Should you opt for a fixed or floating rate home loan? Perhaps a combination loan offering both facilities over its tenure would make better sense

A fixed way to stay afloat

Should you opt for a fixed or floating rate home loan? Perhaps a combination loan offering both facilities over its tenure would make better sense

Before readers start taking sides and strongly voicing their preferences, let’s get one thing clear – there is no single answer to the ‘fixed v/s floating’ home loan debate. The choice depends on a number of factors, with the key ones being the income category and tenure. In the long run, floating rate loans make the most sense due to the cyclical nature of the finance markets. This format is also ideally suited to those belonging to the business community, as they are more comfortable in dealing with fluctuating rate movements. Moreover, since they tend to receive large chunks of money occasionally, it is feasible for them to pre-pay part of the loan. This enables them to counter the sudden spurt in tenure that results due to rate increases. However, a salaried person looking at a comparatively shorter tenure (five to ten years) would probably be better off with a fixed rate loan given the present scenario. The rationale is simple – if home loan rates increase and the number of EMIs shoots up, they would not be in a position to pre-pay the loan by paying out a large chunk of money. If the number of EMIs extends the tenure beyond their retirement age, the EMI amount would then have to be increased. Here too, since salaries tend to remain fixed, it would be extremely difficult for them to cope with the higher outgo. The issue of shifting from a floating rate loan to a fixed one has also been raised by several borrowers. While most of them happily converted their fixed rate loans to the floating options when rates were in free fall, the sustained increase in rates during the past two years has again caused concern among many of them. Here, the decision should be made considering the outstanding home loan amount and the stage of repayment. At the initial phase of any home loan repayment, EMIs largely comprise the interest component and only marginally the principal. So if one tries to shift after the first two years, it may well turn out that almost the entire principal repayment is still pending and the EMI paid for the first two years will just have to be written off! Also, after factoring in the additional administrative and processing charges, not to mention pre-payment penalty in the case of certain institutions, one may eventually find it a much costlier proposition than what had been bargained for. So don't act in haste. Discuss the issue with your chartered accountant or financial advisor and figure out if it makes sense to shift or not. Work out a cut-off limit beyond which an interest rate increase would be costlier than these items and then, only then try to switch over. Until then, stay afloat! Another option, which is offered by certain institutions, is a 'combo' loan, where you pay a pre-set, fixed rate of interest for the initial years and then switch over to the floating rate system. This is especially helpful for entry-level home buyers as they do not need to worry about any rise in home loan rates throwing their financial calculations off balance at the initial stages of loan repayment. A few years down the line, once their income levels have also sufficiently increased, it would not be so difficult to manage a higher equated monthly instalment.