Introduction: When it comes to financing a home purchase, most individuals turn to home loans provided by banks and financial institutions. In recent years, the Reserve Bank of India (RBI) has introduced various benchmark rates for banks to link their lending rates to. Two commonly used benchmarks for home loans are the Retail Prime Lending Rate (RPLR) and the Marginal Cost of Funds Based Lending Rate (MCLR). In this article, we delve into the difference between these two types of home loan interest rate systems, explore their insights, and weigh their pros and cons.
- Retail Prime Lending Rate (RPLR):
The Retail Prime Lending Rate (RPLR) is the benchmark rate used by banks before the introduction of the Marginal Cost of Funds Based Lending Rate (MCLR). It is the internal benchmark rate set by each bank, and the lending rates offered to borrowers are usually set as a certain percentage above the RPLR. However, it is important to note that RPLR is not transparent, and each bank can have its own RPLR, leading to varying interest rates for borrowers.
Insights:
- Lack of Transparency: Since RPLR is an internal benchmark set by each bank, it lacks transparency, making it challenging for borrowers to understand how their interest rates are calculated.
- Interest Rate Fluctuations: Changes in the RPLR are not directly linked to changes in the RBI’s policy rates. As a result, the interest rates on home loans linked to RPLR may not reflect the true market conditions.
- Marginal Cost of Funds Based Lending Rate (MCLR):
The Marginal Cost of Funds Based Lending Rate (MCLR) is a more recent benchmark introduced by the RBI to ensure a more transparent and efficient pricing of loans. MCLR is based on the bank’s marginal cost of funds, which takes into account factors such as the repo rate, the cost of deposits, and the bank’s operating expenses. The MCLR system aims to pass on the benefits of changes in the RBI’s policy rates to borrowers more effectively.
Insights:
- Transparency: MCLR offers greater transparency, as the interest rates are directly linked to the bank’s cost of funds and are revised periodically based on changes in the benchmark rate.
- Transmission of Policy Rates: With the introduction of MCLR, changes in the RBI’s policy rates are transmitted more efficiently to borrowers. This means that when the RBI lowers its key rates, borrowers with MCLR-linked home loans can expect their interest rates to decrease, potentially leading to lower EMIs.
Pros and Cons of RPLR-linked Home Loans:
Pros:
- Flexibility for Banks: RPLR allows banks to have more control over their lending rates and provides flexibility in setting interest rates based on their own cost of funds.
- Potential for Negotiation: Since RPLR lacks transparency, borrowers may have room to negotiate their interest rates with the bank.
Cons:
- Lack of Transparency: The lack of transparency in RPLR can lead to confusion for borrowers, who may not fully understand how their interest rates are determined.
- Slow Transmission of Policy Rates: Changes in the RBI’s policy rates may not be immediately reflected in RPLR-linked home loan interest rates, potentially delaying the benefits for borrowers.
Pros and Cons of MCLR-linked Home Loans:
Pros:
- Transparency: MCLR offers greater transparency, as the interest rates are directly linked to the bank’s cost of funds, making it easier for borrowers to understand how their interest rates are calculated.
- Efficient Transmission of Policy Rates: With MCLR, changes in the RBI’s policy rates are transmitted more effectively, ensuring that borrowers benefit from rate cuts in a timely manner.
Cons:
- Limited Flexibility for Banks: MCLR restricts banks from setting lending rates arbitrarily, as it is based on a formula determined by the RBI, potentially reducing banks’ flexibility in interest rate management.
- Less Room for Negotiation: Since MCLR is more transparent, borrowers may have limited room for negotiation compared to RPLR-linked loans.
Conclusion:
When choosing between a home loan linked to RPLR and MCLR, borrowers should consider their preference for transparency and the efficiency of interest rate transmission. MCLR-linked home loans offer greater transparency and more effective transmission of policy rates, which may benefit borrowers in the long run. However, RPLR-linked home loans provide flexibility for banks and may offer room for negotiation on interest rates. Consulting with a financial advisor and comparing the terms of various loan offers can help borrowers make an informed decision that aligns with their financial goals and preferences.
