If you are worried about the repayment of your home loan, Co-founder and Chief Investment Strategist of JRL Money Vijai Mantri has a “simple” formula to create wealth while paying equated monthly installments.
People with home loans should create a systematic investment plan for a third of the EMIs paid on the loan, Mantri told BQ Prime’s Niraj Shah.
For a house costing Rs 1 crore with an EMI of Rs 1 lakh and a tenure of 10 years at 10% interest, he suggests investing Rs 33,000 per month as SIP for 20 years to create a wealth equal to Rs 2.5 crore.
While the homeowner will cumulatively pay Rs 2.5 crore through the 20-year period, the Rs 33,000 SIP will create a similar amount of wealth during the same period, he said.
However, if the homeowner wishes to pay off the loan before maturity, Mantri advises waiting 36 months before redeeming the SIP when the internal rate of return is 12%.
The units bought in last 12 months should not be redeemed to avoid short-term capital gains and an exit load in some cases, he said. “Except last 12 months, redeem everything and repay housing loans to that extent,” he said. This will enable the homeowner to repay the 20-year housing loan within 12-13 years, Mantri said.
If the homeowner doesn't have enough funds to create a SIP, Mantri suggests doing nothing for three years after taking out the home loan. “After 36 months, start with one-third of the SIP amount or one-third of EMI and then increase this SIP amount by 10% per annum.”
Among the mutual funds, Mantri prefers multi-cap and flexi-cap mutual funds for creating SIP the above scenario.
“Flexi cap because you are giving that burden to the fund manager to decide where they see more value," he said. "Whether they see value in large cap, mid cap or small cap.”
View the full interview here:
Edited excerpts from the interview:
Why is it that investors who have a housing loan should actively look at investing in mutual funds in order to repay that loan?
Vijai Mantri: There are two ways to look at it. One is that whenever you buy a house, a dream house is one room short or it is a little shorter than our expectation. So, what we do when we buy a house is we stretch ourselves, to the extent that all our savings till date is put in that. We take loans and EMI to the maximum extent possible, and then the effort goes on over the next 5-20 years to repay the EMI and get free from the burden of housing loans.
Doing that, in the whole process, we are not able to create financial wealth, which is equally important. Earlier, a house was considered to be one of the best assets one could have. But in a changing scenario, that is perhaps not the case. Now, people need to depend more and more on financial savings to take care of their needs because now we have figured out that houses are not as liquid.
The second part is the kind of capital required for houses has gone up substantially. It is not Rs 5 lakh, Rs 10 lakh, Rs 20 lakh houses–it is like Rs 1 crore, Rs 2 crore, Rs 5 crore houses. In a city like Mumbai, a decent house is not less than Rs 2-3 crore… perhaps in most cities.
So, how does one go about creating financial wealth at the same time when one is paying EMI? A very simple calculation we have done, and these are all historical data because we don't know what will happen to the interest rate.
In the absence of anything else, you look at what has been the historical average numbers. Historical numbers on interest rates have been around 10%. So, if you have a Rs 1 crore housing loan, the EMI comes close to Rs 1 lakh. So, whatever is the housing loan, 1% is EMI. So, in a Rs 1 crore loan, Rs 1 lakh is EMI, and the typical housing loan tenure is 20 years.
So, you pay a housing loan of Rs 1 lakh per month, for a year you pay Rs 12 lakh, for a 10-year period you pay Rs 1.2 crore, and for 20 years you pay Rs 2.4 crore. So, for a Rs 1 crore loan, you pay Rs 2.4 crore to the housing finance company. So, Rs 1 crore is your principal, Rs 1.4 crore is your interest.
We give a simple formula that whatever EMI you have, do SIP only of one third amount of EMI. So, suppose in the given case, Rs 1 lakh is your EMI, do SIP only of Rs 33,000. If you do SIP of only Rs 33,000 for a 20-year period, this SIP will create wealth equal to Rs 2.5 crore.
So, housing finance you are repaying Rs 2.4 crore through Rs 1 lakh. Here just take one third of that, just do Rs 33,000 SIP and in a 20-year period, you end up creating a similar kind of wealth for yourself.
Let's summarise this: If I have taken a loan of Rs 1 crore, there are some assumptions here. For Rs 1 crore, my EMI is Rs 1 lakh. While I am paying Rs 1 lakh as EMI, I should figure out a way to eke out another Rs 33,000 from my monthly income and do an SIP for that entire tenure. A lot of people think that if I have higher income than my EMI and if I don't need it, the repayment of a loan is now devoid of penalties. I should repay the loan so that I get out of the home loan burden faster. You are saying don't do that. Instead, invest that money in a SIP.
