Over the last year or so, it’s the home loan that has grabbed the nation’s attention from the introduction of new interest rate mechanism, Marginal Cost of Lending Rate (MCLR), to the constant fall in the lending rates induced greatly by the demonetization drive.
Leading the show is State Bank of India (SBI) which had slashed its 1-year MCLR by a steep 90 basis points (bps) to 8% at the start of 2017. The effective lending rate charged by the state-owned bank was 8.50%-8.95% per annum in January this year. But now, the effective rate is down to 8.35%-8.80%.
Another public lender that has hogged the limelight in the ongoing rate cut saga is Bank of Baroda (BoB), which took everyone by surprise at the start of the year by offering home loan at 1-year MCLR of 8.35% for borrowers with a CIBIL score of 760 points and above. While the overall rate charged by BoB ranges from 8.35%-9.35% p.a.
Private lenders are also not left behind with ICICI Bank lowering the 1-year MCLR to 8.20%, bringing down the effective rate to 8.35%-8.85%. HDFC Limited, on the other hand, offers a home loan at 8.35%-9.05%. The MCLR mechanism applies to the borrowers availing a home loan on or after April 1, 2016. So, these are the borrowers reaping the benefits of constantly reducing rates.
But what about those who are serving the home loan before April 2016? They are still under the base rate regime, where the rate charged is much higher compared to MCLR. The overall interest rate on a home loan under base rate can be around 9.50%-10% across banks in India. The pace of base rate cut, as one would have to say, is very slow in response to the RBI’s accommodative stance in most parts of the easing monetary policy that began in Jan, 2015. For instance-SBI’s base rate a year and a half back was 9.30% and now 9.10%, down by a mere 20 bps.
So, the question everyone’s asking, is it worthwhile switching from base rate to MCLR? So, let’s stay glued to the information coming your way, which, in many ways, would help you take the right call.
How to Decide about Switching?
Switching from base rate to MCLR would depend greatly on the cost of transfer and the actual benefits in numbers. Talking about the cost, it can be around Rs 5,000-20,000 across banks. But the old borrowers of BoB can do away with a switchover fee as the bank allows them to do so at no cost. So, as a borrower servicing the loan under base rate regime, you can enquire with your lender about the cost of switch in numbers. Then comes the important aspect of switch, and i.e. the state of EMI and interest cost on loan transfer to MCLR.
For Example- You are servicing a 20-year home loan of Rs 40 lakhs at 9.95% under base rate. Three years of the loan tenure are over and you have paid a monthly installment of Rs 38,468 and an interest of Rs 11,63,514 in the said time frame. The outstanding loan stands at the end of 3 years is Rs 37,78,650. If you continue with a base rate regime, your overall interest outgo would be Rs 52,32,428.
But if you switch the outstanding loan to MCLR at your current lender at 8.55%, how will the move pan out for you in the remaining 17 years of the tenure? The answer can be found through a table.
The total interest cost comes out to be Rs 45,63,910 (34,00,396 +11,63,514 ) while switching. A savings of Rs 6,68,518 (52,32,428-45,63,910) can thus be realized by switching to MCLR option. So, you see, a payment of few thousands on switchover and a saving of lakh. That tells you one angle about the story. The other angle that would interest you as a borrower is the refinance option, which you should know to get a clarity on the future course of action.
What is refinancing?
You want to get your home loan portfolio, currently running under the base rate, switched to MCLR at your bank. Upon checking the MCLR plus the spread, you find that the lending rate at your existing lender is higher than what’s being charged at other banks. Don’t worry, you can transfer the outstanding loan to another lender at a lower interest rate. The process by which this can be done is known as refinancing.
Taking cue from the above example, if you switch from the base rate to MCLR of your current bank, the overall interest repayment (including 3 years of base rate) stands at Rs 45,63,910. The MCLR plus spread at your bank, as shown above, is 8.55%. On your profile, another lender approaches you for a switch facility at 8.40% p.a. In that case, the EMI and interest outgo would work out to be Rs 34,848 and Rs 33,30,438, respectively, on a transferred loan amount of Rs 37,78,650 for 17 years. While switching from base rate to MCLR of another bank, the overall interest repayment (including 3 years of base rate) equals to Rs 44,93,952, Rs 69,958 less than what would be the case when you shift within your current lender.
Costs Involved in Refinancing
When you switch the loan to another lender, charges like processing fee, legal charges and others can be levied. Processing fee can be anywhere between 0.5%-1% of the transferred amount, in addition to 0.20%-0.50% stamp duty charge. But the switching of a floating rate home loan can be done with zero foreclosure charges.
You should include all the charges on transfer and add these to the interest cost arriving at the MCLR of another bank to find out the actual cost. As soon as the figures come out, compare it with the cost to be borne while transferring to MCLR of the existing lender. Then only, you can choose the right option.
So, it would be a wise move to switch your base rate home loan portfolio to MCLR regime of your bank or another lender, based on what’s the interest rate going to be in either of the options. Think of switching where the eventual interest rate offered is lower, while also keeping an eye on other costs of transfer. What would also prompt base rate borrowers to switch to MCLR is that the lenders have softened the rates a lot more under the latter in just over a year of its inception compared to the base rate.