Which is the best time to Prepay Home Loan?

Which is the best time to Prepay Home Loan? Whether it is during the first few years of loan tenure? Is it wise to invest somewhere rather than repay the loan? Are we really saving the home loan interest by prepaying? Let us try to answer these questions by taking a simple example.

best time to Prepay Home Loan

Many of us have home loans and due to the recent uptrend in inflation and interest rates, most borrowers are thinking or in a dilemma of whether to prepay the home loan.

Which is the best time to Prepay Home Loan?

I know many of you may have already a readymade answer to this question that if the loan is fresh, then it is valid to prepay. However, what is the opportunity cost of not paying a home loan and investing somewhere else? Is it equal to the home loan rate or less than that?

The purpose of this post is to highlight this opportunity cost. This means if you invest the lump sum rather than prepaying the home loan, then what should be your ideal break up?

Many randomly assume that if the home loan rate of interest is 8% and if they prepay outstanding, then they will upfront save around 8% interest payment on the loan principal outstanding. However, it is completely MYTH.

It is mainly because in home loan EMIs, your interest part usually higher during the first few years, and afterward it will reduce drastically. Hence, when you are planning to prepay the principal, then how many years left and what is total outstanding interest you have to pay during the loan tenure also matters.

For our example, let us assume that the home loan amount is Rs.1,00,00,000, the interest rate is 8% and the tenure is 20 years. The EMI will be Rs.83,644. The total interest you pay during the whole 20 years period is Rs.1,00,74,561. If we combine both principal and interest, then in total you will pay Rs.2,00,74,561.

Let us break up the whole tenure into each of 5 years of loan tenure to understand what is the opportunity cost of prepaying the home loan and which is less stressful.

Balance after a specified year
Balance after (Yrs)5
Date18-04-2028
Interest Paid? 37,71,199
Principal Paid? 12,47,442
Outstanding Balance? 87,52,558

You noticed that during the first five years, you paid around 37% of the total interest (Rs.1,00,74,561) and you just paid around 12% of the principal.

So the outstanding balance to be payable is Rs.87,52,558 (principal) + Rs.63,03,362 (Interest) = Rs.1,50,55,920.

Now let’s assume a scenario where you have Rs.87,52,558 in your kitty after 5th year and you wish to repay the loan. So obviously for you, the saving is the interest part of Rs.63,03,362.

How much this amount of Rs.87,52,558 has to generate in the next 15 years to offset Rs.63,03,362? It is just around 3.7% rather than the plain assumption of many as 8% saving!!

Same way, if you wish to prepay after the end of the 10th year, then these are the numbers you have to consider.

Balance after a specified year
Balance after (Yrs)10
Date18-04-2033
Interest Paid? 69,31,344
Principal Paid? 31,05,938
Outstanding Balance? 68,94,062

You noticed that by 10th year, you paid around 69% of the total interest (Rs.1,00,74,561) and around 31% of the principal.

So the outstanding balance to be payable after 10th year is Rs.68,94,062 (principal) + Rs.31,43,217 (Interest) = Rs.1,00,37,279

Now let’s assume a scenario where you have Rs.68,94,062 in your kitty after the 10th year and you wish to repay the loan. So obviously for you, the saving is the interest part of Rs.31,43,217.

How much this amount of Rs.68,94,062 has to generate in the next 10 years to offset Rs.31,43,217? It is just around 3.82% rather than the plain assumption of many as 8% saving!!

What if you wish to prepay the loan after the 15th year? Below is the status of the loan after the 15th-year completion.

Balance after a specified year
Balance after (Yrs)15
Date18-04-2038
Interest Paid? 91,81,112
Principal Paid? 58,74,810
Outstanding Balance? 41,25,190

You noticed that during the 11th year to 15th year, you paid around 91% of the total interest (Rs.1,00,74,561) and 58% of the principal.

So the outstanding balance to be payable is Rs.41,25,190 (principal) + Rs.8,93,448 = Rs.50,18,639

Now let’s assume a scenario where you have Rs.50,18,639 in your kitty after 15th year and you wish to repay the loan. So obviously for you, the saving is the interest part of Rs.8,93,448.

How much this amount of Rs.50,18,639 has to generate in the next 5 years to offset Rs.8,93,448? It is just around 4% rather than the plain assumption of many as 8% saving!!

This is one more way to prove that paying the home loan during the first few years is far better and less stressful opportunity cost than postponing your home loan repayment at the latest stage of the home loan.

Note – To do further calculations on your own and to download the free Excel calculator, you can refer to our post “Prepay Home Loan Calculator – Download Free Excel Sheet“.

6 Responses

  1. Sir, rather than prepaying home loan what if we make an SIP of the surplus amount in an Index fund for same tenure as home loan is. Please provide your insights on the above.

    1. Dear Ravi,
      Those who propagate this theory are in one way or another way are Mutual Fund sellers. We can’t predict future interest rate cycle, your income stability and health status. I prefer debt free life than playing with unexpected future.

  2. Really a big eye opener Basu ji. It’s simple math but many people wouldn’t think from the point of RoI (closing loan). Thanks a lot for the article, shared with all of my friends.

  3. Hi Basu,

    So, the bottom line here that paying the home loan during the initial years, if possible, will be helpful. However, if a person doesn’t have enough capital to pay off the home loan during early years, then wouldn’t it be wise to pay an extra EMI every year and increase EMI amount by certain % every year (say, 5%)? With this approach, one can at least try to reduce the interest paid to the bank to maximum extent possible.

    1. Dear Mahesh,
      This post is only for lump sum. However, the options you mentioned are gradual best alternatives than just going on paying the regular EMI.

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