Take Note If You Are Planning To Switch Your Loan To A New Lending Benchmark
Many of you must be planning to switch in hopes of reducing your home loan costs after the Reserve Bank of India (RBI) in April last year introduced Marginal Cost of Funds-based Lending Rate (MCLR) system, a new methodology for calculating the benchmark lending rate. It is worth mentioning here that loans sanctioned before March 31, 2016, follow the old pattern of benchmark lending rate unless the borrower decides to switch.
Here are certain things you should take note of before you make a move:
- First and foremost, the new benchmark is applicable only to floating rate loans and is subject to change from time to time. Home loans availed of on a fixed interest rates are exempted from being linked to MCLR.
- Banks charge a conversion fee of .25 per cent or .5 per cent of the outstanding amount for linking your loan to the new system. Additionally, you will also be paying all the taxes applicable. So, if your outstanding loan amount is Rs 10 lakh, you have to pay Rs 5,000 or more as conversion fee to the bank.
- Once you switch your loan from the base rate or benchmark/retail prime lending rate (B/RPLR) system to the marginal cost-based lending system, you cannot switch back. You will have the option to reset rates only after a year once you choose the new benchmark based lending rates. Also, keep in mind that the new lending benchmark does not apply in case of housing finance companies and non-banking finance companies.
- Unlike the base rate system, MCLR is directly linked with the repo rate and with every change, interest rates would change. This means the upward and downward swings would be sharp. While you will reap benefits when the rates go down, the lender will pass on the burden in case interest rates go up.
- As your outstanding repayment responsibilities stand reduced, you could now pick between implementing a reduction either in the EMI (equated monthly installment) amount or loan tenure. Borrowers who want to keep the tenure as it is, have to provide new post-dated cheques for lowering the EMI.
- Switching to the new benchmark does not necessarily mean the borrower reaping profits. In case the conversion fee, which would include taxes, charged by the bank is higher than the amount you would save by switching to the new lending system, the whole purpose of the effort would fail. Do a proper cost analysis before you decide to go ahead. For instance, your bank is charging conversion cost of Rs 10,000 for your outstanding loan amount of Rs 25 lakh taken for a 20-year tenure, for reducing the interest rate from 9.30 per cent to 9.20 per cent. Now, while you paid Rs 23,059 as EMI earlier, you will now be paying Rs 22,816 now, which would amount to an annual saving of Rs 2,916. This would mean you would pay more as conversion fee.