Pick a home loan

Buying a home is one of the most important financial decisions we need to take. Since the quantum of investment is quite big and the liability incurred for the purchase can extend over many years, the decision needs to be well-thought-through, taking into account the current and future cash flows, other financial goals and the expenditure pattern.

Once the decision has been made, and you have zeroed in on a cosy flat or a dreamy villa, where you want to spend your life, turn your attention to financing the property purchase.

Thankfully, there is an array of home-financing options available from which you can take choose, depending on your eligibility and requirement.

The right kind of loan

Loans are available for various kinds of home-related expenditure — new or pre-owned home purchase, re-building an existing house, and so on.

Home purchase loan or home loan is meant for buying new or pre-owned residential property. You can take this loan jointly also. Both individuals and NRIs (non-resident Indian) can apply it. The maximum tenure for a loan, in most cases, is 30-35 years. The entire loan amount is mostly disbursed at one go.

Plot and construction loan can be availed of if you are planning to purchase a residential land for constructing your own residential property. However, it comes with a timeline - construction of the property has to be completed within three years.

Some banks also specify that construction needs to start within six months to one year. To get this loan, the borrower has to submit the estimated cost of construction (given by the engineer or architect), along with the value of the land, to the lending institution.

The disbursal of the construction loan depends on the progress of construction. It is available for both residents and NRIs.

Keep in mind that you are required to submit various documents such as land documents, local authority approval papers, the approved construction plan etc. If your construction is not as per the plan submitted, the lender can freeze the fund. Also, construction loan may not fund interior works such as painting, plumbing and lighting.

Home improvement loan is availed of for improvement of property, either for renovation or extension. Some banks and financial institutions offer this as home renovation loan and home extension loan.

Renovation and repairs would include flooring, fittings, plumbing, painting and lighting. Extension comprises adding a new room, a kitchen or making a room spacious.

The estimated cost of renovation/extension (from the engineer or architect) needs to be submitted to the lender who will then determine the loan amount.

Improvement loans may get rejected for renovation beyond the permitted limit (built-area) approved by the authority.

How to choose a lender?

Once you have decided on the kind of loan that you want to take, evaluate various home loan deals from banks. Here’s how you can go about it.

Quantum of loan

First, you need to understand that a bank will not fund the entire value of the property. You will have to cough up some down-payment from your side. This is called loan-to-value (LTV) ratio. The RBI prescribes the maximum amount that banks can extend as loans based on the value of the property. The LTV for home loans of up to ₹30 lakh can be up to 90 per cent, which implies that the minimum down-payment you will have to make is 10 per cent. For home loans between ₹30 lakh and ₹75 lakh, the LTV is up to 80 per cent, and you will have to set aside a higher down-payment. For loans over ₹75 lakh, the LTV is up to 75 per cent.

In addition, the maximum loan amount eligible depends on your income, job type, age, number of dependants, additional income, other outstanding dues and credit score.

Therefore, if you want to get a higher loan amount, ensure you clear off other due/loans such as those pertaining to credit cards and vehicles. You can also add your spouse (if working) or working parent as co-applicant to enhance your home loan eligibility. Having additional source of income would also help.

Interest rate

The rate of interest on the loan decides your equated monthly instalment (EMI) and the total interest you pay over the entire tenure of the loan. You can shop around for the best rates both online and offline before choosing the lender.

There are essentially two types of interest rates — floating and fixed.

Under the fixed option, the interest rate remains the same for the entire tenure. If you prefer predictability, then such products may appeal to you. But you need to remember that banks normally charge a hefty premium for this predictability.

For instance, Axis Bank charges 12 per cent as fixed interest for home loan between ₹30 lakh and ₹75 lakh; for the same loans under the floating category, the interest rate is a much lower 9.05 per cent.

Also, in a falling interest rate cycle such as now, it would not make sense to lock into fixed rates, as you would lose the benefit of lower lending rates.

Floating interest rates, essentially, are variable loans; interest rates vary based on market movements. If interest rates in the economy go up, lending rates on the floating rate home loans also move up; vice-versa, when rates move down.

Loan rate on floating rate home loans are benchmarked against MCLR — the marginal cost of funds-based lending rate (MCLR). Each bank decides MCLR based on its cost of funds. Any rise or fall in the cost of funds ideally gets reflected in the MCLR. Banks add a spread to the MCLR to arrive at the loan rate.

The RBI has cut its key policy repo rate by 75 bps so far this year. Banks have also lowered their MCLR or lending rates (though by a smaller proportion).

At present, in the ₹30-75 lakh home loan category, banks that offer among the best deals are Central Bank of India (8.5 per cent), Syndicate Bank (8.6 per cent), Punjab National Bank (8.6-8.65), Canara Bank (8.6-8.8 per cent) and IOB (8.6-8.75 per cent).

