Should I use my higher income to prepay home loan or invest or rent?

Published: December 10, 2021 at 7:00 am

A reader who prefers anonymity asks, ” I’m 33 yrs old; salaried; married with 1st kid due in Mar’22; living in Delhi NCR. I bought a house where I intended to live originally, but due to the extreme distance from my workplace (60kms distance one-sided), it does not seem to be feasible for me to continue staying here for the long term”.

“I cannot sell this house either because my parents need permanent shelter (and they want to stay in this particular house for emotional reasons). My monthly takeaway is 1.25lac. I took a home loan to buy this home. Currently, the loan outstanding is close to 45lac with an EMI of 35.5K (@ 6.75% interest rate) that needs to be paid for the next 20 years”.

“I am already investing 35% of my monthly income for my retirement (out of which 83% is being invested in a mix of index fund & hybrid aggressive mutual funds and balance in PPF) – started all these investments in 2020. My income is about to rise by 40K next month – should I use the new additional income money to invest somewhere to prepay my home loan separately, or should I simply up my investments for retirement, considering I doubt I would have a stable job after 52-55yrs of age?”.

We wanted further clarifications and got this additional message. “Currently, I am staying in the same house that I bought using the home loan (so there is no rent outgo). However, at some point in time (say after 3-5 years), I would prefer to move to a more convenient rented location in the city (closer to my workplace) with my wife & kid”.

“The reason I have not done that already is that it feels like too much financial pressure to pay 35K EMI and also take 25K-30K of rented space (plus with rented space my wife & I will also have to buy furniture, appliances, etc.)”.

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About 28.5% of the reader’s take-home pay goes to paying the EMI. This is a healthy fraction. See: When should I get a home loan? How do we decide this? He can invest about 35.5% of the take-home, a healthy fraction. His salary is going to increase by Rs. 40,000 from  Jan 2022. He has the following questions.

Question 1: What should I do with the 40K increment in monthly salary? I understand from your blog that prepaying may not be the best option in most cases, considering that the home loan interest is at 6.75% currently. In contrast, one can practically make close to 10% by investing in Mutual Funds. I feel I would be wasting my hard-earned 40K additional income if I use it to afford a rented house of my choice (particularly at this stage). Please suggest how best I can use the 40K additional income.

Question 2 Your comments on the breakdown of how my monthly salary is being spent? Is something off here, or do I seem to live within my means?

Question 3 My Mutual Fund & PPF investments are all recent.

  • UTI Nifty Index Fund – 19K
  • UTI Nifty Next 50 Index Fund – 11K
  • HDFC Hybrid Equity Fund – 7K
  • PPF – 7.5K

I started them in 2020. Does the mix of Index Fund & Hybrid Aggressive Fund look good for now if my retirement is 20years away, or would you suggest any changes? My wife invests 6K per month in Parakh Parikh Flexi Cap and 1.5lac in PPF each year.

Let us take the easy questions (2 and 3) first. Nothing needs to be done here. The EMI and investment fractions are healthy with the current salary, and as long as these can be maintained for a while (until the next pay hike), it should be okay.  Regarding investments, the only thing to do is not add any more funds.

Now, regarding what to do with the additional income: I have also travelled long distances to work in the past, and I know it can take a toll on the body, particularly the back and neck. It is better to discontinue this as quickly as possible.

So this is what I would recommend:

  • Use the extra income to find a rented home so that travel is greatly reduced to protect your health.
  • Continue investing and pay EMI as usual. With future pay hikes, you can partially prepay the loan and increase investments as possible.

In summary, I think you are in a good position financially. Don’t worry about spending the higher income on rented accommodation. Your health comes first. This may increase your recurring expenses (plus a baby is on the way) and reduce the amount you can invest. However, it should settle down in a couple of years, by which time your income is a bit higher.

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