The Role of the Principle and Interest in EMI: Basic Breakup

You may be fully aware of how the home loan process works. But how much do you know about the loan itself? Knowing the breakup of your EMI and the role of the interest and principal is essential to find the best plan that will not only save money but also time. Most essential life decisions are based on huge investments and learning your way around an EMI can be very helpful and profitable.

Home loans 101

In almost every scenario, the process of getting a home loan is the same. When you apply for a loan at the bank, you prove your worth with the right documentation and get approval. After this, you start paying back the loan every month on a pre-fixed amount. When you pay one month’s EMI, a part of that amount goes to interest while a majority of it goes to repaying your principal amount. This means that fewer the number of EMIs, the lesser interest you will pay. This is why it is advisable to choose minimum number of instalments for any loan. However, most people today are still unaware of how much money they are paying towards interest. When compared to the principal amount, the interest rates for EMIs are very high.

An example

If you borrow Rs. 50 lakhs for 20 years, your EMI would cost you upwards of Rs. 35,000/- per month. While this amount may vary, it is important to know that in the first month, most of your EMI will go towards paying the interest. This will continue until your principal amount is minimal. No matter how you look at it, your interest rates will always triumph the actual principal amount, making it all the more important to reduce the tenure.

Prepayment of long term home loans

Most investors choose long term tenures of over 15 years in the hopes of paying back the loan earlier than planned. The reasons can range from expected income hikes to multiple investment returns or inheritance. However, paying back a loan earlier than expected has its own set of cons. In fact, some banks even gave a penalty for early payment. As an investor, you need to decide between paying a onetime penalty or paying a long term interest rate. While the pre-payment penalty may seem detrimental to eliminating your debts, it can actually be profitable to finish your loan ahead of time. Your home is most likely to experience regular jumps in value and repayment can channel this profit to you, the investor, and not the bank. When you choose short term loan plans, you are actually dedicated more of your EMI to the principal amount instead of the interest, saving significantly in the long run. It is wise to pay back your loan earlier than usual in small amounts and regular intervals to ensure that your EMIs are channelled towards your principal and not interest. While there are many ways to go about it, it is best to learn the best way to repay your loan, whether on time or ahead of it, with the help of a financial expert.

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