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For a middle-class Indian family, having one’s own roof is not just buying a brick-and-mortar structure, but the biggest emotional and social achievement of life. Every month, lakhs of people search for their dream homes in the fast-growing real estate hubs like Gomti Nagar Extension, Sultanpur Road, Shaheed Path in Lucknow, the capital of Uttar Pradesh, to the fast-growing real estate hubs like Delhi-NCR, Bengaluru, Pune and Mumbai. As soon as the property is finalized, the first question that arises is home loan and down payment. For decades, this traditional financial lesson has been imparted in our society that ‘the less debt you take, the more peaceful you will sleep’. Under this thinking, most of the buyers believe that if they put in all their strength, collect all the savings and give 30 to 40 percent or more down payment, then the bank loan will be smaller and the burden of EMI every month will be very light. This idea sounds very soothing on an auditory and emotional level, but on the basis of modern personal finance and banking mathematics, this proves to be the ‘single biggest mistake’, which pushes the buyer into a terrible financial crisis and a maze of debt as soon as he steps on the threshold of a new house.
The most fatal mistake that 90 percent of buyers make while taking a home loan is depositing every last rupee of their savings in the down payment cheque. People break their age-old bank fixed deposits, encash mutual funds kept for emergency needs, transfer PPF and even gold to the builder’s account by mortgaging or selling it. In this entire process, their ’emergency fund’ i.e. emergency security cover becomes completely zero. Financial experts have a clear rule that real estate is a highly ‘il-liquid’ asset. If tomorrow there is a serious medical emergency in the family, a crisis at your job, or a sudden loss in business, you cannot raise cash by selling a room or balcony of your flat within 24 hours. When all your liquid capital is locked within the walls of your house, you have no safety net left to fight life’s unexpected challenges. Surrendering your lifetime liquidity just for the mental satisfaction of lower EMIs is a financially suicidal move.
New home buyers often mistake only the base selling price (BSP) quoted by the builder as the total expense. Suppose you book a 3-BHK flat for ₹60 lakh and give 30% down payment i.e. ₹18 lakh. But the real game starts at the time of getting the keys and taking possession, when notices of ‘hidden costs’ start coming from the builder and administrative departments. In Uttar Pradesh and other major states, stamp duty and registration charges work out to be around 6 to 7 per cent of the property value, which means a house worth Rs 60 lakh would require around Rs 4 to Rs 4.5 lakh in quick cash just for the registry. Apart from this, additional demand of ₹2 to ₹3 lakh is taken in the name of electricity-water connection, gas pipeline, meter charges and interest free maintenance security (IFMS). After this comes the biggest expense – interior decoration, modular kitchen, wardrobes, grills, false ceiling and painting, without which no family can shift to a flat. This basic finishing requires an expenditure of at least ₹6 to ₹10 lakh. That is, to set foot in the house, you need an immediate additional net cash of ₹ 12 to ₹ 15 lakh, which no bank gives a home loan.
Now imagine a scenario where the buyer had invested his entire savings of ₹18 to ₹20 lakh in the down payment and now he is left with only ₹50,000 in his bank account. When there is an urgent need of ₹10-12 lakh for registry and interiors, he runs in a panic to his friends, relatives and ultimately to the banks. Since there is already a home loan running on the property, banks do not give any new top-up loan immediately. In helplessness, the buyer takes a personal loan of ₹8 to ₹10 lakh at a hefty interest rate of 13 to 16 percent or swipes his credit card limits. This is where the real destruction begins. You put all your money into the down payment to save ₹3,000 to ₹4,000 in EMIs on a safe, cheap 20-year home loan with 8.5% interest, but to compensate for that, you had to take a 5-year personal loan with 14-15% interest, which directly translated into an additional ₹18,000 to ₹22,000 in monthly EMIs. The result is that your total monthly liability, which you had emptied your wallet to reduce the EMI, is now way beyond your budget.
Understanding this whole game through paper mathematics and statistics is very eye-opening. Let us assume that Mr. ‘A’ and Mr. ‘B’ both purchased a flat worth ₹60 lakh and both had total accumulated savings of ₹20 lakh. Mr. ‘A’ adopted an aggressive approach and gave the entire savings i.e. 33.3% (₹20 lakh) as down payment and took a home loan of ₹40 lakh at 8.5% interest for 20 years. His home loan EMI became ₹34,713 per month. But to raise ₹ 10 lakh for registry and interior on possession, he had to take a 5-year personal loan at 14% interest, the EMI of which was ₹ 23,268. That means for the first 5 years, the total monthly EMI of Mr. ‘A’ was ₹ 57,981 and his emergency fund was zero. On the other hand, Mr. ‘B’ showed wisdom and gave minimum down payment of only 20% i.e. ₹12 lakh and took a home loan of ₹48 lakh. His EMI became ₹41,655 per month. From his savings of ₹8 lakh, he got ₹4 lakh registered and invested ₹4 lakh in basic interiors. He did not have to take a personal loan of even a single rupee. Mr. ‘B’ lived comfortably by paying ₹41,655 every month, while Mr. ‘A’ suffered from severe financial stress and depression by paying ₹57,981 every month.
If you’re planning to buy a new home in the near future, make sure to stick to some solid rules to maintain financial freedom. The first rule is the standard ratio of 20:80—make the down payment exactly as mandated by the bank (usually 15 to 20 percent), neither less nor much more. Second rule, before signing the home agreement, ensure that after excluding down payment and registry expenses, you have at least 6 months of family expenses and 6 months of home loan EMIs saved in a liquid fund, sweep-in FD or savings account. The third big benefit is tax deduction and compounding. Under Section 24(b) of the Income Tax Act, tax exemption of up to ₹ 2 lakh is available on home loan interest and up to ₹ 1.5 lakh on principal amount under Section 80C, due to which the effective cost of the loan comes down to only 7 to 7.5 percent. Instead of investing your extra savings lump sum into home loan, if you invest it through SIP in diversified equity mutual funds that give 12-14% returns, that fund can neutralize your entire home loan interest in the long run. If the loan has to be closed early in the future, a 20 year loan can be easily closed in 12 years without putting your financial security at stake by just paying one additional EMI every year or making a 5% part-payment from the annual bonus.