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Ramalingam Kalirajan |8342 Answers |Ask -Follow

Mutual Funds, Financial Planning Expert - Answered on Apr 23, 2025

Ramalingam Kalirajan has over 23 years of experience in mutual funds and financial planning.
He has an MBA in finance from the University of Madras and is a certified financial planner.
He is the director and chief financial planner at Holistic Investment, a Chennai-based firm that offers financial planning and wealth management advice.... more

Question by Prajwal on Apr 16, 2025

Hello Sir. I currently have a home loan of 52 lakhs with 16 years remaining on the tenure. Following the recent RBI repo rate update, my interest rate has been reduced to 8%. I now have a lump sum of 5 lakhs available. Could you please advise whether it's more beneficial to use this amount to make a prepayment towards the principal of my home loan or to invest it in stocks or mutual funds? Which option would offer better financial returns in the long run - closing the loan early or investing for potential growth?

Ans: Many banks have marginally reduced home loan interest rates, and your current rate at 8% is already among the better ones in the market.

Now, let's evaluate your decision clearly and simply — whether to use the Rs. 5 lakh lump sum to prepay your home loan or invest it for long-term growth.

Understanding the Current Loan and Investment Scenario
You have a home loan of Rs. 52 lakh.

The remaining tenure is 16 years.

Current interest rate is 8% per annum.

You have Rs. 5 lakh available for use.

You are thinking whether to prepay or invest.

This is a common and important financial decision.

We must assess it from all angles before choosing.

The right decision depends on goal, emotion, tax, and future cash flows.

Emotional Perspective: Peace of Mind vs. Growth
Prepaying reduces debt. It gives mental peace.

You feel more in control. EMI burden reduces.

You sleep better with lower outstanding balance.

But it stops your money from growing faster.

Investing in mutual funds or stocks offers growth.

But it comes with risk and market ups and downs.

If peace matters more, prepaying makes sense.

If growth is your priority, investing is better.

Know what feels right to you emotionally first.

Loan Prepayment: What Happens Financially
Your interest rate is 8% now.

If you prepay Rs. 5 lakh, your total interest reduces.

Your tenure may reduce. Or EMI may reduce.

Prepayment early in the loan saves more interest.

It gives guaranteed return. No risk is involved.

The effective return is same as your loan rate.

So, prepayment offers you a risk-free 8% return.

There is no tax to pay for this gain.

It is also simple and stress-free to do.

But once paid, that money is locked.

You can’t use it again unless you refinance.

Prepaying also lowers your home loan tax benefits.

Home Loan Tax Benefits You Must Consider
You claim Rs. 2 lakh yearly deduction on interest.

You also claim Rs. 1.5 lakh under 80C for principal.

These benefits reduce your taxable income.

So, effective cost of loan is less than 8%.

If you prepay, these benefits reduce or stop.

That means you lose part of the tax advantage.

If your tax slab is 30%, loan cost is closer to 5.6%.

In this case, investing may be better long-term.

Investing That Rs. 5 Lakh: Pros and Potential
You can invest in mutual funds for long-term.

Equity mutual funds can deliver 10% to 12% annually.

Over 10 to 15 years, it may grow 3-4x.

You also maintain liquidity with this approach.

You can withdraw in emergencies if needed.

Mutual funds are flexible and diversified.

Choose actively managed mutual funds only.

Do not invest in index funds.

Index funds just follow the market. No expert help.

In falling markets, index funds fall sharply.

They do not protect downside risk.

Skilled fund managers in active funds manage risks.

They can outperform the market over long term.

Actively managed funds offer better returns potential.

Also avoid direct plans without guidance.

Direct funds save cost, but lack expert advice.

You may pick wrong funds or exit at wrong time.

Regular plans through MFDs with CFPs offer support.

They help with reviews, rebalancing, and discipline.

That adds more value than low fees of direct plans.

So, choose regular funds with an MFD having CFP tag.

If you invest Rs. 5 lakh today in such funds, it can grow well.

Your Risk Appetite and Financial Behaviour
Are you okay with market ups and downs?

Can you avoid panic during a fall?

Can you hold on for 10-15 years?

If yes, investing is good for you.

If no, then prepaying loan is safer.

You must assess your risk profile.

Talk to a Certified Financial Planner for help.

Choose the option that matches your risk appetite.

Liquidity and Emergency Planning
Once you prepay, the Rs. 5 lakh is gone.

You can't get it back easily.

That reduces your liquidity.

If you invest instead, you keep access.

That money can be withdrawn in emergencies.

Liquidity is important in uncertain times.

Always maintain an emergency fund.

It should cover 6 to 12 months’ expenses.

Prepay only if this fund is already ready.

Don’t use all cash for prepayment.

Keep some buffer aside always.

Opportunity Cost of Prepaying vs Investing
Prepaying gives 8% return. No risk.

Investing can give 10% to 12%, but with risk.

Over long term, investing can give more wealth.

But returns are not guaranteed.

You may see short term losses too.

But with 15+ years holding, risk reduces.

If goal is wealth creation, investing wins.

If goal is safety and less EMI, prepaying wins.

Choose based on what matters more.

Use Balanced Approach: Prepay + Invest
You don’t need to do only one thing.

You can divide Rs. 5 lakh into two parts.

For example, prepay Rs. 2 lakh.

Invest Rs. 3 lakh in mutual funds.

This gives you lower EMI or tenure.

Also helps grow wealth for the long term.

This gives you mental peace and future returns.

It is a balanced and smart approach.

It avoids regret in future.

You win both ways – safety and growth.

Ensure your emergency fund is not affected.

Check if your mutual fund portfolio is aligned.

Take help from a CFP-backed mutual fund distributor.

Review your portfolio every year.

Stay invested without panic during market falls.

That is how wealth creation happens.

Final Insights
You are thinking wisely about using your Rs. 5 lakh lump sum.

Prepaying the home loan gives peace and fixed savings. It is a safe path.

But investing in mutual funds has higher potential returns. It needs patience.

There is no single “correct” answer. Both are good depending on your goal.

If safety and peace are top priority, prepaying is better.

If long-term growth is your goal, then invest in mutual funds.

Ideally, a 50-50 approach works best for most people.

It gives balance. And keeps options open.

Review this decision every year with a Certified Financial Planner.

That ensures your financial journey stays on the right path.

Best Regards,
K. Ramalingam, MBA, CFP,
Chief Financial Planner,
www.holisticinvestment.in
https://www.youtube.com/@HolisticInvestment

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