RBI Initiative: The central bank is set to implement a system that enables borrowers to switch from variable interest rates to fixed rates.
In a recent development, the Reserve Bank of India (RBI) unveiled its intentions to establish a clear structure for readjusting interest rates on loans with variable rates. During the bi-monthly monetary policy announcement, RBI Governor Shaktikanta Das disclosed the upcoming introduction of a mechanism that empowers borrowers to shift from fluctuating interest rates to stable ones.
This endeavor aims to ease the financial burden on individuals with loans related to housing, automobiles, and other sectors, who have been struggling due to the weight of elevated interest rates. The proposed structure's primary focus is to enhance communication with borrowers regarding modifications in loan schedules and adjustments to their equated monthly instalments (EMIs).
Existing Structure: The present arrangement
On October 1, 2019, the RBI implemented an external benchmarking mechanism for home loans. According to this, all loans based on floating rates were mandated to be associated with an external benchmark. In the initial phase of the external benchmark system's introduction, the RBI permitted banks to readjust the equated monthly installment (EMI) every three months.
At present, borrowers retain the option to transition between floating and fixed interest rates, and the reverse as well. Nonetheless, such a shift might necessitate the payment of a conversion charge, ranging from 0.50 percent to 2 percent of the total home loan amount.
The Plan:
Following reviews by the RBI and considering public input, instances have come to light where lenders have extended the duration of floating-rate loans without proper consent or communication. To tackle this issue, the RBI is proposing the establishment of a comprehensive set of conduct guidelines that all regulated entities must follow. This proposed framework aims to address the difficulties faced by borrowers.
Governor Das explained that the envisioned framework will make it obligatory for lenders to maintain open lines of communication with borrowers regarding adjustments to loan tenures and EMIs. It will also necessitate the availability of choices for transitioning to fixed-rate loans or early loan closure. Furthermore, the framework will stress the need for transparent disclosure of associated fees and ensure that vital information is effectively conveyed to borrowers.
Das mentioned that the framework will evaluate different alternatives accessible to borrowers, encompassing the potential to transition to fixed-rate loans or pursue early loan settlement. Moreover, the RBI will closely examine the transparent depiction of fees associated with these choices and guarantee the effective communication of vital details to borrowers.
Understanding floating and fixed loan rates
The variable interest rate is subject to volatility, adapting in accordance with the prevailing market circumstances. This kind of interest rate relies on the base rate established by various lenders; thus, any adjustments to the base rate lead to automatic revisions in the interest rate. This phenomenon becomes evident whenever the RBI modifies its repo rate, and this adjustment is subsequently relayed to borrowers.
Conversely, individuals who choose stable home loan interest rates are obligated to repay the home loan through constant and uniform payments across the loan's duration. The benefit of a fixed interest rate lies in its immunity to alterations, even if the Indian financial market experiences fluctuations or alterations in trends.
