By Mr. Adhil Shetty,
BankBazaar.com
Opting for a fixed rate
loan may sound like the sensible thing to do, if only to insulate oneself from
market fluctuations.
With news about banks
cutting interest rates regularly hitting the headlines recently, home loan
borrowers are in a dilemma - whether to switch to a fixed rate loan at the
current rates or to continue to float at market rates.
A fixed rate naturally
affords a sense of security and certainty, especially when it comes to
long-term commitments such as home loans. Yet, it comes at a cost, if rates dip further, you would have locked
yourself on to a higher rate.
Rate fluctuations in the
past..!
Opting for a fixed rate
loan may sound like the sensible thing to do, if only to insulate oneself from
market fluctuations, except that there is an element of uncertainty with
respect to the direction lending rates may take moving forward.
From the 7% to 8% range
in the mid-2000s, rates had shot up to 12% to 13% in 2009-10, with a trend
reversal now emerging in the current year. In such a scenario, deciding whether
to opt for a fixed rate loan is not an easy decision.
Moreover, a home loan is
a long-term commitment, so even if expert predictions paint the scenario a year
or two ahead, this may have little bearing on your overall loan interest,
considering you have 10 to 20 years of repayment ahead of you.
Here are a few
considerations to keep in mind while taking that all-important decision.
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| Adhil Shetty, BankBazaar.com |
When to go for a fixed
rate loan
You are comfortable with
your current EMI..!
If your current EMI is
less than 35% to 40% of your monthly income, you will likely find repaying your
loan not a hassle.
You can consider fixing
your rate at this level to avoid future possible hikes, which may disturb your
finances.
You want certainty in
the initial period of the loan: Given your other financial commitments, if you
can not afford any further rate hikes for the next few years at any cost, then
a part-fixed-part-floating-rate loan offering a fixed rate for the first 3 to 5
years and a floating rate thereafter is for you.
You expect interest rate
to increase shortly:
If you perceive market conditions are such that rates are
only going to increase however unlikely that may be currently you should choose
a fixed rate.
You do not expect to
prepay the loan..!
If you are not looking to prepay the home loan
and service it for a long tenure, it is always good to choose a fixed rate when
the rates come down.
This may help you to
reduce the interest outflow for the long term if you are getting a good rate
under a fixed loan.
When not to go for a
fixed rate loan..!
You are planning to
prepay the loan:
If you plan to make part
pre-payments every year or close the loan within 5 to 7 years, you can continue
with a floating rate. This is because, the earlier you close the loan, the
lesser is the interest outflow.
Consequently, rate
fluctuations have a lesser impact on your loan on a whole.
You can manage rate
fluctuations..!
If you can manage your EMIs despite the
fluctuating rates, you need not opt for a fixed rate. This applies when your
EMI is less than 35% of your salary.
Since fixed rates are
often higher than prevalent floating rates, you may find it difficult to manage
a fixed rate loan in such cases.
Your loan is likely to
end within 10 years..!
If your loan is likely to end within 10 years,
or if you have opted for a short duration loan, you need not opt for a fixed
rate. For short duration loans, the interest outflow is lesser.
Also, as your loan
advances in tenure, your EMI will increasingly feed the principal component,
diminishing the effect of fluctuating rates on the interest component.
You expect the rates to
dip..!
If you expect interest rates to come down
further in the current scenario, it is better to wait and watch with a floating
rate. You may get a better fixed rate deal later when banks turn competitive in
a downward trend.
Keep in mind that all
fixed loans are not fixed and usually there is a fee for switching from
floating to fixed rates.
Also, it may be a good
decision to switch to fixed if the rates are in single digits or if the
difference between floating and fixed rates is 1% or more. In short, there is
no definitive answer to the fixed rate riddle. A lot depends on your preference
and financial standing.
Hi-low effect..!
* * Opting for a fixed
rate loan may sound like the sensible thing to do, except that there is an
element of uncertainty over the direction lending rates may take moving forward
* * From the 7% to 8%
range in the mid-2000s, rates had shot up to 12% to 13% in 2009-10, with a
trend reversal now emerging in the current year
* * Moreover, a housing
loan is a long-term commitment, so even if expert predictions paint the
scenario a year or 2 ahead, this may have little bearing on your overall loan
interest
* * It may be a good
decision to switch to fixed if the rates are in single digits or if the
difference between floating and fixed rates is 1% or more
* * All fixed loans are
not fixed and usually there is a fee for switching from floating to fixed rates
* Also, a lot depends on
the borrowers’ preference and financial standing while opting for a fixed rate
loan
About the author..
The writer Mr. Adhil
Shetty is CEO, BankBazaar.com
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