It is common for loan borrowers to face the dilemma of deciding whether to prepay the home loan or park the surplus cash in investment avenues when they have accumulated a lump sum. However, there can’t be a one-size-fits-all approach due to differences in loan borrowers’ salary, amount of loan, age, risk appetite, etc.
Here in this blog, we have tried to shed light upon the two options for you to make a decision regarding whether you should prepay the home loan or make an investment in mutual funds and the stock market.
When to choose prepayment of home loan?
A loan becomes a necessity sometimes, say for a home, a car or some other reason but it also comes with a burden. There is also a Hindi age-old saying, “Rinn, shatru aur rog ko jitna jaldi ho sake samaapt kar dena chahiye.” (Debt, enemy and disease should be eliminated as soon as possible.) However, there are a few conditions when considering home loan prepay rather than investing is wiser; which are:-
1. Existing loan or credit
In case you already have an existing loan- car loan, personal loan or credit card bills, it is highly suggested to go with the option of prepayment of your loan. However, choose the one having the highest interest rate first.
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2. Near retirement age of the borrower
If you are approaching the retirement age soon it would be wise to do away with any dues rather than investing. This should be done only after keeping an extra surplus aside for health emergencies. Then if you are still left with some resources in hand you can make a part prepayment with them.
3. Tax benefits
If the market environment doesn’t seem right for an investment or if you are a risk-averse person, there is no harm in mobilizing the extra cash towards part payment of your debt. If you wonder why, it is because the home loan attracts tax benefits of up to ₹ 1.5 lakh on the principal and up to ₹ 2 lakhs on the interest in one financial year.
When to choose investment in mutual funds and the stock market?
Profits from investment always sound pleasant. However, the investment alternative would make sense only in the following conditions:-
1. Need for maintaining liquidity
If there is a possibility of an arising financial liability shortly it is wiser to put your surplus in mutual funds and equities due to their highly liquid nature. However, ensure to keep a part of that surplus for an unforeseen emergency because it is rightly said that peace is a greater wealth.
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2. During a situation of downturn
The stock market is highly volatile but with a good strategy, a person can take advantage of that volatility to book decent profits. During a downturn situation like a pandemic, economic recession, etc. it is unwise to bound the money in loan prepayment leaving the returns you could earn when the market stabilizes.
3. Mid or last stage of the loan
The amount of interest saved on a loan depends on its stage. In the early stage of a home loan (based on floating interest rates) the interest component is the highest. Therefore, prepayment during the middle or last stages of the loan won’t save you as much interest as in the initial stage.
