Does the mortgage overdraft benefit all borrowers?

Mortgage overdraft (OD) is a form of home loan that combines the overdraft facility with a standard home loan. The facility can make servicing a home loan much more convenient for borrowers by allowing them to make unlimited prepayments and giving them access to a larger line of credit in case of an emergency. Additionally, the facility can help borrowers reduce their interest expense by reducing the outstanding principal in a flexible manner.

How it works

In a home loan overdraft facility, a lender opens a savings account or checking account that is linked to the home loan account. This account is designated to accommodate deposits made by you and subsequent withdrawals requested from your side.

Under the facility, any excess you deposit is considered by the lenders as a prepayment of the principal amount. Similar to the regular home loan, the interest on the overdraft loan is also calculated based on the outstanding principal of the loan amount.

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However, the interest is calculated on a daily basis and varies according to the outstanding principal each day. Depositing additional funds into the overdraft account reduces the interest you end up paying and the term of your loan. However, the IME remains unchanged.

Apart from the prepayment, the overdraft scheme provides liquidity from the account whenever there is a financial need. The amount and duration of the loan are adjusted accordingly. Thus, this scheme doubles as an early repayment option and a liquidity avenue. However, before opting for this option, keep in mind that any increase in the outstanding home loan balance may increase interest outflows and there may be a cap on how much you can borrow from the account. discovered.

Adhil Shetty, CEO of BankBazaar.com, said that when you decide to opt into a home loan overdraft program, your lender will link your home loan account to your checking or savings account. The monthly equivalent payment (EMI) you pay each month to service your home loan goes into this home loan account. You prepay your home loan whenever you deposit additional funds above your usual EMI. This prepayment reduces the outstanding amount of your loan and lowers the applicable interest rate. “So basically if you have an amount in your savings bank account, you can transfer it to your home loan account to pay off your loan faster,” Shetty said.

You can also withdraw money from the overdraft account at any time, as it is linked to your checking or savings account. You can also transfer money from this account to your other savings account, if needed. The overdraft account acts like a loan approved by the lender. Each time you withdraw from the overdrawn account, the repayment term is realigned with the outstanding principal amount. The interest charged on the direct debit is the same as that of the overdraft mortgage.

Shetty said: “The process of withdrawing money is the same as depositing additional funds into your home loan account. Keep in mind that withdrawals may increase the outstanding loan amount, which you would be required to repay with interest.”

Raj Khosla, Founder and MD MyMoneyMantra.com, said: “The interest rate charged on advances made through the Home Loan Overdraft Facility is a notch higher than the interest rate charged on a regular home loan. Typically, the rate differential could be between 20 and 50 basis points.”

Limitations: This can be an expensive option for you, as the interest rates are usually higher than the usual interest rates on your home loan. Ratan Chaudhary, Head of Paisabazaar.com Home Loans, said, “Because the home loan savings option offers higher liquidity and flexibility than regular home loans, banks and housing finance companies typically charge slightly higher interest rates for this facility.”

Shetty said: “The Home Loan Overdraft Facility does not provide the benefit of the Section 80C tax deduction for the prepayment of home loan principal. This is because additional funds deposited into the home loan account with the overdraft facility are not considered a repayment of principal from a tax perspective.”

Who should choose it?

Experts suggest that a mortgage overdraft can be a good option for a businessman with seasonal receivables and debts. Having an overdraft account on hand can help you when you need cash immediately and when you have excess short-term cash. Khosla says, “Salaried people with a higher income and an expectation of large percentage increases in their respective annual income can also benefit from an overdraft on a home loan, creating an opportunity fund for themselves. Moreover, they can also prepay the amount before the end of the term and can save a significant portion of the interest charges. »

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A home loan overdraft is suitable for those who seek flexibility and are willing to accept higher interest rates and loss of tax benefit. If you are considering opting for this scheme, you must first do a cost-benefit analysis to understand its implications on your actual savings.

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