Home Loan Prepayment Strategies: Shorter Tenure or Lower EMI?

A bonus, a maturing investment or steady growth in income can leave us with spare cash on hand and pre-paying our Home Loan seems like the best option to use any extra cash. However, many borrowers face a dilemma while opting to pre-pay their Home Loan: whether to utilise the surplus towards reducing their tenure or the EMI amount. These options will certainly reduce their interest outflow; however, the impact on their financial health will vary

The below insights highlight the impacts and factors to consider while choosing between the two:

Why Does Pre-paying a Home Loan Make Financial Sense?

While making any instalment, due to the nature of reducing balance, a large chunk of the first few EMIs goes towards paying the interest. Hence, any pre-payment on your home loan reduces the outstanding balance on which the interest is calculated.

• Substantial Interest Outflow Reduction:

Since any pre-payment reduces the outstanding balance, the interest saved will always be more if you pre-pay in the first few years of the loan than in the later years.

• Reduce the Timeline to Ownership:

With every pre-payment, the day you own the property outright moves closer.

• Have a Greater Discretionary Income:

A relatively lower liability can give you the freedom to utilise the saved interest in investments, towards your children’s education, retirement or as an emergency fund.

What Happens If You Choose to Reduce the Tenure?

By utilising your surplus towards reducing your tenure, you essentially keep your EMI the same as before and reduce the time for which the loan will be outstanding

• Maximise Interest Outflow Reduction:

Due to the reduction in the outstanding balance and the same EMI, the portion of each instalment that goes towards reducing the liability increases. 

• Shorten the Loan Timeline:

The benefit here is that if you intend to retire early or take a long break from work, the reduction in outstanding balance will mean you become completely debt-free sooner.

• Lower Budget Doesn’t Change:

The amount that you pay every month towards your EMI remains the same, but the total liability reduces.

What Happens If You Choose to Reduce the EMI?

While reducing your EMI, you would be keeping your home loan tenure the same, but modifying your instalment amount according to the new outstanding balance.

• Lower EMI Amount Offers Discretionary Power:

You can utilise the extra cash towards your hobbies or if you foresee any increase in your monthly expenses (such as children’s tuition fees or health-related costs)

• Offers You An Economic Safety Net:

If you are uncertain about your income in the future (such as being self-employed), a lower EMI would offer you breathing space.

• Amount of Interest Saved is Lesser:

Compared to reducing tenure, the amount of interest saved by reducing the EMI is less, since the tenure remains the same.

How to Choose the Right Option?

While everyone would benefit from either of the two options, there are a few factors that borrowers should consider while taking a decision:

• Evaluate Income Generation:

If you are in your thirties or forties and your income generation capacity is stable, it would make more sense to reduce the tenure. However, if you are older and/ or your income varies from time to time, reducing the EMI might offer a financial safety net.

• Impact on the Current Financial Health:

Since the interest rate for each option is different, you must evaluate which rate suits your financial health better and compare it to the interest rate earned on any other financial instrument you have invested in. It is also important to create an emergency fund that can cover some of your near-future expenditures.

• Understand the Charges:

Charges for prepayment vary according to the terms and conditions of the loan, so you must consult your respective bank or lender to determine the charges you will be liable to pay.

How Does The Insurance App Help You in Pre-paying Your Home Loan?

When all of your financial documents are integrated into an ecosystem, it helps you plan your finances better.

• Track Your Loan:

The ability to keep track of the loan amount owed and its respective EMIs gives you a clear idea regarding the impact a prepayment will have.

The prepayments, foreclosure and EMI modifications for individual borrowers who have taken the loan at a floating interest rate do not attract any additional charges

• Calculate the Impact Using the Calculators:

The EMI and foreclosure calculators offered help you understand the impact of modifying your tenure before you take any action

Conclusion

Choosing to reduce the loan tenure or the EMI depends on whichever option you feel would benefit your financial health to a greater extent. It is important to compare your financial health with respect to your income and future expenditures, compare the interest rates offered and then take a decision.

The Bajaj Finance App keeps an open outlook on its clients’ financial needs; hence, the loan facilities offered are designed such that they offer the client greater flexibility and control throughout their journey with them. Moreover, the various tools and features offered, such as an EMI and foreclosure calculator, and the visibility offered on the EMIs through the application are designed to help the borrower make informed and educated financial decisions.