Home overdraft explained: ICICI is giving customers credit line against home loans
For most people, house is their most-valuable asset but it’s very illiquid, especially in a slow property market. To help people monetise this asset, banks offer loans against property (LAP). ICICI Bank Home Overdraft, launched recently, is a similar product with a couple of variations.
A salaried person can top up his home loan with an additional amount that can be put to any use he wants. An example will illustrate well how the product works. Gupta, a customer of the bank, had taken a home loan of Rs 35 lakh for 20 years in July 2007. His current principal outstanding is Rs 26.97 lakh. The value of his property has appreciated to Rs 95 lakh. His son has got admission into a US university and he will need Rs 40 lakh over the next two years, of which Rs 15 lakh has to be paid upfront, and the balance over two years. The bank will ensure that the loan-to-value (LTV) ratio (including the loan outstanding and top-up amount) doesn’t exceed 80 per cent, and it will also take into account Mr Gupta’s repayment capacity before extending this facility.
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The top-up can be taken partly as a term loan and partly as an overdraft (OD) facility. “If you take the entire amount as a term loan, you will have to pay interest on it right from day one. With an OD facility, you can use the money when you need it and pay interest only for the period for which you use it. Since you have the approval from beforehand, you don’t have to worry about whether you will be eligible for a loan when the need arises," says Rishi Mehra, founder, Deal4loans.com. Another advantage of the OD facility is that you don’t have to pay an EMI every month. You can just pay the interest for a few months and repay the principal when you get extra cash.
Another useful feature is the reverse sweep-in facility. Any extra money lying in the savings account is swept into the OD account where it reduces the principal outstanding. “With this facility, you can save a lot in interest cost over the long term," says Manish Chaudhari, co-founder and chief risk officer, CoinTribe, an online lending platform. The risk in a product like this is that the borrower may use the money even though he doesn’t have the cash flows to repay the principal. He may also waste it on unproductive expenditures.
A spokesperson at ICICI Bank did not reveal the interest rate on the product, but indicated that the cost of the term loan would be higher than that of the bank’s home loan (minimum 9.15 per cent), and that on the OD facility would be higher than on the term loan. Says Chaudhari: “The term loan is likely to have an interest rate comparable to that on loan against property — about 11-11.5 per cent. I expect the OD facility to be priced 50-100 basis points higher." The interest rate on personal loans is 11.5-17 per cent, depending on the quality of your employer, while the interest charge on revolving credit in a credit card is 30-35 per cent.
When availing of this loan, check the interest rate on each component, when the principal becomes due, and the annual renewal charge on the OD facility.