The home loan rates in other leading banks, such as ICICI Bank (8.7-9.15 per cent) and SBI (8.5-9.05 per cent) are slightly higher. Currently, interest rates offered by HFCs are higher than the best deals offered by banks.

Therefore, when you select a home loan, consider your repayment ability and opt for the cheapest rates. Also, keep in mind that under MCLR, lending rates are reset only at intervals (based on the tenure of MCLR). Hence, if your home loan is benchmarked against one-year MCLR (as is usually the case), the lending rates will get reset after one year. If you are taking a home loan now, subsequent revision in lending rates will be only a year from now.

Other charges

When you apply for a home loan, also factor in other fees and charges along with interest rates. Every lender should be able to provide an estimate of the charges, including processing fee, administrative charges, late payment fee and switching charges (when you switch to another lender).

For instance, State Bank of India charges processing fee of 0.35 per cent on loan amount (excluding tax) up to a maximum of ₹10,000.

Similarly, Axis Bank charges up to 1 per cent of loan amount as processing fee (minimum ₹10,000) with ₹2,500 to be paid upfront (non-refundable).

In addition, banks and other financial institutions levy other charges such as legal fees, property inspection fees and annual service fee. Though these charges vary from time to time, many of these fees are negotiable.

Also, as common practice, while sanctioning home loans, banks exclude stamp duty, registration of property and other documentation charges from the home loan.

Mind the tax

When you buy a house, it comes with a slew of tax benefits that could significantly reduce your tax payments.

If you are paying EMI for the housing loan, it has two components — interest payment and principal repayment.

When you buy a completed house and it is self-occupied, the interest portion of EMI paid can be claimed as deduction from your total income up to a maximum amount of ₹2 lakh (under the head income from house property).

But if the same property is let out, there is no upper limit for claiming interest paid.

If you are a first-time home buyer, you are eligible to deduct interest of up to ₹50,000 under Section 80EE over and above the available limit of ₹2 lakh.

In case of an under-construction property, the EMI payment starts as soon as the home loan is disbursed.

However, you can claim interest payment as deduction only after the the house is completed. You can also claim the pre-construction period interest (post the house completion) in five equal instalments.

Note that, the construction of the property must be completed within five years from the end of the financial year in which the loan was availed of. In both cases — purchase/construction of house property — the principal portion of the EMI paid for the year is allowed as deduction under Section 80C.

The maximum amount that can be claimed is up to ₹1.5 lakh. But if you sell the property within five years, the deduction claimed earlier will be added back to your income in the year of sale.

In case of home loan taken jointly, each of the applicants can claim the deduction for home loan interest payment up to ₹2 lakh and principal repayment under Section 80C up to ₹1.5 lakh separately in their respective income-tax returns.

Income-tax provisions allow deduction (under Section 80C) of stamp duty and registration fee as well, since these account for a chunk of expenses at the time of a house purchase.

Ways to insure your home loan repayments

Mortgage or home loan insurance is essentially a life policy that covers the borrower against the non-payment of loan in case of his/her death.

Now, there are two ways to buy an insurance to ensure your family will not be burdened with loan repayment or, in the worst case, asked to vacate the house. First, you can go for home mortgage loan insurance sold by players such as Reliance General Insurance and ICICI Pru Life Insurance. The other option is to buy a term insurance policy and assign the policy to the lender or your nominee, to settle the outstanding loan amount in case of an unforseen event.

Mortgage insurance

There are two types of mortgage insurance products offered in the market. One is decreasing term insurance where the sum assured decreases with the outstanding balance of the loan amount.

Second is fixed cover option, where the life cover remains constant throughout the term of the plan.

The sum insured, in mortgage insurance, normally, will be equal to the loan amount and are usually single premium payment policies.

These policies are offered only along with your home loan by the lenders. But if you are unable to pay the premium amount upfront, your lender could club it with the loan amount. Your EMI would be calculated on this amount.

Note that, if you combine the premium with the loan amount, you would lose out on the tax benefits that you can otherwise claim under Section 80C for premium payment.

Mortgage vs term cover

In terms of outgo in premium payments, a term cover appears to be better compared to mortgage insurance policies. For instance, in ICICI Pru Loan Protect Plus plan, for a 35-year-old male, for a SI of ₹40 lakh (policy term 10 years) the premium works out to ₹1,15,759 (single premium) and your SI reduces every year.

But in ICICI Pru iProtect Smart, a term cover, for SI of ₹50 lakh, the premium outgo per year would be ₹4,426. This amounts to ₹44,260 over a 10-year period.

Thus, cost-wise, going for a term cover is a better option. Also, the death benefit in mortgage insurance will be lower compared to the benefit under a term insurance.

Alternatively, if you don’t want to buy an insurance cover for a home loan, you can assign any other existing life policy to the lender.

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