How to manage your education loan repayment

The rising cost of education often stands in the way of aspirations of students and parents. Education Loan in the situation can come as a big relief where students take the burden of repaying the loan on themselves. However, with cost of higher education in premier institutes increasing rapidly, student borrowers may remain indebted for a considerable part of their earning life. This makes it crucial to take informed decision while availing education loan and managing its repayment thereafter. Here are a important factors one should keep in mind:

Opt for a comfortable repayment period: Banks lend education loan with repayment tenures of up to 15 years. This excludes the moratorium period, which includes the course period plus 1 year. A longer repayment leads to lower EMIs and higher interest cost while a shorter repayment period leads to higher EMI and lower interest cost. Do not opt for an aggressive repayment schedule as that may impact your financial health in the early years of employment.

Service interest during moratorium period: The borrower of an education loan is not required to pay any EMIs during the moratorium period. However, banks start levying interest on simple interest basis right after the disbursal of the loan tranches.

The accumulated interest is added to the loan principal based on which the EMIs are calculated for the repayment period. However, borrowers are free to service the interest component during the moratorium period. Try repay the interest component during the moratorium period as that will reduce your overall interest cost.

Additionally, regular payment of the interest component during the period will get you 1 per cent concession in the interest rate during the moratorium period. This would further reduce your overall interest cost.

Pay your EMIs regularly: Late or non-payment of education loan EMIs can have severe consequences on your overall financial health. Apart from attracting penal interest rates and other penal charges, such behavior would also reduce your and your co-applicant’s/guarantor’s future loan and credit card eligibility.

Like in many advanced economies, Indian employers are increasingly factoring in credit scores while evaluating loan applications. Additionally, the collaterals offered for availing loans might also face the risk of redemption or sale. Hence, try prioritize repaying EMIs as far as possible.

Also include your education loan EMIs of six months in your emergency fund to ensure that your EMI repayment is not affected due to job loss or other unforeseen emergencies.

Switch to MCLR regime: All new bank loans lent since April 2016 follow MCLR (Marginal Cost Based Lending Rate) for setting lending rates. As banks have to factor in repo rate for calculating MCLR, it reflects the policy rates better than base rate and BPLR regimes. Moreover, the MCLR regime also requires banks to mandatorily reset the lending rates of existing borrowers at least once in a year.

This ensures the transmission of policy rates to the existing borrowers. Hence, if you have an existing education loan based on base rate or BPLR regime, try switch into an MCLR-based one if the savings in interest cost are higher than the cost of switching.

Opt for balance transfer: Like all other loan products, education loan rates vary significantly across various lenders. Transferring your existing loan to another bank at lower rates will reduce your EMI and overall interest cost.

However, opt for it only if it leads to significant savings in interest costs after accounting for various transfer related charges. As NBFCs do not follow MCLR-based interest rates, existing education loan borrowers from such lenders can transfer their loans to banks to benefit from the MCLR regime.

Make prepayments: With interest rates inching up, many existing education loan borrowers will feel the pinch of rising EMIs. The best way to deal with it is to make prepayments, in full or in part thereof. While prepaying full loan amount will be out of bounds for most, they can consider making part-prepayments in tranches. Doing so will reduce the outstanding principal by the pre-paid amount, which will lead to lower EMIs or reduced loan tenure.

However, avoid dipping into your emergency funds for making prepayments. That might force you to avail costly loans to deal with financial emergencies. Similarly, do not sacrifice your insurance payments and contribution for other essential life goals for making education loan prepayments. Doing that might harm your financial health for a long time to come.

- By Gaurav Aggarwal – Associate Director, Unsecured Loans, Paisabazaar.com