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Home loan overdraft (OD) is a form of home loan that combines the overdraft facility with a standard home loan. The facility can make servicing a home loan a lot more convenient for borrowers by allowing them to make an unlimited number of prepayments and giving them access to a more extensive line of credit for emergencies. Moreover, the facility can help borrowers reduce their interest outgo by lowering the outstanding principal in a flexible manner.

How it works

In a home loan overdraft facility, a lender opens a savings or current account that is linked to the home loan account. This account is designated to accommodate the deposits made by you and the subsequent withdrawals requested from your end.

Under the facility, any surplus you deposit is considered by lenders as a prepayment of the principal amount. Similar to the regular home loan, the interest on the overdraft loan is also calculated based on the outstanding principal of the loan amount.

 

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However, the interest is calculated on a daily basis and varies based on the outstanding principal each day. Depositing any additional funds in the overdraft account brings down the interest you end up paying and the tenor of your loan. However, the EMI remains unchanged.

Besides prepayment, the overdraft scheme provides liquidity from the account whenever there is a financial requirement. The loan amount and tenure are adjusted accordingly. So,this scheme doubles up as a prepayment option and a liquidity avenue. However, before opting for this option, keep in mind that any increase in the outstanding home loan balance can increase the interest outflow, and there may be a cap on how much you can borrow from the overdraft account.

Adhil Shetty, CEO, BankBazaar.com, said that when you decide to go for a home loan overdraft scheme, your lender will link your home loan account to your current or savings account. The equated monthly installment (EMI) you pay every month to service your home loan goes into this home loan account. You prepay your house loan whenever you deposit additional funds above your regular EMI. This prepayment reduces your outstanding loan figure and lowers the applicable interest rate. “So basically, if you have any amount lying in your savings bank account, you can transfer it to your home loan account so that you prepay your loan faster," said Shetty.

You can also withdraw money from the overdraft account anytime you want, as it is linked to your current or savings account. You can also transfer money from this account to your other savings account, if required. The overdraft account acts as an approved loan from the lender. Each time you withdraw from the overdraft account, the repayment tenure gets realigned to the outstanding principal amount. The interest levied on the withdrawal is the same as that for the overdraft home loan.

Shetty said, “The process of withdrawing the money is the same as depositing extra funds to your home loan account. Keep in mind that withdrawals may increase the outstanding loan amount, which you would be required to repay along with interest."

Raj Khosla, founder and MD MyMoneyMantra.com, said, “The rate of interest charged on the advances disbursed via home loan overdraft facility is a notch higher than the rate of interest levied on a regular home loan. Typically, the rate differential could be between 20-50 basis points."

Limitations: It may be an expensive option for you as the interest rates are usually higher than your regular home loan interest rates. Ratan Chaudhary, head, home loans Paisabazaar.com, said, “As the home loan saver option offers higher liquidity and flexibility than regular home loans, banks and housing finance companies usually charge slightly higher interest rates for this facility."

Shetty said, “The home loan overdraft facility does not provide the tax deduction benefit under section 80C for prepayment of home loan principal. This is because the extra funds deposited into the home loan account with the overdraft facility are not considered principal repayment from a taxation perspective."

Who should opt for it?

Experts suggest a home loan overdraft can be a good option for a businessman with seasonal receivables and payables. Having an overdraft account handy can help you when money is needed immediately and when you have short-term surplus liquidity. Khosla says, “Salaried individuals with a higher income and an expectancy of sizable percentage increases in their respective annual income can also avail an overdraft on a home loan, thereby setting up an opportunity fund for themselves. Besides, they can also prepay the amount before the completion of tenure and can save a sizable portion of interest charges."

Mint Take

A home loan overdraft works for those who want flexibility and are willing to accept higher interest rates and loss of tax benefit. If you plan to opt for this scheme, you should first do a cost-benefit analysis to understand its implications on your actual savings.

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