Consider this scenario: Vikas Kumar is a senior executive in a multinational company. Few years back he had purchased a house on loan and is currently paying interest on that loan at a rate of 9 per cent every year. He is comfortably paying his equated monthly installments (EMIs). In the last few years his salary has increased and he has now accumulated some cash.
The big dilemma with him is whether he should invest his savings in mutual funds or should he prepay his loan? This is a situation that many of us who are salaried face at some point of time. The most mundane response in this situation is to pay off your debt.
Nevertheless, home loans have certain peculiarities that separate it from other debts. First, a home loan carries one of the lowest interest rates and hence does not hit your pocket hard. Second, you get tax benefit on both your interest as well as principal repayment.
Hence, you should have a holistic approach to your finances before you get aggressive on investing and writing out a cheque to buy some mutual fund schemes or prepaying part or the entire home loan. There are other important aspects of your finance that you should check before you invest or prepay your mortgage.
A1. A fully-funded emergency fund: Before you think of any other option of deploying your surplus cash, check that you have an adequate amount in your emergency fund. You should typically have three to six months’ worth of expenses including EMIs and SIPs towards financial goals in a liquid fund that you can access at the time of emergency.
rffr. Pay off all the high-interest bearing debt: Besides the home loan you might also be availing other loans such as car loan, personal loan or credit card dues. These loans normally carry higher interest rate compared to a home loan. Therefore, after creating your emergency fund, you should aim at getting rid of all your high-interest-bearing loans.
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