This post shows how goal-based investing can help you afford your dream home down-payment and EMI.

Buying a home is one of the most critical decisions in your life. Apart from the psychological aspects of home-ownership (safety, security and stability), there is also the impact on financial life. This post targets anyone thinking of buying a home, typically with a home loan, and lets them check if they can afford it along with their other goals. Goal-based investing lets you figure out how much down-payment and EMI you can afford.

📚 Table of Contents

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• Introduction
• Ensure you can afford the down-payment
• Impact of EMI on your other goals
• A worked out example
• Reviewing your loan regularly

Introduction

This article is part of our Series on “How to purchase a home”:

• How to calculate the SIP amount for the downpayment of your dream home?
• Should you sell your mutual funds to buy a house?
• Goal-based investing: check if you can purchase your dream home « this article
• How does your risk profile change with a home loan?
• Where to save for the downpayment of a home?
• Should you stretch to buy your dream home?
• What is the best home loan tenure?
• Should you use your stock market profits to prepay a home loan?
• First time home buyers: should you choose fixed, floating or overdraft type home loan?

Buying a home has considerable costs, some explicit and some implicit. The primary two sources of funding in purchasing a house is:

• down-payment from the investor’s funds
• remaining amount paid from a bank loan

The primary uses of funds in buying a house are:

• registration, stamp-duty and brokerage
• increasing the emergency fund of the investor by 6 months of EMI
• cost of interiors, modifications and appliances
• amount paid to the previous owner or builder

Typically, the down-payment amount will cover the first three items, and the rest will come from home loans. Depending on the credit score, profession and number of co-applicants, the bank can give up to 75% of the total cost of the home as a loan. The rest has to come from the investor’s funds.

We are deliberately ensuring that the emergency fund includes 6 months of EMI payment to ensure that in case of a job loss or medical issue, the EMI is not interrupted. This is all the more important in case of pandemic type situations where job losses are likely.

As a pre-requisite, you should now know all your other financial goals and are in a position to start investing. Alternatively, you have been already investing for some time, you want to review progress and wish to understand the impact of a home purchase. If you have not set goals yet, please do so now; otherwise, this post will not be of any use. If you have trouble getting started, read this post.

This post also answers the rent-vs-buy argument from a financial calculation perspective. If you can afford the increased investment starting from today, then your other investments and goals are not impacted and you can buy. Should you buy, in that case, is a personal/family decision. If you cannot afford the increased investment, you should defer the plan of buying a home.

Ensure you can afford the down-payment

The down-payment can be saved as a single-payment goal as described in this post. This goal will have to be considered along with the rest of your goals to understand the overall impact.

Know your EMI

Impact of EMI on your other goals

As you pay down the home loan via Equated Monthly Instalments (EMI), other costs need to be considered:

• EMI payable to the bank
• Tax and maintenance on the house

Of these, you will have to offset the saved rent (once you shift) and any benefits from tax saving on the interest and principal component of the home loan.

We will consider a new goal, per year the loan is active, like this:

Cost of goal = 12 times (EMI - Rent_Saved - Tax - Maintenance) - TaxSavings

Using the figures in the worked out example below, for a 10 year home loan, there are ten new goals:

Year of loan	EMI	Rent	Tax / Maintenance	Net Cost/Year = Goal
1	88,066	-25,526	3,000	7.86
2	88,066	-26,802	3,150	7.73
3	88,066	-28,142	3,308	7.59
4	88,066	-29,549	3,473	7.44
5	88,066	-31,027	3,647	7.28
6	88,066	-32,578	3,829	7.12
7	88,066	-34,207	4,020	6.95
8	88,066	-35,917	4,221	6.76
9	88,066	-37,713	4,432	6.57
10	88,066	-39,599	4,654	6.37

We will be investing in these goals using the usual goal-based investing, which has the following benefits:

• the EMI will be ready every year without any uncertainty whether you can pay it
• you can be confident whether you can afford the net EMI and down-payment
• if you are planning to take early retirement (RE) before the loan is paid off, this calculation will tell you whether you can RE or not

We will use the Plan Excel sheet to calculate. If you are purchasing an under-construction home with multiple payments made to the builder, you can adjust the charges in the above table.

A worked out example

We will assume a home that costs ₹ 80 lakhs today (including registration, stamp duty and brokerage) and will be bought in five years. The house will be 75% financed by a home loan (₹ 60 lakhs), and the rest will be saved as a down-payment (₹ 20 lakhs). All of these costs will go up over five years at an inflation of 5%. Currently, the family is paying ₹ 20,000 rent/month, which will also increase by 5%, and taxes/maintenance and other costs, less any income tax deduction, will be ₹ 3,000/month.

After five years at 5% inflation, the down-payment will become ₹ 25.5 lakhs, and the loan amount will be ₹ 76.6 lakhs. At a 7% interest rate, the EMI will be ₹ 88,066 for a 10-year loan.

Inflation: the impact on your goals and how to choose assets that beat it

The goal table will be as shown above. You can see these calculations in the homeLoan tab of the Excel workbook. The family has all other goals set and has ₹ 50 lakhs as corpus already saved.

The base case, without home loan, is this:

If you add the home loan, you get the updated figure by setting a value 5 in the cell beside “Home purchase after x years,” i.e. C11.

Points to note:

• an increase in the overall SIP amount between the two cases. If you can afford this SIP difference, then you can buy this home. Otherwise, you need to adjust the duration of the loan and the cost of the house you are targeting to bring the SIP amount in line with your current investing capability
• the asset allocation of the current corpus changes to ensure that you can afford the down-payment
• the SIP amounts of the other goals will also change but you need to be aware of the total change in SIP
• you need to be sure that once you take the loan, there will be minimum disruption to your EMI paying capability. This requires stability of income, an emergency fund that includes 12 times the EMI and adequate health insurance
• if you are planning to retire early, check if the home loan gets over before that or not. In the example above, there are five years of early retirement designed (17 years from now), and the loan starts in 5 years and ends in a further ten years before RE starts
• the model assumes that the SIP you make increases at 10% per year
• you have to have term insurance coverage as long as the loan is active.

Reviewing your loan regularly

You should, as a part of your regular portfolio review, look at your home loan at least once in six months. You should check if

• Can you lower the rate by switching to another lender?
• Can you change to RLLR based loans vs base rate loans?
• Can you change to an SBI Maxgain type loan which you can use to store a part of your emergency fund?

If you are getting a better rate elsewhere, consider switching costs and customer service of the new lender.

At all times ensure that you have the following in place

• an emergency fund with 6-12 months of expenses+EMI
• a term insurance policy (at least until your loan is active)
• a health insurance policy (separate from the company provided one if any) for 10-15 lakhs as base policy with a 50-100 lakhs super-top up
• a personal accident insurance coverage to safeguard against accidents where you do not die but cannot earn
• no high-interest debt like credit card or personal loans