Prepayment seems like a convenient option to get rid of your debt and interest. We all want to pay off our debts and free ourselves from long-term financial commitments. The RBI had recently raised the repo rate by 40 basis points, making lending more expensive and sparking speculation about the extent of the rate hike.
A higher interest rate cannot be ruled out since most variable rate loans are linked to the repo rate. Let us find out how you should handle home loan repayment and how it will impact you in the long run.
How increased interest affects loan repayment
When the interest rate on your existing loan increases, the lender gives you two options: either increase the EMI (option I in the illustration below) or increase the term (option II in the illustration below ). Using the illustration presented in the table below, let’s find out how your loan will be impacted in both cases.
Impact on the EMI of home loans after the rise in interest rates
In both cases, the borrower will pay more interest. However, the interest expense will be higher if you keep the same EMIs and increase the duration. Prepaying a loan can be an effective tool to reduce the impact of rising interest rates on your loan.
Prepayment of the loan when the interest rate increases
According to Bankbazaar, when there is an increase in the interest rate and you want to prepay loans to avoid additional interest during the term of the loan, the bank gives you different options to readjust your debt. In the first option (Case-I in the illustration below), the size of the EMI remains the same, while the repayment term changes, resulting in a smaller prepayment and a reduction in the number of NDE. In the second case (Case-II in the illustration), the size of the EMI changes, while the duration remains the same, but it requires a larger prepayment and gives you the advantage of a reduction in size of the IME.
Various prepayment options to save interest in case the mortgage interest rate rises
You should be ready with an appropriate repayment strategy. Several repayment options may be available from your lender that can help you save interest and avoid financial stress. So, do not hesitate to discuss with your lender and get a more personalized solution for yourself.