How Mclr Hike will impact loan applications

The recent rise in the MCLR has opened the floodgates to questions from borrowers, who are still trying to understand its impact. MCLR, or marginal cost of funds-based lending rate, is the lowest interest rate at which banks are allowed to lend to customers. This rate can be reset to durations of 1 night, 1 month, 3 months, 6 months, 1 year, 2 years and 3 years. These durations are also set to ensure that the rate cannot be reset before this period, even if the MCLR changes.

Banks tie their deposit and lending rates to various MCLR mandates. Typically, a change in the repo rate is reflected in MCLR rates, although there may be exceptions… like this time! This is the first time rates have risen since 2019. Prior to that, they were steadily falling during the COVID pandemic.

The current rise can be attributed to inflation caused by domestic and international geopolitical considerations, as well as macroeconomic factors. These led to a sharp increase in the cost of funds raised in the markets by banks and an increase in deposit rates. The MCLR, which has a direct correlation with both, has consequently increased.

However, there will be respite for borrowers!

It is important to understand that the MCLR increase only applies to variable rate loans, no additional fees are charged on fixed interest rate loans. Simply put, the MCLR applies to floating interest rates for loans that are linked to external benchmarks such as the repo rate/treasury bill rate. For these retail borrowers, interest rates will rise, resulting in higher EMIs on the loans they service, whether automotive, residential or personal.

That said, there may not be a significant impact on retail loans as they are short term. Today, the proportion of MCLR-linked loans is declining – with banks increasingly adopting the External Benchmark Lending Rate (EBLR) for retail loans such as personal, education and MSME loans. Corporate loans, on the other hand, will be much more impacted by the rise – as around 60% of corporate borrowing is based on the MCLR.

The impact of the rise on the gold lending industry will be limited to MCLR-linked lending. However, this will not have a substantial impact on existing customers. The term of a gold loan is usually 12 months (short term) and banks associate gold loans with an MCLR of 6 or 12 months. SBI, Axis Bank and South Indian Bank are a few banks where gold loans are linked to MCLR. Now let’s come to new customers.

They will witness an increase in interest rates due to an increase in the MCLR. That said, an increase of 10 basis points by SBI and 5 basis points by Axis, Bank of Baroda and Kotak Mahindra will not have a significant impact.

So what can be an effective solution to protect the financial interests of borrowers?

First, the borrower can ask the bank to convert their existing loans or apply for new loans linked to repo rates. Repo loans will be more profitable to serve since many banks have interest rates below 7%. Another possible solution could be to opt for a different lender who offers a more nominal interest rate. All of this information is available in the public domain, on the websites of lenders and loan aggregators/comparators.

In the event that the borrower chooses to continue with the same lender, he may consider increasing the payment term. This will help them spread the burden over a longer period, without having to pay higher EMIs. Some financial institutions may implement it themselves if the MCLR increases. Partial prepayment will also offset the interest burden of long-term loans such as home loans, and reduce the overall interest payable. This, of course, is subject to each bank’s discretion and borrowing terms and conditions.

— The author, Nitin Misra is co-founder, indiagold. Opinions expressed are personal

(Edited by : Ajay Vaishnav)

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