Home Loan: Base Rate or MCLR Rate? Which is a better option for interest calculation?

Home loans are the preferred option for people wanting to buy their dream residence. These loans offer tenure of up to 30 years for repayment. One question borrowers often have in mind is the rate at which their home loan interest will be calculated. There are two options for this- the base rate and the Marginal Cost of Funds based Lending Rate (MCLR).

With HDFC Bank hiking its MCLR on August 7, let’s consider how the two rates differ and which one could be a better option for borrowers.

What are base and MCLR interest rates?

MCLR is the minimum interest rate a lender needs to charge for a specific loan. It sets the lower limit for the loan interest rate. Unless otherwise specified by the Reserve Bank of India, the MCLR cannot be changed.

The base rate is the minimum interest rate that was decided by the Reserve Bank of India for loans before the MCLR emerged. Functionally the rate is similar to the MCLR. Both serve as the lower threshold of interest rate limit for a borrower.

The goal of both rates is to have a transparent monetary lending policy that would make setting interest rate limits more convenient for financial institutions.

Base rate vs MCLR: Differences

Change: The base rate is changed every quarter, whereas the MCLR varies according to the change of the loan tenure.

Repo rate: The base rate is independent of changes in the repo rate, the interest rate at which the RBI lends to commercial banks. The MCLR is dependent on the alterations in the repo rate.

Basis: The average cost of funds determines the basis of the base interest rate. The MCLR interest rate is decided on the basis of the marginal cost of funds.

Should you change from base rate to MCLR?

In case of a change in the policy rate, the RBI has mandated that banks should allow borrowers to switch from base to MCLR rate. But, before opting for a change, borrowers should take professional advice on how their home loan tenure will be impacted. For many people, changing to the MCLR may lead to more fluctuations in the interest rate as the value is often changed by banks. Borrowers must opt for a change, only if they think the rate can be favourable for them in the long run.