The Equated Monthly Installments (EMI) based term financing has been found to be convenient by both the lending and borrowing communities, especially in the case of small ticket equipment financing. However, there remains considerable scope for clarity and understanding of the EMI mode of term financing. This paper summarizes the various responses received from borrowers as well as lenders on the EMI-related issues, identifies the areas requiring clarity and understanding, and then works out the formulation for EMIs in various periodicities of compounding with the common base of monthly reducing balance and monthly repayment of installments. All the EMI formulations are then reduced to a general formulation that can be applied to all such situations with a change in the value of variables. The paper then studies the impact of varying interest rates and varying periodicities of compounding on the EMIs and how the borrowers and lenders respond to such situations.

EMI-based term lending system is a more specific form of Equated Periodic Installment (EPI) based system provided by banks/Financial Institutions (FIs). It has emerged as a popular mode of repayment of medium-term/long-term loans by borrowers from corporate, Small and Medium Enterprise (SME) and retail sectors alike. In its generic form, the period in the EPI can be monthly, quarterly, half-yearly or yearly depending on the mutually agreed arrangement between the borrower and the lender. However, the most common form of EPI is the EMI system of repayment of loans. The EMI system is popular with the borrowers as they find it more convenient to pay only a fixed amount per month throughout the repayment period of the loan (assuming that the interest rate remains constant). This fixed amount takes care of repayment of the principal component as well as the interest charged during a month. The borrower is, therefore, well aware of his repayment liabilities beforehand, and is in a position to plan his finances in a better manner. This convenience is not available in a traditional system of repayment of term finance. In the traditional system, the principal amount is repayable in uniform installments but the interest charged during every month varies, as it is calculated on reducing balance method. As a result, every monthly/periodic payout by the borrower (principal plus interest) is different from the other.

Bank Management Journal, EMI-based term lending system, Equated Periodic Installment (EPI) based system, Financial Institutions (FIs), Small and Medium Enterprise (SME), monthly/periodic payout, reducing balance method