Along with the digital transition of the banking system in India, post 1st April 2016, all banks have moved on to a new lending rate regime. The new regime is based on the marginal cost of funds – (MCLR). For those who had taken loans after July 1, 2010, but before the shift to the new regime, their loans are linked to the lending bank’s base rate.
A number of loans fall under the base rate regime consisting of around 85% of home loans that still are under the base rate (Financial Express). Under this regime, banks were either reluctant to cut the lending rates or did so with a huge time lag.
The MCLR rates have become new benchmark lending rate as they are not only much more flexible but are also closely linked to the actual deposit rates. Banks are required to submit at least 5 MCLR Rates (Overnight, One – month, Three Months, Six months and One year). Additionally, banks can also opt to set rates for longer duration, such as two years or three years.
In our last post, we saw Lending Rate System in Indian Banking. Now lets see the things you need to know about new loan rate.
Things to know about the new loan rate:
1. Banks have the flexibility to link the floating rate to MCLR on loans of their choices. Kotak Mahindra Bank Ltd. has linked floating rate including that of home loans, loan against property, and various corporate term loans. The rates such as that of car loan and personal loans, are not linked to the MCLR. State Bank of India has linked it to personal, education and auto loans.
2. For those who have existing loans, they have two options – either to switch to MCLR with the existing banks or else transfer i.e. refinance from/to another bank on MCLR. One may also seek to continue the loan on base rate, especially if the maturity period is near. Banks would on their own, typically reduce the tenure automatically and, thus transfer the benefit of lower rates to the users.
3. For a new borrower who has taken a floating rate home loan, then it would have been linked to MCLR with preset conditions and clauses varying as per the bank. Thus, there will be a reset clause in the loan document and the margin to be paid above the MCLR depending upon the basis point (BPS: a common unit of measure for interest rates).
4. For switching from base rate to MCLR most banks charge 0.50% of outstanding principle as switching charges.
5. One can negotiate with the bank for switching charges and other admin costs. If one has good credit score, it can be used to bring down costs such as conversion and processing fees, though banks cannot negotiate below the MCLR, the spread can be negotiated.
6. The MCLR will not apply to the loans with fixed interest rates scheme. The MCLR is only followed by banks and hence, the loan interest rate regime does not apply to finance companies and NBFCs (Non-banking Financial Companies).
The new MCLR rates bring forth a system with fair practices with improved loan terms for the loan seekers allowing a better control of RBI over banks with the aim of stirring the Indian economy in a positive direction.
However, one must weigh in all the options and research on the options of lending rates on offer calculating all the processing and the administrative costs before making the final call.
It makes little sense for an existing borrower to switch to MCLR from base rate if the benefit is a minor one owing to the effort one might have to put in the additional amount of paperwork that is needed to do so.