Bank against HFC: Who better transmits mortgage rate cuts?
Even though housing finance companies (HFCs) have been placed under the direct supervision of the Reserve Bank of India (RBI) since August 2019, existing home loan clients are enjoying differential treatment from banks. and HFCs.
Over the past 18 months to 5 years, while bank customers have seen better transmission of rate cuts in their mortgage rates due to the reduction in the marginal cost of lending rate (MCLR), HFC customers have had limited benefits due to relatively reductions in the Prime Lending Rate (PLR) – something that matters a lot in a long-term product like a 10 to 20 year home loan.
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How do existing home loan customers benefit from a reduction in the repo rate?
As HFCs and banks compete fiercely on rates to attract new customers, reducing rates for existing customers depends on reducing MCLR by banks and PLR by HFCs in response to reduced rates. pensions by RBI.
HFCs base their lending rates on the PLR and offer a discount on it to customers. While the discount is fixed for the term of the loan, an upward or downward revision of the PLR (in line with the movement of repo rates) has an impact on the existing customer’s loan rate. As for new customers, the HFC can increase the discount on the PLR to offer a more attractive price. A reduction in PLR is reflected in the effective rate for the customer within three months.
In the case of banks, lending rates are based either on the MCLR or on the repo rate (since October 2019). When RBI reduces the repo rate, the client (on an MCLR basis) will see a decrease in her effective rate only if the bank lowers her MCLR. For new customers, banks could reduce their spread on MCLR to offer an attractive rate. In case the loan is compared to the 1-year MCLR, if the bank revises its MCLR, it will only be reflected in the customer’s effective rate at the end of the year.
As of October 1, 2019, the RBI introduced the External Benchmarking System to replace the MCLR for home loans and other loans. This new loan rate system is only applicable for loans with variable interest rates. Banks now offer external loans linked to benchmarks which are linked to the repo rate, Indian government treasury bills, etc.
How have HFC and bank rates evolved?
Since October 1, 2019, the repo rate has fallen by 140 basis points from 5.4% to 4%, but the transmission of lending rates has been varied. While the major banks reduced their MCLR by around 110 to 115 basis points, the major HFCs reduced their PLR by around 80 basis points over the same period. But an HFC like LIC Housing Finance has not touched its PLR during the same period – it continues to be 14.7% as in October 2019. This means that an existing LICHF customer (who has not paid a conversion fee) would not have received any benefit from the 140 basis point drop in the repo rate during this period.
In fact, over the past 5 years, while existing mortgage clients of the big banks would have seen their rates drop by around 190-220 basis points due to the MCLR cut, HFC clients would have seen a drop. only about 25. -30 bps.
The reductions in MCLR and PLR are due to sharp reductions in repo rates. Between April 1, 2016 and March 31, 2021, the RBI reduced the repo rate by 275bp from 6.75% to 4%. In the past, the RBI has raised concerns about the transmission of reduced repo lending rates from banks on outstanding loans.
How do HFCs keep their prices competitive for new customers?
While there is a large gap between banks and HFCs when it comes to passing the benefit of reduced repo rates to existing borrowers, large HFCs compete with banks and offer similar rates to new ones. clients.
Since the HFC levels are compared to the PLR, they increase the discount on the PLR for new customers. But since existing customers only see a drop in their rates when the PLR is reduced, they do not benefit when HFC increases the discount on the PLR for new customers.
So if you took out a mortgage in 2017 and the PLR was then 16%, if the HFC offered a 7% discount, your effective rate would have been 9%. But once you’re on board, your rates won’t go down until the HFC lowers its PLR.
However, for new customers, as the RBI reduces the repo rate, the HFC reduces its rate by increasing the discount on the PLR. A new customer taking a loan in 2018 would have gotten a higher discount, say 7.5%, thus raising their effective rate to 8.5% (assuming there is no change in PLR).
While HFCs and banks offer the option to switch to the rates offered to new customers after the conversion fee is paid, a reduction in their PLR / MCLR would directly benefit borrowers. Existing customers often continue to pay rates above 9%, even though market rates on home loans have fallen below 7%.
What should existing customers do?
The transmission of rates for existing variable-rate mortgage customers is not very transparent. Existing customers should keep an eye on the rates they are paying and compare them with the rates the bank or HFC offers to new customers. If there is a difference, they should convert their loans at lower rates after paying the conversion fee, which varies from institution to institution.
When you pay the conversion fee, the bank / HFC revises your PLR / MCLR spread based on what they are offering to new customers. However, this will also depend on your CIBIL score.
Here’s how it can work: Suppose you have an outstanding principal of Rs 30 lakh on an outstanding home loan and the remaining tenure is 15 years (180 months). At an interest rate of 8% you would pay an EMI of Rs 28,669. However, if by paying a conversion fee you can lower the interest rate to 7.3% you can either reduce the term of your 13-month loan, or lower your EMI by 1,200 Rs.
Customers with a good CIBIL score (above 700) should negotiate the lowest possible rates. For a customer with a mortgage of up to Rs 30 lakh, the goal should be to get closer to a rate closer to 6.8%, which is currently the most competitive.