Smart Ways To Manage Your Home Loan Interest Burden

Hopes of a minor fall in interest rates, especially on home loans, were dashed last week after the RBI hiked its key rates in its policy review. Home loan borrowers, especially those crushed by a heavy EMI, have been looking at the RBI for some solace for a while now.

Generally, borrowers can do very little other than prepaying a part of the loan (if they have surplus cash) to reduce the interest burden or increasing the EMI (if they can afford it) to reduce the tenure and therefore, the overall interest paid.

However, some experts believe home loan seekers and existing borrowers looking to switch lenders can consider experimenting with some out-of-the-ordinary home loan schemes. Such loans, which are linked to an overdraft facility, are offered by SBI, HSBC and Standard Chartered, among others.

Citibank offers a home loan scheme that is a combination of a simple term loan and a credit line facility. However, most people are unaware of the existence of these schemes, as they are not promoted heavily.

"Such schemes can prove to be very useful, but the borrower needs to understand the product’s workings carefully before going ahead," says Vipul Patel, director of mortgage advisory firm Home Loan Advisors.

Unlike regular home loans which are standard offerings, features of these products vary with each bank. The only thing that is common among them is the home loan is linked to an overdraft facility. Any surplus money (apart from EMI) you deposit into the account will reduce the principal outstanding (only for the purpose of calculating interest), thus reducing your interest outgo.

You can also withdraw the surplus amount parked in the account, if required, though you may have to pay the applicable transaction charges per withdrawal. Again, it depends on the bank's policy.

"The deposits into the account actually offset the interest payable for that many number of days and, as a result, reduces the loan tenure as also the interest paid over the term of loan. This is more tax-effective as interest saved (savings) is not taxable, while income is," says Patel. That is, if you were to invest the amount in fixed deposits, the interest earned would be taxable. If used efficiently, it can reduce both your loan's tenure and the interest paid. While it may sound like a win-win deal, there is a flipside to these products. Most importantly, they charge at least 0.25% more than a regular home loan. For instance, HSBC's Smart Home's rate is 0.25% higher than its regular home loan. Moreover, some banks also levy an annual fee of up to 1% of outstanding balance or loan amount, which is quite substantial.

"You need to carry out a cost-benefit analysis to ascertain whether a simple part pre-payment is better than depositing surpluses," says VN Kulkarni, chief credit counsellor, Abhay Credit Counselling Centre. Instead, it might be wiser to go for banks that charge an interest rate as low as 9.5%, he reasons.

Simply put, you will benefit from these products, primarily if you direct all your savings into this account and are confident of parking a surplus. That means, it is not going to help if you are stretched for paying the basic EMI itself.