Real estate loan | Tax savings: smart use of the mortgage can provide the best tax savings at the lowest cost

For someone managing a home loan, this could be one of the best tax-saving tools in their kitty, especially if they’ve exhausted all other tax-saving options. In addition to tax savings, your home loan also allows you to create property that appreciates at the lowest interest rate. While many are aware of the low interest rates and tax savings prospects of home lending, very few know what the optimal loan amount and term should be that offers them the best of both worlds at the lowest cost. low and the fastest refund. There are many limitations to this avenue of tax saving, and it only offers the best savings when you use it wisely. Here’s an overview of how to maximize your tax savings with your home loan.

Why your home loan’s annual interest expense is the most critical

You can save income tax on home loan principal repayment amount up to Rs 1.5 lakh every year under Section 80C of the Income Tax Act 1961. PPF contributions, investments in ELSS, ULIP, tax advantages on the payment of tuition fees, life insurance premiums, etc.

On the other hand, the tax saving offered on the interest payment of a home loan under section 24b has no replacement and you can only use this tax saving when you pay interest on a home loan. Thus, the annual interest expense becomes a deciding factor as to how much tax you can save with your home loan. If you fall in the 30% tax bracket, you can save Rs 60,000 every year if your annual interest expense is Rs 2 lakh or more. The less interest you have to spend, the less tax you will save.

“Deduction to claim interest paid is available up to Rs 2 lakh within the aggregate limit of Section 24b in a financial year. In case of leased property, there is no limit on interest maximum that can be claimed.However, the loss that will be adjusted against other heads of income such as salary etc. cannot exceed Rs 2 lakh in any financial year.The remaining loss under the heading ‘House property income’ can be carried forward for 8 consecutive years to be adjusted against house property income only,” says Rishi Mehra, CEO of Wishfin.com, an online financial marketplace.

Amount and term of the loan that offers the greatest tax savings

If you were to simply consider tax savings, you should opt for a higher loan amount and longer term to give you the maximum possible tax savings. For example, if you take a home loan of Rs 30 lakh for 15 years at an interest rate of 7% per annum, the total tax you can save in 15 years is Rs 5.54 lakh, if you fall in the 30% tax bracket. On the other hand, if you have a home loan of Rs 50 lakh with a tenure of 30 years, the tax saving amounts to Rs 13.93 lakh in a similar situation.

However, the longer tenure also means that your total interest expense is much higher. Instead of paying a total interest of Rs 18.53 lakh on a home loan of Rs 30 lakh, you will end up paying a total interest of Rs 52.59 lakh on a loan of Rs 50 lakh. As a result, your interest expense increases much more than the increase in tax savings. The best way to strike a balance and find an optimal amount is to compare the net interest rate after taking into account the tax savings. The net interest rate is the effective rate of your home loan with which you would pay the same amount of interest that you would obtain by deducting the tax savings from the interest initially charged by the lender. At the current prevailing interest rate, a home loan close to Rs 30 lakh with a tenor of 15 years can yield one of the lowest net interest rates.

Why is this so?

Payment of excess interest in a larger loan amount

It’s a myth that if you take out a larger home loan, you’ll save more taxes. The interest portion of a monthly home loan payment decreases each month as the principal repayment increases accordingly. Thus, the annual interest payment remains higher in the first years while it decreases sharply in the second half of the mandate towards the end. However, the maximum tax saving you can make on the interest payment under Section 24b is limited to Rs 2 lakh.

So any amount of interest you pay beyond Rs 2 lakh per annum does not help you save tax. During the first half of repayment, if there are many years in which you pay interest above Rs 2 lakh per annum, it remains unproductive and will not help in saving taxes.

A high loan amount with a longer term comes with the double disadvantage of higher interest expense without any tax savings and a longer period of outstanding debt. To optimize the best combination of lower interest expense and higher tax savings, you can use partial prepayments to bring your loan outstanding to a level where the annual interest is close to the annual limit. of Rs 2 lakh. This is the optimal level that will help you capture the best interest savings and keep your interest expense at a level where it enjoys a tax deduction on the full amount.

Few people want a long term just to save tax

Only a few are comfortable with debt outstanding for longer periods simply to save taxes. Borrowers often look for ways to use their home loan in a way that offers a combination of better tax savings and timely debt payment.

