Interest-free home loan with a SIP: does the maths hold?

The pitch

A home loan's interest bill is large enough to be uncomfortable to look at. The "interest-free home loan" idea offers a way out: start a SIP on the day the loan starts, sized so that by the last EMI it is worth exactly the interest you paid. The interest is still paid, but the SIP pays you back, so across the two you have borrowed at zero.

Our interest-free home loan calculator solves for that SIP. The arithmetic is exact. The question is what it assumes.

The worked example

Take a ₹50 lakh loan at an assumed fixed 8.5% for 20 years, the same loan as in our post on shorter tenure or smaller EMI. The EMI is ₹43,391 and the interest over 20 years is ₹54.1 lakh. The calculator has two modes: one where the whole SIP corpus equals the interest, and one where the gains alone do, so you also keep everything you put in.

At 12%, ₹5,419 a month, an eighth of the EMI, grows to ₹54.1 lakh. ₹13 lakh of contributions appears to cancel ₹54 lakh of interest. That is the whole appeal, and every word of it depends on the first column.

What has to be true

A steady return for 20 years. The calculator, like the SIP calculator, assumes one constant rate. Markets do not deliver one. Our study of 109 ten-year Nifty 50 SIPs since 2007 found a median annual return (XIRR) of 13.34%, before fund costs, but the worst was 3.89% and the end date mattered most. Here is the ₹5,419 SIP, sized for 12%, earning something else:

The interest is contractual. The corpus is not. Nothing ties one to the other, so a shortfall is simply yours.

Patience until the final year. Interest is front-loaded and the corpus is back-loaded. After five years you have paid ₹20.1 lakh of interest and the SIP holds ₹4.5 lakh; after ten, ₹37.1 lakh against ₹12.6 lakh; after fifteen, ₹49.3 lakh against ₹27.3 lakh. The two meet only in year 20. Sell the house, refinance, or face a market fall in years 18 or 19, and the offset has not happened yet. That last risk has a name, sequence of returns risk.

No tax, which is not true. Equity gains are taxed at 12.5% above ₹1.25 lakh a year once held over a year, plus 4% cess. Redeem the whole ₹54.1 lakh in one year and the long-term capital gains tax is about ₹5.2 lakh, leaving roughly ₹49 lakh: short of the interest even when 12% arrives. Spreading redemptions over several years uses the exemption more than once; the capital gains tax calculator and how SIP redemptions are taxed show how.

A SIP that never stops. A pause in the first crash costs far more than the instalments missed, because those are the instalments with the longest to compound. See should you stop your SIP when the market crashes.

The fair comparison is prepaying

The calculator compares a SIP with doing nothing. The real alternative for the same ₹5,419 is to put it into the loan. Do that every month and the loan closes in 184 months, 15 years 4 months, with ₹39.4 lakh of interest instead of ₹54.1 lakh. Then invest the freed ₹48,810 (the EMI plus the ₹5,419) for the remaining 56 months. At year 20 both paths have no loan, so compare what each holds, before tax on gains:

The break-even return is about 8.3%, a shade under the 8.5% loan rate. So the "interest-free" label adds nothing. The plan works when your investments beat your loan rate and loses when they do not, which is the ordinary prepay-or-invest question. The prepay vs invest calculator runs it on net worth, the loan prepayment calculator shows the certain side, and prepay, refinance or invest sets out the reasoning. On the old tax regime, interest on a self-occupied home is deductible up to ₹2 lakh a year, which lowers the loan's effective rate and tilts the answer towards investing; on the default new regime there is no such deduction. The old vs new regime calculator tells you which applies.

Where the idea is right

It does two useful things. The money stays liquid: a SIP can be redeemed in an emergency, while a prepayment is locked in the house. And it turns a vague intention to invest into a fixed monthly habit next to the EMI. If the SIP goes into a low-cost index fund, index funds that track closely is a place to start comparing.

The rule of thumb

Ignore the label and compare two rates: what you can realistically earn after tax, and what the loan costs after tax. If the gap is small, or you are not sure you would keep the SIP going through a 30% fall, prepaying is the safer use of the money. If you do run the SIP, size it at 8% or 10%, not 12%, and do not count the same corpus towards retirement or an emergency fund as well. A floating-rate loan adds one more gap: if the rate rises, the interest grows and a SIP sized on the old rate falls short.

This post is for education only and is not financial advice. The loan rate and returns are assumptions, returns are not guaranteed, and tax rules change.