Switching to repo-linked home loans? Here’s what you should know
A nudge from the Reserve Bank of India (RBI) has resulted in several public sector banks linking their home loans to the repo rate, a move that will benefit borrowers in the case of a rate cut. Repo rate is the rate at which banks borrow from the RBI.
The State Bank of India (SBI) rolled out its repo-linked lending rate (RLLR) home loan in July. Bank of Baroda (BoB) and Syndicate Bank have followed suit, while other public sector banks (PSBs) like Union Bank of India, Canara Bank and Allahabad Bank have announced their plans to launch RLLR-linked home loans soon.
A switch in time
For long, banks have failed to pass on the RBI’s policy rate cuts fully, but have been quick to raise rates when the reverse happens. The common reason given by banks for this is the higher internal cost of funds. RLLR will plug this gap, resulting in better transmission and transparency. This is already evident going by the RLLR-based home loan rates announced so far.
For instance, a 35 bps repo rate cut has resulted in an equivalent reduction in SBI’s RLLR-based home loan rate. From its minimum rate of 8.4%, it will come down further to 8.05% for both new and existing SBI borrowers, depending on their risk profiles and loan slabs.
“Considering that the RLLR home loans are 25-45 bps cheaper than MCLR-linked loans, existing borrowers will gain substantially,” adds Vipul Patel, Founder, MortgageWorld. The change in RLLR will be effective from the first day of the following month in which the repo rate is changed. So, for SBI customers, the new lowered rates will reflect from 1 September.
A shift to an external benchmark-linked lending rate was also delayed due to reluctance on the part of banks to implement the RBI’s proposal, originally meant to be effective from April. However, the central bank’s nudge seems to have achieved what a formal proposal could not.
Last week, RBI governor Shaktikanta Das emphasised the need for the entire banking system to switch to the RLLR model. “I think the time has now come to formalise this linking of new loans to external benchmarks like repo rate. We are monitoring this and will be initiating necessary steps,” said Das. While some banks have announced their plans to jump on to the bandwagon in the future, private banks and a few PSBs have not given any such hint, leaving their existing borrowers in a quandary.
What you should do
If you are servicing a home loan, experts say that you should wait for a few months before making a decision about your existing MCLR-linked loans. “You should wait and watch till more banks launch repo-rate linked home loans in the market,” says Naveen Kukreja, Co-founder and CEO, Paisabazaar.com.
Patel agrees. “RLLR is being adopted by banks gradually. Hold on for a month or two and then evaluate the options.” Your existing bank may soon launch a product, saving you the hassle and cost of switching to another bank.
Once you have ample choice, do your homework before making the switch as there are costs to consider. For borrowers switching to RLLR within their existing banks, the task is relatively easy. You need to calculate savings on interest outgo after factoring in the upfront conversion fee. For example, SBI had announced a conversion charge of 0.25% of the outstanding loan amount when the scheme was launched.
However, if you intend to switch to another bank because you are unhappy with your existing bank’s rates, there are other charges like processing, valuation and legal fees that you will have to shell out. More importantly, check for the spread that the other banks are charging over and above the RLLR. “Consider the impact of margin (spread) between RLLR and the final rate offered. Go with the bank that offers the narrowest spread as it will reflect the RBI’s policy rates more closely,” advises Patel. This is particularly true for higher value loans.
Narrower the spread over RLLR, the lower the interest cost
RLLR of Bank A is less than that of Bank B, but the higher margin pushes up the effective rate.
SBI’s spread over RLLR ranges from 40-110 bps depending on risk score and loan amount. “The narrower the spread over the RLLR, the lower will be the interest cost for the borrower,” explains Kukreja.
Even if the initial rate seems low, once the process is initiated, several factors could push up the final rate offered to you. “Interest rates will be influenced by the loan to value ratio, borrowers’ credit score, number of house properties owned by them (two or more could mean higher rate), and so on,” adds Patel. Therefore, closely evaluate the difference between the bank’s RLLR and the net rate before making a switch.