Question 1

How is the interest portion of my EMI calculated every month?

Accepted Answer

Most loans use the 'Reducing Balance' method. Every month, the interest is calculated based on the outstanding principal amount, not the original loan amount. For example, if you owe ₹10 Lakhs at 10% interest, the first month's interest is roughly ₹8,333. After you pay your EMI, a portion goes toward this interest and the rest reduces your principal. Next month, the interest is calculated on the *new* lower principal. This is why, in the early years of a long-term loan, your EMI consists mostly of interest, and only a small fraction goes toward principal repayment.

Question 2

Does a 0.5% difference in interest rate really matter for a long-term loan?

Accepted Answer

Yes, significantly. On a large, long-term loan like a Home Loan for 20 years, even a 0.5% rate hike can increase your total interest outflow by lakhs and potentially extend your tenure by several months or years. It is always advisable to compare different lenders and periodically check if you can transfer your balance to a lower-interest lender (Balance Transfer), as the cumulative savings over two decades can be substantial.

Question 3

What are the benefits of making partial prepayments on a home loan?

Accepted Answer

Partial prepayments directly reduce your outstanding principal. Since future interest is calculated on this reduced principal, prepaying even small amounts early in the loan tenure can drastically reduce your total interest burden and shorten your loan tenure. For instance, paying just one extra EMI per year can often reduce a 20-year loan to 15-16 years. Most lenders do not charge prepayment penalties on floating-rate home loans for individual borrowers, making this a highly effective debt-reduction strategy.

Question 4

Why does my loan tenure increase when the benchmark interest rate rises?

Accepted Answer

For floating-rate loans, banks usually keep the EMI constant to avoid disrupting the borrower's monthly budget. To compensate for a higher interest rate, the bank increases the 'interest portion' of your existing EMI. This means less money goes toward the principal, slowing down the repayment process. As a result, the number of months required to finish the loan increases. If the rate rise is sharp, you might even see 'negative amortization,' where you need to either increase your EMI or make a lumpsum payment to prevent the tenure from becoming indefinite.

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