While an existing borrower is reeling under the burden of ever increasing EMI, banks have embarked on all out rate war to attract new customers. At first glance, banks appear to be wooing new customers with various concessions to make up for high interest rates and higher property prices. While doing away with processing fees and prepayment penalties are always welcomed by home buyers, some “consumer-friendly” products may in fact increase the burden of customers in the long term.
First HDFC and ICICI banks announced dual rate (fixed-cum-floating rate) home loans, where the customer would pay fixed EMI for the first 2-5 years and then switch to floating rate. Bank of India and Central Bank are both lending at the base rate. SBI has gone a step further and offered borrowers at a rate that is 25 basis points lower (teaser loans?) than its rate card.
Now, Axis Bank joins with a race with the cheapest fixed rate home loan at 11.75% for a 20-year tenure. Apparently this is a pure fixed rate home loan without any fine print – i.e., no reset clause – and customers have the option of switching to floating rate at any time by paying a 2% fee. Fixed rate loans generally carry prepayment penalty and this one is no exception. It will attract a prepayment penalty of 2%.
What is wrong with dual rate and fixed rate loans?
The timing. Almost everyone agrees that the interest rates have either peaked or are peaking and locking in fixed rate during this period isn’t beneficial to the borrower. Also, most consumers pay off their loans well within their loan tenure and hence end up paying the prepayment penalties. While borrowers prefer peace of mind that comes with paying fixed EMI amount, this option should should only be exercised when interest rates are low when compared to historical rates.