Economists, scientists and even Messers Pink Floyd have dabbled with the importance of 'Money' and 'Time.' However, now even the home buyer is grappling with the same question. What should one do? - Go for higher tenure or higher equated monthly installment (EMI).
In the last couple of years, interest rates have been rising consistently. Home loan borrowers -- both existing and potential -- are a baffled lot because of the sheer speed of the escalation.
Many may compare this situation to situations in villages where a villager borrows from the village mahajan (moneylender) and is never able to pay back because of the compounding high interest. The rising interest rate regime in the country today has brought this debt-trap literally to urban households' doorsteps.
Up three percentage points over the past-one-and-a-half year, the floating rate of interest on home loans has hit a high of 12 per cent from 9 per cent. Such a steep rise in such a short period has brought with it nightmares of the money lender -- if banks and housing finance companies do not increase the EMI, it becomes insufficient to cover even the interest component. A household that can't take on a higher EMI will theoretically end up paying in perpetuity.
So now looking at the table (given below) there will be increase in the EMI.
The other option would be increase in tenure. In a rising interest rate regime, banks have the ability to increase tenure only up to a point. Beyond that, if the interest rate continues to rise, the EMI becomes insufficient to cover the loan (interest and principal) and banks are forced to increase the amount of the EMI as well.
If we consider the normal lifecycle based on the relationship between age and earning capacity, we can have a generalised few conclusions:
RISING EMI BURDEN
|
Loan amount (Rs) |
Period (Years) |
EMI (Rs) in 2007 -- 9% |
EMI (Rs) in 2007 -- 12% |
Increase in EMI (Rs) |
Period (Years) |
Increase in EMI (Rs) |
Period (Years) |
Increase in EMI (Rs) |
|
10,00,000 |
20 |
8,997.26 |
11,010.86 |
2,014 |
15 |
1,999 |
10 |
1,989 |
|
15,00,000 |
20 |
13,495.89 |
16,616.29 |
3,020 |
15 |
3,005 |
10 |
2,995 |
|
25,00,000 |
20 |
22,493.15 |
27,527.15 |
5,034 |
15 |
5,019 |
10 |
5,009 |
|
50,00,000 |
20 |
44,986.30 |
55,054.31 |
10,068 |
15 |
10,053 |
10 |
10,043 |
|
75,00,000 |
20 |
67,479.45 |
82,581.46 |
15,102 |
15 |
15,087 |
10 |
15,077 |
|
1,00,00,000 |
20 |
89,972.60 |
1,10,108.61 |
20,136 |
15 |
20,121 |
10 |
20,111 |
So if you are in the age group of 25-35, the option viable could be increase in the tenure since you still have many years in your earning phase. This is primarily because an excessive increase in the EMI option will adversely impact your monthly budget.
If you are in the in the age group of 35-45, the option viable could be increase in the EMI since you would be having a high savings ratio as compared to any other age bracket.
If you are in the in the age group of 45 and above, the option viable could be prepayment of loan since you have less number of years in your earning phase and you have certain savings which could be opted to make the prepayment. (Lumpsum Repayment of Loan).
TIPPING POINT
|
Particulars |
Age Bracket | ||
|
|
25-35 years |
35-45 years |
45 years & above |
|
Recommendation |
Let the tenure increase |
Let the EMI increase |
Prepay a lumpsum |
So prepayment of loan seems the most common solution but the age also has a major role to play. There are two ways in which one can deploy surplus funds to reduce the EMI. For maximum benefit, one can combine the two options. This depends on your age, outstanding amount, earning capacity, present liabilities, retirement age, etc.
The writer is head of financial planning at Sykes &Ray Equities and can be reached at kairav@sre.co.in.