Choose Between Loan Repayment And Investing Based On Returns – Livemint – 23-Dec-2014
December 27, 2014 - Uncategorized
I have a home loan of Rs.30 lakh. Of this amount, only Rs.5 lakh is left unpaid. I have been given a bonus this year. Should I invest this money or repay the remaining loan amount? Other than the home loan, I have no other liabilities. In terms of savings, I have about Rs.10 lakh. I am 45 years old and married. My wife also works. We do not have any children. —Krishnakanth This is not as easy as it sounds. There are many factors you need to consider before reaching a conclusion. And, of course, with the intent being to find the option that gives you a better return on money—repayment of loan or investing the money. Firstly, is the property in your possession, either through acquisition or constructed? If the answer is yes, then you get the benefit of interest on housing loan as deduction at the time of filing of your income tax return. Let us take your housing loan interest rate at 10%. The net rate after considering the benefit of deduction will be 6.91%. We are assuming that your marginal rate of tax is the maximum; in case it is lower, the net borrowing rate will change accordingly. This now needs to be compared with the proposed investment you may do. If you believe the said investment will yield a return of more than 6.91% post-tax, you have the answer. The verdict is to go for investments instead of repaying the loan since achieving a return of 6.91% net of taxes is doable without taking any undue risk. In case the house is not in possession and is still under construction, then the above equation will change. The benefit of interest on housing loan will not be available as the property has not yet been acquired or constructed. The said benefit will be available in five equal instalments commencing from the year in which the house is acquired or constructed. In this case, the cost of borrowing remains the same, i.e., 10% to continue with the above example. So, the return on investments needs to be more than 10% net of taxes to justify the decision of investments. If you believe that this rate of return cannot be achieved, then paying off the loan would be a better decision. If you want to go into further details, then you can even consider the future cost benefit after the house comes into your possession. There are some other factors that you should consider before you decide on what to do with your bonus. Do you want to create or enhance your liquidity, considering your existing investment corpus? Based on the information that you have provided, you have paid for most of the loan tenor and with only 17% of the loan outstanding, you would have already paid a fair amount of the interest cost. Do check how much more interest you have to pay on the outstanding amount in the home loan. If the amount to be paid is not too large, that can also help you in taking a decision.