India is a vast country, having a population of more than
1000 million. Many are without owned shelter. After independence, the
successive governments addressed this problem with various government-sponsored
programmes. They are targeted at poorest of poor, and houses with barest
facilities were provided.
The problem was too gargantuan to be met with government
alone. The government of India established National Housing Bank, under the
supervision of Reserve Bank of India. Scheduled commercial banks, co-operative
banks, were also directed to lend for purchase/construction of houses. In the
beginning 1.5% of incremental deposits of commercial banks during 1988 was
earmarked for housing finance sector, which was enhanced to 3% during the year
1999 and subsequent years. The banks were given freedom to exceed this stipulation depending upon their resources. The slow down of economy, slump in
the demand for loans from corporate sector goaded banks to aggressively market
housing loans. In the course of the time, banks have overtaken the housing
finance companies in market share. The easy availability of finance, the tax
benefits extended by the union government and increased earning/spending
capacity of middle class, mostly wage earners have fuelled the growth of this
important sector.
Change of Mindset
Owning a house, previously was the last priority, mostly
at the time of retirement from out of terminal benefits savings as one could
rarely find the means of financing the purchase/construction. This mindset has
changed. The youngsters in early twenties are earning substantial salaries,
with increased spending capacity. They prefer to own houses out of borrowed
funds, which is repaid over a period of time. This helps them to avail of lower
interest rates and also tax benefits for longer period.
Legal Scrutiny Report and Valuation
It is very important to have legally established
ownership of the property to avail of the Housing Finance. The applicant should have all the documents to establish his title to the property. He should verify
the documents available with him/or with the seller and perfect the title to
the property. Financing Institutions will rely on the legal scrutiny report of
their advocates on panel. In view of the severe competition in the field, many
institutions are ignoring the importance of the legal scrutiny, and title to
the property, and are giving much importance to the repayment capacity
Apart from perfect title to the property, the valuation
of the property is also very important, based on which the loan component will
be determined. The banks have approved valuers on their panel, who will value
the property and arrive at the market value.
Loan Amount
Many institutions have a maximum ceiling of one crore-per
party. The loan depends upon the cost of construction, land, purchase cost,
stamp duty, registration charges, legal charges and also other additional
expenses. The borrowers may have to bring is 10 to 15% of the cost as margin
money. There are institutions, which finance full cost without insisting on
margin money. In addition to these parameters, the income of the applicant,
repaying, capacity of all the borrowers are being considered Maximum amount
that an individual may require is 10-15 lakhs, for a good house, which is
within the reach of average wage earner.
Repayment Schedule
The loan is to be repaid in monthly instalments
comprising interest and principle called equated monthly instalments (EMI). The
amount of repayment remains the same during the entire tenor of the loan.
In case of construction, the loan amount is disbursed in
instalments depending upon the progress of construction. The regular repayment commences after the completion of construction or after the expiry of certain
stipulated time. Interest for intervening period, from the date of loan to the
commencement of equated monthly instalment is called pre-EMI. This has to be
paid quarterly or monthly.
Though the repayments offered vary upto a maximum of 20
years, it is preferable to avail of the period of 10-15 years, considering the
interest rates, tax benefits and repayment capacity. The repayment period of 5
years attract heavy monthly instalments, which prove to be burden; in repayment
beyond 15 years, one has to pay heavy interest. There are institutions, which
offer repayment period beyond 20 years also.
Certain banks have special schemes, under which any
surplus amount available may be paid though in excess of equated monthly
instalment with facility to with draw such amount in case of necessity. The
account operates like a current/over draft account. This would be useful for
business people. Such schemes are called Home Loan Saving Schemes, where by
paying off the loan earlier substantial amount of interest is saved.
Interest
At present interest rates are very low the loans are available at 7.25% but there are signs of interest rates hardening. There are
two different types of interest rates floating and fixed.
Floating Rate
Here the rates are not constant, but keep changing. There
are linked to market condition. They may increase or decrease. The present
floating rates has reached the bottom and there may not be further reduction. The
lending institutions are very reluctant to pass on the benefits of reduced
interest rates to borrowers. They adopt different strategy to keep the
borrowers paying higher rates. In most of the case the old borrowers pay higher
rate than a new borrower for a similar loan.
