Several financial institutions have currently replaced their MCLR or marginal cost of funds-based lending rates process to determine home loans interest and opted for repo rate based lending. It started when the RBI governed financers to link their rate of interest to an external standard rate or benchmark effective from October 1, 2019.
As per the present downfall in the Indian economy due to the global pandemic COVID-19, experts suggest RBI might again cut down the home loan repo rate to keep the financial market operational. It can also facilitate borrowers with home loans linked to the repo rate effectively. In the present scenario, the operational hindrances and reduced revenues/income can decrease the debt repayment capability of borrowers.
However, if the expected rate cut is initiated by the RBI, it can result in reduced lending rates. Interest rate cuts can thus benefit several borrowers by lowering the debt servicing expenses efficiently.
Different external benchmarks as per RBI:
According to the RBI circular, for all new floating rates, financial institutions have to link their lending rates to given external benchmarks. Other than the repo rate of RBI, these external standards are FBIL-published Government of India 3 and 6-Months Treasury Bill Yield, and any different standard market interest rate announced by the FBIL.
However, major lenders have opted for RBI’s rate as their preferred external benchmark. Their repo rate-linked lending rate or RLLR is the addition of repo rate and the marginal charge of the specific financial company.
For individuals who have opted for a repo linked home loan rate, this marginal cost remains similar. However, lenders can charge risk premiums depending on the credit risk profile of the borrowers.
What is a repo rate?
Repo rates indicate the rate of interest at which all scheduled commercial and financial organisations borrow funds from RBI, the central bank of India. Repo interest rate is also one of the crucial tools used by RBI to check inflation and maintain liquidity in the market.
During times of inflation, the RBI increases this rate to deter financial institutions from borrowing further, thus controlling inflation effectively. Contrarily, in times of deflation, RBI eventually decreases the rate to push borrowing.
Change in this rate thus also affects the lending rate to consumers. Financiers fix interest rates on loans as per the repo rate, known as RLLR, and adjust them with any change to it.
Impacts of repo rate on home loan consumers:
A lower repo rate enables financial institutions to provide financial products like loans at lower costs. In the case of RBI slashing down this rate, financiers can also offer lower lending rates to common borrowers. Thus, individuals can avail home loans at affordable interest rates.
Correspondingly, an increase in the repo rate can make a home loan expensive to consumers due to the increment in the lending rate. As commercial lenders borrow funds at a higher interest cost, they also provide funds at correspondingly higher rates.
Nonetheless, the corresponding decrease is often delayed. To solve this issue, RBI has directed the financiers to link their lending rate to an external benchmark for improved transparency. The home loan market is fairly stable, thus finds an immediate effect of such change transferred to consumer lending. Home loan borrowers can thus benefit from any further slashing of RBI’s lending rate, that would helo them repay affordably.
Other factors that can help to reduce home loan interest:
Here are some factors that impact home loan interest rate-
- Although borrowers can obtain 75-90% of the property costs as a home loan, they should opt for a sizeable down payment. With higher token money, they need to avail lower loan amount that eventually decreases the interest payment as well as EMIs.
- If financers provide foreclosure facility, individuals should opt to part prepay or foreclose the loan amount. This way, borrowers can either repay the debt before tenor or decrease the total payable interest. This is one of the most effective tips to decrease home loan interest.
- Furthermore, individuals can look for refinancing their home loans with different lenders via a balance transfer facility for a lower interest rate. Nonetheless, borrowers should opt for a home loan balance transfer towards the beginning of repayment tenor to save more. Also, individuals can avail a top-up loan facility along with their balance transfer.
In the case of the repo rate, it influences the borrower’s affordability by increasing or decreasing the lending rates of financiers indirectly. Individuals can thus benefit from an expected rate cut and manage their home loan more efficiently if it is RLLR based.