How to reduce home loan EMI even if banks don’t cut rates


Through consecutive cuts in its benchmark rates, the Reserve Bank of India (RBI) has prodded banks to keep interest rates down. However, the banks have only tweaked their lending rates and not reduced them in tandem. A 50 bps cut by RBI (two cuts of 25 bps each) was followed by most banks cutting the marginal cost of lending rate (MCLR) by only by 5-10 bps. Most commercial banks use the one-year MCLR for home loans.

There are several reasons why banks are not passing on the rate reduction to borrowers. “The bank’s cost of funds is not linked to repo rates. Banks use repo facility only when their liquidity situation is tight and therefore, reduction in repo rates does not bring down their cost of funds,” says D.N. Panigrahi, Professor, Institute of Management Technology, Nagpur.

Secondly, interest rates on current and savings accounts (CASA), which account for almost 30-40% of the deposits of large retail banks, have remained unchanged.

Thirdly, while RBI cut interest rates, there was no corresponding reduction in rates of competing products like small savings schemes. Finally, there is a mismatch between the loans and deposits of banks in India.

“Though the majority of loans are on floating rate, floating rate deposits are not popular in India. Since the interest rate reset on existing FDs happens only after a fixed tenure, cost of funds won’t come down for banks even if there is a cut in deposit rates now,” says Panigrahi.

Since banks are not in a mood to reduce lending rates, borrowers have to think of alternative strategies. While it is easy for new borrowers, who can shop around for the cheapest rates, things are tough for existing borrowers. However, the following measures can help.

First, check your loan rate and the interest rate regime it was decided in. Since MCLR was introduced only in April 2016, you may be stuck with the previous rate regimes like base rate, prime lending rate, etc. All the old rates are higher than market rates as they were fixed by banks in a non transparent manner. There are also no incentives for banks to cut these rates.

Next, find out what interest rates are being offered by competing banks. Consider shifting if the same is significantly lower than the existing one. However, don’t ignore the costs involved in these loan shifts. New banks usually charge a processing fee. The same could be a percentage of the outstanding loan amount, or a fixed fee or a combination of both. If you are still stuck in the older rate regimes like base rate or prime lending rate, there may be some prepayment penalty also to be paid. Consider all these costs and switch only if the savings are higher than the costs involved.

Banks slow to cut rates
Despite 50 bps cut by RBI; banks have only made small cuts in their MCLR.

Banks 03 Jan 2019 11 Apr 2019 Change
Punjab National Bank 8.50 8.45 -0.05
State Bank Of India 8.55 8.55 0.00
Union Bank Of India 8.70 8.60 -0.10
Central Bank Of India 8.60 8.60 0.00
Allahabad Bank 8.75 8.65 -0.10
I O B 8.75 8.65 -0.10
Indian Bank 8.75 8.65 -0.10
Syndicate Bank 8.75 8.65 -0.10
Bank Of India 8.70 8.65 -0.05
Canara Bank 8.70 8.65 -0.05
Bank Of Baroda 8.65 8.65 0.00

Compiled by: ETIG Database. Sorted on the basis of latest MCLR; One-year MCLR

To find out the total expected savings, you need to consider the outstanding loan amount and remaining loan tenure. “Consider the outstanding loan amount and also remaining loan tenure before taking any decision. As a thumb rule, it makes sense to shift if the outstanding loan amount or loan tenure is high, because the benefit of interest rate reduction will be significant over the years,” says Shilpa Wagh, a Sebi registered investment adviser.

You can understand this by taking a closer look at your loan statement. Most of your EMI payment will be going towards the interest component in the early stages of the loan repayment. However, it will be the opposite during the last few years—the interest component will be low and principal will be high.

What you can do to pay lower EMI

  • Threaten to shift; no bank will reduce rates till you do that.
  • Take help of relationship manager to negotiate lower rates.
  • Consider shifting if your current interest rate is at least 1% higher than rates offered by other banks.
  • Consider shifting if your remaining loan amount or loan tenure is long.
  • Shift if you are still stuck in earlier rate regimes like base rate or prime lending rates.
  • Consider all cost of shifting before taking a fi nal decision.

Before shifting to a new lender, negotiate with the existing lender. Most banks will start talking if you demand a loan statement, telling them you need it to shift the loan. “If you are a privilege customer, use that tag to put pressure on the bank. Approach the relationship manager to negotiate a rate reduction,” says Wagh. Stand firm. Most banks will only reduce rates only if they are convinced that you will shift.

Finally, don’t expect too much from your new lender. Future rate reduction will be slow there too. You can also blame the reset clause in the MCLR for this. Though the reset clause can vary from agreement to agreement, banks usually align the reset period of MCLR-based loans with that of its period. For instance, one year MCLR is usually reset after a year. Assume that you shift to a new lender and get a good rate of 8.8%. Even if the new bank cuts its one-year MCLR to 8.6% next month, your loan rate won’t come down till April 2020.