Base rate vs Benchmark Prime Lending Rate (BPLR)
What is Base rate ?
Base rate is the minimum rate at which bank can lend.Home loan interest rate charged is base rate plus spread.
For example :If bank base rate is 10% and spread is 0.5% then your effective home loan interest rate is 10% + 0.5%=10.5%.
Spread is equal to or more than zero. Spread does not change over the loan tenure.
From April 1 2016, all new loans will linked to bank's MCLR rate in place of base rate.
What is Benchmark prime lending rate ?
Prime lending rate is the rate which banks charge to their customers with good credit history.Banks are free to set their prime lending rate.
After July 1 2010 it mandatory for banks to offer new loans linked to base rate while non banking finance companies (NBFC )can still provide loans linked to prime lending rate.Loans provided by banks before July 2010 are linked to prime lending rate.
For example :If bank prime lending is 15.5% and spread is 5% then your effective home loan interest rate is 15.5% – 5% =10.5%.
How base rate or prime lending rate makes a difference?
When there is reduction in RBI policy rates lenders tend to reduce base rate as they cannot lend below base rate. Fall in base rate leads to fall in home loan interest rates.
For example :If bank base rate is 10% and spread is 0.5% then your effective home loan interest rate is 10% + 0.5%=10.5%.If base rate fall to 9% then your effective home loan interest rate is 9% + 0.5% = 9.5%.
But often they avoid making corresponding change in prime lending rate thus avoiding passing benefits of lower interest rates to existing customers linked to prime lending rate.
Banks make changes in spread to offer cheaper interest rate to new customers.
For example: If bank prime lending is 15.5% and spread is 5% then your effective home loan interest rate is 15.5% – 5% =10.5%.Banks offer spread of 6.5% to new customers thus effective rate for new customers will be 15.5% - 6.5% =9.5%.You will be stuck at 10.5% while new customer will get loan at cheaper rate of 9.5%.
Banks can change spread in case of new loans linked to base rate, but room available for banks to play with spread is limited.
Is your existing loan linked to prime lending rate?
If your existing home loan in bank is linked to prime lending rate then you can approach bank to link your home loan to banks base rate. There are no charges for switching to base rate.Bank will adjust the spread on base rate to maintain interest rate your were paying when linked to benchmark prime lending rate.
Linking to base rate will not result in immediate reduction of home loan interest but will ensure you get benefits of future reductions.
Are you stuck with high interest rate?
You can switch your floating interest rate to those being offered to new customers by paying switchover charges.
Switchover charges are around 0.5 -1% of outstanding balance. Charges vary depending on outstanding, credit history of loan balance, difference between interest rate being currently charged and new rate being charged to new customers.
Paying switchover charges makes sense only when difference between interest rates is greater than 0.75% and outstanding period or loan amount is high.