When it comes to starting your home purchase journey, you are bound to be anxious about questions such as “How much can I afford?” unless you are very rich.
A few other related questions that you may have are:
- How much down-payment do I need?
- Given my current income, how high can my home loan EMI be?
- What is the maximum cost of the house I can buy?
To put it very simply, you want to assess your home affordability. To remain objective, let’s see how the math of such a decision should work.
EMIs you can afford
The unwritten rule of the lenders comes to your aid here. Banks and financial institutions ensure that loan EMIs don’t exceed 40-45 per cent of your net salary.
How is this information useful?
Let’s say your monthly take-home is Rs 1 lakh. So, banks will lend only if your EMIs amount to not more than Rs 40,000-45,000.
And what home loan can you get for a Rs 40,000 EMI?
Depending on different loan tenures ( at 8.5 per cent rate), here are the home loan amounts you can avail:
- 30-year loan: Rs 52-53 lakh
- 25-year loan: Rs 49-50 lakh
- 20-year loan: Rs 46-47 lakh
- 15-year loan: Rs 40-41 lakh
But remember, the lender’s internal limit of 40 per cent as EMI cap may not be realistic for everyone. For example, if you earn Rs 1 lakh and have expenses of Rs 30,000 a month, then you can easily go for a loan with Rs 40,000 EMI. But for someone with the same Rs 1 lakh salary, but having Rs 75,000 in expenses, will find the Rs 40,000 EMI unaffordable.
And if you have another loan (let’s say with Rs 10,000 EMI), then your home loan EMI affordability in the eyes of the bank will be Rs 30,000. Why? Because the 40 per cent limit is on the sum of all EMIs.
So even if you really wish to service a very large EMI, banks will judge your ability to do so as per their math, which is that the EMI should not be more than 40-45 per cent of your monthly income.
Many double-income couples increase their home affordability using 40-45 per cent of their combined income. That is, if both husband and wife make Rs 1 lakh each a month, then the upper cap on the EMI would be 40 per cent of Rs 2 lakh, i.e., Rs 80,000. And this automatically increases the home loan amount accordingly.
So they get a shot at buying a larger and costlier house.
But when using two incomes to take a larger home loan, it’s good to work out all the possible scenarios. Will your spouse continue to work till the home loan fully repaid? What if there is a forced loss of income due to any reason? It may not be possible to fund the EMI using just one person’s income.
EMI isn’t the only worry. You also need to put in 15-20 per cent of the cost from your pocket as down-payment. Most people end up taking a large chunk out of their savings to make this payment.
Using the earlier example: You earn Rs 1 lakh a month and plan to take 25-year loan. So for the ‘affordable’ Rs 40,000 EMI, the loan amount you would get is Rs 50 lakh.
But as banks only lend about 80 per cent of the cost, it’s clear that you need to put in Rs 12.5 lakh as 20 per cent down-payment, while the bank will give a loan of Rs 50 lakh for a Rs 62.5 lakh property.
This isn’t a small amount by most standards. So if you do not have Rs 12.5 lakh for down-payment, then the bank won’t lend Rs 50 lakh even if you meet the 40 per cent-EMI criteria.
What if you are buying an under-construction property and also have to pay rent along with your EMI? Then, obviously, you have to see if you can afford the rent as well as the EMI together, even if the bank is willing to give you a large loan.
For many people, paying rent and EMI means having no money left. So, they are unable to save for other financial goals. This is fine if it is only temporary. But you can’t compromise on goals if the situation continues for long. Or, is it possible to reach your other financial goals by investing less now and making up later with higher investments when your salary increases?
In any case, if you aren’t comfortable borrowing as much as your bank is willing to lend based on their criteria, then that’s perfectly fine. You don’t have to borrow the maximum amount just because the lender approves it.
Buying a house is more of an emotional decision for most. And it’s easy to get carried away. But get a clear understanding of your finances and see where you stand. Stretching your budget slightly is fine, as your income will increase, while EMI won’t. But don’t go overboard.(The writer is the founder of StableInvestor.com)