Should You Pre-Pay Your Home Loan? Experts Weigh In On RBI Rate Cut
According to Nikhil Kothari, director of Etica Wealth, the answer is based on the individual's tax regime and risk appetite.
The recent repo rate cut by the Reserve Bank of India has brought a sigh of relief to many borrowers. This shift in the financial landscape raises a question: whether one should still consider pre-paying their home loan and if there are more strategic uses for those funds.
According to Nikhil Kothari, director of Etica Wealth, the answer is based on the individual's tax regime and risk appetite.
"There are two types of loans, fixed and floating rate," explains Kothari. "Benchmark-linked rates are essentially linked with the repo rate, so lending rates also come down with the repo rate," he said. This direct correlation means that floating rate borrowers will likely see their EMIs reduce sooner, while those with loans linked to the bank's marginal lending rates might experience a delay of about a month before they see the benefit.
Old Tax Regime
For those under the old tax regime, Kothari's advice is clear, "It does not make sense to pre-pay the home loan as there are benefits." He elaborates on the significant tax advantages associated with home loans under this regime, including deductions on both principal and interest payments.
Even if a property is rented out while a home loan is active, the income from rent and the interest paid can be offset, further boosting the viability of holding onto the loan.
"Under the old tax regime, it makes more sense to not pre-pay the loan as it's a good loan," he suggests, as with a moderate risk appetite, individuals can comfortably make returns exceeding the home loan interest rate.
New Tax Regime
For those who have opted for the new tax regime, while the direct tax benefits on home loans are reduced, Kothari still advocates against pre-payment of the loan. He suggests utilising the funds, that one might otherwise use for pre-payment, in other instruments.
"This means that the loan continues to be paid out as scheduled, also fetching benefits. Investing in a hybrid fund, can yield over 7.5 to 8% return," he said.
This strategy leverages the lower interest rates on loans, allowing one's capital to potentially grow at a higher rate. The rates are low and might come down lower, he adds, implying that the opportunity for investment returns could even increase.
While the ultimate decision of whether to pre-pay and invest elsewhere or not, depends on one's financial situation, tax planning, and willingness to take on risk. The allure of being debt-free is strong but one can choose to strategically leverage low interest rates and tax benefits.