Vijai Mantri: Invest that money into an SIP. If you want to repay, I will tell you the way it should be done. There are ways one can repay these things. So, the other alternative is that most Indians do not want the burden of loan on their head. They want to repay as much as possible.
Whosoever we meet–whether they are a wealthy guy or a highly qualified person who has a professional job which is very stable–most people don't want it.
Though in mathematical terms, they understand that housing loans come at 10%, SIP is 12–15%, I will make more money because 2-5% over a 20-year period creates huge wealth. But still the burden is a burden, an asset is a different thing.
Given this kind of situation, what we can do is a simple thing. We take the same illustration: Rs 1 crore loan, Rs 1 lakh EMI, you do Rs 33,000 SIP and on that SIP, you set a target return of 12%.
…you don't see for the first 36 months. The first 36 months you keep doing SIPs. At the end of 36 months, you will see whether your portfolio has hit 12% IRR (internal rate of return) or not, whether your SIP numbers are generating 12% return.
If they are generating 12% return, then what we should do is redeem SIPs, except of the last 12 installments, because why should you not redeem for the last 12 months because it will have a short-term capital gain in some cases, and also exit load. So, except the last 12 months, redeem everything and repay the housing loan to that extent.
Now, the question is, suppose in 36 months, your portfolio is not showing 12% IRR, then observe it every third month after 36 months. Suppose after 36 months, your portfolio is not showing 12% IRR, continue to do your SIP. At 39 months, see the numbers, at the 42nd month see the number, at the 45th month see the number. You will have IRR of 12% plus.
It will come sometimes in the third month, in the third year, it will come in the fourth year. Sometimes, it will come in the fifth year or in the sixth year. But it will come.
The day it arrives, the number, you take it out—except the last 12 installments, except the last 12 months SIPs, you take out everything—and repay your housing loan. By doing that, a 20-year housing loan gets repaid on an average in 12-13 years only.
Let’s say I hit 12% in the fourth year or the fifth year. So, the four-year-sum that I have put out is not equal to the full loan. What happens after I have repaid this thing? Shall I still continue SIPs?
Vijai Mantri: Your SIP continues. You will have, on an average, one or maximum twice this occurrence happening in the entire 20-year period, because if the SIP is delivering more than 12% today, the markets are rising. And when the markets rise, and you take money out at that time and then you eventually see the market goes through a phase of correction or is flattish. At that time. you don't create 12% IRR. So, invariably, it happens once in the lifetime of the 20-year period.
But if it happened earlier, then a large part of the principal gets repaid. Then, automatically your tenure comes down dramatically. Suppose I am doing Rs 33,000 SIP, in a year I am doing close to Rs 4 lakh SIP.
In a three-year period, I am doing Rs 12 lakh SIP, and the 12% IRR created a Rs 15-17 lakh portfolio.
If I repay that, I am almost repaying 20% of my housing loan in the beginning itself. So, a lot in the beginning, in the initial phase, the interest component is high. So, I am taking care of the principal parts, so, the interest component also comes down in my overall scheme of things.
Now, the interesting part is once you repay your housing loan over whatever–sometimes it is 12 months and sometimes just 13 months, sometimes it is in the 12th year, 13th year and 14th year–we do that, then convert that EMI also into SIP. Your SIP continues.
Suppose you started on April 1, 1994, with this assumption. At the beginning of the 13th year, your entire house loan has been repaid through this structure. Now, Rs 1 lakh EMI gets converted into SIP, your Rs 33,000 SIP is also there.
…the portfolio value today would be more than Rs 8 crore if you started in 1994. Then, we did for 1995-98. I have done this number crunching till the year 2010.
In the last 15-16-years, 20-year is the completed period on an average. In the best year, you paid in a 10-year period, in the worst you paid in a 14-year period.
So, your burden comes down substantially. It also allows you the flexibility to take money out from equities, not on the basis of view, but on the basis of prefixed targets that are being hit, and I am using that money to pay the liability.
Else what happens, people take money from the equity market and then sit on cash. The markets are rising then they will give all kinds of justifications about why they could not participate.
So, this allows in a very structured way the reduction of liability for the client. It also allows them to continue to do SIP because you have taken money out from the SIP with a plan not based on view and your SIP continues.
