Banks seek clarification from RBI on pricing of old home loan rates

The Reserve Bank of India (RBI) has instructed banks to give loans on ‘base rate’ instead of the PLR. The new system will start from April 2010. The base rate will be calculated on a cost-based formula and will be lower than the PLR, although banks will be free to charge a risk spread over the base rate but they cannot lend below the base rate.

However banks have asked for the clarity from RBI on pricing of old home loans once the new ‘base rate’ is adapted as loans given for a longer duration i.e. for 15-20 years, do not have any provision for replacing the prime lending rate (or PLR) – the anchor interest rate to which the floating rates are linked.

Moreover RBI has instructed banks that during the renewal of loans or resetting interest charges, banks should take the ‘base rate’ as the anchor rate. The home loan agreements are like other loan deeds, are legal documents, according to bankers many retail borrowers might resist a switchover from PLR to ‘base rate’ and signing on a new agreement.

Then bankers will also have to struggle with the fact there is no renewal date in case of home loans and existing loan agreements are for the entire tenure of the loan. Also, as the base rate is a floor rate, thus bankers might have to hike the interest rates on some home loans if the base rate of the bank is higher than the existing loan rates.

At least three senior bankers told ET as there is uncertainty on the matter thus they are seeking clarity from RBI on this. “The moot point is the floating rate home loan do not have renewal clause, making it difficult for banks to link these loans to base rate. Alternatively, banks can give customers an option to shift to base rate. But, if customers have availed of loan at rate lower than the base rate, they may resist shifting to base rate. Banks also cannot force base rate on them as it’s a legal document (loan agreement).”

According to bankers the other alternative can be to maintain two parallel rates – PLR and base rate till the maturity of all old loans in their book. But bankers say, RBI might not approve this move.

The RBI main aim is to eliminate the discriminatory prices for old and new customers. At present the old home loan customers are paying higher interest rate in comparison to new home loan borrowers, even though both of them have taken floating rate loans. According to banks they offered new loans at cheaper rate because their incremental cost of funds has come down. But RBI argues that reduction in incremental cost results in reduction of overall cost of funds and thus the benefit of lower rate must be passed to the old home loan borrowers as well. Therefore, if BPLR continues to be anchor rate for old home loans, it might counteract the purpose of introducing base rate.

A senior banker said, “In case of short-term loans given to corporates, individuals and small businessmen, banks may have to keep alive its BPLR. But whether it can be kept active for home loan which has a 15-year maturity is yet not clear.”

The main reason for RBI to introduce the base rate system is to improve the transmission of policy rate to the credit market. Frequently RBI has observed that whenever the policy rates have been reduced banks have not reduced the lending rates by the same quantum. In the policy document of January 2009, RBI governor, D Subbarao pointed out, “While changes in RBI’s policy rates were quickly transmitted to the money and government securities markets, transmission to the credit market was slower. Evidently, the transmission is still in progress.”

Between October 2008 and December 2009, RBI considerably reduced policy rates — the repo rate by 425 basis points and the reverse-repo rate by 275 bps. CRR was also reduced by 400 basis points of NDTL. But the public sector banks reduced BPLR by 125-275 basis points, followed by 100-125 basis points by private banks and 125 basis points by five major foreign banks.