Should you prepay your home loan?

With the fuel price hike, costs are rising. So, many with some cash in hand ponder over prepaying their home loan. It seems like you will be better off if you get rid of this debt. Kavita Sriram analyses

    Most homeowners began their home loan journey with a modest seven percent in the year 2003. Today, the interest rate hovers around 12 percent with most banks. Now, if you have a huge loan, a long tenure ahead and some extra cash, should you prepay? Borrowers must analyse a variety of factors before jumping to a conclusion.
    Here are some factors you must take into account:
Prepayment penalty
    Is there a penalty associated with prepayment? Some lenders are happy getting their money back sooner. Others charge a fixed percentage like two percent or allow you to repay some fixed amount every year without penalty. Evaluate the penalty and see if it is worth prepaying.
Pay off more expensive loans first
    If you have other higher interest commitments like car loan, personal loan or the more critical credit card debt, consider if it is feasible paying them off. This is because home loan rates are supposed to be cheaper than these and additionally provide you with income tax benefits.
Invest for higher returns The more aggressive can explore investment options that yield returns greater than the home loan rate. If your excess money is coming from breaking such an investment, prepayment does not make sense. However, keep in mind that high return investments come with high risks.
Prepay a fraction
    While prepaying a loan entirely may be a prudent decision, prepaying small amounts of the loan can be attractive in the long run. In a home loan, as the years roll by, the interest component decreases and principal component goes up as a proportion of the EMI. Some borrowers prefer not to prepay the loan after more than half the tenure has elapsed. Most borrowers are seen to repay their loans in eight years.
Evaluate job and salary
    Are you close to retirement? If so, prepaying may be an excellent choice.
    Is your job situation jittery? In case the borrower fears that he will lose his job, it is better he repays his loan with the extra cash he has. This ensures that unpaid EMIs dues don't pile up and he doesn't default. There will lesser pressure and some peace if he is without a job.
    It is better for new borrowers to opt for short home loan tenures. The EMIs will be huge, but you can pay off the loan faster.
HOW PREPAYMENT WORKS
    Let us assume a person has purchased two houses for Rs 30 lakhs each, five years ago. He lives in one house and the other house has been rented out by him. Let us consider the income tax implications on prepaying one of the two houses after five years.
    When computing tax savings on the rented property, a rental income of Rs 8,000 per month is assumed. This amount is assumed to increase at a rate of five percent per annum. As much as 30 percent of the rental income can be deducted towards expenses incurred on periodic maintenance and property taxes.
Details of loan
Initial loan amount: Rs 30 lakhs Interest rate: 10 percent fixed Loan tenure: 15 years Years elapsed: 5 Years left: 10 Outstanding principal at the end of 5 years: Rs 24,39,500
If the self-occupied property is prepaid, the net tax savings (combined for both the loans) for the years 6 to 15 is Rs 1,05,097. If rented property is prepaid, net tax savings (combined for both the loans) for years 6 to 15 is Rs 3,26,470 Hence, it is prudent to prepay the loan on the rented property, provided all factors and parameters are similar between the two home loans.