In this scenario, keeping the term short will help you reduce interest charges and pay off your loan quickly. However, once your annual interest expense is significantly lower than Rs 2 lakh, you will have unused tax savings. In such a situation, if you need to upgrade your house to make it bigger or if you are planning to buy a second house, you can again use the tax saving opportunity offered on home loans. This will ensure that you always keep debt at lower levels and use the tax savings for longer periods at an optimal level.

5 Tips for Home Borrowers to Reduce EMIs

Paying high EMIs?

A home loan is probably the biggest responsibility one takes on in one’s lifetime. It is also the loan with the longest duration. For this reason, most home loan borrowers are always looking for ways to lower their monthly equivalent payments (EMI). Here are five ways existing home loan borrowers can do it.

Change your interest rate regime

After the start of the repayment, many borrowers forget to check the evolution of the composition of their EMI. Over the past decade, there have been many changes in the way banks charge interest on loans, starting with the move from the benchmark prime rate (BPLR) to the prime rate, then to the base rate. lending based on the marginal cost of funds (MCLR). ), which was later replaced by External Benchmark Rate (EBR) from October 1, 2019.

Depending on when your loan is disbursed, your loan will continue under the same old scheme if you have not switched to a new scheme. You may be paying a much higher interest rate under the old regimes like BPLR, Prime Rate or MCLR compared to an EBR-linked loan. If you switch your loan to an EBR-linked loan, chances are your interest rate will go down and, therefore, your EMI as well. You can go to your existing bank for this change, and they may allow you to do so after charging a nominal change fee.

Transfer your loan to a new lender

Although many banks and housing finance companies offer loans, they can differ significantly in the interest rate they charge. So you may be paying a higher EMI simply because your loan is not from a competitive lender. If you haven’t compared your interest rate, you should do it now and check if your lender charges a higher rate even under EBR. Since most home loans are variable rate and there is no penalty for transferring your loan, the only cost involved will be the fees charged by the new lender. If you get a competitive rate, a balance transfer can help lower your EMI.

Read also : These 5 Home Loan Tips Can Help New Borrowers Reduce the Burden of IMEs

Switch from fixed rate to variable rate

Lenders typically charge at least 1-2% higher rate on fixed rate loans. For example, 5 years ago, while variable rate loan was available at 9% interest, fixed rate loans come with interest rates around 10.5%. And if the borrower opted for a fixed rate loan, he would be at a disadvantage in the current situation. While interest rates on the variable rate have come down to around 7%, fixed rate borrowers would still pay a higher interest rate of 10.5%.

With interest rates currently at historic lows, it may make sense for a fixed rate borrower to switch to a variable rate loan either with the same lender or with a different one, despite the penalty of foreclosing. a fixed rate loan.

Partial payment and EMI adjustment

Borrowers of variable rate home loans have great flexibility to make a partial prepayment without any penalty that they can use to reduce their EMIs. Any partial prepayment has a significant impact on the term of your loan, as that amount is fully used to reduce the outstanding principal amount. The duration of the loan therefore decreases and the loan is repaid more quickly. However, if you do not wish to reduce tenure, you can ask your lender to reduce your EMI after a substantial prepayment.

Boost your tax savings with a solidarity mortgage

If both spouses pay a high amount of income tax, they can take out a larger home loan and separately benefit from the principal and interest deduction on the home loan. As a result, the couple can get a full deduction of Rs 3 lakh under Section 80C (Rs 1.5 lakh plus Rs 1.5 lakh) on the principal repayment and Rs 4 lakh (Rs 2 lakh plus Rs 2 lakh) for payment of interest under Section 24b. . This means that a larger home loan of Rs 60 lakh with a shorter tenor of 15 years could give them the optimal combination of greater tax savings and faster loan repayment. “All applicants must also be co-owners of the property in order to qualify for this deduction,” says Mehra.

Additional deduction for the purchase of an affordable house

If you have purchased the house under the category of affordable housing, an additional deduction of Rs 1.5 lakh is available under Section 80 EEE. “The deadline for availing this additional deduction has been extended to March 31, 2022. So all home loan related deductions put together can help you get a maximum deduction of Rs 5 lakh (Rs 2 lakh u/s 24, Rs 1.5 lakh u/s 80C and Rs 1.5 lakh u/s 80EEA) if it meets the specified conditions,” says Mehra.