Five factors to consider before prepaying home loan
Should you prepay your home loan or invest the funds? Consider factors like tax deductions, the need for immediate funds, return potentials of alternative investments, and other outstanding loans
When a lender sanctions you a home loan, your eligibility is decided based on your current income. In majority of the cases, the home loan is taken during the initial stage of one’s career where the income increases over the years and the borrower can accumulate enough funds during the tenure of the home loan. In such a situation he faces the dilemma of whether to prepay the home loan by utilising the surplus funds or to invest the funds somewhere and let the home loan run its course. Moreover, as the interest rates have also gone up significantly of late, borrowers are considering this decision seriously.
It is not an easy question to answer as the answer would depend on various factors. Let us attempt to understand some of the important factors that you should consider before you make the decision either way.
Tax considerations
Tax impact significantly impacts all the investment decisions including taking and repaying the home loan, so let us consider this aspect first. The principal repayment of home loans is eligible for deduction under Section 80C up to ₹1.50 lakh along with other eligible items. You are also entitled to claim a deduction under Section 24(b) in for interest paid on the home loan. The amount of deduction available would vary depending on whether the property is self-occupied or let out. If you opt for a new tax regime, no deduction is available under Section 80C in respect of repayment of home loan in all cases and for interest on money borrowed for self-occupied house property. In the case of a let-out property, the deduction would get restricted to the taxable amount of rent received under the new tax regime as you are not allowed to set off or carry forward any loss under the head of income “Income from House property”.
So in case any part prepayment does not impact your tax deduction, you may consider repaying part of the home loan if you wish to.
Money needed shortly
While repaying your home loan, you need to take into account the need for funds in the immediate future for known reasons as well as for any emergency. Your decision whether to prepay at all and how much to prepay should be based on both these considerations. This is specifically important looking at the fact that home loans are available at relatively cheaper interest rates as compared to other loans specifically personal loans. Once you have repaid the home loan and need money later on you may have to borrow at a higher rate of interest.
Returns expected from alternative investment avenues available
While evaluating the option of prepayment of the home loan, please take into account the return potentials of the alternative products available for deployment of your surplus funds. In case the returns from such product are expected to be higher in the long run it does not make sense for you to prepay the home loan. One such alternative avenue available for investment is bonds being issued by NBFCs. The other alternative, depending on your risk profile, may be investing the money in equity through equity-oriented schemes of mutual funds for a minimum of 7-10 years as the returns on equity funds have been generally higher than home loan rates for such long-tenure. This makes sense as the home loan tenures are generally longer than 10 years in most of the cases. You need to compare the post-tax rates/returns in both the cases, to arrive at comparable numbers.
Any existing loan or credit outstanding
In case you have any other loan outstanding where the rate of interest charged is higher, it is no no-brainer to prepay all those loans/credits before you even think of repaying your home loan.
Psychological reasons
People of the old school of thought do not want to have any debt on their heads and specifically on their place of residence even if financially it does not make sense for them. Believe me, this psychological reason contributes to a significant number of home loan prepayment cases in India based on my interaction with many home loan borrowers. So the decision is yours whether you belong to the old school of thought or the new school of thought.
From the above discussion, it becomes clear that you need to consider various factors while arriving at the right choice for the prepayment of your home loan.
Balwant Jain is a tax and investment expert and can be reached on jainbalwant@gmail.com and @jainbalwant on his Twitter handle.
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First Published:21 Nov 2023, 12:53 PM IST
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