How good is a 40-year home loan?

Bajaj Housing Finance offers 40-year home loans

In the home financing space, mortgage loans typically come with a tenure of 20-25 years on average with the best case being 30 years. Now, Bajaj Housing Finance and a few others plan to disrupt the market with a 40-year home loan. For a young professional with a long career ahead, this may sound like a salivating opportunity. After all, the longer the tenure, the lower would be the EMI and hence lower the financial burden on the borrower. However, the argument is not as simple as that. Let us first look at the merits of such a long-tenure loan from the perspective of a borrower and lender.

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It does look like a win-win situation

On the face of it, the 40-year loan does look like a win-win situation for both the lender and the borrower. The lender is able to prise open a new market since this would bring a lot of young millennials as willing home loan seekers. After all, the EMI offered is around Rs733/lakh, so Rs2 crore home loan will come with a monthly EMI of Rs1.40 lakhs, which sounds like a reasonable bet. For the borrower, the long-term loan gives them a ready home at a very low monthly outflow, something they would be able to afford even at a young age. On the face of it, the product does look like having the potential to benefit both sides of the deal.

What are the risks to the lender?

The biggest risk for the lender would be matching maturities Let us explain this point. If the bank lends a 40-year loan, it must have long-term funding sources to back such assets. Today, in the Indian market it is impossible to get funding for 30-40 years at competitive rates. Even if finance companies are willing to take funding for such maturities, it is unlikely they will get counterparties. 

In the absence of such long-term funding sources, these finance companies would rely on shorter-term loans being rolled over. That can be fraught with risks in a rising interest scenario. Look at what happened to IL&FS. It was successfully funding its long-term assets with short-term liabilities. Everything was fine till rates started going up in 2018 and the money markets became tight. Such credit risk situations can exacerbate quite rapidly as we have seen in the past, so it is best to be wary.

Will 40-year loans really help the borrower?

If you think that such a long-tenure loan would be instrumental in bringing down your EMI, think again. The gains can actually be illusory as you would eventually end up paying a lot more. Here is a quick estimate. If you take a Rs1 crore home loan for 40 years at around 9.5%, you would end up paying nearly Rs4 crore for the home over a 40-year period. Even if you consider time value, 4X is a ridiculously high amount to pay for your home. A 15-year loan will entail just half this payout. It is also going to impact the credit rating for much longer.

Clearly, taking a very long-tenure home loan is hardly advisable considering the actual cost and the cost in terms of your credit standing. Then what is the way out? There are two ways to approach it. In case you want to reduce your EMI, ask your bank to structure with a bullet payment each year so the loan gets over faster. Alternatively, have a clear plan to prepay the loan in a shorter tenure and plan your finances accordingly. A very long-tenure home loan will not add much value.

Content Source: Financial Express