The interest component of a home loan varies depending on various factors, such as the borrower’s CIBIL score, age, income, etc. The home loan interest rates also vary based on PLR or MCLR. In this article, we discuss the concept of PLR and MCLR in detail and share with our readers some tips to help them avail of a home loan on low interest rates.
What is the Prime Lending Rate or PLR?
Prime Lending Rate or PLR is essentially the interest rate at which a commercial bank or a lender lends money to its best customers. The Reserve Bank of India came up with the concept of PLR in 2003. The Board of Directors mutually decide the Prime lending rate or PLR.
The PLR of a bank or a lender depends on several different internal factors, such as the administrative costs and the bank’s or lender’s desired profit margin, etc. Similarly, external factors, such as the inflationary pressures within the economy, the pace of economic growth, etc. also affect the Prime Lending rate of home loan. One of the key factors that affects the Prime Lending Rate is the policy rates of the Reserve Bank of India.
The Repo Rate is the rate at which the Reserve Bank of India lends money to commercial banks within the country. The RBI uses the Repo Rate as a tool to maintain economic growth and keep inflationary pressures under check.
When economic growth slows down, the RBI reduces the Repo Rate, which leads to banks borrowing more money from the RBI and therefore, having more money to give. Thus, banks start lending money at low interest rates, which in turn, makes loans cheaper. By this same logic, loans become expensive when the Reserve Bank of India reduces the Repo Rate.
The Repo Rate also affects the Prime Lending Rate. When the RBI increases the Repo Rate, banks and commercial lenders also increase the PLR in response. On the other hand, when the RBI decreases the Repo Rate, banks reduce their PLR rate, making home loans cheaper.
While we are on the topic, we must share with our readers that the RBI retracted the PLR-linked loan interest rate concept in 2010. The problem with this system was that it lacked transparency. The RBI did not give banks and commercial lenders any fixed formula that they could use to calculate their PLR. This led to different banks deciding different Prime Lending rates and charging different rates from different customers.
This lack of transparency in the whole system led to the Reserve Bank of India replacing the PLR system with the base rate system. Under the base rate system, the Reserve Bank of India gave banks and commercial lenders a formula to decide on the base rate.
However, even the base rate system lacked transparency and therefore, the Reserve Bank of India came up with the concept of MCLR-linked loans in 2016. Under the new MCLR-linked system, the Reserve Bank of India has given a fixed formula to banks to help them decide the minimum rate at which banks can lend money to borrowers.
However, the MCLR system is applicable only to banks and not to NBFCs. So, if you are planning to avail of a home loan any time soon, avail of a home loan from an NBFC that links its interest rates to the MCLR rate.
Whether your home loan is linked to the PLR, MCLR and Base Rate, know that any changes in the Repo Rate will have a direct impact on your home loan interest rates, if you have opted for the floating interest rate regime. Any hike in Repo Rate will cause the home loan interest rates to go up and any Repo rate cuts will make your home loan EMIs cheaper.
When it comes to home loans, borrowers must try their best to avail of the lowest home loan interest rate possible. This is crucial to ensure long-term affordability. Here are a few tips that will help you avail of a low home loan interest rate deal.
Tips to Help You Avail of a Loan Home Loan Interest Rates
If you want to avail of a home loan on low interest rates, the first thing you must do is make sure your credit score is 750 or above. Such a credit score indicates high creditworthiness and repayment capacity and borrowers with such a credit score get approved for a loan easily and also get offered a loan on low interest rates.
Use a home loan eligibility calculator and apply for a home loan amount you qualify for.
Applying for a loan amount higher than what you are eligible for can lead to home loan application rejection. On the other hand, applying for a loan amount you qualify for leads to getting approved for a loan on low interest rates.
Maintain a low debt-to-income ratio.
A high debt-to-income ratio indicates low ability to repay the loan money on time. Therefore, when borrowers who have a high debt-to-income ratio apply for a loan, lenders ask them to pay a high rate of interest to make up for the risk that the lender is taking by extending a loan to someone like them.
Go for a low LTV ratio.
The LTV ratio refers to the percentage of a property’s value that can be sanctioned as a loan. When borrowers opt for a high LTV ratio loan, they increase the risk involved for the lender and therefore, lenders charge a higher rate of interest in the case of high LTV ratio loans. On the other hand, in the case of low LTV ratio loans, the risk goes down considerably and therefore, lenders charge a low interest rate in the case of these loans.