Fixed rate
This is supposed to remain fixed through the tenor of the
loan. Fixed rates are higher than floating rates but many banks/housing finance
companies have “Force Majeure” clause in their agreement, which gives absolute
powers to change the fixed rates.
In general, the fixed rates for loans of long tenor,
floating rates for loans of short tenor may be preferred.Many offer a combination of both fixed and floating,
where some percentage is charged as fixed or balance as floating.
Reducing Balances
Reducing balance means the period at which the
instalments collected from borrowers are credited to the loan account. In
annual reducing balances the monthly instalments collected are credited to the
loan account once in a year. In monthly reducing balance they are credited on a
particular day of month; and in daily reducing banks, it is credited on the
same day. Annual reducing balance is mostly costly, where as daily reducing is
the best. Many have monthly reducing balance, and few have daily reducing
balance.
Hidden Costs
There is no transparency in Housing Finance sector. Apart
from interest the borrower has to pay processing charges legal fee, but many
other types of fees, such as administration fee, inspection fee, etc. Further
the rates at which these are charged are also not clear. In such cases, though
the interest rates are low, the hidden costs increase the burden. As stated
earlier, interaction with borrowers would help.
Switch over
The borrowers have an option of switching from floating/fixed
to other mode on payment of certain penalty. Generally it is 1% on the
outstanding loan amount. But recently, the financing institutions have
increased fee for switching over. While switching over, consider the penalty
payable, the loan balance, the rate of interest available and the balance
repayment period. If the balance repayment period if short it is not advisable
to switch over.
Transfer of Loans
The borrowers may also transfer the loan to other
institutions, which take over the loans. Many borrowers transfer the loans to
avail the reduced interest rates available. The interest rates during 1990-2000
were very high. In case of transfer of loan, the borrower has to pay some
prescribed fee calculated on the outstanding loan. Apart from such fees, the
institution, which takes over the loan, charges processing fee, legal charges
etc. They may offer some additional loan also. But avail of such additional
loan only in case of absolute need. While transferring the loan apart from
interest rate, calculate the transfer fee, processing/legal fee, and mode of
reducing balance adopted by the institution, which takes over the loan and
hidden costs. If the balance repayment period is small, transfer is not
recommended.
Tax Benefits
Home loan borrowers have two types of income
tax benefits:
1.Rebate on repayment of principal and stamp duty and registration
charges.
2.Deduction of Interest
The Stamp duty and registration charges paid and
repayment of principal is eligible of rebate on a maximum amount of Rs.
20,000/- within a over all limit of Rs. 70,000 under section 88 of income tax
act 1961.
The interest paid in a financial year on housing loan is
allowed as deduction under section 24 of the income tax act 1961. The maximum
interest allowed at deduction at present is 1.5 lakhs in case of self-occupied
house. This is per individual. If there are more than one borrower, with
definite shares in property, each may avail of this deduction, subject to his
share, with a maximum ceiling of 1.50 lakhs. There is no such ceiling in case
of properties, which are let out. Any amount of interest paid on the loan is
allowed as deduction, and the income from the property by way of rent is
taxable.
Insurance
Apart from insurance of property, against fire, riot,
civil commotion, many insurance companies offer term policies on payment of
single premium. These term policies cover risk for certain period and repays
the loan in case of any lose of life of borrower.
Selection of Financier
Housing finance is most easily available credit product.
All the commercial schedule banks, co-operative banks, extend finance forpurchase/construction of houses. In addition there are housing finance
companies specialised in this line. Many of these institutions are concentrated
in metro and urban centres. There is severe competition. In general the rates
of interest in housing finance companies are slightly higher than banks. Though
there is intense competition, there is no transparency in Housing Finance
industry. It is better to interact with borrowers of different lending
institutions and select the best. If one is a regular customer of any bank, it
would be better to borrow from such bank.
While selecting the Financing Institutions,
examine the rate of interest, charges for shifting, hidden charges,
transparency, and accessibility to the financing institutions. Many
institutions operate through direct selling agents, and the borrowers will
rarely have a chance to interact with the officials of the institutions.
Further there is very little of select between any two institutions.
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