Looking for a new home loan? You may have to settle for a lower amount now

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If you have been aspiring to move to a dream home this year and thinking of taking a home loan, things have become tougher for you. The Monetary Policy Committee of the Reserve Bank of India (RBI) increased the repo rate by 25 basis points (bps) to 6.50 percent on February 8.

The repo rate is now at its highest level since August 2018. The central bank has hiked rates by a cumulative 250 bps since it started the rate tightening cycle in May 2022.One basis point is one-hundredth of a percentage point. The repo rate was 4 percent a year ago.

Aside from higher home loan rates, there’s another problem. How much can you actually borrow now? This is because the banks offer a home loan based on the percentage of your income that can be diverted to Equated Monthly Instalments (EMI). When EMIs increase, a higher percentage of your income would be dedicated to debt, which could be risky and translate to non-repayments.

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“An increase in interest rates can lead to higher monthly repayments, reducing the amount that a borrower can afford to borrow,” said Atul Monga, founder and Chief Executive Officer of BASIC Home Loan.

With an income of Rs 1 lakh per month, if you were eligible for a home loan of Rs 57.82 lakh, then as the interest rate has increased by 0.25 percent, your eligibility would reduce to Rs 55.57 lakh, considering an interest rate of 9 percent.

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Why does my loan amount shrink? 

“Since rates have gone up, the home loan eligibility gets affected. Earlier, if you were able to take a home loan with an EMI equivalent to 60 percent of your income, now you will get a lower loan amount as the equated monthly instalment of Rs 650 per lakh has now become Rs 850 per lakh,” said Vipul Patel, founder and Managing Director of MortgageWorld.

What is the eligibility ratio? 

If we consider the overall rate increase from 6.7 percent to a 9 percent base currently, home loan eligibility has significantly been impacted.

“Lenders look at obligation to income ratio, which should not go beyond a threshold. For instance, a bank would say that for those having income of Rs 40,000, the maximum EMI should not be higher than Rs 10,000, such that servicing the loan doesn’t become difficult for the borrower. As rates rise, the EMIs increase, and the loan amount reduces,” explained Arun Ramamurthy, Director of Andromeda Sales and Distribution.

How much home loan will banks sanction?

“If banks were not lending more than 80 per cent of the agreement value so far, then going ahead, banks would be considering lending only up to 70 per cent of the agreement value. So, for a house that costs Rs 1 crore, if you were earlier eligible to get a loan of Rs 80 lakh, then after the rate hike the eligibility would reduce to Rs 65-70 lakh,” said Patel.

Banks have an internal cap on the maximum amount that can be diverted to loan repayment.

“The maximum percentage that can be diverted to EMI depends and varies from bank to bank and is generally around 50-60 percent,” says Monga.

Will it immediately affect new borrowers? 

Even with this rate change, there are some steps you can take to avoid its impact.

If your loan application has already been filed, you can  request faster processing to avoid getting caught in the new eligibility rules.

“The move could take some time to percolate. The cases that are in the pipeline could sail through with higher eligibility. But the new cases would be underwritten at a lower eligibility,” said Ramamurthy.

Every financial institution follows a different reset period -- it could be immediately for some, monthly for others and a quarterly alteration in select institutions. So check with your financier.

“Select banks and home financiers would have a quarterly reset provision and so they would wait until March 31, 2023 to reduce the loan eligibility,” said Patel.

ALSO READ: RBI raises repo rate as expected, but does not hint at end to hikes

With the financial year nearing its end, if you are going to get a salary raise in the coming months, you would have to prove to the bank through a letter from the employer that the salary would be enhanced from Rs 40,000 to Rs 45,000.

How to avoid the impact? 

If you are planning to apply now, then enhance the down payment from 15 per cent to 20 per cent to ensure the EMI is unaffected.

“Borrower could dip into savings rather than taking a higher amount as home loan,” says Alekh Yadav, Head of Investment Products at Sanctum Wealth.

Alternatively, opt for a longer loan tenure by extending it by two to four years. Earlier the maximum tenure being offered was 25 years, but today banks are offering a tenure of 30 years too.

“Another option to avoid the eligibility being impacted would be to add a co-borrower to the loan, such that the income of the co-borrower can help you offset the rise in EMI. A co-borrower can be spouse or a parent. But if a sibling is involved, then the banks would want a parent to be involved. As of now, we have not seen restrictive practices by home loan financiers, but if the wife is an owner in the property, it is a lot easier to be a co-borrower,” said Ramamurthy.

Keep an eye on your credit score 

Not just your own home loan, but loans that you have signed as a guarantor too are counted as your liability.

“If you are a guarantor to a loan, then the outstanding of the main borrower becomes your outstanding in case of a default,” said Ramamurthy.

So, be careful while signing off as a guarantor if you plan to take a home loan in the future.

While you may have got loans in the past even with a low credit score, with rising rates, banks and other financiers may alter the norms.

“These are not optimistic times and since the EMI burden has shot up and real-estate prices have hardened and there is recession pressure, many people don’t have money,” said Patel.

Banks would be wary of lending to risky borrowers who may not be able to repay loans.

“Some lenders may also become more stringent with their credit criteria and require higher credit scores, longer employment histories, or larger down payments in response to higher interest rates. This could further reduce the eligibility of some borrowers for a home loan,” said Monga.