Case: An exciting investment proposal

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An RM of one of the largest mutual fund houses came to share an investment proposal with me.

Somehow they came to know that I am going for a home loan for a 20 year period. The RM said “Why don’t you go for a 30 year loan?”

Given the fact that I deal with such matters as a part of my work, I pushed back.

“Are you out of your mind? A 30 year loan means more interest to be paid, why should I do that?”

“Sir, let me explain.” The RM was persistent. “I want to share a plan by which you can not only pay your EMIs but repay the home loan in a smarter way.”

I was all ears. Here is what the RM proposed.

Let’s assume you take a home loan of Rs. 45 lakh at the rate of 9.6%. The EMI payable for the 20 year period is Rs. 42,240 per month. However, if you take the loan for 30 years, you EMI will reduce to Rs. 38,167.

The difference in EMI is Rs. 4,073. I suggest that with the difference amount of the EMI you start an SIP in an equity mutual fund scheme.

See the table below with 2 scenarios of a 20 year loan and a 30 year loan.

Smarter home loan prepay - investment proposal

Now, let’s fast forward 17 years and look at the position then.

In the 20 year loan scenario, you only pay your EMIs.

In the 30 year loan scenario, you pay your EMI as well as do your SIP. Your overall outflow remains the same over the 17 years, that is, Rs. 86.17 lakhs.

However, in the first scenario, you have a loan outstanding of Rs. 13.15 lakhs and in the second one, it is Rs. 33.93 lakhs.

“See, that’s what I was trying to tell you. Huge difference in loan repayment!” I felt I won.

The RM was quick to come back. “Sir, please. Just another minute.”

The SIP of Rs. 4073 per month that you have been doing is valued at Rs. 37.82 lakhs at the end of 17 years. You simply withdraw that amount equal to your loan and prepay the entire loan outstanding of Rs. 33.93 lakhs.

You get not just loan free but you also have a net investment surplus of Rs. 3.88 lakhs (Rs. 37.82 lakhs minus Rs. 33.93 lakhs). Not to mention the fact that you don’t have to pay any more EMIs and you can use that amount to make more investments.

I couldn’t believe what I saw. It looks exciting. I am holding my horses though. My mind is still trying to find holes in this message.

While I find them, can you tell me if this is a proposal worth going for? “What can go wrong?”

Please do help me. Post your comments below with your analysis of the investment proposal.

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