I am 35 years old and married. I own a flat in Pune for which I have taken a 20-year loan of Rs lakh. The equated monthly instalment (EMI) for the same is Rs 19,301. I have some lump sum cash with me now and I plan to to prepay a certain portion of the loan? The loan EMI started in May 2008. Is it advisable?
You have not mentioned whether this flat is self-occupied or has been leased out. Assuming that the same is self-occupied, then as per the prevailing Income-tax Act you are allowed to claim an interest benefit of Rs 1.50 lakh per annum from your taxable income. And as per the numbers provided by you, your loan is running at 10% interest rate and based on the same you are paying an interest of around Rs 1.90 lakh per annum. Now if you include the tax incentive, then your actual interest rate comes down to 7% (assuming your marginal rate of tax is 30%). This is the true check point. Till you are paying an interest of Rs 1.50 lakh, your investment will be able to beat the interest rate on loan. However, this will not hold true for interest paid beyond this prescribed limit. You need to think what happens beyond that. One simple way is to pay the excess amount of loan (to make the interest payout as close to Rs 1.50 lakh as possible) and enjoy the maximum benefit. But this leads to one more concern. If you make your interest payouts very close to the deduction available under the Act, then what will happen in the next year? The interest will come down below the exemption limit and you will not be able to take the complete benefit of interest on housing loan in subsequent years.
Also be careful as the interest rates may not have peaked out. There could be a few more increases in store. And if that is the case, you may be in a better position if you prepay a part of the loan but limited to the extent where the benefit of interest is not available.
Also, make sure that there are no prepayment charges on the amount which you prepay. Otherwise the very purpose gets defeated. And double check on your cash flows. Housing loan still remains one of the cheapest loans available in the market. In case you intend to take another loan, a car or any other asset or need, you may consider continuing the housing loan and using the cash to buy those assets. It may turn out to be more financially prudent call.
Suraj Bhatia is a certified financial planner and principal consultant, Asset Managers
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