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  • Loan Conversion vs Balance Transfer: Calculate Refinancing Costs

    The question of whether to convert your loan from one benchmark to another or to apply for a balance transfer loan can be a challenging decision to make. The best way to decide is to calculate your refinancing costs. Making the right decision in this regard will help you not only save money on the interest component of the loan, but also possibly reduce the loan repayment tenure in the long run.

    Home loan interest rates

    There is no doubt that home loan interest rates have reduced drastically, especially for loans that are linked to the Reserve Bank of India’s (RBI) repo rate. Home loan rates start at less than 7% p.a., with interest rates also being linked to the credit scores or Credit History of the applicants. If your home loan was taken years or even just months ago, how do you take advantage of the reduction in home loan interest rates and how do you ensure that you have the best rate possible?

    Different loan benchmarks

    There are different benchmarks that determine the interest rate on home loans. Some of these are the Marginal Cost of funds-based Lending Rate (MCLR), the Repo Linked Lending Rate (RLLR), Prime Lending Rate (PLR), and base rate. Every loan is linked to a benchmark that is the lowest rate at which the loan can be offered.

    Lowest Interest Rates

    The lowest interest rates on home loans are given in the scenarios given below:

    • Salaried individuals with high credit scores
    • Loans that are linked to the repo rate

    Newer loans are linked to the repo rate whereas loans taken a few years ago would be still linked to other benchmarks such as the MCLR, PLR, or base rate. If you have such a loan, you could still be paying interest at a rate of 9% p.a. and above even though the bank may have announced a lower interest rate recently for loan that are linked to the repo rate. Every time the RBI lowers the repo rate, loans that are linked to it will reduce the interest rates. A reduction in basis points of more than 100 bps can result in a savings of lakhs of rupees over the duration of your home loan repayment tenure.

    Loan Conversion Options

    If your loan is linked to a benchmark that is not the repo rate, you will be most probably paying a much higher interest rate than the repo rate-linked home loan. In such cases, you could request your bank to convert your loan to the RLLR benchmark. There would be limited paperwork for this and it would be a faster process, while involving a conversion fee.

    For example, if your home loan is linked to the MCLR or base rate, you can convert it to the RLLR by paying a nominal conversion fee, which may run into a couple of thousand rupees, but would still be worth it in terms of the amount you save on the interest component of the home loan in the remaining duration of your loan repayment tenure. While banks have home loans that are linked to the repo rate, housing finance companies have home loans that are linked to the PLR, or prime lending rate. However, you would still be offered only the interest rate that is the lowest in the RLLR.

    Home Loan Balance Transfer

    If you are considering the home loan balance transfer option, you will have to look around for home loans that are being offered at much lower rates of interest than what your bank or NBFC is offering even for their loans linked to the RLLR.

    The paperwork and time required for transferring your loan to another lender may be more than what is required for a loan conversion. However, if you are offered a much lower rate of interest, it is worth it in the long run.

    In this case, you will be transferring your home loan to another lender for a much lower rate of interest. Since this is a fresh new loan, you would have to restart the home loan application process, including the documentation. You would also have to pay the processing fee for the new loan. There may also be a memorandum of deposit of the title deed charges.

    Refinancing Costs

    It is wise to first calculate the refinancing costs of your home loan, which is calculating how much you will have to pay over the years if you continue your loan at the same benchmark with the same lender versus how much you will pay if you change the benchmark and stick to the same lender versus taking a balance transfer loan with another lender.

    After doing the necessary calculations, you can take the decision that is best suited to your current financial requirements and budget, keeping in mind the total cost and savings over time.

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