What is Home Loan Amortisation and How Does It Work?

Are you considering taking a home loan to fulfil your dream of owning a house? Understanding how home loans work, especially the concept of amortisation, is crucial for managing your finances effectively. In this article, we’ll dive deep into home loan amortisation, explaining what it is, how it works, and its implications for your home loan journey.

The Basics of Home Loan Amortisation

Home loan amortisation refers to the process of repaying a mortgage through regular, fixed payments over a set period. These payments are structured to cover both the principal amount borrowed and the interest accrued on the loan.

Here’s a simple analogy to understand amortisation: Imagine you have a large cake (your loan) that you need to eat in equal slices (EMIs) over a fixed number of days (loan tenure). Each slice contains a bit of the cake’s base (principal) and the frosting (interest). As you progress, the proportion of base to frosting in each slice changes, with more base and less frosting towards the end.

Key components of home loan amortisation include:

• Principal: The original amount borrowed
• Interest: The cost of borrowing, expressed as a percentage of the principal
• Loan Tenure: The duration over which the loan is repaid
• EMI: Equated Monthly Installment, the fixed payment made each month

How Amortisation Works in Home Loans

Let’s break down how amortisation works in home loans:

1. Interest Calculation: The interest for each month is calculated based on the outstanding loan balance and the monthly interest rate (annual rate divided by 12).
2. EMI Allocation: The EMI is first used to pay off the interest due for the month. The remaining amount goes towards reducing the principal.
3. Balance Update: The outstanding loan balance is updated by subtracting the principal portion of the EMI.
4. Repeat: Steps 1-3 are repeated each month until the loan is fully repaid.

Here’s an example to illustrate:

Suppose you take a home loan of ₹50 lakh at an annual interest rate of 8% for a 20-year tenure. Using the home loan EMI calculator, your monthly EMI comes to ₹41,822.

In the first month, the interest would be:

₹50,00,000 × (8% ÷ 12) = ₹33,333

Of the ₹41,822 EMI, ₹33,333 goes towards interest, and the remaining ₹8,489 reduces the principal. The outstanding balance becomes ₹49,91,511.

This process continues each month, with the interest component decreasing and the principal component increasing over time.

The Home Loan Amortisation Schedule

A home loan amortisation schedule is a table detailing each periodic payment on a loan. For home loans, it shows the EMI split into principal and interest over the entire loan tenure.

Here’s a snapshot of an amortisation schedule:

As you can see, the EMI remains constant, but the principal and interest components change over time. The amortisation schedule helps you track your loan repayment progress and plan your finances accordingly.

Benefits of Understanding Amortisation

1. Financial Planning: Knowing how much of your EMI goes towards principal and interest helps you budget effectively and make informed decisions about prepayments or loan tenure adjustments.
2. Interest Savings: By making prepayments, you can reduce the principal faster, thereby saving on interest over the loan tenure. Use an interest calculator to see the impact of prepayments.
3. Tax Benefits: The principal and interest components of your home loan EMIs are eligible for tax deductions under Sections 80C and 24b, respectively. Understanding amortisation helps you maximise these benefits.

Factors Affecting Amortisation

Several factors influence how amortisation works in your home loan:

• Interest Rate: A higher interest rate means a larger portion of your EMI goes towards interest, extending the time to repay the principal.
• Loan Tenure: A longer tenure leads to lower EMIs but higher overall interest paid. A shorter tenure means higher EMIs but less total interest.
• Prepayments: Prepaying the loan reduces the principal, leading to lower interest and faster loan repayment.

Making Informed Decisions

Armed with a clear understanding of home loan amortisation, you can make smart choices about your mortgage. Here are some tips:

• Choose the Right Loan: Compare offers from multiple lenders, considering interest rates, fees, and flexibility. Airtel Finance offers competitive interest rates and easy application through the Airtel Thanks app.
• Opt for a Shorter Tenure: If you can afford higher EMIs, choose a shorter loan tenure to save on interest and become debt-free sooner.
• Make Prepayments: Use windfalls like bonuses or tax refunds to make prepayments whenever possible. Even small prepayments can have a significant impact on the loan tenure.
• Review Regularly: Periodically review your loan amortisation schedule and assess your repayment progress. This helps you stay on track and make adjustments if needed.

Taking out a home loan is a significant financial commitment, but understanding amortisation empowers you to manage it effectively. By grasping how your EMIs are allocated and making informed decisions, you can save money, reduce stress, and achieve your homeownership dreams with confidence.

Wrapping Up

Home loan amortisation might seem complex, but understanding how it works is essential for every borrower. By knowing how your EMIs are split between principal and interest, you can make informed decisions about your home loan, such as whether to prepay or refinance.

If you’re considering taking a home loan, be sure to shop around for the best interest rates and terms. Airtel Finance offers competitive interest rates easy eligibility criteria and documents for home loans. You can also check your credit score for free and apply for a loan through the Airtel Thanks app. With a clear understanding of amortisation and careful planning, you can confidently navigate your home loan journey.

FAQs

1. What is the amortisation formula for home loans?

The amortisation formula is EMI = [P × r × (1+r)^n]/[(1+r)^n-1], where P = loan amount, r = monthly interest rate, and n = number of monthly payments.

2. Can I get a home loan amortisation schedule from my lender?

Yes, most lenders provide a detailed home loan amortisation schedule

when you take out a home loan. You can also request one at any time during the loan tenure.

3. How does prepayment affect my home loan amortisation?

Prepayment reduces the outstanding principal, which in turn lowers the interest component of future EMIs. This accelerates your loan repayment and helps you save on overall interest.

4. Are there any tax benefits associated with home loan amortisation?

Yes, the principal repayment is eligible for deduction under Section 80C (up to ₹1.5 lakh per year), while the interest paid can be claimed under Section 24b (up to ₹2 lakh per year).

5. What happens if I miss an EMI payment?

Missing an EMI disrupts your amortisation schedule and attracts penalties. The missed EMI is added to your outstanding balance, increasing the interest component of future EMIs. It’s best to maintain a regular repayment schedule to stay on track.