Home loans are the most common type of loans taken these days. Every second individual either has a home loan or a car loan or for that matter any other loan. Our lives have started revolving around the EMIs that are deducted every month from the bank accounts. A person is considered lucky and blessed if they do not carry any kind of loans on their names. So how do you get rid of these EMIs before the mentioned end date or maybe reduce the amount and thus the burden from your shoulders? Let us look at this aspect in detail since all of us are keen to do so.
How do banks decide the Interest Rate?
This is a very interesting topic for every person who has a loan or is planning to take one. Every bank has a different interest rate which they charge to the customers. This is different as it is linked to the profits and losses that the banks earn. Earlier home loans were based on the model of PLR which means Prime Lending Rate. In this model, banks could charge the customer a lower interest rate than that fixed by the bank which was not transparent enough. Therefore, this model was scrapped and a base rate was fixed. In this model banks could not provide a rate lesser than that of the base rate. But with this model also followed a flaw where the banks never passed the benefits of a base rate reduction to all the customers which made no point in reducing the rates by Reserve Bank of India. Therefore, a new model was created called as the Marginal Cost of Lending Rate (MCLR). This model suggests that when there is a change in the MCLR it would directly change the EMI of the loan and would benefit or increase the repayment amount.
Switch Base Rate
The base rate is the least that a bank can offer to a borrower for their home loan. This means that if the EMI is at an X amount it cannot be reduced at any given point of time. But if you switch your base rate to MCLR then you would be move, to a new and better interest rate which would reduce the EMI amount. There is a fee that banks charge to the borrower for switching from the base rate to MCLR. This is directly proportional to your principal amount which is outstanding with the bank. It is an X percent of the amount that you need to pay to the bank and get your home loan converted into an MCLR. This will benefit you further if the MCLR reduces in the long run. But it also has a negative effect in case if the MCLR increases. As this will increase your Interest rate and thereby your EMI as well. It is a gamble buy at the current market scenario you are saving some amount from your EMI which is the need of the hour for every borrower.
Banks have a major role in saving your EMI or reducing it to a lower amount. However, banks do not take an active part in doing so. As a customer, you should be aware of every change in the economy that the RBI does and act accordingly to reduce your EMI on home loans. You can switch from a base rate to an MCLR by visiting the bank and making the necessary changes. RBI regularly pushes the banks to follow the MCLR model. This is because the MCLR is dependent on the marginal cost of funds and cash reserve ratio and operating cost which are periodically changed for the betterment of the economy.
Since the new rule of MCLR being effective from 1st April 2016, the new loans are issued under the MCLR. However, the old loans will need to be shifted to the MCLR from the base rate. This can be done by paying a charge of 0.50% plus service tax on the outstanding amount which will be lesser than the rate that the borrower is currently paying. So, go ahead and get your EMI reduced by switching from the base rate home loan to MCLR.