Owning a house is probably the biggest financial commitment one makes in their lifetime. Although home loans do assist in bearing the high cost associated with this dream, they usually finance only up to 75 percent to 90 percent of the cost involved. Home buyers are, therefore, often required to accumulate a minimum of 10 percent to 25 percent in the form of down payment, which may prove to be a tricky task if not planned properly. Here are some tips which would guide you while planning for your home loan’s down payment:
Do’s * Start planning early
The earlier you start accumulating down payment corpus, the more time you would have to grow your money and benefit from the power of compounding.
After taking into consideration required down payment amount as per the property value, your existing income and debt repayment; it’s important for you to choose the right investment avenue according to your risk appetite and investment horizon. Consider investing in high yield fixed deposits or debt funds if you need to accumulate down payment within 3 years; hybrid funds for an investment horizon of 3- 5 years; and equity mutual funds for an investment horizon of above 5 years.
* Try to pay higher down payment
Try to contribute higher downpayment instead of accumulating just the minimum requirement of 10-25 percent. This is because the higher you contribute from your own pocket, the lesser you would need to borrow and repay in the form of principal as well as applicable interest on the home loan. Moreover, lower LTV ratio requirement would also boost the chances of loan approval. However, make sure you don’t overstretch your finances or hinder the achievement of other important goals while trying for a larger down payment.
Don'ts * Don’t dip into earmarked investments
When it comes to funding loan down payment, homebuyers often commit this mistake of disturbing their earmarked investments set aside for retirement and child’s higher education. They fail to realize that doing so would have not one but two consequences. First in the form of failure to achieve the set goals, and being exposed to the possibility of booking losses while redeeming market-linked investments during bearish market conditions. Hence, avoid disturbing money that you may have earmarked for other long-term goals.
* Avoid borrowing to fund down payment
Home buyers, who aren’t able to accumulate down payment, often end up borrowing to fulfil the requirement. Such individuals fail to realize that although borrowing options such as personal loans or gold loans may seem to be a convenient and quick way of procuring the required amount, they can have their own set of consequences as well.
Firstly, as lenders usually prefer to lend to borrowers whose fixed obligation to income ratio (FOIR) remains within 40-50 percent limit, your home loan application may get rejected if the combined EMIs of your personal loan or gold loan, along with that of the home loan to be taken, push your FOIR past this level. Secondly, since home loan repayment is probably the biggest financial commitment one makes, involving high loan amount and longer tenures stretching up to 20-30 years, taking up the responsibility of an additional loan to procure a home loan may strain your finances, especially in case the need to borrow funds arises in future, whether in the form of medical emergency or simply to fulfil goals such as purchase of vehicle.
Also, whenever you submit a loan application to the lender, the lender fetches your credit report from the credit bureau, which is termed as a hard enquiry. Credit bureaus pull down your credit score by a few points upon receiving such enquiries. Therefore, applying for a loan to procure the down payment amount would drop your credit score by a few points, which may hinder your home loan approval chances, since lenders usually either reject or charge higher interest rates from borrowers whose credit score doesn't meet their eligibility criteria.
Ratan Chaudhary is head of home loans at Paisabazaar.com