RBI introduced the Marginal cost of Lending (MCLR) from 1st April 2016, and all home loans after that date are marked up on MCLR. Prior to that loans were marked up in relation to Base Rate.
Base Rate– The base rate is the minimum interest rate at which bank gives the loan to the consumers. Base rate depends on various factors such as deposit rate of banks, profit, the cost of banks etc. It is independent of repo rate of RBI. Bank can change base rate every quarter.
MCLR– MCLR is calculated on the marginal cost of funds for banks; cash reserve ratio (CRR), operating cost and tenor premium. Thus MCLR can be different for the different tenure of the loan.
MCLR vs Base Rate:
Consider an outstanding home loan of Rs 20,00,000 from SBI based on base rate and taken before April 1, 2016. The base rate was 9.30% last year which was reduced to 9.25% from 1st January 2017. The mark up on home loans is 25 bps above base rate for men and 20 bps for women in SBI.
Now, SBI slashed the MCLR by 0.9% in January 2017 and is currently at 8% for 1 year. SBI charges 0.65% over MCLR which put the effective interest rate as 8.65%. This MCLR is applicable for new a loan which is taken after the effect of this new MCLR (January 2017). If you have taken home loan after April 1st, 2016 and it is already based on MCLR you have to pay the conversion fee to apply the new MCLR or wait for the annual reset clause to get effect of the new rate 12 months from date of loan for a 1 year MCLR Rate. There is an annual reset clause of MCLR available with most of the banks. According to this rule, the interest rate of the home loan is to be reset every year on the basis MCLR available at that time. Suppose you have taken a home loan on April 2016 based on MCLR available that time. This rate will be reset on every year April with the applicable MCLR at that time.
There is a difference of 75-80 bps between the two rates currently. Thus if you change the home loan from base rate to MCLR, the interest rate will certainly go down. You can get the benefit of this new MCLR by giving conversion fee to your bank. Bank generally charges 0.5% plus tax on outstanding home loan. Now before switching your loan to MCLR, contact your bank, calculate the benefits of reduced EMI or tenure with respect to conversion fee and do your cost-benefit analysis and take decision accordingly. Generally higher the remaining tenure and higher the loan outstanding amount, higher the benefit. One point to note here is that base rate related loans get reset immediately while MCLR rates will get reset only after the MCLR period. In the interim of the 12 months if the rate is revised down & again increased you will not get any benefit.
Shift from Base Rate to MCLR based home loan
Sabyasachi Paul has been associated with equity research and advisory on equity markets in India for over 9 years & currently heads the equity research desk of Eastern Financiers Ltd, Kolkata.He also manages a portfolio on the online platform Kristal. Find link to the strategy named ‘The Tortoise’