So, it gives a lot of comfort to you to continue with the SIP. It is a win-win situation in my opinion for most Indian investors.
Going back to the first example, if somebody doesn't want to repay, then what happens at the end of that 20-year period?
Vijai Mantri: If someone doesn’t want to repay, then what happened with Rs 33,000 SIP also creates a lot of wealth for you. Over a 20-year period, the worst the SIP would do–the one third SIP–is create wealth for you, which is equal to the money you are paying to the housing finance company.
So, you have Rs 1 lakh EMI. You are paying Rs 1 lakh per month for 20 years. You are paying Rs 2.4 crore. Now, you just take one third of that and you create equal value.
So, that's the worst case scenario. What's the best case scenario?
Vijai Mantri: Let's not talk about Rs 2 crore, Rs 3.5 crore. We are just assuming the worst case scenario and assuming large caps. People can do that in small and mid caps over a 20-year period; it tends to be much better.
If you are doing it for yourself, what kind of funds would you choose?
Vijai Mantri: I will choose a multi-cap fund.
So, you will put all the proceeds—that Rs 33,000—in a multi-cap fund?
Vijai Mantri: Multi-cap or flexi-cap fund, structurally, they are really not very different. And it doesn't matter. You can pick three-four funds, three funds, you can pick one fund. It doesn't matter.
Why a flexi-cap or a multi-cap fund?
Vijai Mantri: See, why flexi-cap is because you are giving that burden to the fund manager to decide where they see more value–whether they see value in large caps, mid caps or small caps. Else, individual investors have lost lots of wealth in not investing on the basis of their views.
Interestingly, there is a solution to the money invested and the market corrected. But there's no solution to the money that has not been invested.
You mentioned at the start that a lot of people take the maximum possible loan, because they have seen a good house and don't want to let it go, even if it is slightly beyond their budget. So, for those people who are paying that Rs 1 lakh EMI, to take out another Rs 33,000 is a difficult task.
Vijai Mantri: It's very difficult because, as I told you, a dream is always one room short. When you are buying a house, even your parents, grandparents, family friends, everybody says buy it. You don’t buy a home every day.
So, we end up stretching ourselves and when we have a dream house, people will come and see, they compliment us. You feel very nice about it. Nobody knows what is happening to my cash flow.
So, what should you do in this kind of situation? I understand that you may not have any savings left after paying the EMI. So, do nothing for the first three years. Once you take a housing loan, just pay EMIs for the first 36 months and do nothing.
Perhaps in three years period, your income level will go up. Perhaps. Covid has taught us that is also not possible, but now salaries are increasing, income levels are rising. So again, we will go back to the normal world.
Don't do anything for 36 months. After 36 months, start with again one third SIP amount of one third of EMI and then increase this SIP amount by 10% per annum.
So, in the given case, you had Rs 1 lakh EMI, Rs 33,000 SIP. You didn't do it for the first 36 months. From the 37th month, you started with an SIP of Rs 33,000. You did that for the 37th month to 48th month, basically, fourth year. And then, from the 49th month, you added up Rs 33,000 plus Rs 3,300. So, you made SIP of Rs 36,300 from fourth to fifth year. Then, you keep adding 10%. Again, you will end up creating a wealth of more than Rs 2.4 crore.
But in this case, you don't have to watch out for that 12%.
Vijai Mantri: You could also do the same thing. You can set the 12% return target. You can do 14% 15%... An investor can pick their own number, whatever they feel comfortable. My suggestion is to just pay 4% higher than the housing loan number by and large. I think that will do the job for you.
It also brings about the plan and the discipline into the whole process. So, it's not ad hoc. For a bunch of housing loan borrowers, this could be great news. Are there any final tips?
Vijai Mantri: The final tip is that they stay disciplined in whatever they do–in investing or even in borrowing and follow this strategy.
What I have seen is very interesting. People do counterintuitive things. So, when SIP is hitting more than 12%, the markets are looking very good, the news flow is also very positive.
At that time, many investors don't take money out. They believe that it is going on well, so let it be. When SIP are not doing well because the markets are not doing well, the SIP numbers are not looking good, news flow is also negative… that is the time they stop investing in SIPs.
Don't do that. If you believe the market is topping, that is the best time to take money out. What is the best time to sell your investment—when you feel like bragging about it. So, that is what you should do. You are not taking money out and keeping in cash. You are paying a liability. Your family feels very happy about it. So, follow this strategy.
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