For home buyers looking for loans, the recent move by the RBI keeping the repo rate unchanged (at 4 per cent) would have come as a relief. This is thanks to the RBI mandating banks to link retail loans (home loan, personal loan, etc) to external benchmarks such as the repo rate.
What is it?
When banks link the interest rate on their loans to the repo rate, this is termed as the repo linked lending rate (RLLR). When (floating rate) home loans are pegged to RLLR, they are known as repo linked home loans. As per the RBI’s circular in October last year, banks are required to link their retail loans to external benchmark rates. This benchmark can be the repo rate, which most banks have adopted, or government of India’s three-month or six-month Treasury bill yield published by Financial Benchmarks India Pvt Ltd. The repo rate is the interest rate at which the RBI lends money to commercial banks against government securities. It is subject to review once in two months and banks are required to reset their (lending) rates at least once in three months. This makes the transmission of rate changes quicker, for borrowers/depositors.
Why is it important?
RLLR based home loans were ushered in by the RBI to ensure that loan-takers have access to a transparent benchmark against which to gauge their loan costs. Quicker transmission of rate cuts was expected to play a significant role in reviving the residential real estate market in the country. With reset period of three months, most banks’ home loan rates have fallen from 8.05-12 per cent in January this year to 6.75-9 per cent in December.
The repo linked home loan rate is not only available for new borrowers but also for existing borrowers. That is, if you as a borrower are under MCLR (marginal cost of funds based lending rate), you have the choice to shift to RLLR. The RBI has instructed banks to allow borrowers to transition without any additional spread or margin. However, you may be required to pay administrative charges as per the bank’s policy.
While home loan linked to repo rate seems a better option for borrowers, do note that your final home loan rate will be at RBI’s repo rate plus a spread or margin charged by the bank. That is, a bank may have an RLLR of 4 per cent but the actual home loan rate could be around 7.2 per cent, of which 3.2 per cent could be spread. Banks are free to fix this spread of margin at differing levels for individual borrowers or a certain class of them. For instance, ICICI Bank charges for home loans up to ₹35 lakh (salaried), repo rate (4 per cent) plus 2.9 per cent spread, which is around 6.9 per cent; and the maximum rate is 7.6 per cent.
Why should I care?
With the RBI retaining the repo rate at 4 per cent, it has a positive impact on homebuyers who are looking to avail home loans at RLLR as lenders are likely to retain the rates until the next rate change. Before the adoption of RLLR, there was a delay in passing on the benefit of repo rate cut to home buyers.
Though the repo linked home loan leads to immediate transmission of repo rate tweaks to borrowers, it comes with downside too. If the interest rates are heading upwards, then your outgo of EMI may work out to be higher. And since some of the banks have resets once in three months, your interest rates will be subject to volatility. For instance, if RBI decides to increase repo rate by 15 basis points, which is 4.15 per cent, then your home loan rate in the above instance increases to 7.35 per cent (4.15 + 3.2).
Further, it should be noted that effective home loan rates also depend on various factors such as loan amount, loan-to-value of the loan, and the risk of the borrower. Based on these factors, banks could charge special lending rates which could be higher or lower. The risk premium could vary depending on how risky you are as a borrower. For instance, PNB for home loans over ₹30 lakh and up to ₹75 lakh, charges 6.8 per cent plus 0.60 per cent if the credit score is less than 700. The effective housing loan interest rate works out to 7.4 per cent.
Though transmission is faster, banks still have the upper hand on what you’ll eventually pay.
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