The Reserve Bank of India (RBI) in its bi-monthly Monetary Policy Statement for 2019-20 on Friday cut the repo rate by 0.25 per cent. The repo rate now stands at 5.15 per cent as against 5.40 per cent earlier. Even while the RBI is signalling and cutting the policy rates, the lending rates in the economy still seem to be on the higher side. From October 1, most banks are lending (car loans, home loans) at an interest rate linked to the RBI repo rate, as they have to opt for an external benchmark now. It is referred to as repo linked lending rate (RLLR) which will vary across every bank, if they choose the repo rate to be their external benchmark. In case a borrower goes to any such bank for a home loan, he or she will be offered an RLLR home loan.
From October 1, the SBI external benchmark rate (EBR) is at 8.05 per cent. The EBR for SBI is repo rate plus 2.65 per cent i.e. 5.4 per cent + 2.65 per cent = 8.05 per cent. The effective home loan interest will be higher than this depending on loan amount, loan-to-value ratio, gender, profession and risk group.
Let us see the impact of a 1 per cent fall in the home loan interest rate. At a home loan rate of 9.25 per cent, the EMI on Rs 40 lakh loan for 15 years comes to Rs 41,168 while if the rate falls up by 100 basis points i.e. 1 per cent, the EMI becomes Rs 38,806, a difference of Rs 2,362 per month or about 6 per cent fall! The total interest burden reduced by nearly Rs 4.25 lakh over 15 years. Even a 1 per cent lower rate of interest can result in huge savings.
In its previous meeting in August, there was a 35 basis points reduction in the repo rate which cumulatively turned into a 110 basis points of fall in the calender year 2019. After the October’s rate cut, the policy rates have come down by 135 basis points so far. The next policy meet will be in December 2019.
Interestingly, the government had kept the post office small savings interest rate unchanged for the October – December quarter or the 3rd quarter of the financial year 2019-20. Further, recently, the interest rate on EPF was approved by the Ministry of Labour to be set at 8.65 per cent. Lastly, the fixed deposit interest rate of banks are still to come down for the full impact of repo rate cut to get transmitted to the borrowers.
For better transmission of repo rate cuts, the RBI has recently changed the rules of the game. Banks have been asked to not lend at Marginal Cost of Funds based Lending Rate (MCLR), which is their internal benchmark but from October 1 they can only lend at an interest rate linked to an external benchmark such as RBI repo rate. Most banks have opted to go with repo rate as their external benchmark in which they have to revise the interest rate on loan at least once in 3 months. This is expected to ensure a faster transmission of repo rate cuts to the borrowers.
Must Watch: What is Repo Linked Lending Rate, Home Loan? RLLR meaning, comparison vs MCLR
So, as and when repo rate is revised, the borrowers can expect a faster revision in their EMIs. If repo rate goes up, the EMI will also go up and total interest burden also goes up. However, when the repo rate is cut, the borrowers EMI falls and so does the total interest burden on the loan. In practice, the banks increase or decrease the tenure of the loan while keeping the EMI constant.
For those on Base Rate or MCLR linked home loan, the banks allow switching over to repo-linked loans at a fee. Those borrowers having loans linked to MCLR will also benefit from the rate cut. Whether to swtich to RLLR from MCLR linked loan should be evaluated carefully. Remember, transmission of repo rate cut is faster in the latter and any upturn in RBI repo rate will hurt the borrowers quicker than before.