Housing Loan in India – How much do you save??

Have you ever wondered what do you actually save by going for a housing loan in India??

No. Then just go through the following example and work out what is the actual cost which you would incur.

Example: Residential house in Bangalore outskirts.

I’ve taken best case scenario for the points which is beneficial to you and worst case scenario when it is going to affect you negatively.

Prevailing rate for built up space: Rs. 2300 to 3000 per ft2 (Rs. 2500 is considered for this eg.)
Built up area: 1000 ft2
Tenure of the Loan: 15 years
Type of interest charge: Floating
Rate of interest: 11.75%
Equated Monthly Installment (EMI) as a % of total income: 40%

Working for cost of the flat

Sale Value (1000 x 2500) = Rs. 25,00,000.00
Taxes (6.12%) = Rs. 1,53,000.00
Effective total cost of flat: Rs. 26,53,000.00
Bank Loan: Rs. 22,55,050.00 (i.e. 85% of the total cost)
Own Contribution: Rs. 3,97,950.00
EMI = Rs. 26,703.00

The effective price being paid for the loan (26,703 x 12 x 15) = Rs. 48,06,540.00
Additional cost by way of Interest = Rs. 25,51,490.00

WOW its more than the amount of loan availed. Have we ever given a thought to this???

Forget it look further…. Lets have a look at the tax benefits which we can avail to set this off.

To make the calculation simple I’m assuming that the interest payment contributes 50% of the EMI payment and the rest is principal.

To avail the above mentioned loan amount the gross income of the buyer should be atleast Rs. 8,01,090.00 per annum. The income tax before the deduction of the tax benefits on the housing loan will be around Rs. 1,76,000.00 (Assuming that the buyer has a invested his funds sensibly to get the max. tax benefit)

The tax relief which the buyer can avail for principal re-payment is Rs. 20,000.00 and another Rs. 15,000.00 (Rs. 75,000 x 20%) totaling to Rs. 35,000.00. This means that the effective reduction in EMI is Rs. 2,917.00 per month. So, the actual cost which you pay for the loan is (26,703 – 2917) x 12 x 15 = Rs. 42,81,480.00

This reduces your overall liability by Rs. 5,25,060.00

In the net effect you are going to pay Rs. 46,79,430.00 (Rs. 42,81,480 + Rs. 3,97,950.00) for a flat which you are going to own after 15 years.

For the whole calculation I’ve considered only the present values assuming that the inflation and the interest rates in the economy have a direct impact on the real estate sector. So, will get compensated in the long run and the net effect will be reflective of the current prices.

Have you ever thought about this effect when you are buying a property??

Widening Wealth Gap in Asia

As per the recent study conducted by Asian Development Bank (ADB) the wealth gap is widening in Asia. This means that the rich are getting richer and poor getting poorer. The only countries which are exception to this are Indonesia, Malaysia, Armenia, Mongolia, and Kazakhstan. The country leading in widening of Wealth gap is China followed by India, Sri Lanka and Cambodia.

The reasons for this gap to widen are:

- Development being concentrated in the metros
- Lack of infrastructure development in rural area
- Low literacy percentage in rural area
- Lack of awareness among rural people
- Government’s concentration towards metros and neglect of rural areas
- No proper development plan for the country

This has a major impact on the future of the country. The main setback’s which the country will face are:

- Weakening of Social cohesion
- Social unrest in the country
- Large number of rural population moving towards metros
- Improper distribution of countries population
- Irregular growth of the economy
- Financial impact on the countries economy

I’ll mainly try and analyze the financial impacts which the country as a whole may face.

1. Social unrest will reduce the amount of foreign investment coming into the country.
2. Widening of the gap could result in higher inflation in the economy.
3. The countries currency will weaken against the countries where this gap is strengthening Large amount of government funds will be utilized for uplifting the weaker section of the society which results in sacrificing on the development.
4. Low growth of income of the poor is reflective of the bad financial growth of the country
5. High dependence on foreign borrowings for bridging this wealth gap

Overall a skewed economic growth will result in downfall of the countries’ financial health and unrest within the economy.

RBI raises CRR

The Reserve Bank of India (RBI) has increased the Cash Reserve Ratio (CRR) to 7% from the current CRR of 6.5%. This will curtail the liquidity in the market for sure. This happens in the back drop of China converting the non-tradable shares to tradable one to increase the liquidity in the market. So, exact opposite moves in the fastest growing economies of the world. What a surprise!!

Its clear now that the RBI is looking at bringing down the inflation rate in the economy by sucking out the liquidity in the market. The effect of this was seen immediately as the three major PSU banks – Bank of India, Bank of Baroda and Canara Bank cutting down their deposit rates.

How is it going to affect the Investors and Borrowers?

Investors

- Lower return on bank deposits
- Fixed deposit rates expected to remain un-changed
- Falling interest rates till next correction in debt market

I see the insurance sector to be the beneficiary of this since, they are considered to be next best safest investment opportunity. Further, they are providing higher rate of return compared to the bank deposits and the benefit of insurance.

Borrowers

- The home loan borrowers can expect the interest rates to stabilize at the current rates.
- The short term interest rates to rise sharply
- Retail loan segment might see a rise in interest rates

The interest rate will not come down immediately since, the main objective behind this is to curtail the liquidity in the market. So, for the existing borrowers it’s a sigh of relief that the interest may not go up further. For the new borrowers, you will have to wait and watch for some time.

Effect of RBI's intervention in appreciating INR v/s USD

The Indian Rupee (INR) has seen a tremendous apprecation against the US dollar (USD) in the last 6 months. The INR has appreciated approx. 9.32% against the USD comapred to begining of this year. India has seen a large inflow of FII's and FDI's moving into the country, leading to large inflow of foreign currency reserves. This has forced the centeral bank to intervene in the forex market to get it stabilized.

There has been a interest rate hike three times in the last one year and now the RBI is trying to control the amount of ECB's getting into the country to control the use of forex. Let us look at the pros and cons of this decesion:

Pro's

- Crubs the current inflation rate in the country in the medium term
- Keeps the interest rate in the economy stable in the short term
- Helps the exporters to cover up the profit margins and makes export favourable
- Stabilize the forex markets in the short term
- Helps in short term policy making
- Discourages improper utilization of forex

Con's

- Could put a break in the growth of the economy if, it continues for a long time
- Increases the risk factor component when an investment analysis is being conducted
- Reduces the liquidity in the market
- Leads to un-fair trade practices

The question which remains to be seen is how long the pro's of this decision going to hold a upper hand.