Prepaying the burden?

Intro - It is advisable to wait if you are planning to prepay your home loan says Kishore Amati When rising interest rates are bloating your EMIs, a good way to reduce your home loan burden is to prepay it. However, most borrowers are skeptical of taking this route as prepayment charges can be hefty at 2-3% of the prepaid amount. So, when the RBI announced last week that banks should not levy such penalty if floating rate loans are prepaid, it brought cheer to thousands of borrowers. Although it has come in form of a suggestion, banks normally follow RBI suggestions, as per experts. According to media reports, National Housing Board, had issued a circular last October, applicable on housing finance companies like LIC Housing Finance and HDFC, wherein it said, pre-payment levy or penalty should not be collected from the borrowers when the housing loan is pre-closed by the borrowers out of their own sources. All HFCs are advised to ensure compliance of the above with immediate effect. Please note that non-compliance with the above advisory may attract penal consequences under the National Housing Bank Act, 1987. As per industry experts it is not a directive yet and is purely in the form of desired action, not a guideline. This will become legally binding only after the banks discuss it with their respective board members as well as at the Indian Banks' Association. So, it's advisable to wait if you are planning to prepay your home loan. However, there are some things you need to keep in mind when, and if, you choose to prepay. Prepayment limits If you have recently taken a home loan, you may not be eligible for prepayment. Most lenders have a time frame, usually six months after taking the loan, within which you cannot prepay. If you are not faced with this restriction, check whether the penalty is applicable for complete or partial prepayment. In the case of HDFC, one can prepay 25% of the loan amount without being levied of any penalties. After which you attract a one-time prepayment charge of 2 %. Some lenders, such as Axis Bank, do not levy any prepayment charge. Some banks do not levy a penalty on partial prepayments, but this will depend on when you foreclose the loan. If the loan is partially paid within one year of it being completely prepaid, you may have to pay a penalty on the earlier amount. For example, if you prepay Rs 2 lakh on 2 May 2011 and close the loan in October 2011, you will have to pay penalty on Rs 2 lakh. Source of funds Both the RBI and NHB have been pleading with lenders not to levy a prepayment penalty. Most of them have agreed that borrowers will not be charged if they prepay from their own funds, as opposed to using borrowed money. However, this facility is very stringent and lenders are fussy about defining 'own funds.' So, loans taken from other banks, employers, against an asset, or even help taken from a relative or children who are not co-borrowers, are considered 'outside funds'.

Banks ask for proof to substantiate the source of funds. Pre-payment charges are not applicable if a loan is foreclosed (prepaid in full) out of own sources of the customer. However, any full pre-payment from sources other than own sources shall be subject to a prepayment charge of 2% of the outstanding amounts being so prepaid. The borrower has to prove the availability of funds when he prepays the loan. Usually, they ask for bank account statement for the previous six months to verify the source of funds," says an HDFC spokesperson. Even if you cancel the booking and the builder returns your money, you will have to pay the penalty when you return the loan to the bank. However, some nationalized banks offer a little more leeway. Also, most public sector banks are not fussy about the funds. Some non-PSU banks do not make any such distinction and levy the charges irrespective of the source of funds. Refinancing Banks are unforgiving if you prepay by taking a loan from another bank. Axis Bank is the only bank that does not levy a charge if a customer shifts his loan to another bank to take advantage of a lower interest rate. The facility of zero prepayment charge on home loans on floating rate offered by Axis Bank is unconditional, says Lisa Menezes, Senior Manager, RAC, Axis Bank, Goa. Experts suggest that if you have had a long relationship with a bank and a good payment track record, you could negotiate with the bank. You may be lucky and save on steep charges until the RBI makes it binding on banks not to levy a prepayment penalty under any circumstances.