RBI guidelines allow lenders to finance up to 75-90 per cent of the property’s cost as a home loan. The rest has to be contributed by the homebuyer from his resources in the form of a down payment or margin contribution. Here are some dos and don’ts you must follow while accumulating a home loan’s down payment:

Do’s

Start as early as possible

The famous phrase “the early bird gets the worm” fits aptly when it comes to investing for the timely achievement of crucial life goals like home loan down payment, retirement corpus, child’s higher education, etc. The earlier you begin investing, the more time your money gets to grow and maximise the benefit of the power of compounding. When planning for a home loan, first estimate the down payment amount after factoring in the property’s value, your existing income, debt obligations, and LTV ratio. Then, choose the optimum investment instrument based on your risk appetite and investment horizon.

Try to contribute a higher down payment

The ratio of the property’s cost financed by the lender is known as the LTV ratio. This is fixed, based on the lender’s credit risk evaluation of the loan applicant. You should try to accumulate at least 10-25 per cent of the property’s value to ensure financial preparedness for availing of a home loan.

Given that making a higher down payment reduces the credit risk for lenders, home loan applicants making higher down payments have higher chances of loan approval. Some lenders also offer lower interest rates to those opting for a lower LTV ratio. Hence, applicants looking to reduce their interest costs should aim at creating bigger corpora for the loan down payment. However, while creating this corpus, avoid compromising your emergency fund and investment corpora earmarked for crucial financial goals. Else, a financial emergency or maturity of a crucial financial goal might force you to avail of loans at higher interest costs.

Don’ts

Dipping into Earmarked Investments

Homebuyers often commit the mistake of redeeming their investments set aside for crucial financial goals, including retirement corpus and child’s higher education, for making home loan down payment. However, doing so can stop them from achieving set financial goals owing to the redemption of earmarked investments otherwise aimed to achieve that corpus. This may even involve the possibility of booking losses while redeeming the market-linked investments during the bearish market phase.

Disturbing Emergency Fund

The primary purpose of maintaining an adequate emergency fund is to tackle unforeseen financial exigencies or income disruptions due to sudden job loss, severe illness, disability, or other adverse life events. Ideally, the size of this fund should be equal to at least six months’ unavoidable monthly expenses such as EMIs, utility bills, insurance premiums, rent, SIPs, etc. Hence, you must avoid using your emergency fund for other purposes like a home loan down payment. This can force you to redeem your earmarked investments and/or avail of high-cost loans to tackle financial emergencies.

Availing Loan to Fund the Down Payment

Many home loan seekers borrow funds to make arrangements for the down payment. Although options like personal loans may seem to be a quick way for procuring the funds for a down payment, doing so can have twin consequences. First, lenders generally prefer lending to borrowers with total EMI to monthly income ratio within the 50%-60% mark. Applying for a loan to finance the down payment may increase this ratio, thereby reducing your overall home loan eligibility. Second, submitting multiple applications can harm your credit score. Every new loan application is reported to the credit bureaus, who in turn reduce your credit score by a few points. A reduced credit score would further reduce your home loan eligibility and approval chances.

The author is Head of Home Loans, Paisabazaar.com

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