Flat funding fundamentals
An analysis of the impact of rising interest rates on home loans and guidelines on what applicants need to keep in mind
The giddy price rise that characterized the real estate markets in the middle of 2010 has now given way to some stability. Further, over the past year and a half the RBI has increased the policy rates several times; the home loan rates for prime borrowers have increased from 8.25% in early 2010 to 11% now. Till late last year, it seemed a wise decision to buy property. Prices were increasing every month and interest rates were low. A year on, the outlook is not as clear.
Prospective home buyers and those with an existing home loan have paused and are reconsidering their options. What should you do? Should you buy the house of your dreams now and risk prices going down? Or should you wait a bit and postpone the realization of your dreams by another year? Should you prepay your home loan now? Or should you pay a higher instalment on your loan?
New home buyers
The decision to purchase a property depends on ones needs and stage of life. As a general rule, it is better to buy property sooner than later. This benefits the buyer in three different ways. With a longer working life ahead of him, he has a longer time to repay his home loan and can hence get a larger home loan. There is a saving on rentals every year. Finally there is a greater time frame for any price appreciation to play out
A home loan is a long term liability; most borrowers repay their home loan in seven years, on an average. Interest rates will fluctuate up and down over the tenure of the home loan. Consequently, the decision to purchase property should not be made on the basis of today's interest rates.
However, the increase in interest rates mentioned above has lowered the loan amount that the borrower can avail of by 20%, thus impacting the size and value of the property that can be purchased. This lower loan amount, coupled with the recent run up in prices has caused prospective home buyers to pause and take stock of their changed situation
Existing home loan borrowers
For those who have already taken a home loan, the increase in interest rates would have had an impact them in one of two ways. Either their monthly instalment burden would have increased or the loan tenure could have got elongated. The borrower's options depend on his savings and liquidity every month.
Those who have some savings and liquidity can prepay the home loan, in part. The resultant smaller loan amount will need a smaller monthly instalment to service it. Alternatively, the loan can be allowed to run off faster.
However, most small borrowers are currently strapped for liquidity owing to the rising prices of food and other essential items. Such borrowers can let the tenure of the home loan increase, while letting their monthly instalment stay constant. The position can be reviewed every year, based on rising income levels and the loan prepaid, if possible. The good news for such borrowers is that while salaries and expenses will increase with each passing year, the only head of expense that will not is the EMI on the home loan.
Another option is for borrowers to transfer their loan to another company that is offering a lower rate for the next 12 months. This could help alleviate the instalment burden for the year but there could be some costs for prepayment. This is a useful option for those who had availed their home loan at a high interest rate owing to income or document deficiencies.
The future
We seem to be close to the peak of the interest rate cycle. However, it is possible that interest rates stay at the current/slightly higher levels for a while before moving down. Hence it is recommended that any decision on purchasing property is made based on the current situation – prices, interest rates as well as repayment capability.
If a buyer is able to identify a property of his choice at an appropriate price, he should go for it. However, investors should factor in the recent run up in prices and higher cost of financing property before taking a decision. For those who are looking for a property to move into, it is always a good time.
However, here's a word of caution - it is prudent to ensure that you have some money in the bank to cover another 10% increase in EMI. It is good to hope for the best but important to be prepared for the worst.
An analysis of the impact of rising interest rates on home loans and guidelines on what applicants need to keep in mind
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The giddy price rise that characterized the real estate markets in the middle of 2010 has now given way to some stability. Further, over the past year and a half the RBI has increased the policy rates several times; the home loan rates for prime borrowers have increased from 8.25% in early 2010 to 11% now. Till late last year, it seemed a wise decision to buy property. Prices were increasing every month and interest rates were low. A year on, the outlook is not as clear.
Prospective home buyers and those with an existing home loan have paused and are reconsidering their options. What should you do? Should you buy the house of your dreams now and risk prices going down? Or should you wait a bit and postpone the realization of your dreams by another year? Should you prepay your home loan now? Or should you pay a higher instalment on your loan?
New home buyers
The decision to purchase a property depends on ones needs and stage of life. As a general rule, it is better to buy property sooner than later. This benefits the buyer in three different ways. With a longer working life ahead of him, he has a longer time to repay his home loan and can hence get a larger home loan. There is a saving on rentals every year. Finally there is a greater time frame for any price appreciation to play out
A home loan is a long term liability; most borrowers repay their home loan in seven years, on an average. Interest rates will fluctuate up and down over the tenure of the home loan. Consequently, the decision to purchase property should not be made on the basis of today's interest rates.
However, the increase in interest rates mentioned above has lowered the loan amount that the borrower can avail of by 20%, thus impacting the size and value of the property that can be purchased. This lower loan amount, coupled with the recent run up in prices has caused prospective home buyers to pause and take stock of their changed situation
Existing home loan borrowers
For those who have already taken a home loan, the increase in interest rates would have had an impact them in one of two ways. Either their monthly instalment burden would have increased or the loan tenure could have got elongated. The borrower's options depend on his savings and liquidity every month.
Those who have some savings and liquidity can prepay the home loan, in part. The resultant smaller loan amount will need a smaller monthly instalment to service it. Alternatively, the loan can be allowed to run off faster.
However, most small borrowers are currently strapped for liquidity owing to the rising prices of food and other essential items. Such borrowers can let the tenure of the home loan increase, while letting their monthly instalment stay constant. The position can be reviewed every year, based on rising income levels and the loan prepaid, if possible. The good news for such borrowers is that while salaries and expenses will increase with each passing year, the only head of expense that will not is the EMI on the home loan.
Another option is for borrowers to transfer their loan to another company that is offering a lower rate for the next 12 months. This could help alleviate the instalment burden for the year but there could be some costs for prepayment. This is a useful option for those who had availed their home loan at a high interest rate owing to income or document deficiencies.
The future
We seem to be close to the peak of the interest rate cycle. However, it is possible that interest rates stay at the current/slightly higher levels for a while before moving down. Hence it is recommended that any decision on purchasing property is made based on the current situation – prices, interest rates as well as repayment capability.
If a buyer is able to identify a property of his choice at an appropriate price, he should go for it. However, investors should factor in the recent run up in prices and higher cost of financing property before taking a decision. For those who are looking for a property to move into, it is always a good time.
However, here's a word of caution - it is prudent to ensure that you have some money in the bank to cover another 10% increase in EMI. It is good to hope for the best but important to be prepared for the worst.
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