Posted On: 24-February-2022


What Is EMI?

That which you hear as EMI has a full form which you probably don't have any idea about. So to give you an idea of it this blog is going to be really helpful. The full form of EMI is equated monthly installment. To avoid repeating this long terminology, we use its abbreviated form, i.e, EMI. To let you know what EMI is we've put it's meaning in the simplest possible form. EMIs are monthly payments made by the borrower to the lender on a given day of every month for a specific period of time. EMIs are the equal parts of the entire amount you borrowed together with the interest rate charged every month. Depending upon the amount you borrowed it might take you a couple of years or more to repay a loan. Now that we know the meaning of EMI, let us get deeper into everything related to it.

In an EMI the borrowers are not allowed to make flexible payments which means that they are not allowed to pay a sum higher or lower than the set amount. Borrowers on EMI programs are allowed to make one set payment every month. This is preferable to the customers since they know from before the amount they'd have to pay. This also benefits the lenders as they earn a steady rate of income every month from the interest rate that they charge. But who decides the EMI rate? Or is it even decided by someone? No, it is not. EMI is not decided but is calculated. If you're wondering how, keep reading.

How Is EMI Calculated?

There are 2 ways to calculate EMI. The ways in which EMI is calculated are:

1. The Reducing Balance Method

In this method the interest rate that the borrower has to pay is based on the outstanding principal. With every month as the EMI outstanding principal changes so does the interest rate. In the beginning of the loan term the interest rate is at its highest, but as the loan is repaid over time the interest rate keeps falling. The reducing-balance strategy is often employed on home mortgages, credit cards, and overdraft services.

2. The Flat Rate Method

In the flat rate method you pay the same interest rate every month, and as you keep repaying the outstanding the amount keeps getting deducted from the original outstanding. The flat rate strategy is popular on personal loans and auto loans. 

Advantages of EMI

1. The easiest and simplest benefit of EMI is that if you pay back the outstanding on time, your burden will reduce. It helps you come close to loan closure sooner and smoother. But this isn't the only benefit related to EMI. There are more, of course.

2. The lenders verify your credit before providing you loans. And your loan eligibility criteria depends largely on your credit score. If you have any existing loan, and you pay for it on time, then you'll have an improved credit score. Your timely payment of EMI makes you creditworthy. This isn't it. It also helps your future borrowings easier. The lender might offer you a higher loan amount depending on your higher credit score.

3. Missing a single EMI payment would have a direct effect on you. If you borrow for a certain thing or if you take home loans and you fail to pay the EMI, the loan company has all right to seize the asset. They might also add a huge penalty to your outstanding as a consequence. However, if you are paying your EMIs on time, you would not have to face such unwanted situations. 

4. Your relationship with your financial service provider is a two way thing. The way you benefit from loans, the same way the financial institutions benefit by charging interests. Just like the lender offers financial aid, the borrower earns loyalty by paying it back on time. As a result, lenders offer more attractive products and affordable low-interest rate loans to their customers.