Hybrid Home Loans Coming Soon

NHB’s conclusion offers a measure of relief to Housing Development Finance Corp. Ltd (HDFC) and other HFCs that can now get away with the standard provisioning equivalent to 0.4% of the loan value to cover the risk of a default, rather than the 2% they would have needed to set aside for teaser loans.

Increased provisions (or amounts set aside to cover defaults) would have meant lower profits for lenders that have already seen a rise in bad loans as higher loan costs—the Reserve Bank of India (RBI) has raised interest rates 13 times since March 2010—and slowing economic growth take their toll on the ability of borrowers to repay.

The asset quality of lenders has already begun showing signs of strain, with bad loans increasing by 10-40 basis points quarter-on-quarter at some lenders, rating company Crisil Ltd said in a report released on 11 October. One basis point is one-hundredth of a percentage point. Most lenders that have declared their second quarter results made substantially higher provisions for both standard assets (loans) and bad loans.

Fixed-cum-floating rate home loan were originally characterized as so-called teaser loans because of their ability to attract borrowers with a lower interest rate in the initial years. This was a fixed rate; the floating rates would come into play gradually.

Concerned about the risk of loans turning delinquent when borrowers had to move to the higher floating rate, RBI and subsequently NHB, in 2010, asked lenders to make a higher provisioning of 2% for these loans.

NHB’s opinion is that the current range of fixed-cum-floating rate products are different from teaser loans launched earlier. The main difference is that the fixed rate charged in the first few years is comparable with the prevalent market rate, said R.V. Verma, chairman and managing director of NHB.

“The fixed interest rates in the initial years are market-related rates and are not artificially low. Artificially low interest rates in the initial years was the main attraction of teaser products,” he said.

Consequently, the risks of loans turning bad are lower as interest rates will not vary much after the end of the fixed-rate duration of the loan, Verma added.

State Bank of India​ (SBI), the nation’s biggest bank, was the first lender to introduce a “teaser loan” scheme in 2009; it was promptly followed by others. The loans came with a fixed rate of around 8-9% for the first two-three years. With RBI insisting on higher provisioning, the lenders gradually withdrew these products.

Fixed-cum-floating loan products made a comeback a few months back, with lenders seeking to attract borrowers in a slowing market.

ICICI Bank​ Ltd, HDFC and LIC Housing Finance Ltd were some of the lenders that launched such products. The interest rates for the first one year to five years was fixed between 10.5% and 11.75%. After that, the floating rate linked to the lender’s lending rate is applicable.

“We have told the companies that these products do not need to be treated as so-called teaser loans and they do not need to make additional provisioning,” said Verma.

NHB oversees only mortgage lenders and not commercial banks such as SBI and ICICI Bank that come under RBI’s jurisdiction. India has 54 HFCs that have a 35% share in the housing finance market. NHB estimates that around a percentage of the loans of HFCs are bad.

“Teaser loans, through their invitation pricing, helped companies grab market share and enhance customer base. If the fixed/floating products would have been classified as teaser loans, HFCs’ profitability would have taken a hit due to the additional provisioning,” said Robin Roy, associate director at audit and consulting firm PricewaterhouseCoopers.

“This would have forced companies to take a call on whether they want to increase their market share and take a hit on their bottom line in terms of lowered margins or withdraw these products,” Roy added.

Although home loan borrowers typically have the least propensity to default, rising interest rates does increase the risk of bad debts, he said.

Concerns that bad debts could rise had prompted NHB to ask lenders to pass on interest rate increases gradually to customers to maintain asset quality. India’s housing loan industry is estimated to have assets in excess of Rs5 trillion.

“This will be a relief to companies as now less provisioning has to be done for these loan products”, said V.K. Sharma, chief executive of LIC Housing Finance.

The fixed-cum-floating interest rate plans were mainly targeted at salaried borrowers who needed some certainty on their monthly payouts for at least the first few years after taking a loan, Sharma said.

Housing finance companies (HFCs) have been spared the burden of setting aside more money to cover the risk of default on recently launched fixed-cum-floating rate home loans. The National Housing Bank (NHB), which regulates mortgage lenders, has clarified that such products can’t be categorized as so-called “teaser loans” that require additional cover.

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