When taking home loans, it is crucial to assess the parameters on which the rate of interest offered to you on home loans depends. If the rate of interest on your home loans is fixed, then you don’t need to get into these technicalities, as for the entire home loan, the rate of interest remains the same.
However, if the rate of interest offered on your loan disbursement letter is on a floating rate of interest, make sure you know the meaning of basic terms and key differences between EBLR and MCLR.
This article covers the pros and cons of EBLR and MCLR to help you determine which one is better.
Let’s dive in!
Understanding EBLR and MCLR
The Reserve Bank of India (RBI) is responsible for setting an interest rate for banks and NBFCs to help them offer a basic housing loan interest rate and other loans. The final interest rate offered by financial institutions also includes the risk premium factor for customers.
MCLR stands for Marginal Cost of Funds based Lending Rate. It ensures the minimum rate of interest on home loans (or other loans) offered to customers is in smooth collaboration with the central bank’s repo rate. The RBI introduces this rate.
EBLR, on the other hand, stands for External Benchmark Lending Rate. The new interest structure is linked to the External Benchmark with the basic objective to mitigate or enhance the floating interest rate of every bank. EBLR can be linked to the Repo rate, 91 days Treasury bill, 182 days Treasury bill, or any other external benchmark chosen by the financial institutions.
EBLR vs MCLR: A Brief
MCLR = Marginal cost of funds + loan tenor-based premium + banks cost for maintaining its CRR with RBI.
EBLR = External rate + spread or margin desired by Bank+ Credit Risk Premium.
When the repo and reverse repo rates decrease, not all the benefits were passed on to the borrowers in the case of MCLR. Besides including several variables in the MCLR, there was a lack of transparency in setting up the benchmark rates, because of which the transmission of lending rates became quite slow. This primarily led to the increase in demand and popularity of EBLR.
Pros of MCLR
Given below are the pros of MCLR:
- MCLR helps obtain a home loan on a floating rate of interest, and you can easily switch from the base rate to MCLR (for existing home loan borrowers)
- Any changes in MCLR are published overnight, with one-month, three-month, six-month, and one-year maturities.
Cons of MCLR
Here are some cons of MCLR which led to the rise of EBLR:
- MCLR is linked to banks’ cost of funds, which means that the interest rate is subject to changes at fixed intervals. These are fixed according to the time period for which rates are linked.
- It generally takes 4-6 months to move after the RBI rate cut, which is not fully passed on to the borrowers.
- A premium charge is applied by financial institutions over and above the MCLR rate
- Changes are made annually, and these rates reset by 5-10 bps
- These are low-volatility interest rates.
- You can switch from base rates to MCLR, which can involve charges like administrative and processing fees.
Pros of EBLR
Because of the slower transmission rate of MCLR, EBLR was introduced in 2019. And switching to EBLR led to several benefits to the borrowers and financial institutions.
Given below are some of the top benefits:
- Financial institutions can decide the spread over of the EBLR.
- The biggest advantage is that the rate cut on lending interest rates reaches borrowers much sooner than MCLR rates since it is linked to an external rate.
- The EBLR is transparent and is more convenient for borrowers to understand. It also helps them understand the profit margin of financial institutions on home loans to enable them to compare different providers, making it easier for them to choose the best home loan financial institution for their needs.
- EBLR is at high volatility and is linked to RBI’s lending rate. As soon as the RBI rate cut is announced, these are immediately passed on to the borrowers.
- Changes are made every three months, and it can reset by 25 bps.
If your home loan is relatively new and is taken on EBLR, chances are that the EMI increase on your home loans will equate to the repo rate, and it will be done faster as compared to MCLR. If your interest rate on the loan disbursement letter is on MCLR, then the transmission is quite slow.
For swift funds release, it is better to switch to EBLR from MCLR as it is much faster to apply the interest rate reduction benefit in the former.