Basic home loan concepts

New to home loans? Are you preparing to apply for one? Here we explain some basic concepts to help first-time borrowers.

A vehicle drives past residential buildings in Mumbai in this January 2010 file photo. REUTERS/Punit Paranjpe

1. House as security or collateral: In a home loan you offer your property as security to the lender. Upon failure of repayment, the bank will have the authority to claim legal rights to the property.

2. Down payment: Home loan lenders usually do not finance the total cost of the property. Lenders require a home buyer to pay to the seller of the property (or the builder) a minimum upfront amount as down payment out of the buyer’s pocket. Typically, this amount is 85% of the cost of the property. Two useful tips for down payment are:

a) Start saving early so that you are not cash crunched at the time of your house purchase.

b) Contribute more as upfront amount as it will allow you to take a reduced amount of loan, and thereby possibly get better terms on the loan.

3. Tenure of the loan: Tenure, which is the length of the loan contract, is flexible in case of a home loan. It can typically range from anything between 10 to 25 years. The tenure of your home loan depends upon:

a) Your Income: If your income is high, you can comfortably opt for a longer tenure as your capacity to pay up is better than a person with a low income.

b) Your Age: If you are in your mid-30s with most of your working life ahead of you, you are more likely to get a long-term home loan compared to a 55 year-old who is closer to retirement.

4. Fixed or floating rate of interest: The interest charged on a home loan is either fixed, i.e. same throughout the tenure of the loan or it can be floating, i.e. changing depending upon the prevailing market conditions.

However, currently in India, no lender offers a fully fixed rate. Most offer fixed rates for a short initial period and then reset it to a floating rate thereafter.

5. Equated Monthly Instalments (EMIs): When you take a loan from the lender, you repay the loan in the form of EMIs. This amount includes both a) principal - the loan amount and b) interest - the borrowing cost charged by lender.

For instance, if Rohit takes a Rs. 20 lakh loan for a tenure of 25 years at an interest rate of 9%, his monthly EMI would be Rs. 16,783.

6. Co-applicant: A co-applicant is the co-borrower of the loan. A co-applicant:

a) May or may not be required depending on the lender’s requirements.

b) Must be from the borrower’s immediate family, i.e. spouse, father, mother or brother.

c) Can claim income tax benefits of a home loan along with the borrower.

7. Guarantor: Through a guarantor, the lender puts some sort of a moral obligation on the borrower to repay the loan. Not all lenders require a guarantor. Guarantors are:

a) Liable to repayment if there is a default by the borrower.

b) Can be relatives if the lenders policy permits.

c) Cannot claim income tax benefits on the loan in question.

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