Who transmits home loan rate cuts faster-a bank or a housing finance company?

Even though Housing Finance Companies (HFCs) have been directly supervised by the Reserve Bank of India (RBI) since August 2019, current home loan customers are treated differently by banks and HFCs.

Existing home loan customers are treated differently by banks and HFCs. How have interest rates changed for HFCs and banks? What do current consumers do?

If bank customers have seen more robust propagation of rate cuts in their home loan rates over the last 18 months to 5 years as a result of a decrease in the Marginal Cost of Credit Rate (MCLR), Customers of HFCs have reaped modest benefits as a result of comparatively minor reductions in the prime lending rate (PLR), which is critical in a long-term commodity like a 10-20-year home loan. 

How does a decline in the repo rate favour current home loan customers?

Though HFCs and banks compete fiercely on pricing to draw new customers, the rate cut for current customers is determined by reducing MCLR by banks and PLR by HFCs in response to an RBI repo cut.

HFCs base their loan rates on PLR and give consumers a discount on it. Although the discount is set for the duration of the loan, an upward or downward revision in PLR (in accordance with repo market movement) affects the current customer’s lending rate. In terms of new buyers, the HFC will raise the discount on the PLR to have a more appealing rate. Within three months, a reduction in PLR is mirrored in the effective cost for the consumer.

How do HFCs keep their prices low to attract new customers?

Although there is a significant difference between banks and HFCs passing on the advantage of a repo rate cut to current creditors, big HFCs compete with banks and deliver comparable prices to new customers.

Since HFC prices are benchmarked to PLR, the discount on PLR on new consumers is increased. Present consumers, however, do not prosper when the HFC raises the discount on PLR for new customers, and they only see a decrease in their premiums when the PLR is lowered.

So, if you took out a home loan in 2017 and the PLR was 16% at the time, and the HFC gave a 7% discount, the effective rate would have been 9%. However, if you’re on board, the prices will fall only if the HFC lowers its PLR.

However, as the RBI lowers the repo rate, the HFC lowers its rate by increasing the discount on PLR for new customers. A new borrower applying for a loan in 2018 would have received a higher discount, say 7.5%, raising his effective rate to 8.5% (assuming no change in PLR). While both HFCs and banks allow consumers to move to rates provided to new customers after paying a transfer fee, a decrease in their PLR/MCLR will directly benefit borrowers. Existing borrowers often continue to pay prices above 9%, even though market rates on home loans have dropped below 7%.

What do current customers do?

The transmission of rates to current floating-rate Home Loan consumers is opaque. Existing customers should track their interest rates and link them to the rates offered by the bank or HFC to new customers. If there is a gap, they can refinance their loans at a lower interest rate after paying transfer fees, which differs.

Here’s how it could work: Assume you have a home loan with a principal balance of Rs 30 lakh and a remaining term of 15 years (180 months). You would pay an EMI of Rs 28,669 if the interest rate were 8%. However, if you can lower the interest rate to 7.3% by paying a transfer premium, you can either shorten the loan period by 13 months or reduce the EMI by Rs 1,200.

Customers with a high CIBIL score (above 700) can negotiate for the best prices. A consumer with a home loan of up to Rs 30 lakh can aim for a rate closer to 6.8%, which is currently the most affordable. In reality, while current home loan customers of leading banks would have seen a rate reduction of about 190-220 basis points due to a reduction in the MCLR over the last five years, HFC customers would have seen a rate reduction just 25-30 basis points.

The MCLR and PLR have been reduced as a result of sharp reductions in the repo pace. The RBI cut the repo rate by 275 basis points between April 1 2016, and March 31 2021, from 6.75% to 4%. The RBI has previously expressed reservations about the transmission of repo rate cuts to bank lending rates on unpaid loans.Home Loan from Bank or HFCs

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