RetailLending.com Sukanya Kumar
When you borrow to purchase an under-construction property, you probably do not notice whether your repayment mode is a pre-EMI or EMI. All you know is you have to pay an 'x' amount every month. Some of you feel joy when your lender offers you the 'facility' of starting the EMI only after possession. You consider this as a opportunity to save money and consider this as a 'flexibility' offered by your lender which allows you to start the repayment only after you enter your new home.
But, before you accept that offer, understand the matter first. Here are some frequently asked questions and answers which may help you get the clarity-
FAQ-s:
What is EMI?
Equated Monthly Installment(EMI) is a repayment option where you pay both interest and principal to the lender via a monthly fixed payment. The interest payable throughout the loan tenure gets computed over a chart called amortisation schedulewhich portions the interest and principal in a descending and ascending order respectively.
What is Pre-EMI?
Pre-EMI is the only simple interest payable on the principal drawn for the number of day's os usage, payable to the lender on a specific day of every month. Upon drawing down further amount, it keeps increasing since the interest payable on the principal drawn increases accordingly. This mode of payment is possible only in case of under-construction purchases where the loan disbursement happens in tranches.
How does one benefit from opting for either?
If you can afford to start paying the EMI, that is, both principal and interest from the beginning, it helps you reduce the outstanding principal as well as the tenure from the very first month. If you are staying in a high-rental accomodation and do not have spare money to start the EMI right now, you may prefer to start paying the 'interest-only' on the partially disbursed amount which is Pre-EMI.
Who should opt for Pre-EMI?
As mentioned, if you are not comfortable starting to pay off the loan principal right now due to constraint in fund-flow, you could opt for Pre-EMI till you can start paying the EMI. This does not essentially mean that you will have to wait till possession. You can switch in-between too. Ask your mortgage adviser to structure that option for you.
Who should opt for EMI?
Similarly, if you have spare cash to start the monthly EMI right now, you can start repayment of the loan right away. This way your loan principal repayment starts and your unexpired tenure reduces too.
Can the repayment mode be switched from Pre-EMI to EMI in the midterm prior to possession?
Yes, there is. We generally advise our clients to not to wait till possession to start the EMI. In a situation where say, you have drawn down 95% of the loan and the final 5% is payable on possession, but the project is delayed by 6 months, which is a common phenomenon in India, you land up paying Pre-EMI(simple interest) on almost the complete loan amount for 6 months, which is actually close to the EMI amount itself. Your acquisition cost shoots up and no repayment of the principal or reduction in the tenure happens! So, switching to EMI mode after drawing down 70-75% is recommended. But not all lenders allow that. Are those who allow, won't initiate it for you. You will need your adviser to structure this for you.
What do you recommend? What is beneficial for the borrower?
Depends on the borrower's suitability. One must keep the following risks in mind if you opt for Pre-EMI:
(1) Few lenders do not allow you to part-preclose the loan under Pre-EMI stage. They will ask you to pay installments to the builder instead for a few tranches, but won't let you reduce the loan amount.
(2) Some lenders give you automatic Pre-EMI option without checkling with you. This is very risky. In the loan application, there is no provision to opt for it and generally during loan agreement signing either you forget to check or specify or the lender overlooks it in a hurry.
(3) You save no tax by paying interest-only to the lender and some don't even issue you the interest certificate. If you are paying the EMI from the beginning, you can claim all the interest paid during the under-construction stage in a spread of 5 years, after taking possession. You can not do so for payment of Pre-EMI.
(4) Upon getting the possession only your repayment starts. So, whatever sum you have paid so far neither reduced your principal, not tenure. If you had opted for a 20 year loan term 5 years ago and paid Pre-EMI for 5 years, then you pay 5+20 years. Some lenders consider this 5 year Pre-EMI term included in the 20 year and amortise your repayment in 15 years, making the EMI amount higher!
(5) Delay in possession bleeds you bad. For example, if the loan amount was 1 crore and 95% of that is drawn, you pay interest only on 95 Lacs for all the months of delay without a single rupee repayment, for which the EMI could be lesser than 1 Lac a month, wherein you pay 95,000/- of Pre-EMI unnecessarily.
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