This article will help you understand the factors that affect home loan rates of interest and how you can reduce them for yourself.

How are Interest Rates Determined on Home Loans
Product Partner Tuesday, December 12, 2017 - 13:31

Interest rates on home loans vary, not only from bank to bank, but also vary from person to person. It is a well-known fact that a small variation in the rates of interest on a housing loan can result in a drastic increase in the overall interest paid. Knowing the factors that determine the interest rate payable towards a loan will help you understand how you can avail lower interest rates for more check . This article will help you understand both, the factors that affect home loan rates of interest and how you can reduce them for yourself.

Factors that determine home loan interest rates

Prime Lending Rate (PLR) – PLR is the reference rate of interest that banks use to assess interest rates on various products. Many banks mention interest rates in the following format. PLR + 0.5%. In this case, if the PLR of a particular bank is 8%, the rate of interest for their housing loan would be 8.50%.

Cash Reserve Ratio (CRR) – CRR is the minimum percentage of the total deposits made by the customers that the bank has to hold as reserves. This can either be in the form of cash or as deposits with the RBI.  The higher the CRR, the higher the interest rate that a customer pays. This is because the amount of liquidity in the system reduced with an increase in CRR.

Repo Rate - Repo Rate is the rate of interest at which the Reserve bank of India lends money to other banks. Quite naturally, the leaser the rate at which banks get their loan, the lesser the rate a customer pays. Therefore, lesser the repo rate, lesser the rate of interest for the end customers.

Reverse Repo Rate – This is the exact opposite of β€˜Repo Rate’. Banks lend to the Reserve Bank of India at this rate. The banks are very happy to lend to the RBI if the Reverse Repo Rate is high. This means that the bank would gain attractive profits, which may then be passed onto customers in the form of lower interest rates.

Statutory Liquidity Ratio (SLR) – SLR is the reserve required for commercial banks to maintain. SLR can be maintained in the form of gold, government securities, etc. Only after the SLR has been met can a bank offer credit to its customers.

Benchmark Prime Lending Rate (BPLR) – BPLR is the rate at which a bank lends money to its customers. The RBI replaced the BPLR as banks often loaned money at extremely low interest rates. With this in place, no bank can lend below the BPLR. This can visibly affect the interest rate that the bank offers a customer. Higher the BPLR, the higher the interest rate that a customer has to pay.

Tips to reduce your home loan interest rate

Switch to MCLR – In case you have a loan from before April of 2016, the chances are you are not in the MCLR scheme. The MCLR scheme was introduced by the RBI in order to bring transparency to the interest rates, and to also shield the customers from adverse policy changes. Therefore, switching to MCLR can give a customer a lower interest rate and a customer who has availed a loan even before April can switch to this scheme.

The first thing to keep in mind before switching from base rate to MCLR is the cost of transfer. Banks usually charge a borrower for switching from base rate to MCLR. This fee can range from anywhere between Rs.5,000 and Rs.20,000, depending on the bank. If you only have a few more months of EMI to be paid, consider this before planning to switch to MCLR.

The most important aspect to keep in mind before making a switch is the current outstanding balance, EMI and the interest cost on transfer of loan to MCLR. Consider the outstanding amount and calculate the interest payable on that amount in base rate and MCLR to work out which will be the more economical alternative. If you still manage to save a considerable amount of money after bearing in mind the fees and the new interest rate, it would be a wise decision to switch over to the MCLR system.

Make prepayments – Making prepayments will reduce the entire loan amount, which in turn will reduce the interest rate. However, one must take into consideration the prepayment charges. Some loans charge a percentage for prepayment. Thus, a customer must be vary that the savings accumulated should not be lesser than the prepayment charge itself.

Increase your EMI – Generally, banks prefer that you do not exceed 40% of your monthly income while paying your home loan EMI. You total interest pay-out can be reduced by opting to pay a higher EMI. Nevertheless, one should always take their expenses and other investments into consideration while deciding how much more of the EMI can be paid.

Transfer the loan – Usually by transferring your loan from one lender to another, the new bank will offer a lower rate of interest. The bank will completely pay off the initial lender and you will be under a completely new scheme with the new bank. This can be opted for if the existing lender refuses to lower your rate of interest.

Transferring the balance from your home loan, although beneficial, is time consuming and has a lot of procedure associated with it. Not to mention that you will be breaking off a relationship with a bank that may have served you well. Resetting your balance with the same bank, on the other hand, is a simpler process. Not many people do this because they are oblivious to the fact that one can simply rest the interest rate of a loan by simply writing to the bank. This is an easier process to follow in order to reduce the interest rate on a housing loan or to switch to a MCLR system.

Therefore, the first choice should always be to rest the interest rate on a loan. In case the bank declines this request, you can always opt for refinancing afterwards.

This article has been produced by TNM Marquee in association with BankBazaar.