Before Taking Home Loan

Taking a home loan is a mammoth task, especially with all the paper work and cumbersome legal formalities involved. A lot of first time home loan customers are unfamiliar with several loan jargons and find themselves at a loss while dealing with bank officials and builders. But taking a home loan is one of the biggest financial liabilities you will incur. Thus, before you take the leap, you must familiarize yourself with related terms and common practices.
So, we have compiled a list of 12 Common Terms You Must Know Before taking a Home Loan:

1. What is Margin?
In 2010, RBI set a ceiling limit on home loans which limits the amount of loan one can take against property to 80% of the property value. This means that while the bank pays 80% of the total cost of your property, the remaining 20% needs to be paid by you. This remaining amount is referred to as margin or downpayment.
For example, if you purchased a property worth 75 lakhs, then the bank can fund up to 80% of total amount, which is 60 lakhs. So, the remaining 15 lakhs has to be paid by you.
However, in practice a lot of other factors determine an applicant’s loan eligibility.
The higher the margin amount, lesser will be your loan amount, reducing the total cost of your property (since interest paid on home loan adds on to total cost of property).

2. What is an Offer/ Sanction Letter?
An offer letter is a formal confirmation from the bank stating that it has agreed to consider you as one of its loan customers. It does not confirm sanction of home loan. The loan will be disbursed after a verification of all legal documents and eligibility of applicant. The validity of a sanction letter is generally around 6 months. If the loan is not availed during this period, the sanction lapses and the entire process needs to be reworked if applicant approaches bank again.
A sanction letter usually states the following;
• Amount of loan sanctioned
• Loan tenure
• Interest rate applicable
• EMI and pre-EMI amounts applicable
• Validity of sanction letter
• Terms and condition of loan agreement

3. What are Post Dated Cheques?
Taking PDCs for home loan repayments is a common practice banks. These cheques are addressed to the bank, state the exact EMI amount and are signed by you. These cheques cannot be processed ahead of datementioned on them.

4. What is Disbursement?
Disbursement means payment. It refers to the release of loan amount to borrower by lender. Usually, banks disburse the loan amount once all the submitted documents have been verified and the down payments have been paid. A loan is always disbursed by cheque, which can be credited into a loan account with the bank; it is never given by cash.
Most banks charge a loan disbursement fee. It is added the principal amount when loan is granted. This fee covers all expenses involved in giving the loan to you.
A loan can be disbursed in different ways, depending on your arrangement with the bank and its policies:
• Full disbursement: A full disbursement means the entire amount is paid in one go. The bank hands over entire payment to seller on your behalf.
• Partial disbursement: A partial disbursement means that the payment is made in stages. If you are buying an under construction property, then the bank will disburse payments as the construction progresses. For example, after completion of first floor, 20% of the payment will be made and so on.
• Advance Disbursement: An advanced disbursement means that the entire payment is made before the completion of project. This is done only if the buyer request the bank to do so, or it is convinced that builder will complete construction on time. However, advanced disbursement is not common practice.
EMI is the repayment you make to your lender every month. It is an unequal combination of your principal repayment and interest payments. According to the thumb rule, EMI should not exceed more than 30% of your total income, considering other liabilities. To arrive at EMI, your bank will consider several parameters;
• Principal amount
• Repayment period
• Rate of interest
EMI payments start once the loan has been fully disbursed. A break up of your EMIs over the entire loan term can be found in your amortization schedule. It’s important to go over your amortization schedule regularly to keep a track of any changes in interest rate or loan tenure made by the bank.

6. What is Pre-EMI?
When you buy property which is under construction, loan amount is partially disbursed to the builder. When a loan is partially disbursed, only interest payments are made on that amount. These interest payments are known as pre-EMI. So the longer your builder takes to complete construction, the more interest you pay to the bank, adding on to the cost of your property.
Pre-EMIs too have tax benefits. After the construction is completed, you can claim tax deduction in five equal annual installments. However, any principal repayments made during this period are not liable for taxdeductions. But this should not stop you from making repayments as it brings down your loan burden considerably.

