As inflation remains above the RBI’s comfort zone, the central bank went ahead with another rate hike this week, raising the repo rate — the rate at which the RBI lends to commercial banks — by 35 basis points to 6.25 per cent. Since May this year, the RBI has now raised the repo rate by 225 basis points.
Has this impacted ordinary borrowers as well?
Yes, it has. A 225 basis point increase in the interest rate in just seven months is a steep and significant hike, and almost all of it has been passed on to existing home loan customers by banks. This has led to significant increases in the EMIs or tenures of customers’ loans.
Banks and housing finance companies will soon pass on the latest repo rate hike as well to their customers, which will only add to their consistently rising EMIs.
So exactly how much have people’s EMIs risen?
Consider this example: If the interest rate on a Rs 50 lakh loan outstanding for the remaining tenure of 15 years (180 months) has gone up by 225 basis point from 7 per cent to 9.25 per cent, the tenure of the loan would rise to 254 months — a huge increase of 6 years and 2 months, if the EMI is kept constant.
However, if this borrower wants to keep the tenure constant, or if she is not able to increase the tenure because of an age limitation or any other factor, then the EMI on the loan would jump from Rs 44,941 to Rs 51,459. This is a very large monthly increase of Rs 6,518 in EMI outgo — which works out to an annual increase of Rs 78,216 in EMIs.
At a time when inflation is high, and is eating into the savings of individuals, such a rise in interest rates comes as a double whammy for the middle class.
What can one do in this situation?
It is most important to constantly assess your loan outstanding, EMI, and the interest rate you are being charged. The most common mistake that individuals make is to not look at their loan schedules and see if the bank/ housing finance company has increased the EMI or tenure of the loan.
Individuals should also look to partly increase their EMI. This serves two purposes: it limits the impact of interest rate volatility on the loan schedule, and it ensures that you close your loan ahead of schedule.
So, taking the above illustration: as the rise in interest rates leads to an increase in tenure from 180 months to 254 months, if the individual requests her bank/ HFC to raise the EMI by Rs 3,000 to Rs 47,941, the tenure would come down to 212 months. For those who can afford it, it makes sense to increase the EMI and limit the impact of interest volatility on their loan schedule.
Also, it makes sense for individuals who have fixed deposits earning around 5-6 per cent interest to partly use it to prepay the loan, on which they are paying an interest of 9 per cent or more.