High EMIs? Tips to tackle them

Your dream home and flashy set of wheels just got a bit more expensive with the Reserve Bank of India announcing yet another hike in interest rates. Now, after its second revision since June, the reverse repo stands at 6 per cent and the repo at 7 per cent. As expected, soon after this, several banks announced higher rates of interest on home and auto loans. HDFC, SBI, PNB, Oriental Bank of Commerce, LIC Housing Finance and Bank of Baroda have hiked their home loan rates in the range of 0.25-1 percentage points.
The repo and reverse repo rates set the direction for other lending rates. A rise in the reverse repo rate raises the cost of borrowing funds of banks, leading to a rise in lending as well deposit rates. For protecting its net margin, a bank typically factors in a rise in the reverse repo rate by increasing its lending rates on all retail loans. Ultimately, it is the customer who has to pay a higher price.
There are plenty of customers like Preeti Harkare in Mumbai and other cities who want to buy their dream home but do not know what to do with constantly rising interest rates. We look at some options. How to tackle rising home loan rates? Bankers are divided over which is a better product for home loans - a floating rate or a 2-in-1 loan. The latter is a combination of fixed and floating and some see it as an ideal product to hedge in a rising/falling interest rate regime.

Fixed vs floating
On the other hand, many banks and financial institutions are of the view that despite sustained hardening of rates, floating rates would still be a safe bet. Analysts aver that floating rate loans are favoured because fixed rate loans are usually more expensive than floating rate loans (approximately 1.5 per cent higher now, 0.5-1 per cent earlier).
Even today, despite all the rate hikes, 85 per cent of the new loans are still booked at floating rates. Bankers say that if the outstanding term is below ten years, floating rate would be a better option as you would benefit from the lower rate for the first few months.

Should you switch to fixed rate loan?
Converting to a fixed rate loan now may not be a prudent decision, say bankers. If you borrowed at floating rates and want to convert to fixed, you will have to pay 1-2 per cent conversion charges on the outstanding principal amount. Let's assume you took a loan of Rs 15 lakh at 8 per cent for a 20-year tenure and have paid a principal of Rs 100,000. If you convert the balance to fixed rate of interest at 10.5 per cent, you will have to pay around Rs 21,000 as conversion charge. This, in turn, would increase your EMI or extend the tenure of the loan.
If you still want to give fixed rate loan a shot, ensure it is a true fixed-rate product and not a fixed rate linked to money market conditions. True fixed products have a fixed rate throughout the tenure of the loan unlike the latter in which the banks have the liberty to tinker with the rates. The difference is that a true fixed product, offered by a few players, charges 1.5 per cent higher than the other.

How to Choose a Floater
Floating rate loans are more attractive because they cost one or two percentage points less than a fixed rate. But do choose a floater carefully. Have you ever asked the question: what does it float with respect to?
The bank benchmark, the home loan agent will quickly reply. But who fixes the bank's benchmark or the Prime Lending Rate. Did you think it was the Reserve Bank of India? No, it is not the RBI but banks themselves who fix it. So you have a loan on a rate that can move up and down only if the bank moves its PLR up or down. Banks move the PLR up, but not many moved it down when the rates fell three years back. They just introduced new PLRs, yours remained where it was.
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Tags: EMI, home loan, RBI, repo, high rates, interest rates, auto loans, HDFC, ICICI, SBI, PNB, oriental bank of commerce, LIC housing finance, bank of baroda, fixed rate, floating rate, UTI bank, down payment, tax benefits, floater