The Hindu Business Line : Getting locked into EMI loans

TAKE a loan repayable in Equated Monthly Instalments (EMI) and you can view future interest rate hikes with calm. They won't make the least difference so far as you yourself are concerned.

On the other hand, since clean personal loans, cash down, are today available at a mere 1 per cent per month you don't really expect rates to go any lower. All in all you think you have put in a good day's work. The odd thing is that, for reasons that are known only to themselves, banks seem comfortable with the way things are. So much so that they take great pains to devise EMI schemes of the type in which once you are in, it is not worth your while to get out.

This is done in two ways. The first is the front-loading of interest payments; most of your early EMIs go towards payment of interest rather than repayment of principal. In the case of a Rs 1 lakh loan, taken at 1 per cent per month, with a 36-month repayment schedule, after paying six EMIs of Rs 3,374 each, the unpaid principal amounts to Rs 86,000. If the effective (as distinct from nominal) rate of interest is higher, the EMI too is higher — and the proportion of each EMI that goes towards repayment of principal is much lower. Twelve months into a 36-month repayment schedule, you could find that 80 per cent of your loan has yet to be paid.

That brings us to the second lock-in device. This is the commitment charge that is levied on premature closure of a loan account. In some Citibank loans, this is as high as 4 per cent of the unpaid balance.

Of course, you don't worry about such distant problems while negotiating a loan. It is only when the loans become a bit burdensome, when you start to feel the pinch, you notice that though you are still free to flap your now-invigorated wings, the door of the cage is firmly shut.

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