open for such offers!

Bottomline

This totally depends on your needs. If the offer is of genuine value to you, it is worth considering.

Related Articles:

Comments via Facebook

Facebook comments

More in Loans
Understanding Credit Cards – The Basics

Do you get calls from telemarketers, offering you pre-approved credit cards? Aren’t you bombarded with many credit card offers? Not...

Close