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Tata Capital > Blog > Generic > Prime Lending Rate (PLR): Meaning, importance & impact on your loan

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Prime Lending Rate (PLR): Meaning, importance & impact on your loan

Prime Lending Rate (PLR): Meaning, importance & impact on your loan

One of the biggest challenges when taking out a loan is the high interest rates charged by lending institutions. These interest rates can significantly increase the money you need to pay back and put an unfortunate dent in your finances.

However, if lenders view you as a trustworthy client with a high credit score and good financial profile, you can avail the loan at a better interest rate, known as the prime lending rate.

This article explores the prime lending rate’s meaning, the factors affecting it, and how it can affect the loans you borrow.

What is the prime lending rate?

The Prime Lending Rate (PLR) is the interest rate lending institutions use as a base to determine the interest rate for their loan products.

You can define the prime interest rate as the lowest rate at which financial institutions lend money. It is used as a reference point to set interest rates for various variable-rate financial products such as mortgages and personal loans.

Changes in key policy rates by the Reserve Bank of India (RBI) influence the prime lending rate.

Commercial financial institutions offer prime lending rates to their most creditworthy consumers on short-term loan products, including variable-rate personal and business loans.

Consumers who benefit from the prime lending interest rate include people who have:

  1. High credit score,
  2. Strong financial profile, and
  3. Low default risk

Conversely, consumers with a low credit score or a higher perceived risk may be charged a higher interest rate by lenders.

Key factors affecting the prime lending rate in India

Prime lending rates in India are set according to the RBI guidelines. The RBI sets the base rate below which no lending institution can set its prime rate. The prime rate for a particular financial institution is set by its management according to various factors such as funding costs and operating expenses.

Various other factors, such as market conditions, inflation rates, global economic conditions, and currency exchange rates, can also impact the prime lending rate in India.

All these factors, in combination, determine the spread, which is the additional cost lenders consider beyond the Repo Rate. The prime lending rate added to the spread determines the interest rate for consumers.

Which loans are not linked to the PLR rate?

Changes in the prime rate do not affect existing loans or lines of credit with fixed interest rates. This includes loans like student loans and mortgages, as well as credit cards issued with fixed rates.

Impact of PLR rate on personal loans & home loans

The prime lending interest rate serves as a benchmark for lending rates, and it may affect personal loan interest rates. An increase in the prime lending rate may also increase personal loan interest rates, increasing the loan repayment amount.

Changes in the prime lending rate can thus affect the affordability and cost of borrowing these loans.

Differences between the prime lending rate and the base rate

The base rate, introduced in July 2010, is the minimum interest rate set by the RBI for giving out loans. RBI controls the base rate to enhance transparency, keep the economy in check, and ensure that consumers are not charged discriminately.

The following table illustrates the differences between the prime lending rate and the base rate:

FeaturesPrime lending rateBase rate
PurposeServes as a reference point for financial institutions to set interest rates on loans for their most creditworthy consumersServes as a benchmark for financial institutions to calculate interest rates for various loans
DeterminantInfluenced by changes in the RBI’s policy rates, credit risk, and market conditionsInfluenced by the RBI’s monetary policy, economic conditions, and cost of funds
FlexibilityTypically set by the lending institutions as a fixed percentage above the RBI’s policy rateLending institutions are allowed to add a spread to the base rate to calculate the actual lending rate
Used forPrimarily used for loans offered to the most creditworthy consumersUsed for a wide range of loans, such as housing loans and MSME loans
CreditworthinessDirectly influences the interest costs of the most creditworthy consumers for loans with a prime interest rateInfluences interest costs for loans with variable interest rates tied to the base rate
TransparencyProvides a transparent benchmark for certain interest ratesIncreases transparency in lending rates and ensures fair pricing
Adjustment frequencyAdjusted by lending institutions in response to changes in market conditions and the RBI’s policy ratesAdjusted by lending institutions according to changes in the economic conditions and the RBI’s policy rates
RegulationRegulatory scrutiny ensures transparency and prevents discriminatory lending practicesRegulatory oversight ensures fair lending practices and adherence to RBI guidelines
Risk considerationsConsiders the credit risk of lending funds to the most creditworthy consumersConsiders the overall economic risk and cost of funds for financial institutions

How often does the PLR rate change in India?

