Five tips to save money for buying your dream home

Buying a home is a lifelong dream for most people. It is also the biggest investment and financial commitment a typical middle-class household ever makes. Housing and land prices are at a record high across the county and most often they always seem to increase faster than our income and savings. 

On top of this, the ever-rising living expenses from rent and utility bills to transport, food and travel make it tough to save and create a large enough corpus to buy a house.

Unless you are born rich or have inherited a large property, you will have to take a home loan to fund the purchase of your dream house. You will have to service (or repay) the mortgage through equated monthly instalments (EMIs) that will run for 20 years or more. The EMIs are many times more than the rent you would pay for the same property. The EMI will eat into a part of your monthly income and could alter your spending priorities for some years.

Also Read: Buying vs renting a home in India

EMIs have two components – principal repayment and interest in principal outstanding. For tenure home loans –15 years or more -- the interest component will be more than twice the initial principal you borrow from the bank. 

For example, if you take a home loan of Rs 50 lakh for 20 years at 8.75% interest, you will pay a total interest of nearly Rs 92 lakh over the loan tenure besides the principal repayment.

You have to arrange the margin money to become eligible for a home loan from banks and housing finance companies. As a thumb rule, lenders only finance 80 percent of the house purchase price and 20 percent of the amount has to be arranged by the buyer from savings or other sources. This could be a big financial responsibility if you purchase a house in a good locality of India’s top cities such as Mumbai, Bangalore or Delhi/National Capital Region.

The combination of high EMIs and the 20 percent margin requirement can be financially stressful. That is why it is important to work out a savings and investment plan to fulfil this dream with minimal stress. You can do this in five simple steps.

1. Determine the budget for your dream home.

Homes are not a commodity and there is no limit to how much you can spend on buying a house. You can buy a fully functional home for as little as a few lakhs or choose to spend crores on acquiring a luxury property. 

So do some legwork and get an idea about the maximum amount that you can pay for a home given your current income, future income growth and your requirements. Once you fix your home-buying budget, the next step is to arrange the 20 percent margin money that banks require for giving out the home loan. You can arrange the money through savings, dipping into your provident fund (if it has accumulated enough) or borrowing from family and friends. 

If you plan to save for it then you will have to take inflation into account and the likely rise in housing prices during the intervening period. 

For example, if it will take you five years to accumulate enough to pay for the margin money, then you must plan for home prices five years from now rather than their current prices.

Also Read: Five points to keep in mind while taking a home loan

2. Invest in high-yielding bank and corporate fixed deposits. 

Historically, home prices have always risen in line with inflation or around 7-8 percent per annum. At this rate, home prices could rise by up to 50 percent over five years. So save accordingly. 

This also means that you must invest your savings in financial instruments that give higher returns than inflation and the potential rise in home prices. 

You should not block too much money in savings accounts and instead invest in high-yielding bank and corporate deposits. High-yielding bank FDs and corporate deposits give 8 to 9 percent annualised yield if you lock in your money for five years.

3. Start with low-cost index equity mutual funds

Exposure to equity is essential to generate higher returns over the longer term. In the last ten years, BSE Sensex has given annualised returns of 11 percent while the mid and small-cap index has given 18 percent and 19 percent annualised returns respectively during the period. 

An index tracking these benchmark indices is a great way to maximise returns and beat inflation over the long term. The net returns from index funds are better compared to actively managed diversified mutual funds due to their extremely low total expense ratio (TER).

Also Read: Ten best hybrid funds for investment

4. Invest in multi-asset or hybrid funds to gain from market cycles.

Putting all your money in pure equity funds is risky so diversify your portfolio by investing in balanced or hybrid funds that invest in both equity as well as the bond market. Some even invest in gold. In good times these funds give lower returns than pure equity funds but these funds outperform when markets turn volatility. This was proved right in 2020 and 2021 when the majority of pure equity funds had underperformed but multi-asset or hybrid funds have done relatively better. 

As a thumb rule never put all your funds in a one or two top-performing mutual fund. 

Spread over money at least three funds in every category to protect yourself from concentration risk.

5. Invest in gold.

In the last ten years, gold prices in the Indian market have nearly tripled from around Rs 26,000 per 10 gm to Rs 77,000 now for 24-carat metal. This translates into annualised returns of 11.1 per cent, slightly higher than Sensex. 

Also Read: How to invest in gold for maximum returns

Gold has also beaten the Sensex in 2024 so far. The yellow metal is an independent asset class with a very low price correlation to other assets such as equity and bonds. 

As a thumb rule, gold should be 15-20 percent of your portfolio. 

If you save and invest in a disciplined manner, you will end with a large corpus instead of just a bare minimum down payment. A higher down payment will reduce EMI and cut your financial burden in the long term.

(Karan Deo Sharma is a Mumbai-based finance and equity markets specialist).

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