Hemang Danani applied for and got what seemed to him to be a hassle-free home loan from LIC Housing Finance, Mumbai. But soon enough he was in for a shock. Three months later, the interest rate on his loan was raised by 150 basis points (one basis point is one hundredth of one per cent), pushing up his interest payable from 8.5 per cent to 10 per cent per annum.

“I am now paying Rs 3,000 more than what I was paying during the first three months,” says Danani, who works as an analyst at JP Morgan Chase, Mumbai.

Danani now feels that he should have waited for a few months and opted for the “teaser rates” that several banks started offering late last year. “When you go for a floating rate, you are assured that rates would be revised as per market standards but as you see in my case, they increased. With teaser rates, you are at least sure that they will be fixed for a few years,” says Danani.

Typically, teaser loans are fixed-cum-floating (fixed mostly for the first two or three years) low interest rate loans that are offered to attract first-time home buyers. At a time when interest rates are expected to go up, “teaser loans” at 8-9 per cent for fixed terms are considered attractive. Some of the major lenders offering home loans with teaser rates are the State Bank of India (8 per cent), HDFC Ltd, ICICI Bank, IDBI (8.25 per cent) and others.

However, with the Reserve Bank of India (RBI) raising the cash reserve ratio (CRR) by 75 basis points recently, the days of teaser loans seem to be numbered. “I don’t think banks will be able to offer home loans at fixed rates after the end of this financial year. So home loan borrowers looking for teaser loans have a limited time to go ahead and avail of them,” says a public sector bank manager. In fact, some banks like the Canara Bank and Union Bank of India have already announced that they are withdrawing these schemes.

That may be a disappointing announcement for some. “For, teaser rates clearly give some element of safety and comfort to home loan customers,” says Harsh Roongta, financial planner and CEO, ApnaPaisa.Com.

There are other reasons why teaser rates are popular. “For first time buyers the rate of interest is an important factor that determines their decision to take these loans. So if they are getting a good deal in the form of teaser loans, they tend to go for it. Since home buyers have to pay several other charges in the first year, going for the lowest rate of interest at this time makes sense,” says Kartik Jhaveri, financial consultant and CEO, Transcend Consulting, Mumbai.

But the teaser rates have their downsides too. In fact, they have come in for criticism from none other than the RBI. “Teaser rates are a cause of concern. Banks must ensure that borrowers can service higher rates when interest rates return to normal,” RBI Deputy Governor Usha Thorat said at a banking conference recently.

The main worry of the central bank is that borrowers could default on their loans after the end of the fixed-rate period when they will be asked to pay the normal rate of interest. This could be substantially higher than the existing rates. For example, a borrower, at an interest rate of eight per cent, for a 20-year tenure, would be paying an equated monthly instalment (EMI) of Rs 836 per lakh, but if the effective floating rate is at 10 per cent at the end of the fixed rate tenure, he would be paying more than Rs 950 per lakh.

“It all depends on a borrower’s ability to service the loan. An increase of 1-1.5 per cent in the interest rate may not be that difficult, but if the increase is 2-2.5 per cent or more, it could pose problems,” says Deep N. Mukherjee, director of structured products, Fitch Ratings. Fitch India recently launched the Residential Mortgage Delinquency Index to track residential mortgage loans.

Others point out that irrespective of whether the interest rate is partially fixed or floating, the customer will always be hard hit if interest rates rise sharply. “Whether the consumer chooses the teaser rate product or the regular floating rate product he would face some difficulty if interest rates rise steeply to, say, a level where the instalment to income ratio (IIR) becomes more than 55 per cent,” says Roongta.

In other words, if a person is spending more than half his net monthly income on paying the EMI, he is usually considered to be in an unhealthy financial state. According to Roongta, an IIR of 40 to 45 is considered safe by Indian standards.

“Underwriters play an important role while disbursing a loan. They should educate the customer about possible rate increases in the future,” says Mukherjee of Fitch.

Some banks say that they are already doing this. “We are appraising the cases today as if the borrowers need to pay normal rates, though we give loans at 8.25 per cent for the first two years. So a borrower’s loan eligibility or repaying capacity is gauged at a higher interest rate than that being given right now,” says Renu Sud Karnad, managing director, HDFC Ltd. HDFC Ltd launched a special home loan product at a fixed rate of 8.25 per cent up to March 31, 2012.

Although teaser rates are on their way out, you can still go for such a loan up to the end of this financial year. But before taking the plunge, customers should take into account the many hidden charges. There are processing and legal charges which many people are often not aware of. “More often than not, customers are oblivious of the effective rates they would end up paying for the entire loan period. One should ask the lender to clarify the effective rate and not get carried away by the so-called ‘advertised rate’ which generally applies to only the first couple of years,” says Karnad.

“Keep all the options open when you move from a fixed rate to a floating rate. If your bank charges more than others in the future, you should be in a position to move to what you think is a reasonable rate of interest offered by another lender,” says Zhaveri.

So if you do feel that you want to grab the teaser loans that are still available, you could give them a try. But make sure that you read the fine print and be clear about the kind of interest you could be paying some years down the line.