Should one prepay home loan when nearing retirement?
Posted by: Arti Bhargava on Apr 23, 2018, 06.30 AM IST
Sandeep is 57 and works for an insurance company. He has decided to take voluntary retirement. Sandeep has been a prudent saver and is confident of managing his retirement expenses with the VRS payout, Provident Fund, gratuity and other investments. But he is worried that his home loan still has five more years to go.
He wants to use some of his retirement corpus to end the loan and be free of debt. His adviser says he would lose the tax benefit on the home loan interest if he forecloses the loan. What should Sandeep do?
Sandeep wants to foreclose the loan because he does not want to pay EMIs after he retires. If his retirement corpus can be invested to earn a return higher than what he is paying on the loan, it would make sense to invest the money than pay off the loan. Sandeep must consider the impact of the decision on his retirement income. If a portion of the corpus is used to prepay the loan, his income would be compromised. But it will also free him from the EMI. It makes sense to reduce the burden on retirement income.
Sandeep’s advisor says the home loan fetches him tax benefits and should therefore not be foreclosed. The basic premise of this argument is flawed. Since only five years of the loan remain, the principal component in the EMI will be much larger than the interest.
Therefore, the tax benefit on the interest is not very big. Also, the tax rate applicable on his income will be lower after retirement. This means the home loan may not result in significant tax savings.
Clearly, the argument in favour of continuing the loan is weak. Sandeep would be better off repaying his loan and looking at ways to grow his investment corpus. He should invest the remaining corpus in a mix of safe and growth-oriented investments, considering he has to budget for at least another 23 years. He can then look forward to a stress-free retired life doing the things he enjoys most.
The content on this page is courtesy Centre for Investment Education and Learning (CIEL). Contributions by Girija Gadre, Arti Bhargava and Labdhi Mehta.