How increasing home loan EMI by even ₹1000 will help you save lakhs

Home loans are long term borrowings that cost you substantially by way of interest income. At the current average rate of interest of say 8.5%, on a ₹50 lakh loan over a 20 year tenure, you end up paying total interest of ₹54.13 lakh, so a ₹50 lakh home loan costs you as much as ₹1.04 crore.

However, if you understand and logically increase your EMI payment even by ₹1000 per month, you not only will be able to reduce your interest payments substantially over time, but also can manage to lower the total home loan tenure.

Here, it is important to know that this happens for a simple reason that in the initial years of your loan repayment, most of the EMI component goes towards the principal payment and as the principal reduces so does the interest on it.

Illustration:

Validating the interest savings as well as reduction in loan tenure, Kirang Gandhi, Director, Kaarmika Wealth Mentors Pvt Ltd, shared the following example:

Assume a ₹1 crore home loan at 8.5% interest for 20 years. The EMI is around ₹86,782. If you increase it by just ₹1,000, your EMI becomes ₹87,782. This small step can reduce the loan tenure by nearly 7 months and save around ₹3.7 lakh in interest.

Now in the new scenario, when the new EMI is raised by ₹1000 to ₹87,782, the tenure can be computed using the formula: N= log( EMI/ EMI-P*R)/ log (1+r)

Where N is the new tenure, EMI is the new increased EMI, P is the initial loan principal and r is the monthly interest rate that is arrived at by

= 8.5/12*100= 0.0070833

= log(87782/ 87782-10000000*0.007)/ log(1+0.0070833)

= 233 months i.e. nearly 7 months less time will be taken to pay off the home loan debt with the revised higher pay-out over time.

Now interest savings can be computed as below;

With the extra EMI payment over a reduced tenure of 233 months, the total payment comes to be ₹2,04,53,206, which means the total interest outgo with the higher EMI will be ₹1,04,53,206, implying a lower net interest outflow by ₹3,74,474 over the loan tenure.

“The lesson is simple: even a small increase in EMI attacks the principal faster. Don’t wait for big income growth; small, disciplined prepayments can create big financial freedom,” added Gandhi.

Importantly, lower ticket size home loans may save even more as ₹1000 extra in EMI payment month-on-month will save more proportionally.

When will pre-payment or extra EMI payment benefit the borrower?

The primary benefit of increasing the EMI amount or pre-payment is reduction in your interest outgo. And it is during the initial stage of your home loan when the interest component in the EMI is the highest. So, make it a point to start early with pre-payment or paying extra EMI amount as during the mid-to-late stage, you may fail to reap to the maximum benefit on interest savings.