Deciding to buy a home is an overwhelming experience; and while it may be wiser to buy residential property with your savings, sometimes it may be wiser to take out a home loan. “Let’s say you take out a loan of Rs 50 lakh over a period of 20 years. With the prevailing interest rate at 7.4%, your interest outflow on these Rs 50 lakh over 20 years is an increase of Rs 46 lakh. Although it is wiser to buy a house without a loan, you practically need to take out a loan to buy a long-term asset,” said Adhil Shetty, CEO of Bankbazaar.com. He added that the total sum of EMIs on the home loan should not exceed 40% of your disposable income under a prudent financial plan.
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While this is established, are there ways to reduce the amount of interest one pays over the life of the loan?
Paying off the loan early is one of the best things to do when trying to reduce the interest burden over the life of the loan. Each time one prepays their loan, it reduces the outstanding principal amount and the next month’s interest is calculated only on the remaining principal amount. Adhil Shetty talked about different ways to complete your loan much faster, with an example of a 20-year loan.
“Let’s take a scenario where a borrower has secured a loan worth Rs 50 lakh for 20 years at the interest rate of 7.4%. The first is to prepay one additional EMI per year and your loan will end in 17 years. Second, each year as your salary increases, voluntarily increase your EMI by 10% and your 20-year loan will be paid off in 10 years. Third, prepay 5% of your current home loan each year and your term will increase to 10 years. Those are the three simple scenarios and as long as you’re on a free variable rate home loan, prepayments are an easy option and there’s no additional cost,” he said.
Tax advantages on the mortgage
Neeraj Agarwala, Partner, Nangia Andersen India, described: “If you occupy your own house, up to Rs 2 lakh is allowed as a deduction from the interest you pay, and this helps you reduce your tax burden. In addition, there is a tax deduction on the principal amount under Section 80C. These are both tax exemptions and the two together form a very attractive scheme for an employee.
Deductions on the principal amount are available for Rs 1.5 lakh and on the interest amount for another Rs 2 lakh; and this is true even when you have a secondary home loan. Furthermore, the 80C deduction also includes investments such as PPF, ELSS, etc., said Neeraj Agarwala. Under previous income tax laws, if you owned two houses, you could only declare one as self-occupied and treat the second house as rented, even if it was vacant or occupied by the family. The rule has now changed to allow people to claim the benefits of 2 independent houses.