How Would Home Loan Interest Rates React to External Benchmarks?
In a development that would help bring transparency in the transmission of interest rates to the borrowers, the Reserve Bank of India has issued a directive asking banks to price new loans based on the external benchmarks from April 1, 2019. Banks are provided with the liberty to choose benchmarks from repo rate, 91day t-bill yield, 182-day t-bill yield and any other benchmarks of Financial Benchmark India Private Limited (FBIL). Plus, the spread over the chosen benchmark would be fixed over the course of a loan unless the customer credit profile goes down substantially or as agreed upon in the loan contract.
As of now, it’s been the internal benchmarks such as base rate and MCLR that are applied to floating rate loans. But, with the latest ruling mandating the loan pricing on external benchmarks, things could be in for a better change. Firstly, the home loan interest rates would be impacted the most as the said credit is often disbursed on a floating basis. But the question remains, how much the impact would be? The article has the answer for you to read on.
MCLR vs Repo Rate & T-Bills he Marginal Cost of Lending Rate (MCLR) pricing benchmark, which has been in force from April 1, 2016, has resulted in interest rate reduction from 9.50%-10% to 8.35%-8.75% after a year of its inception. But the credit to the rate reduction can’t be attributed wholly to MCLR as demonetization played a key role in rate reduction. Adding fuel to the rate reduction was the shrinking inflation. Now as the cycle has reversed with interest rates going up, the home loan cost is on the rise.
The repo rate, which stands at 6.50%, is the rate at which the RBI lends money to commercial banks for short-term purposes. Yes, the repo rate was hiked by 50 basis points from the start of 2018 till now. But even then, the gap between the interest rate charged by the lenders and the repo rate is too big. Particularly, with a home loan that spans for an average duration of 15-20 years, a bigger gap has meant a windfall of earnings for banks.
The RBI has constantly nudged banks to respond to the transmission of rates in accordance with the repo rate movement. But banks have cited reasons of increasing cost of funds as the reason for not cutting the rates in line with the repo rate cut made by the RBI before 2018. Now, if banks benchmark home loan interest rates on repo rate, the interest rate would be 6.50% plus spread as decided by the lenders. So, the rate can change every 2 months if the RBI decides to change the repo rate in its bi-monthly monetary policy review.
Both 91-day t-bill yield and 182-day t-bill yield are published on a daily basis. But the rate reset can be done in every 3 and 6 months for loans priced to 91-day t-bill yield and 182-day t-bill yield, respectively. Loans priced to the existing MCLR benchmark are reset mostly a year, with a few doing in 6 months time.
Home Loan EMI Calculator You also need to get a close look at the Home Loan EMI Calculator with the change in the benchmark. The calculator computes the installment based on the loan amount, tenure and interest rate. You can get to see the total interest liability, as well as the repayment summary year-on-year to choose the best loan terms.