Should you transfer your home loan?

The new year has begun on a good note for home loan borrowers, as banks started reducing marginal cost of funds-based lending rate (MCLR). This is the new benchmark lending rate, which came into effect on 1 April 2016.

MCLR has been reduced sharply by some banks: the cuts range between 15 and 90 basis points. One basis point is one-hundredth of a percentage point.

For instance, ICICI Bank Ltd reduced its 1-year MCLR by 70 basis points to 8.20%. However, it has increased the spread from 20-25 basis points to 45-50 basis points, effectively reducing the transmission of the MCLR rate cut to borrowers to a certain extent.

“Every month, banks revisit their MCLR and make changes depending on the cost of funds and other factors. This time, the cut has been steep because the CRR (cash reserve ratio) ease was factored in,” said Dipak Gupta, joint managing director, Kotak Mahindra Bank Ltd. The effective cut on home loans is 15-50 basis points, due to the increase in spread on home loans. Still, the cut is big enough to take a relook at your home loan interest rate

Individuals who are on a base rate or on an old MCLR, may find that their EMIs are high in the current situation. If you plan to switch your loan, look at the transfer costs. “If you are looking to switch the loan to a lower floating interest rate within your bank, you will have to pay a switchover fee of 0.5-1% on the outstanding amount. You can also negotiate the cost with your bank,” said Naveen Kukreja, co-founder and chief executive officer, Paisabazaar.com

For instance, State Bank of India (SBI) charges a switch-over fee of 0.5% plus applicable service tax of the outstanding loan.”The fee is minimal, considering there is a lot of work such as redoing the documentation. We are a commercial organisation and at the end of the day we have to charge a fee,” said Arundhati Bhattacharya, chairman, SBI. If you shift your home loan to another bank, you have to pay processing fee and other administrative charges. For instance, SBI charges a processing fee of 0.35% of the loan amount, capped at Rs10,000, with a minimum of Rs2,000, plus applicable service tax.

“Banks don’t charge a switch-over fee if you want to transfer your loan to another bank,” said Kukreja. The administrative cost goes towards heads such as advocate’s fee, valuer’s fee for valuation report, stamp duty payable for loan agreement and mortgage and property insurance premium.

All these charges mean you will have to do the math before switching.

Look at your outstanding principal loan amount, the remaining tenor of the loan and the cost of switching. If you have a smaller outstanding loan amount and a shorter tenor, it doesn’t make sense to switch your loan, because the benefit may not be significant (see table).

Go for a balance transfer only if the net benefit is substantial. Also, the switching cost from a floating rate to a lower floating rate loan is lesser than switching from a fixed rate loan to floating rate loan.