Monetary Policy - EMI Impact - Floating vs Fixed home loan rate

With banks now readying plans to raise PLR by atleast 50 basis points on the eve of the RBI raising the CRR and Repo rate to 9%, the direct impact will be on home loan takers and their EMI. Home loan EMI will be up by Rs 17 - 34 for every Rs 1 lakh loan. In case of a 20 year loan, a 25 bps hike will mean the EMI going up by Rs 17 for every Rs 1 lakh loan amount; in case of a 50 bps hike, it will be Rs 34 and so on. Similarly, for a 15 year loan, 25 bps will hike EMI by Rs 16 a month and 50 bps by Rs 33. So net net, home loan borrowers with large EMI installments are in for a tough time going forward.

New borrowers would be better off taking a floating home loan rate despite the fact that interest rates are likely to go up in the future. The advantage of a floating rate scheme - where rates move in line with the PLR - is that the borrower will gain once the interest rate cycle turns. As per industry experts, the rate cycle takes a turn every 3-5 years, hence the rates will go down sooner than later.

A fixed rate does not necessarily imply that the rate will remain fixed over the life of the loan. Most banks insert a reset clause in the fixed rate home loan agreement. This means that the bank will have the option to revise the rate upwards even if the borrower had opted for a fixed rate. For instance, SBI resets its interest rate at the end of every two years from the date the loan has been disbursed. For Bank of India, the reset happens every five years. HDFC however, is among the few lenders with an absolute fixed rate.

However, the difference between the floating and fixed rates is very high - as much as 300 bps in case of lenders like ICICI and HDFC Bank. HDFC has a floating rate of 11% whereas its fixed rate is 14%. Similarly, ICICIs floating is 11.25 - 11.50% and its fixed is 14.75%. Understandably, most borrowers are discouraged from taking a fixed rate loan. A borrower should look at a fixed rate only if the loan period is less than 10 years, else go for a floating rate. There is also an option to split the loan amount into floating and fixed rate.

Impact on real estate developers

For now, EMIs are set to rise and demand for real estate is bound to go down at least in the short term. Borrowers are bound to find it difficult to get funds at cheap rates and there is also going to a slowdown in demand. This will hurt the margins of the realty players also resulting in further correction of realty prices. The cost of construction will go up and banks will cut their exposure in the property sector, forcing developers to tap unofficial channels for funds. Black money is going to flood the system as the developers would be liquidity starved.

Interestingly, the bank credit to real estate sector has come down 31% from last year from Rs 19,010 crore to Rs 14,750 crore. Sales for the real estate developers has gone down, hence affecting their ability to service the term loans. Moreover, with a slowdown in the IT space, developers are losing tenants and thereby lease incomes are declining. Real estate developers are adding to their stock of non income generating property. Thus developers with substantial unsold stocks of residential units and office space will be directly taking a hit in their bottom lines with a hike in interest rates.