How your home loan is computed from your salary

Have you ever wondered why your home loan eligibility may be lower than you think? This article explains why this happens.

Buying a new home has been a cherished dream for years. The dream is bolstered every year as you spend a lot of money on rent and must move houses every couple of years when the lease expires. So you decide to buy a house after taking a home loan. When you inquire about how much loan you can get, you are asked for your monthly income. Based on this number, you are told that you can get a certain loan amount.

It meets your requirements – but when you finally apply for the loan, you find that you are eligible for less than the amount you were told. Read on to know why this happens.

* The lender grants a percentage of your monthly income as home loan.

The RBI has mandated banks and financial institutions to have a benchmark for home loan amounts. Accordingly, most lenders offer up to 60% of your take-home or net monthly income as your home loan. Thus, if your take-home salary component is Rs 60,000, then ideally you should receive Rs 60,000 x 60 = Rs 36,00,000 as loan amount. You might already have a pre-approved housing loan of that much amount waiting for you at the bank. However, the home loan eligibility is different when computing actuals, as the next point illustrates.

* The lender does not count certain heads in your salary when computing eligibility.

However, though your monthly net income may be Rs 60,000, the lending institution does not consider all salary heads when computing your loan eligibility. For instance, your salary may comprise these heads:

• Basic
• Conveyance
• HRA (House Rent Allowance)
• Special allowance
• LTA
• Medical Allowance

Of these, the last two – i.e. the LTA and the Medical Allowance – are not considered in the final calculation. Thus, these are deducted from the net salary when computing eligibility – and you may receive less money as a home loan when the lending institution makes its calculations.

* Know your home loan eligibility before you make the loan application.

The above point is important to know when you use an online EMI calculator to find out your EMIs, and an eligibility calculator to find out how much loan you can get. The latter must be inputted with the net salary minus the Medical Allowance and LTA. On the basis of the loan eligibility amount, you can now start to compute your potential EMI outgo.

You can use an online EMI calculator to find out your EMI payments. Input the numbers for the principal borrowing, i.e. the eligible amount or lower, and the interest and tenure of the loan. The EMI calculator will show you the closest approximation of the potential monthly outgo from your income.

* Make sure the EMI is not too high.

Once the EMI calculator shows you the EMI figures, it is time to assess your finances again. If the projected EMI is equal to or more than 50% of your net salary, then it is too high. The higher the EMI, the more it cuts into your spending budget for the month. Some might argue that a higher EMI also helps you repay the loan much faster – but it can come at a terrible cost. You may not have enough money left in your hands to run the household, finance your child’s education, etc.

You can reduce the potential EMI outgo in a few ways. Use the EMI calculator and find out what happens when–

• You borrow a lower amount of money. Your loan eligibility may be Rs 36,00,000 but you can borrow less than this number. Doing so reduces the EMI. However, it automatically raises the cash component that you must raise from your own resources. The lending institution offers a home loan up to 80% of the house’s value, and the remaining 20% must come from your own pocket. If you reduce the 80% component, you must correspondingly raise the 20% one.
• You shop for a lower interest rate. Leading banks and financial institutions offer competitive rate of home loan interest. You can research the lowest rates of interest across banks and NBFCs, online. The lower the rate of interest, the lower the EMI.
• You extend the tenure of the loan. The longer the tenure of the home loan, the more is the EMI spread and lower is the EMI. You can use the EMI calculator to find out how much difference that an increased tenure can have.
• Negotiate with the lender. If you have a long relationship with the bank or housing finance company, you can negotiate on the interest rate. Leading lenders like Punjab National Bank Housing Finance Ltd. (PNBHFL) offer a home loan where you can opt for a fixed rate of interest for a certain number of years, and then switch to a floating rate of interest thereafter.