Pay High Interest for Higher Loan to Value Ratio

Indian Home Loan Market is gradually maturing. Sometime back a very imp news which went unnoticed was regarding setting up of India Mortgage Guarantee Company (IMGC). India Mortgage Guarantee Company is promoted by IMF, AIG and NHB (National Housing Bank) which in turn is wholly owned subsidiary of Reserve Bank of India (RBI). All HFC’s (Housing Finance Companies) have to register with NHB before starting Housing Finance Business. Now you must be wondering why i am sharing this background and as a borrower how will i benefit from setting up of India Mortgage Guarantee Company. Lets check it out

At the time of availing Home Loan, every borrower come across a term Loan to Value Ratio. Loan to Value Ratio or LTV is ratio of the Home Loan amount you wish to borrow to the actual value of the Home/Property. For example, one of my reader Ms. Shalini Arora is planning to buy a property worth 50 lakhs in Jaipur and she wish to avail Home Loan of 45 lakhs then her Loan to Value Ratio is 90%. Higher Loan to Value Ratio means high risk for bank as the probability of default increase. In order to hedge mortgage risk, RBI restricted banks to maintain max Loan to Value Ratio of 80% (90% for Home Loan of less than 20 lakhs). RBI also instructed banks to exclude Stamp Duty, Registration Charges, VAT & ST from the value of the property. These restrictions are applicable only for Home Loan from Banks. Earlier these charges were included in value of the property and 80% Loan to Value Ratio was calculated with these charges. After RBI guidelines on Loan to Value Ratio, Borrower has to shell out approx 25%-30% of total value of the property from own funds. For example, if we consider same example of Ms. Shalini Arora, the stamp duty  & other charges are approx 5 lakhs therefore bank will consider value of the property as 45 lakhs i.e. 50 lakhs minus 5 lakhs. She is eligible for Loan to Value Ratio of 80% from bank thus she can get max Home Loan of 36 lakhs from bank and she need to pool balance 14 lakhs from her own funds which is 28% of total value of the property. Her effective Loan to Value Ratio is 72%. Now we must agree that Loan to Value Ratio is very critical factor while availing Home Loan from Banks. Finally Ms. Shalini Arora dropped the idea of buying a property as she was not able to pool 14 lakhs from her own funds.

Customers who would like to borrow more i.e. better Loan to Value Ratio should try their luck with HFC’s like HDFC, Indiabulls, DHFL, Tata Capital etc. The rules related to Loan to Value Ratio are more relaxed compared to Banks. Lets check how

(a) Stamp Duty, Registration Charges, VAT and other charges are included in the value of the Property therefore customer will get higher Home Loan amount.

(b) Loan to Value Ratio of HFC is as follows

For Home Loan of upto 20 Lakhs: 90%

For Home Loan between 20 Lakhs to 75 Lakhs: 85%

For Home Loan more than 75 Lakhs: 80%

If Ms. Shalini Arora apply for Home Loan from any HFC then her eligibility will increase from 36 Lakhs offered by bank to 42.5 Lakhs. In short, her LTV will be 85% as her Home Loan amount is falling in 20-75 lakhs slab. Secondly, stamp duty, registration charges etc will be included in the value of the property therefore her Home Loan eligibility will increase by 6.5 lakhs. At the same time, she should keep in mind that Home Loan Interest Rate of HFC’s are linked to BPLR / RPLR which has its own set of disadvantages. A loan from HFC is beneficial only in case the customer would like to borrow more i.e. high Loan to Value Ratio.

Some more good news to follow. After setting up of India Mortgage Guarantee Company young people like Ms Shalini Arora at early stage of their career can borrow even more. She need not to drop an idea of buying a house as she can avail Loan to Value Ratio of 90% for Home Loans of more than 20 lakhs but at slightly higher Rate of Interest. These loans will be guaranteed by India Mortgage Guarantee Company. India Mortgage Guarantee Company will provide cover of upto 30% against mortgage value.

Unfortunately there are NO FREE Lunches in this world. The premium for this additional guarantee cover will be borne by the borrower who wish to avail high Loan to Value Ratio. For every 1% of guarantee cover, the interest rate will increase by approx 1.2 basis point or 0.012%. Depending on risk assessment of a borrower, if Home Loan provider opt for guarantee cover of 30% from  India Mortgage Guarantee Company then Rate of Interest will increase by approx 36 basis point or 0.36%. In short, if HDFC is providing Home Loan @ 10.15% under regular scheme without guarantee cover i.e. Loan to value ratio of 85%. If customer wish to increase Loan to Value Ratio to 90% then his/her Rate of interest may increase upto 10.51% with Loan to value Ratio of 90%. Another possibility is that HFC’s will charge upfront premium for guarantee cover and will keep rate of interest same. 2nd option will be financially more beneficial for customer. It all depends on how the HFC design these Home Loan products.

Word of Caution: Home Loans with High Loan to Value ratio of 90% with guarantee cover will expose both HFC’s & Borrowers to high risk as the probability of default might increase. 2 Possible reasons for high default rate (a) Higher Interest Rate & (b) Borrower may buy High Value Property because of easy availability of High value Home Loan. For borrower, it is critical to evaluate financial health and calculate repayment capacity considering current & future liabilities in mind. After all Home Loan has to be repaid in future.

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