Once you opt for a home loan, there will be a monthly deduction towards the payment of principal and interest called Equated Monthly Installment (EMI).
The ‘Equated Monthly Installment,’ or EMI, is the amount you’ll pay us on a regular basis until the loan is completely paid off. It includes the principle amount as well as the interest due, which is distributed over the set term.
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Monthly reducing balance method
A loan computed on a monthly lowering basis is more beneficial to borrowers than one calculated on a yearly basis. Interest is calculated on the outstanding principal balance for that month in the case of monthly resets. According to the RBI FAQs on home loans, “the principal paid is deducted from the opening principal outstanding balance to arrive at the opening principal for the next month and interest is computed on the new, reduced principal outstanding. In case of annual resets, principal paid is adjusted only at the end of the year. Hence, you continue to pay interest on a portion of the principal that has been paid back to the lender.”
Tax benefit on the loan
Under the Income Tax Act of 1961, home loan borrowers are eligible for specific tax benefits on both the principal and interest components of their loans. You are eligible to an income tax credit for interest repayment up to Rs 1,50,000/- per year under existing laws. Furthermore, you may be eligible for additional tax savings under Section 80 C on principle repayments of up to Rs. 1,00,000 per annum.
Is pre-payment of loan allowed?
Most banks allow you to pay off your loan early by paying one or more lump sum payments. However, many banks impose early repayment penalties of up to 2% of the outstanding debt. You can, however, credit more than your EMI amount into your loan account on a regular basis to reduce your interest burden as funds become available. If you deposit more than your EMI due on a regular basis, most banks do not charge a pre-payment penalty. However, check with your bank about the pre-payment conditions before applying for a loan.