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RBI rate cut: How it impacts borrowers' EMIs and investors' income from deposits

This is the fourth time in a row that the RBI has cut the key rate this calendar year, starting from Feb 2019.

, ET Online|
Updated: Aug 08, 2019, 09.42 AM IST
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RBI-BCCL
In the three previous monetary policy reviews, RBI reduced the key policy rates by 25 bps each time.
The Reserve Bank of India's (RBI) rate cut yesterday brings cheer to borrowers but may well reduce fixed income earners to tears in the future. While a reduction in lending rates in the economy will clearly benefit loan takers, it also hits those living off income from fixed deposits when the rates on these go down.

RBI has cut the repo rate and reserve repo rate by 35 basis points (bps), respectively. This is fourth time in a row that the central bank has cut the key rate this calendar year, starting from February, 2019. (One basis point is equal to one hundredth part of one per cent.)

In the three previous monetary policy reviews, RBI reduced the key policy rates by 25 bps each time. By adding this rate cut, in total, the central bank has reduced key policy rates by 110 bps. Post the policy announcement, the repo rate stands at 5.40 per cent down from 5.75 per cent. Similarly, reverse repo rate has also been reduced to 5.15 per cent from 5.50 per cent.

Reduction in fixed income returns
In line with the reduction in key rates, recently, the State Bank of India (SBI) reduced interest rates on fixed deposits (FD). The interest rate cut has been sharper for short-term tenures, i.e., up to 179 days by 50-75 bps. However, for longer tenures the bank cut rates by 20 bps. The new rates came into effect from August 1.

Also Read: Latest SBI FD rates

Added to this, the government also reduced the interest rates on small savings schemes by 10 bps for the July-September quarter. Remember, interest rates on these schemes are reviewed every quarter.

Also Read: Interest rates are falling. Here's what you need to do

Reduction in interest rates on home loans
The Central Bank in its policy statement said, "The transmission of policy repo rate cuts to the weighted average lending rates (WALRs) on fresh rupee loans of banks has improved marginally since the last meeting of the MPC. Overall, banks reduced their WALR on fresh rupee loans by 29 bps during the current easing phase so far (February-June 2019)."

With regards to interest rates on loans, post the June Monetary Policy Review, SBI reduced its MCLR (marginal cost of funds based lending rate) by 5 bps across all tenors with effect from July 10, 2019. However, there has been no change in the base rate at 9.95 per cent and benchmark prime lending rate at 13.80 since March, 2019.

Ravindra Sudhalkar, ED & CEO, Reliance Home Finance says, “The Reserve Bank of India’s decision to cut rates by 35 basis point is a positive decision. The move to allow banks to lend to priority sectors, including to housing sector of up to Rs 20 lakh loans, through NBFC arms will kickstart credit flow especially to affordable housing sector. For the consumers to feel the benefit of lower rates, the RBI will now need to step in for accelerating transmission of the rate cut.”

SBI from July 1, introduced the facility of providing its customers home loans linked with the repo rate. From May 1, this facility was made available to SBI borrowers having cash credit accounts, overdraft accounts with limit over Rs 1 lakh. Therefore, a cut in repo rate will bring the interest rate down on such loans.

Also Read: Will borrowers gain from SBI decision of linking interest rate on home loan with repo rate?

SBI savings account holders with balances above Rs 1 lakh will be earning less going forward due to bank linking the interest rate on such accounts with repo rate from May 1. They will earn 2.65 per cent on their savings account balances.

It is not just SBI that has cut loan rates. Just a week ago, mortgage lender HDFC also reduced its lending rates by 10 bps for both new and existing borrowers. Over the past few months, many other banks and NBFCs have cut interest rates on their loans. Yesterday, HDFC bank also cut its MCLR by 10 bps across tenors.

Here is a look at how the latest rate cut can impact both new and existing borrowers.

Impact of the rate cut
A fourth rate cut is good news for borrowers as EMIs (equated monthly instalments) are likely to go down assuming banks will pass on the benefit of the rate cut.

Assuming that banks also pass on today's reduction in repo rate by RBI, here is an example of how your home loan EMIs are likely to be impacted:
Loan Amount (₹)

3000000

Tenure (Years)

20

Current Interest Rate (%)

8.50

Current EMI (₹)

26,035

New Interest rate (%)

8.15

New EMI (₹)

25,374

Cut in EMI (₹)

661

Interest rate taken from SBI website for Rs 30 lakh loan for salaried class, male borrowers. Assuming banks pass on the entire rate cut from RBI in tandem.

Here's what different types of borrowers can do post the fourth consecutive rate cut.

Existing borrowers
A) With loans linked to MCLR

For existing borrowers, four consecutive repo rates is good news, however, this rate cut will see a reduction in your EMI outgo only when your bank lowers its MCLR. Further the reduction in MCLR will translate in lower EMIs outgo only when the reset date of your home loan arrives.

Usually, a bank offers loan with reset period of six months or one year. On the reset date, your future EMIs will be calculated on the basis of the interest rate (bank's MCLR plus margin of the bank) prevailing on that date.

To further reduce your home loan burden, you can prepay some amount. Click here to know how you can prepay.

B) With loans linked to base rate or BPLR
If your home loan is still linked to the base rate or BPLR, then you should consider switching to an MCLR-linked loan. This is because MCLR offers better transparency and transmission of policy rates in comparison with base rate and BPLR rates, as per industry experts.

As per RBI guidelines, all the loans disbursed on or after April 1, 2016 are to be linked with MCLR. Borrowers who took loans prior to April1, 2016 can either switch to MCLR with the same bank or transfer their loan to another bank for this purpose.

For new borrowers
As a new borrower, you have the option to choose to take your home loan linked with either MCLR or repo rate. However, do check and compare the terms and conditions and before taking a loan. Currently, SBI is offering home loans at interest rates directly linked to the repo rate as per a pre-set formula.

Also check if you can avail the benefit of credit subsidy available under the Pradhan Mantri Awas Yojana (PMAY) along with a loan linked to MCLR or repo rate. Middle income group - I (MIG -I) with household income between Rs 6 lakh and Rs 12 lakh can avail interest subsidy of 4 per cent whereas middle income group - II (MIG -II) with household income between Rs 12 lakh and 18 lakh can get interest subsidy of 3 per cent under the scheme. The benefit of interest subsidy for both the groups is available till March 31, 2020.

Also Read: Everything you need to know about PMAY

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