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Why different banks offer different home loan interest rates?


According to CIBIL, a �home loan is offered to individuals who wish to purchase or construct a house. The property is mortgaged to the lender as a security till the repayment of the loan. The bank or financial institution will hold the title or deed to the property till the loan has been paid back with the interest due for it.� There are two types of lenders: Banks and Housing Finance Companies. This article will look at how banks offer different home loan interest rates to borrowers. Some examples of lending banks in India are State Bank of India, Axis bank, etc.

The Reserve Bank of India (RBI) is India�s central banking and monetary authority. One of the duties of the RBI is to set the basic interest rate for loans in the country. The Base Rate System is used for this purpose. From RBI�s website, here is the definition of the Base Rate: The Base Rate includes all those elements of the lending rate that are common across all categories of borrowers. Banks are allowed to determine their actual lending rates on loans and advances with reference to the Base Rate and by including such other customer specific charges as considered appropriate. All categories of loans are required to be priced only with reference to the Base Rate. The Base Rate system is applicable for all new loans and for those old loans that come up for renewal. Since the Base Rate is the minimum rate for all loans, banks are not permitted to resort to any lending below the Base Rate. Banks are required to review the Base Rate at least once in a quarter.

Banks are thus given the lower interest threshold, below which they cannot go. However, the upper threshold is not really defined by RBI. Because of India�s competitive economy, banks do not cross an invisible market-created line in raising their interest rates too high.

Within this range, you will see different interest rates offered by competing banks. Banks operate on what is called a base rate for the bank. They are allowed to use their own methodology to determine their base rate, but this methodology needs to remain constant and will be scrutinized by the RBI. Generally, banks decide on the base rate every quarter. The interest rate for a home loan is based on the base rate of the bank. The different rates offered by different banks are because of the varying methods that they use.

There are two basic types of interest rates that banks offer: fixed and floating. Fixed rate of interest is where the bank states that for a specific block of time, like three years or five years, the rate of interest for the loan will remain constant, irrespective of how the RBI�s base rate changes during that time. In the floating rate method, the rate of interest of the home loan �floats� according to RBI�s changing base rates. The advantage with the fixed rate of interest is that the borrower is not affected by upward changes in the base rate. The disadvantage is that the rate is not truly fixed for the entire duration of the loan. The advantage of the floating rate is that any downward change in the base rate is beneficial for the borrower. The disadvantage, however, is the vulnerability to the vagaries of the economy.

Banks also offer differing rates of interest for special groups of borrowers. Examples are women borrowers and those from weaker sections of society. The rates of interest offered here are usually lower than the general rate.

It is possible to negotiate with some banks when you are looking to borrow from them for a home loan. It thus helps to know the market rate and the range for home loans, for the amount and tenure you are looking for.