I took a home loan last year. I have made some bulk payment and the outstanding loan is now around Rs24.87 lakh. I have made a fixed deposit (FD) of Rs15 lakh for 555 days with the same bank. My current equated monthly instalment (EMI) is Rs41,000 but since I have paid part of the amount, the EMI may come down to Rs33,334 if I restructure my loan. My status as of now is non-resident Indian though I have returned to India and am searching for a job. Shall I pay Rs14.87 lakh by breaking the FD to bring down my EMI as well as the interest and liability. How should I use my FD to offset the principal amount and partially reduce the EMI?
It is not very clear whether the property is self-occupied, leased out or under construction. The final decision can be different for all three scenarios, so let’s discuss all the options. We need to understand the rationale why these three options will deliver different results. The cost of servicing a loan is not only the interest which you pay but the effective rate of interest which is applicable net of tax benefits. That becomes your real cost.
In the first scenario of a self-occupied property, the current Income-tax Act allows a deduction on borrowed capital if capital is borrowed for the purpose of purchase or construction. The limit of deduction is limited to Rs1.50 lakh subject to a few conditions. However, the interest outflow for you would be much higher. Hence the real cost of loan will not come down substantially from your existing rate of interest. And with rising interest costs, you can consider paying off your loan and bring down your EMI.
For the second scenario of leased out property, the deduction on borrowed capital is available for the complete amount of interest. This is where you get the real benefit. The real cost of loan comes down by as much as 30%, assuming the highest rate of taxation. However, the benefit may vary depending on your marginal rate of tax. In this case, it may be prudent to continue the loan. But a word of caution, keep an eye on the interest rate. It will be wise to continue the loan only till the time your earning rate on deposits is higher than the cost of the loan.
Lastly, if the property is construction-linked, the decision gets tricky. Not because of the real benefit in terms of money as we have discussed earlier. If that is the case, then paying off the loan will be a better option as you will be on a simple rate of interest and EMI will start only after the complete loan is disbursed. The challenge lies in whether you will be willing to pay the cost of property upfront in times when real estate is going through a turbulent phase.
Hence, take your call and decide where you feel more comfortable.
Surya Bhatia, certified financial planner and principal consultant, Asset Managers
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