Is it better to take short term home loan when we plan to repay earlier ?

POSTED BY sunil ON May 27, 2011 12:16 am COMMENTS (3)

I am planning to take a home loan which I am planning to repay in 5yrs by doing pre-payments. But to be on safe side (in case I am not able to pre-pay based on future situations) I am going to take a longer term loan. Now my question is should I take a 10yr loan or 15yr loan. If I am anyway going to repay the whole loan in 5yrs, will the duration (>5yrs) of the loan have any effect ?

 

My thinking is as follows and want to hear to comments if I am correct or not (Assuming no pre-payment penalty)

As the interest component in EMI is more in case of longer term loans, and especially given the fact that more interest component (than principal component) is recovered in the initial EMIs it will be better to take short-term loans. Every month whenever I pay more than the EMI, it will go to interest+principal+prepayment and the loan is recalculated again for the total duration of the loan. At any given point in time, for a longer-term home loan the interest portion will be higher than the shorter-term loan. So, I am better off taking a shoter-term loan if I plan to pre-pay.

3 replies on this article “Is it better to take short term home loan when we plan to repay earlier ?”

  1. ashal jauhari says:

    Dear Aditya, Thanks for all the praises, By the I’m a chemical Engineer by prof. & not C. A. as you thought. Regarding the info I ‘m providing it’s all due to help of friends like you & of course some financial Mags. like Outlook Money & sites like Moneycontrol. The more I interact with people on internet, more knowledge i’m getting from all of you. that’s the source of info.

    Thanks

    Ashal

  2. ashal jauhari says:

    Dear Sunil, If you are quite sure of your future financial position opt for a short term home loan. In case you are in doubt, opt for long term home loan & prepay early in lump sum amounts say 50K every 3 months or 6 months.

    Please try to understand that for a given rate of interest, if it is common for both 10 & 15Y term, the interest part in EMI ‘ll be same for 1st EMI.

    Interest amount = Loan amount * % rate of interest / 12 (months) to get mly interest amount. So be it 15Y or 10Y, the interest amount ‘ll be same for 1st EMI.

    Now for 10Y loan term, the EMI ‘ll be higher than 15Y loan term to repay loan amount early. Thus the principal repaid in each EMI ‘ll be higher which ‘ll reduce the loan amount faster & thus over all interest amount for each subsequent month as per above formula.

    Thanks

    Ashal

    1. Aditya Pednekar says:

      @ ashal – i have read quite a few responses from your end wrt to home loans, taxes etc. & must thank you for the information you have been providing.Very well written and upto the mark. I hope people do follow it up seriously. Correct me if am wrong , but your information is almost C.A.(ish) ? Am saying this cause my C.A. advised me on similar line, take up a home loan for shorter duration as he and me both knew that I could make part pre-payments, make the payments to negate the excessive interest pain in the EMI’s and then stop the pre-payments to claim tax benefit i.e. the interest I currently pay via emi amounts to nearly 1.5 lac annually which i can claim tax benefit on while rest is principle component in the emi. Do let me know if you approve of this strategy or no?

      @ sunil – perhaps you could do the same , I am open for suggestions/views on this.

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