What is an EMI?
An EMI or an Equated Monthly Investment is a fixed payment made every month on a pre-determined date to repay the amount borrowed from a bank. Paying a lump sum amount back is often not possible for most people. That is where EMI acts as a saviour and helps in managing your budget and lifestyle, while simultaneously enabling you to reap the benefits of a loan without stress.
A loan has three essential components to it:
- Loan amount
- Loan Tenure
- Interest rates
The most important part of calculating a loan EMI is an understanding of the three essential components mentioned above. Without careful consideration of these elements, you might end up hurting your financial situation in the long run. To get an approximation of the loan amount, banks are usually ready to lend the borrower an amount equivalent to 60- 70% of the property that serves as a security. For example, you want to avail a loan against your property worth INR 1,00,00,000. Then, the bank would be willing to lend you only INR 60- 70 Lakh. Similarly, the rough calculation of how much a bank is willing to lend you for a home loan is 60 times your net monthly income or in-hand salary.
For paying off a huge amount such as a home loan or any other loan, it is important to have an idea of how an EMI is calculated.
An EMI is calculated by dividing the sum of principal and interest rate by the total number of months in the loan tenure. In the initial months, the interest component of the EMI is much higher than the principal component. However, the principal component becomes more with each successive payment.
The formula for calculating EMI is as follows:
where E is the EMI,
P is Principal or the loan availed
r is the rate of interest on a monthly basis
n is the number of months in the loan tenure.
For example, if you borrow INR 15,00,000 from the bank at 10% annual interest for a period of 10 years (i.e., 120 months), then EMI = INR 15,00,000 * 0.00833 * (1 + 0.00833)120 / ((1 + 0.00833)120 – 1) = INR 19,819.27. i.e., you will have to pay INR 19,819.27 for 120 months to repay the entire loan amount. The total amount payable will be INR 13,493 * 120 = INR 23, 78, 313 that includes INR 8,78,313.46 as interest towards the loan.
Why Should you use an EMI Calculator?
An EMI calculator becomes necessary because making calculations by yourself is often time-consuming and is more prone to errors. One can either use an excel sheet and enter the loan tenure, loan amount, interest rate and EMI arrears(for car loans only) or use an EMI Calculator tool to calculate your monthly payouts.
What if you want to pay the Principal and interest rate in advance?
Although pre-payment of loans in lump sum amounts is generally allowed, it will attract a penalty fee.
The most important thing to consider is to find out the EMI amount that you can comfortably pay every month. This should be an amount that does not hurt your lifestyle or monthly budget badly. Once you figure out that, taking a loan and paying EMIs every month should not be a problem.