Key Factors That Influence Your Home Loan Interest Rate

The duration of a home loan is a substantial financial responsibility and even minor changes in interest rates affect total repayment costs. Gaining complete knowledge about the factors determining home loan interest rate helps first-time homebuyers and existing loan refinancers make better financial choices.

The home loan interest rates are influenced by personal financial elements and general economic factors. This blog investigates the main factors influencing your home loan interest rate and highlights the most effective strategies to enhance your opportunity for securing a beneficial interest rate.

1. Credit Score and Credit History

The lenders base the home loan interest rate on the candidate’s credit score. Credit scores ranging between 300 and 900 represent your creditworthiness through past credit behaviour. The financial management skills of responsible borrowers can be identified through a credit score exceeding 750. Working with these enhanced credit scores ensures borrowers avail ideal interest rate opportunities. 

On the other hand, a poor credit score indicates financial risk for lenders. Therefore, financial institutions may deny your application or charge elevated interest rates. Your credit score improves through timely payment of credit card expenses and loan instalments. 

Monitoring frequent loan applications and maintaining a credit utilisation ratio under 30% also play vital roles in determining the final interest rate on home loans. Regularly monitoring your credit report allows you to discover and fix any incorrect information, strengthening your credit profile in the long run.

2. Loan Amount and Loan-to-Value (LTV) Ratio

The final loan amount requested impacts the interest rate offered by the bank. Financial institutions and banks evaluate the Loan-to-Value ratio by determining the percentage of property value they will finance through the loan. For example, an LTV ratio of 80% is determined if you buy a ₹50 lakh property while borrowing ₹40 lakh.

A higher down payment or a lower LTV ratio provides additional confidence in lenders, encouraging them to issue lower interest rates to borrowers. When you make a smaller down payment, your LTV ratio increases. Therefore, the over lender risk also amplifies, resulting in higher interest rates. Your chances of securing a better interest rate improve when you increase your down payment to lower the final LTV ratio.

3. Type of Interest Rate: Fixed vs. Floating

Borrowers generally have two options for home loan interest rates during the application process. These options are addressed as fixed and floating rates. The fixed interest rate stays constant throughout its duration, resulting in predictable monthly EMI payments. The primary advantage of fixed rates is that borrowers work with substantial financial stability. 

On the flip side, floating interest rate adjusts its value according to market conditions and MCLR rate (Marginal Cost of Funds-Based Lending Rate) changes. The initial cost of floating rates remains below fixed rates.  However, the interest rates will likely rise throughout the loan period. Borrowers who wish to work with fixed EMIs should choose fixed rates. Whereas, borrowers compatible with market rate changes will prefer floating rates.

4. MCLR Rate and External Benchmark Rate

Indian home loan interest rates follow either MCLR rate (Marginal Cost of Funds-Based Lending Rate) or external benchmarks under the repo rate. Banks cannot offer loans below the minimum MCLR rate which was created by the Reserve Bank of India (RBI). A reduced MCLR rate determines lower home loan interest rates. Therefore, it’s essential that borrowers track the fundamentals of the MCLR rate.

The RBI’s repo rate directly affects interest rates on home loans as certain banks prioritise this benchmark. Borrowers who have repo-linked loans obtain reduced interest rates, depending on the regulations and decisions implemented by RBI. 

5. Income Stability and Employment Profile

The assessment process for home loan interest rates depends on your employment status, income, and employment stability. Borrowers who work in stable positions at government institutions or established private organisations qualify as low-risk applicants, thus they obtain reduced interest rates on their loans. Lenders prefer professionals who receive regular salaries as they demonstrate reliable payment abilities.

Self-employed workers, freelancers, and people with fluctuating income will generally receive higher interest rates from lenders since there is a greater risk of payment lapse. The opportunity to secure a lower interest rate will improve when you maintain steady income, file your taxes on time, and maintain detailed financial documentation.

6. Relationship with the Lender

The home loan interest rate may be influenced by your current relationship with a financial institution or bank. Lenders tend to give special interest rates to borrowers who have used their financial services or maintain their salary accounts with the institution for a long period.

Financial institutions provide their loyal customers with advantageous loan conditions and reduced processing fees. If you already have a banking history with a particular lender, it is worth exploring any exclusive loan offers that may be available to you.

7. Loan Tenure and Prepayment Options

The duration of your loan affects the interest rate offered by the lender. Short-term home loans spanning 10 to 15 years usually result in reduced interest costs and larger monthly payments. Consequently, home loans with extended durations spanning 20 to 30 years offer lower monthly instalments because of their higher interest rates.

Some lenders enforce financial penalties when the clients pay off their home loans early or foreclose the mortgage. Prepayment flexibility should be verified before loan finalisation as it allows borrowers to pay off their loans early and reduce their total interest costs.

Final Thoughts

The process of obtaining the best home loan interest rate depends on strategic financial preparation and possessing detailed knowledge on factors that influence lower interest rates. Your home loan cost will substantially decrease when you maintain a good credit score, choose appropriate loan periods, have complete awareness of MCLR rate, and regularly use an online home loan EMI calculator.

An improved home loan eligibility combined with market trend research allows you to make decisions that lower your interest payments. Through thorough lender and loan option comparison, you can obtain the best possible deal, making homeownership more affordable and accessible.