Living in one’s own house is the ultimate dream of any individual and in pursuit of realising that dream, many calculations, permutations and combinations are done - from taking loans to pledging gold.
Home loan being of long tenure, patience and prudence while taking it will help earn extra returns. The patience is in considering options, while prudence is in deciding the affordable budget.
One has to ensure that the 20 or even 30 years of loan repayment is planned well. First, the entire loan quantum has to be brought under “home loan insurance” that is offered with a single premium. The premium amount may be in the range of Rs.75,000 to Rs.1.50 lakh depending upon the loan size which may seem to be big and unaffordable, but that should never be the reason to not insure.
To encourage borrowers to opt for such insurance, financial institutions allow the insurance premium to be added to the loan amount and it can be paid by way of EMIs.
In case the borrower dies when the loan is in force, the insurance company would pay the loan amount due as on that date to the lender and the balance would be paid to the legal successor who gets to retain the house. There is no need to pay the balance of the loan which is already adjusted by the insurer. Home loan insurance is a convenient tool to avoid financial risk that may arise due to unexpected death of the borrower.
Pre-closure
The next stage is to plan how the loan can be pre-closed and do away with the hefty EMI outflow. Although the interest component and the principal amount will get tax benefit under Income Tax rules, after 10 years the burden is felt because of increased expenses.
How to avoid such late stage stress? Assuming the quantum of loan is Rs.50 lakh on which the EMI for 25 years would be about Rs. 42,000 (at 9% rate of interest). A whopping Rs.1.26 crore would have been paid in total that includes principal and interest. Rs.76 lakh is the interest component alone, that is higher than the principal amount itself.
Mutual fund
A few methods can be adopted to reduce the stress of such long-term repayments. When large amounts are received either by way of incentives or bonus, such amounts can be used for ‘bullet payments’ towards the loan. One can also invest up to 10% of the EMI in a diversified equity mutual fund under systematic investment plan for the entire loan tenure with an expectation of generating compounded annual returns (CAGR) of 12% to 15%. Assuming the EMI is Rs.42,000, an amount of Rs. 4,000 should be considered investing in equity SIPs. The possibilities are given in Table-1.
The compilation in Table-1 offers comprehensive possibilities of how alongside the loan repayment (liability), an asset can be created over the long term. At 12% CAGR in 25 years, the entire interest component can be realised that could well be a retirement corpus or a huge bonus one receives for patience, prudence and perseverance.
If you are a naysayer who finds faults such possibilities, you only end up repaying the loan and retire empty-handed while losing out on the possibility of having the interest component put into your pocket without sweat.
There are ample evidences to prove that investing in equity mutual funds has created immense wealth. A few such examples are displayed in Table-2.
Note: Point to point returns from the date of launch of the schemes till March 1, 2017, have been considered. NAVs have been sourced from reliable sources. The returns shown are for illustration purposes and may not necessarily be the same in future.