In India, the PLR rate does not change on fixed dates. Banks update their PLR after reviewing market conditions, changes in funding costs, and the RBI’s policy. When interest rates in the economy rise or fall, banks may revise their PLR accordingly. Usually, these changes occur a few times a year, but there is no schedule. If inflation increases or the RBI changes its policy rates, banks may adjust the PLR to protect their margins.

Today, many new loans are linked to MCLR or external benchmarks. Thus, the impact of PLR rate changes is on older loans and some specific lending products.

PLR rate vs Repo-linked rate vs MCLR: Which is best for your loan?

Before taking a loan in India, it is vital to understand the differences between the PLR rate, Repo-linked rate, and MCLR. Each one affects your interest cost differently.

  • The Prime Lending Rate (PLR) is an older benchmark. It is set by banks and usually applies to old loans. The PLR rate does not change quickly when the RBI cuts or raises rates. As a result, borrowers may not enjoy instant benefits.
  • The Marginal Cost of Funds-based Lending Rate (MCLR) is more transparent than PLR. It is linked to a bank’s cost of funds and is revised periodically, every six months or 1-year. Rate changes affect borrowers more quickly than PLR, but still with some delay.
  • The Repo-linked rate is directly linked to the RBI’s repo rate. When the RBI changes the repo rate, your loan interest changes quickly. This makes it the most transparent and borrower-friendly option.

When it comes to understanding which loan is best for you, repo-linked ones can be a good choice. They offer faster benefits during rate cuts. MCLR is the next best option, while PLR is suitable only for older loans.

Tips to get loan offers below the PLR rate in India

The following simple tips can help to get loan offers below the PLR rate in India:

  1. Maintain a high credit score: A score above 750 shows good repayment history and lowers lender risk.
  2. Show stable income: If you have a regular income and a long job history, it improves trust with banks.
  3. Compare lenders: Different banks and NBFCs offer different rates. So, you must always compare.
  4. Choose secured loans: Home or car loans usually have lower rates than personal loans.
  5. Negotiate with your bank: Better rates are offered to existing customers with good records.
  6. Opt for shorter tenure: The interest rates for shorter loan periods are often lower.

Conclusion

Understanding the meaning of the prime interest rate can help you gain an edge in securing loans. With a good credit score and financial profile, you can get loans at better interest rates than the general populace and fulfill your financial dreams, like buying a new bike.

Finance your goals today with Tata Capital’s finance for two-wheeler. Utilize our easy-to-use online Bike EMI calculator to calculate your potential monthly EMIs in advance.

To learn more, check the Tata Capital website or download the app.

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FAQs

What is the difference between interest rate and prime rate?

The interest rate is the percentage that determines how much interest you will pay on a loan in addition to the principal amount. On the other hand, the prime rate is the base interest rate used by financial institutions to determine interest rates for loan products.

How to calculate prime rate?

The prime rate is generally calculated by adding 3.0 percent to the federal funds rate. In India, the Marginal Cost of Funds Based Lending Rates (MCLR) or the Repo Rate is typically used as a benchmark for setting lending rates rather than the prime rate. The Repo rate is set by the RBI, while the MCLR is calculated according to the loan tenor and the lending institution’s cost of funds.

Who sets the prime rate?

The prime lending rate in India is set by the Reserve Bank of India (RBI). By setting the minimum rates at which loans are given, the RBI keeps the economy in check and ensures that all customers are treated fairly.

What is the PLR full form in banking?

In banking, PLR’s full form is Prime Lending Rate. It is the interest rate that banks charge when their most reliable and low-risk customers take loans. It acts as a reference rate for setting interest rates on various loans.

Who decides the prime lending rate in India?

Previously, the Reserve Bank of India (RBI) influenced PLR guidelines. Now, individual banks determine their PLR based on funding costs, operating expenses, and risk. They also consider market conditions, business needs, and competition.

How does the PLR rate affect home and personal loan EMI?

The interest rate of most loans is linked to the PLR rate. Thus, when PLR increases, EMIs for home and personal loans also increase. Similarly, when PLR drops, EMIs become lower for home and personal loans.

What is the difference between MCLR and PLR rate?

PLR is an older benchmark rate, mainly for existing loans. MCLR is a newer, more transparent system linked to the actual cost of funds for banks. It responds faster to changes in interest rates.

Can NBFCs and banks have different PLR rates?

Yes, NBFCs and banks can have different PLR rates. This is because they set their PLR based on the cost of funds, risk profile, operating expenses, business model, and market position.

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