Is paying full EMI a better option than pre-EMI?
Even though paying pre-EMI seems more lucrative in the short run, as you have to pay only the interest component, opting for full EMI payment is more beneficial in the long run. This way you start repaying principal amount even before you get possession, reducing total cost by reducing the tenure of home loan.
For example, in the case of pre-EMI, if loan tenure is 20 years, and the builder takes 3 years to complete construction, you will actually end up making interest payments for 23 years.

7. What is Resale Property?
When you buy property from someone who already owns it before, it is termed as resale. It indicates that you are not buying a new home straight from the builder and are not the first owner of that property. While buying resale property, make sure you have a record of all previous owners of property and the reseller has undisputed ownership. This will ensure smooth processing of loan application.
Now days, several builders get their projects pre-approved by lending institutions. A pre-approved property means that the concerned financial institute has verified all legal and technical documents of the project and has found them in order. So any buyer, who applies for a home loan for this property, need not get the legal verification done again.
There are several misconceptions held by borrowers related to pre-approved properties, here are a few of them:
• Getting a home loan is assured: Several builders misguide customers by assuring them home loans from the financial institute which has pre-approved their project. This is not true. Each application is assessed individually and there is no guarantee that home loan on pre-approved project will always be approved.
• The project will complete on time: Though the financial institute takes into consideration, the builder’s past records and ability to complete projects on time, it doesn’t mean that it will take any action if construction is delayed
• The project is legally safe: Though in most cases this holds true, sometimes, small banks undermine several legal aspects and approve the project to get more business. So it’s always advisable to check which bank has pre-approved the project. A reputed bank is less likely to undermine such details which giving approval.
• Less documentation is good: Since the project has been pre-approved, the builder can directly share several documents with the bank, keeping you out of the loop. This way you are saved from the hassle of handling so many documents, but you will never get access to important documents related to the project.
• You cannot take home loan from other lenders: This is not true! Just because the project has been pre-approved by a particular bank, it doesn’t mean you have to take the loan from them. The builder may try it’s best to convince you otherwise, but you are free to take a home loan from any lender of your choice.

9. What is Credit appraisal?
Credit appraisal is a check on the applicant’s financial situation to determine eligibility for home loan and the maximum loan amount. Credit worthiness of an applicant assures his repayment capacity. Several parameters are considered to confirm the credit worthiness of a loan applicant.
• Incomes of the applicant and co-applicant
• Age of applicants
• Qualifications
• Nature of profession
• Employer
• Security of tenure
• Tax history
• Assets owned and investments
• Additional sources of income
• Recurring liabilities

10. How is Pre-Payment of loan beneficial?
When a borrower chooses to make lump sum repayment of loan, it is termed as pre-payment. Pre-payments are beneficial as they help get rid of debt faster by reducing loan tenure.

11. What is Security in a loan?
Security is the asset provided by borrower while taking loan. In this case, the property being purchased serves as asset for home loan. If you fail to repay the loan due to certain circumstances, the bank can sell this property or convert it into an asset to recover loan amount. Therefore, before finalizing a loan, you must analyze the terms and conditions of various banks, and choose the one with favorable terms.

12. Processing & Administrative Fees
Every bank charges processing and administrative fees for processing the documentation of your home loan. On an average, the fee ranges from 0.5% to 2% of loan amount. Though it seems like a small percentage, it can add considerable weight to your home loan costs. Several banks offer schemes wherein they waive off processing fee, to attract more customers. So while choosing a bank, it is advisable to opt for one which offers the lowest or no processing and administrative fees.
For more information on home loan related terms, refer to; 3 Important Home Loan Terms Before You Switch!
Use the calculator below to see how much you can save by switching your loan to a lower interest rate. You can compare interest rates across 12 banks and see all processing and administrative fees the banks hide from you!

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