I get this question so often…and I have written about it too in the past…but here once more.

Whether to repay off a home loan or invest the money in a retirement fund is a question which is IMPOSSIBLE to answer without knowing the full facts.

If a person has a home loan on a fixed interest basis of 7.5%p.a. – it makes no sense to repay this LOAN AT ALL. Even a surefire investment like PPF pays more than 8%p.a. This means all the surplus that you have should nicely go into some investment like an equity SIP, direct equity and in a worst case into your PPF account.

If you have a home loan on a floating rate basis – you could be paying about 11.5% p.a. interest now. Here the question is a little tricky. Will a good quality equity SIP give you yields in excess of 11.5% p.a.? Though I would like to say ‘yes’ – I am not in a position to say ‘Yes, surely, always – in a 5 year time frame’. So here I am a little divided. However if you are 28 years of age and have 30 years to pay off the mortgage, the investing option is WORTH taking. Over say 5 years if you get 14% p.a. CAGR return, review your mortgage after 5 years.

At that stage your salary would have doubled and the mortgage will look very small compared to your take home salary.

However, if you are 52 and have 6 years to repay your home loan, you should use the surplus partially to pay off a loan and partially to invest. One way to think about it is (when you are 52) – why pay 11.5% p.a. when your OWN money is stuck in PF and PPF at 8% or thereabouts.

What happens if you are young (28 or younger – because you have 30 years to repay) is that after 5-7 years if you feel like buying a bigger house, just sell this house, take a bigger loan, and shift. If you have had a loan and repaid – it SHOULD feel foolish to be paying processing fees, etc. all over JUST to continue the same loan. And that is exactly what you are doing.

So should you repay the mortgage or invest is a function of:

1. What is your age (younger should invest)

2. Will you buy a bigger house (want the woman to answer, not the man). If the answer is YES, do not repay.

3. What is the interest rate that you are paying (if floating, you are paying at current market rates anyway).

4. How many years of the loan are left – if it is 4-5 years, it will NOT MATTER…

5. What kind of tax breaks are you availing?

So like a typical economist or a CA i hope to have confused you enough 🙁

Also please understand all this is only with respect to a housing mortgage. If you have a surplus:

repay all personal loans

then repay all credit card debt

repay all loans from friends, relatives, etc.

pay term insurance premium….

invest for your retirement….

then consider these options….

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  1. Dear Subra
    Thanks a lot for a timely advice. I was very confusing to decide, whether to prepay the loan or invest in something which will yield more than the interest. I’m repaying the loan.
    However, you could add little more in investing in GOLD instead of stock market and related.
    Expecting soon.
    Regards
    Dr Kannan

  2. Dr Kannan

    why do u want me to write about investing in gold? It has gone up so much in the past 10-12 years that it will go up for the next 10-12 years..so keep buying gold and real estate.

    tragedy is, I ruin my portfolio by NOT buying gold and RE. that is all. I am an equity guy….that is all.

  3. rather i would go with simple parameter – if it is in the initial part of loan tenure then i would pay off loan, and if loan tenure is about to end then I won’t. During earlier part most part of the emi will be paid towards interest part and later principle will be deducted.

  4. Thank you Subra FOR AN APT ARTICLE.For those of Readers who are Fan of “Renting Is Better than Owing” series we dont have to think abt this dilema. I could accumulate ard 70 Shares of Largest Housing Finance Company who got their Maths Right .Aim is to reach atleast 100 .THANK YOU !

  5. Dear Subra,
    I currently have only the home loan on a floating interest of 11.25% from ICICI, the outstanding principal amt is around Rs.16 lacs, time remaining is around 20 yrs. I recently met with a SBI bank manager who said that if I can prepay principal to the tune of 1.5 lac and get the principal amount to < 15 lacs he can offer me a home loan for 9% due to some 1% less interest for home loans of less than 15 lacs. Will it be wise to take this move. I'm currently earning a decent salary and am investing 40% of my take home in few SIPs and direct equities.
    Taking the above step will increase my monthly cash flow by approx rs.3k. Not sure If i get my 1.5lacs interest exemption in IT.
    Thanks for you time and great advice on this blog.
    Cheers,
    Naveen

  6. Naveen,
    Even a dumb person like me would say that paying the 1.5 lac n going to SBI with max gain facility will be the better option.And I believe 1.5 lac would get calcualted to IT as payment of priniciple.

  7. Hi Dhivya,
    Here are some questions I’ve been asking myself but not yet reached a conclusion.
    1.Should I prepay at this stage when its only 2 years since my home loan has started ?
    2. Should I prepay at all given the high inflation?
    3. Can I invest the 1.5 lacs in MFs thru SIP and wait for 6-7 years when my interest component per year is going go below 1.5 lac per year and then pay off big chunk of my home loan with the returns?
    4. Should I switch now when the interest rates are expected to go down in this year.
    I won’t get any IT benefit out of prepaying the 1.5 lac as my EPF, Kids school fee, and term insurance premiums take care of section 80C.
    Cheers,
    Naveen

  8. Just a point to note here:
    “Will you buy a bigger house (want the woman to answer, not the man). If the answer is YES, do not repay”

    If I am planning to buy a bigger house, won’t it be prudent to pay off my existing mortgage first so that I have eligibility to apply for a ‘bigger’ loan for my ‘bigger’ house ?. Additionally by paying off my existing house, i can leverage improved credit history and peace of mind.

  9. Naveen,
    Am not a specialist just a beginner, am jus giving u my opinion , so please enlighten me if am not right (profitable :))

    1.when the loan is in its initial stage, the interest component will be high, so i feel it a bigger reason to prepay it.
    2. May be u shud use this period to go in and choose a better home loan plan.
    3. ur paying an interest of 11.25 % for 16.5 lac and going in for a SIP which wud give u a return of 12 %.Even if we think that the changes in economy would increase both the home loan and the SIP interests, how much money are you losing or gaining should give u the answer.
    4. How abt perpaying ur loan on april, when the loan amt reduces and u still have some area to fill in ur prepayment.( i know u wud have thought abt this, but incase u have forgotton, jus added it here 🙂 )

    Well this is just my opinion, you know the figures.

  10. Aptly written:

    “2. Will you buy a bigger house (want the woman to answer, not the man).”

    I have no intention of buying a ‘bigger’ house, but, i am not the deciding authority, am i?

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