Tuesday, March 31, 2009

SHOULD YOU SWITCH YOUR LOAN TO NEW BANK?

With RBI's announcement of lowering of CRR and repo rate , the lending rates too have gone down. While the private banks have been less than keen on lowering rates , the public sector banks have been very proactive in lowering lending rates especially on high ticket size Housing loans. State Bank Of India, recently announced lower rates on its housing loans for all its new customers. This created a flurry of housing loan customers of other banks moving to State Bank Of India to avail of this new rate benefit. While on the face of it, it looks to be a tempting proposition for all existing borrowers to foreclose their loans with their banks and move to a new bank offering lower rate, the truth is, that it is not beneficial for all and sundry. Before we decide on foreclosing our existing loan and moving to a new bank , there are certain things that need to be kept in mind.They are:
Do a Cost Benefit Analysis (CBA)- Cost Benefit Analysis involves weighing the benefits accruing out of an activity against the cost of doing it, and if the benefit exceeds the cost , it makes sense to go ahead with the activity. Similarly, for switching your loan, you must check what is the cost of transferring the loan and whats the ultimate saving out of this activity. So what are the costs of switching the loan. The costs associated with loan transfer may be- Foreclosure fee paid to existing lender(generally 2% of the outstanding amount..could vary between lenders).- Processing fee charged by the new lender(generally 0.5% of the total sanctioned amount, could vary)- Stamp duty etc.- Miscellaneous charges. The benefit will be- the lower rate of interest charged on the new loan.
So, theoretically (Foreclosure fee+Proc fee+ Stamp Duty + Misc Charges)

How to find out whats my total savings due to lowering of interest rate on new loan?
One very simple method of calculating the total savings due to lower rate of interest may be calculated by the following simple formula

(Old EMIx Remaining Tenure of loan) - ( New EMI x New Tenure) = Savings due to lower interest rate
Whats the biggest catch?-
The biggest catch in the new lower rate of interest schemes announced by banks is that these new rates are only fixed for a year post which they may be revised. This means that after a year there is no guarantee that the interest rate of the new loan wont go up. And if it does go up, your entire savings due to loan switching exercise might be wiped out leaving you back to square one.
So, one should carefully consider all these factors before deciding on loan transfers.



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