5 Factors To Consider Before Opting For Home Loan Prepayment
Purchasing a house property is a big decision, and many of us most likely depend on financial help in the form of a home loan to do so. Opting for a home loan is a smart option as it offers you the opportunity to meet your biggest dream of owning a home without stressing much about your finances. Similarly, as purchasing a home is a big decision, opting for its prepaying too is a decision, which requires in-depth analysis.
Like a home loan, may it be Axis Home Loan or home loan with other lenders, is a long term financial commitment extending over a decade, it is always a good decision to part prepay the home loan with adequate surpluses as and when you receive it regardless of the prevailing interest rate regime. Holding huge surpluses and waiting for any change in interest rate regime before making prepayments would just increase your opportunity cost, i.e. losing the opportunity of interest cost savings owing to delayed repayments. However, before you move ahead with your decision of part prepayment, always ensure to consider 5 crucial factors to derive optimum value out of it.
Factor in your liquidity when selecting between EMI and repayment tenure reduction options
Home loan borrowers get 2 options when part prepaying their Axis home loan or home loan with other lenders. They can either lower their EMIs or cut down their home loan repayment tenure. While the latter option can lead to increased savings in interest payout, the primary decision to select between the two must depend upon your disposable income. For instance, suppose you availed an Axis home loan of Rs 50 lakh about 5 years ago at 7% p.a. for a loan repayment tenure of 25 years and your current home loan outstanding is Rs 45.58 lakh. If you make a lump sum prepayment of Rs 6.30 lakh at the end of the 5th year and opt for tenure reduction, you will save around Rs 15 lakh in interest payment, and your loan repayment tenure would reduce by 5 years. However, if you opt to continue with the same home loan repayment tenure, then your EMI would fall from Rs 35,261 to Rs 30,454, a total interest savings of Rs 11.53 lakh. Thus, while opting for tenure reduction leads to more savings in interest cost, one can choose the EMI reduction option only in case of a rising interest rate regime when this situation can impact their disposable income.
Strike comparison with savings generated through loan transfer option
While home loan prepayment can certainly lower your net interest cost, opting for this route by liquidating your existing investments can negatively affect your financial health for the long term. In case you choose the home loan balance transfer option, your existing home loan will be taken by another lender at a lower rate. This would lower your interest payout without impacting your existing investments and liquidity. Considering the above-mentioned example, if you transfer your Axis home loan to another lender at say 6.5% p.a. for the remaining repayment tenure of 20 years, you will still manage to save nearly Rs 3.25 lakh in interest cost without compromising your existing investments and liquidity. Compare the savings derived through part prepayment attained through home loan balance transfer and make your decision accordingly basis your financial goals and liquidity.
Avoid touching your emergency fund
An emergency fund is basically maintained to face financial emergencies or to mitigate mandatory expenditures during events of unemployment or loss of income owing to disability. Your fund’s size should be adequate enough to meet your mandatory expenses for at least 6 months. If you use your emergency fund for prepaying your home loan, any unforeseen event might propel you to take up high-interest rate loans or liquidate your existing investments at a loss. Thus, avoid counting your emergency fund to accumulate funds for prepayment purposes.
Avoid redeeming investments particularly created to attain financial goals
Financial goals refer to the monetary expression of your important life goals. A few of the common examples of financial goals are corpus creation for a child’s higher education/marriage, post-retirement life, arranging down payment for a home loan, car loan etc. Liquidating your existing investments crucially aimed to achieve such life goals might propel you to take up costly loans later on the maturity of such goals. Thus, opt for prepayment of a home loan only if you have adequate surpluses after factoring in your emergency funds and investments and monthly contributions set aside for your unavoidable financial goals.
Consider returns generated from existing investment
While Axis Home Loan Interest Rates or rates of other home loan lenders are the lowest among all retail lending products, their rates are generally higher as compared to most fixed income rates. Thus, if you have a surplus fund parked in fixed income instruments such as debt funds, fixed deposits etc., that are not earmarked for achieving any financial goals, it can be used for prepaying your Axis home loan or home loan with other lenders. When it is about equity investments, their returns generally overcome home loan rates by a wide margin over the long run. Let us take the above example where a prepayment of Rs 6.30 lakh resulted in interest savings of around Rs 15 lakh in case of reduced loan tenure and Rs 11.53 lakh in case of reduced EMI option. If you instead invested Rs 6.30 lakh in an equity fund generating an annualized return rate of 12% for 20 years, it would grow to Rs 60.77 lakh at the end of the period, generating a profit of Rs 54.47 lakh.
A table on how early home loan prepayment is beneficial vs during the end of the tenure prepayment
