When does a home loan cost too much

I was having an interesting conversation with a financial advisor. We got aroubd to discussing types of loans and priority of closure of these loans.

My opinion was as below

Credit card loans
Personal loans
Auto loans

He however added on another category into the mix and said that was even more important than investing in mutual funds or in the market... He wanted to add into the list HOME LOANS.

At this point we had clearly divergent views... I mean... The rate of interest of the homeloan defines the prioritization and the outcome from investing in mutual funds at a long term return of 15% overshadows the payment of interest of a home loan.

He however had some valid points which we must always consider.

1. Paying off any loan reduces your liability... Hence with a higher homeloan, the insurance costs also rises

2. The expectations of increase in capital for a twenty year home loan to compensate for the interest rate is 3 times in that period.. I am not sure if those type of returns in capital appreciation should be expected .

(If you do consider a 10% interest rate, basically you are paying twice the amount in every 7.2 years... So 3  times the capital appreciation is required ).

If the home loan rate was in the 5% range ... Then you need only one time the appreciation in twenty years ... So a much better rate of return

So in hindsight that seems to be a valid point to add homeloans into that list of prioritization

Sometimes financial answers are linked to asking the right questions basis the context that you are in... And not on standard rules.

Thoughts are welcome

It's simplefinancialsense.

At what time do you say stop to an increased EMI

Today, our generation is in the fast lane collecting assets decades before our parents ever did- gathering cars, houses, electronics by using the much easier loan rates than what our parents had .

Today, one can get a loan from SBI ( i just spoke to them today) upto 65% of their take home package. Now banks are being very cautious to try and ensure that the person can actually repay the loan that they take, but because they have a property in their name which they can sell off, this 65% should actually be the boderline of what one should be paying in EMI's.

So lets take a few calculations.

If your take home ( post tax) is at Rs 100,000 then the maximum that you should be paying in EMIs should be Rs65,000.

When you start looking at which things one should buy using debt- the answer is quite simple.

ONLY ASSETS

Usually people understand different things on what assets really mean. Is a car an asset? what about a home? (Look out for my next post on that.)

It is of utmost important to ensure that we have a good control on our EMI's .

What should we consider when we look at our EMI's
1. The Ratio of what we have in debt and what our income is should not be more than 65%
2. Ensure you have covered all your income areas-- rental income, income from job and assets.
3. Evaluate realistically what the growth in income will be- hopefully income will only increase as you become more experienced.
4. Increase in expenses- college, school, medical- whatever makes sense
5. Economy fluctuations- if you are in a recession- be more careful while taking a loan.

Each of the above parameters are equally important- if any of them are having a negative impact- be more careful.

Take care- be smart

Happy Investing

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Read the fine print

I dont know why we trust banks so much-- Somehow Banks conjure up an image of integrity and a feeling of faith.

But banks are the best examples of a business built on " Other people's money". They give you an account where they charge you for keeping a minimum amount, Encourage you to take an overdraft, give you a paltry interest rate of 3% and THEN charge you for loans at exorbitant rates!

I mean- I put in money at 3% in a SB account and then they charge me 11% for a car loan or 8.75% for a home loan?

Look at some of the ratios that the banks earn-- 40% margins -- and you think that they would give you more for the buck.

It is always important to read the fine print and understand the rules of their game. As you know i just took a loan for my house from HDFC and was there in their office to take the disbursement. I took the disbursement on a saturday post 4 pm ( I waited in their office for more than 3 hrs) and they charged me interest for Saturday and Sunday! I mean-- by no means can i deposit the cheque on a saturday ( 1230 pm banks close) and Sunday bank is closed-- so the money has not gone from their account into my builders account-- but still they want to charge me interest for those days!

When i argued they came back saying that other companies charge interest from the date of creation of the cheque- and that they only take money when the cheque is disbursed.

Hidden charges? You bet.
One can always be sure that the banks and the businesses that you borrow from have a list of hidden clauses that are in their favour-- 100% of the time. The consumer is left high and dry.

So what the moral of the story?

ASK questions , even though the sales person doesnt tell you upfront. I mean the sales pitch always is-- this is the loan amount, this is the interest for this month and this is the processing fee-- Nothing more.

So here are some questions that i suggest you ask when you take a home loan.

1. Get an agreement copy, so you are better prepared for the clauses that are there
2. Ask for when and how does the interest rate change if the interest is a floating rate- BPLR- x %? How often does the BPLR get set?
3. Pre Payment charges if any-- if the sales guy says nothing-- then you can be sure that the person is trying a make a fool of you.--- Usually there is a charge for the first 3 yrs and they dont tell you that!
4. Processing charges-- what does it cover.
5. Disbursement charges-- is it there?
6. If yours is a construction linked plan-- what is the process for them to check if the demand letter is accurate?
7. Do they have an ECS facility?

I am sure that there would be a lot more such questions that need to be answered- but ASK-- Its your money and you deserve to know! If the sales person cannot answer- go to the bank outlet to understand!

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