Is This the end of the Road for Teaser Rate Loans?

ICICI and HDFC have both let their ‘special rate home loan schemes (popularly called teaser rate loans) lapse on November 30, 2010. Given RBIs clear dislike for such schemes (as seen from the steep increase of general provisioning on such ‘teaser rate loans from 0.40% to 2.00%) many public sector banks have followed suit.

Among the significant players only SBI now continues the scheme. SBI has publicly stated that it will continue the existing scheme till the end of this month (as originally scheduled) and take a final decision in the last week of December whether to extend it further.

Let’s quickly see what are teaser rate schemes and why are they so popular with the home loan consumers. Teaser rate schemes have two popular attributes. First is the fact that during the initial 15-36 months the rates are marginally lower (as compared to currently prevailing floating interest rates).

For example the SBI special rate home loans have 8% for the first year, 9% for the next 2 years versus 9.35 % (1.75% above their base rate) if you were to take a regular floating rate loan from them today. The second attribute is that these rates are fixed for the initial period. So not only the consumers get lower interest rates they remain fixed as well during an environment when interest rates are expected to go up.

No wonder they are very popular with the lay home loan consumer. In fact SBI has increased its market share on the back of this popular 8% scheme and by some accounts it has also snatched market leadership in the Home loan market.

Given the regulators displeasure at these schemes, it is unlikely that the first attribute of lower interest rates for the initial period will continue beyond the end of this month. What however can continue without the risk of attracting the displeasure of the regulator is the rate being fixed for an initial period of around 3 years.

These kinds of fixed rate loans have been around for quite some time and may become popular once the teaser rate loans are eased out. Applying this kind of structure for example to the SBI scheme the initial fixed rates for 3 years would be 9.35% and at 1.75% above their Base rate thereafter. (This is only an example and not a scheme actually available).

There cannot possibly be any regulatory objection to such schemes provided the initial rates are not lower than the floating rates prevailing today for the same bank.

So while 2011 may well see the end of teaser rate loans as we know them today, we are likely to see more innovative products from the significant players in the market as they battle for market share in the increasingly competitive home loan market place.

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