Emergency fund in place?
Before you even get into crunching the numbers, you need to ensure your foundations are in good shape. Amol Joshi, Founder, PlanRupee Investment Services, asserts, “You have to ensure the building blocks of your finances are in place first before committing to such a big outlay. Apart from creating an emergency financial buffer, you should cover your family with a term plan and medical insurance.” The emergency corpus should be big enough to cover all your expenses for the next 12 months. This should also factor in the new EMI commitments on the home loan. This is to provide immediate financial cushion in case of loss of income owing to job loss, accident or prolonged illness. Having this buffer when paying off a big home loan has proven indispensable in the last 18 months.
Down payment too high?
Banks ask borrowers to cough up 20% of the property value upfront before agreeing to sanction a loan for the remaining amount. However, you can put in a higher amount if you wish. For a property with a price tag of Rs 90 lakh, the maximum sanctioned loan will be Rs 72 lakh, which means you pay Rs 18 lakh as down payment. Additionally, you also need to pay a few lakhs towards stamp duty and GST—the latter only if going for under-construction property. Together, this outlay is a princely sum for most. Even so, financial advisers typically suggest going for the maximum down payment possible.
Smaller loan component not only invites lower interest rates and brings down the EMI burden, it also reduces total interest outgo and allows for faster repayment, insists Joshi. Yet, borrowers shouldn’t empty entire accumulated savings into the down payment. When considering how much savings you have available for down payment, don’t forget your retirement and other critical life goals. Don’t pull out money set aside for these goals. Also factor in spends on any renovations or furnishings for your new home. Then, after providing for the cushion of emergency corpus, what is left can be ploughed into the down payment. Besides, a large down payment will put a squeeze on your liquidity, so plan accordingly.
How much will EMI eat away?
Budgeting for EMIs is another tricky aspect. Typically, a bank assumes that about 50% of your monthly disposable income is available for repayment. No bank will provide a loan beyond this threshold. This includes your ongoing EMI commitments, if any. “Some banks have become aggressive and are willing to go beyond 40% EMI if the borrower meets certain criteria,” points out Rohit Shah, CEO, Getting You Rich. But the lender’s internal EMI cap may not be realistic for everyone. For instance, if you earn Rs 1 lakh every month and incur expenses of Rs 60,000, then a Rs 40,000 EMI is simply unaffordable. You would be living hand-to-mouth in such a scenario. If you are buying an under-construction property, you will likely be paying rent along with your EMI. Make sure you can afford this even if the bank is willing to give you a large loan. Stretching your budget is fine up to a point—as your income will increase but EMIs won’t. But don’t go overboard.
A good way to approach this problem is by assuming that the EMI becomes a reality from the next day itself, says Joshi. “Imagine that the money will start flowing out from your bank account immediately. Run that simulation in your mind or in a worksheet to check your comfort level,” he exhorts. Some borrowers are simply sold on the tax benefits a home loan allows under Income Tax rules. These deductions, which effectively bring down the cost of the loan over its lifetime, often entice borrowers into hefty EMI commitments. But these benefits accrue only up to a certain threshold, points out Shah. “When paying off home loans with high interest outgo, the tax benefits get diluted.”
An individual is allowed deductions up to Rs 2 lakh a year towards housing loan interest payments. If paying off a 20 year home loan of Rs 75 lakh at 7% interest, the interest outgo will run much beyond Rs 2 lakh for several years. Even if opting for a joint home loan with spouse where husband and wife both can claim deduction of Rs 2 lakh each a year, the deductions fall well short of the actual interest outgo for initial few years. So do not extend the home loan EMI for tax benefits alone.
Goals being compromised?
For many, there is no escaping that taking on home loan EMIs will temporarily put other financial goals on the backburner. You may go several years without saving for own retirement or children’s higher studies. “Given the realities of today’s housing market, most families won’t have a choice to save for other goals,” observes Shah. But this doesn’t mean that you should compromise on other goals. If you cannot make provisions for contributions towards other critical life goals, try and prioritise among these goals. Go after them selectively, such as non-negotiable targets like higher education. Alternately, you may scale down contributions for the time being. In a few years, as your income grows to allow some breathing space, start contributing towards other goals in earnest.
