LOOKING FOR A HOUSING LOAN AMID DIPPING INTEREST RATES? LET’S DISCUSS WHAT YOU SHOULD AND SHOULD NOT OPT TO  

 -BaibhavKharel

From nomads’ lives to caves, to modern 21st-century modern urban lifestyle, a house has become not only a safe place to live but also a matter of pride and investment.  If you ask anyone about the basic needs, they will probably say, food, clothes, and shelter. Food and clothes are considered to be petty expenses whereas a house not only involves fat cash but also is a sign of accomplishment.  Everyone has the desire to have their own house and also consider it to be their best possession. Maslow’s hierarchy of needs has also stressed the basic needs and considered it to be the priority. Is it better to buy a house or rent one? is a subject matter for another discussion. Currently, as the financial institutions are offering great interest rates on Housing Loans, we will discuss buying a house through a loan from financial institutions and the following issues will be addressed.

Issues:

1. What are the documents required for availing a Housing Loan from a financial institution?
2. What will be the most suitable tenure of loans for the borrowers?
3. Is it beneficial/savings in interest for the borrowers if they prepay loans whenever they have excess funds?
4. Is it the right time to avail a housing loan?

1. What are the documents required for availing a Housing Loan?

• Person related:

• Copies of citizenships of people involved along with their three-generation details (borrowers, the property owner(s), guarantors, spouses, people whose income has been considered usually made co-borrowers, major legal heirs in the family)
• Recent passport size photographs of the people involved as mentioned above.
• Relationship certificate

• Property related:

• Copy of land ownership certificate (LOC)
• Copy of land and/building tax receipt
• Four boundaries certificate (Original)
• Trace Nakshaand Blueprint (Computer print is issued at present) (Original) (Bank has to issue a letter to Napi for the map print. The prospective borrowers will pay the cost and the bank staff will collect the computer print)
• Building’s Blueprint, Building Construction permission, and Building construction completion certificate in case of the already built building)

• Income-related:

• Income certificate from the respective employers certifying the income, rent agreements, or Audited Financial statements as applicable.
• Bank statement to support the income.
• Tax paid receipts

Note: Required documents for loans may slightly differ among financial institutions

2. What will be the most suitable tenure of loans for the borrowers?

Let’s consider an example:

                    Table 1.1 Various Parameters regarding the Housing Loan

We calculated the proposed EMI for Home Loan of Rs.50.00 lacs at 9.99% per annum from year 1 to 50 which has also been presented in Annexure 1 and the EMI from the calculation has been plotted in the graph below:

Figure 1.1 Proposed EMI over Tenure of Loan

From the Fig1.1, we see that from year 1 to year 9, the proposed EMI of loan has reduced drastically with the increase in tenure of loan and decreased slightly up to 15 -17 years. However, after that, the proposed EMI has decreased insignificantly regardless of the increase in the tenure of the loan. This shows that after a certain duration, there is no much benefit to the customer by increasing the tenure of the loan because the difference in proposed EMI to be paid is very low. It would be wise to stick to the lower tenure of loans and pay the total loan as soon as possible.  

There are two things that one should also consider: (i) one can also pay low EMI by opting for a longer tenure of loan and later prepaying the loan as soon as possible. (ii) there is also restriction from the NRB regarding how much EMI can a bank deduct like 50% of gross income and some restrictions from the bank like uncommitted monthly income should be a certain time of EMI etc.

Mr. James has to pay more than the principal when he borrows money from the bank. But how much more? Let’s find out by learning more from our example discussed above:

From the pie charts shown in Annexure 2, we can see that after 15 years’ tenure of the loan, he pays more than what he borrows. What is ridiculous is when he borrows money for 50 years, he pays 402.98% i.e. more than 4 times in interest only on what he has borrowed.  So, let’s be informed and make our decisions likewise.

Conclusion: The most suitable tenure of the loan is 10-15 years. However, when the quantum of loan is decreased i.e. Rs.10.00 lacs, the suitable tenure of the loan will shift towards the left and if the loan is increased to Rs.70.00 lacs, the suitable tenure of the loan will shift towards the right.

3. Will it be any beneficial/savings in interest if Mr. Hari Bahadur prepays loan whenever he has excess funds?

We will assume that Mr. Hari Bahadur has opted for a Housing loan of Rs.50.00 lacs for 15 years @9.99%. In doing so, his EMI is Rs. 53,699.67. Over 15 years, he pays Rs.96.66 lacs to repay his loan completely out of which Rs.50.00 lacs is principal and Rs.46.66 lacs is his interest. The ratio of his interest paid by him to the principal is 93.32%. He pays as per the following plan:

 Table 1.2 Principal and interest payments at 15 years

 Figure 1.2 Principal and interest payments at 15 years

Now, we will also assume that he receives Rs. 100,000.00 additional incomes (from a bonus, agriculture, an income of spouse, rent, etc.) per year and decides to put the money towards the reduction of Housing Loan. We will now see how much saving he is making on payment of interest by doing so.

  Table 1.3 Principal and interest payments with prepayments at 15 years

Figure 1.3 Principal and interest payments with prepayments at 15 years

We can see from the above calculations that when James contributed additional Rs.1.00 lacs per year towards the reduction of the housing loan, his EMI has remained the same however he only paid Rs.34.11 lacs as interest, and the duration of the loan was also reduced from 180 months to 134 months. By making an additional contribution, he was able to save Rs.12.55 lacs in interest. (i.e. 26.90% of total interest paid in loans without prepayment). He will pay Rs.84.11 lacs in total with prepayments in effect.

Conclusion: It is always better to prepay the term loans whenever one has excess funds. 

4. Is it the right time to avail a housing loan?

COVID 19 has mostly impacted service sectors and also some of the industries. Due to this people have lost their jobs and income. This has resulted in a decrease in the purchasing capacity of the people. Due to this, people have started saving money and buying only the essentials. People have abandoned all the purchases like house, car, etc. As there is no demand for loans in the bank, the banks have also reduced interest rates in most loans. Are these interest rates cut permanent? The answer is no. Once the pandemic is over, the economy will bounce back, the demand for loans will increase and the interest rates on loans will certainly go up.

As the purchasing capacity of people has decreased, the demand for real estate has also decreased. There are more sellers of properties in the market than buyers. This has resulted in a decrease in the market value of the properties. Therefore, before buying a house, Mr. James should consider the following factors:

• Will COVID 19 pandemic be contained very soon or will it become worse? If it became worse, the value of properties will further decline.
• The housing loan is generally for more than ten years. Will his job and income remain intact for the same period? If his job is gone, how is he planning to repay the EMIs?
• Though the bank’s interest has decreased now, it will increase once the economy gets momentum and there is a high demand for loans. If the interest rate rises significantly, will he be able to continue to pay the EMIs of his Housing loan?
• The bank itself will not finance employees of badly hit sectors such as travel and tourism, hotels, etc.

Conclusion: If you are sure about your job and income and the bank is also convinced regarding the same, you may buy a post-earthquake already constructed building if you get really good deals in the properties (around 65%-80% of post-Corona market price). It will be nice if the building also generates some income.  However, if you are planning to get a house constructed through a bank loan you will face many difficulties. Though the prices of the raw materials of the construction have gone down and if you have already got your building designs passed from the local authorities, building construction permissions ready, it is very difficult for you to get labor force for the construction leading to delays and increase in the cost of construction.

(The author is post graduate in finance and working in an ‘A’ class financial institution from the last twelve years. The views expressed in the article are his own. The author may be contacted at baibhav.kharel@gmail.com)