Why borrow money from friends and family, when you have these 6 options?
There is nothing unusual about being in the middle of a serious cash flow crisis. Think of this as one of the obstacles in life that you may have to face one day or another. But the question is: are you well enough prepared to face such a situation? Of course, borrowing money from family or friends is an option (sometimes the first option for many of us), but there are other options you can consider as well. Borrowing from friends and family can add stress to their finances while jeopardizing long-standing relationships if money is not paid back on time. As such, with a plethora of credit channels floating around in the market, you can sign up for any of them to meet your immediate fund needs. However, you need to make an effort to fully understand how each of these credit tools work and what things you need to consider to avoid any nasty surprises down the road.
Here are some of the credit instruments that you can opt for to get rid of your financial crisis.
1. Personal loan
One of the most popular credit instruments in the market, personal loans are generally unsecured loans designed to meet your immediate financial needs. The application process is simple and hassle-free, and the loan is usually disbursed within 7 business days. You can take out a personal loan from Rs 25,000 (depending on your monthly income and your repayment capacity) for a period of up to 5 years. The interest rate charged typically ranges between 11.50% pa and 16% pa, depending on the lender you choose. Then there is a processing fee which is usually 2% of the loan amount.
Keep in mind:
You have to repay the loan in installments each month. So, if you default, not only will it incur a penalty, but your credit score will likely take a hit as well. Apart from this, although NBFCs (non-bank financial institutions) offer minimal documentation and quick disbursement of loans compared to banks, the interest rate charged is often higher. Also, if your credit rating is low, lenders may be reluctant to give you a loan or charge higher interest rates on your loan. Keep in mind that lenders will take your repayment capacity and monthly income into account when deciding on the final loan amount. Thus, there may be times when you may not get the amount you want due to your credit history.
2. Payday loan
Payday loans or microloans are designed to deal with your lack of cash at the end of the month. The repayment term is generally between 1 and 3 months. You can get a loan anywhere between Rs.1,500 and Rs.1 lakh with payday loans. The application process is also straightforward. Some lenders also offer a flexible line of credit, which means that you will be given a specific amount and can withdraw the amount at your convenience. You can close the line of credit once your condition is met. To apply for a payday loan, you need to download the lender’s app, register, fill out an application form, and upload the required KYC documents. At the end, you will receive an OTP for authentication. If all goes well, the amount can be paid within the hour.
Keep in mind:
Payday loans charge higher rates which generally vary between 0.8% and 2% per day. The processing fee can be up to 2% of the loan amount, thus increasing the overall cost of the loan. In addition, in the event of default, the lender may charge an interest rate of 4% as a late payment penalty. So, go for a payday loan only if you are willing to pay high enough interest charges and have a clear repayment plan in place.
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3. Pre-approved loan linked to a credit card
This loan is linked to your credit card and has a predefined limit amount. After the loan is disbursed, the EMI is added to your monthly credit card bills. Minimal documentation and quick disbursement make this type of loan a preferred option for many.
Keep in mind:
Everyone, except those who are considered preferred customers by lenders, are not eligible for such loans. Various factors such as your repayment history and your creditworthiness are taken into consideration before sanctioning the loan. Additionally, the upper limit is usually tied to the credit limit on your credit card account. This means that there is a predefined threshold above which you cannot borrow, and your credit limit will be blocked to the extent of your outstanding loan amount, preventing you from using your card for other regular expenses. Also, the interest rate charged varies between 12% and 29% pa
4. Gold loan
Most banks and NBFCs offer loans for gold. Loans are one of the fastest and easiest ways to access funds. The interest rate is not that high either, ranging from 12% to 16% per annum Minimal documentation and quick disbursement are some of the main features of gold loans. Also, since it is a secured loan, most lenders do not have a minimum income requirement or an exemplary credit rating.
Keep in mind:
In the case of gold loans, the loan amount is decided on the basis of the loan-to-value ratio (LTV). You can get a maximum of 80% of the value of the pledged gold. Moreover, in the event of default, you risk losing the collateral to the benefit of the lender, which in this case corresponds to the pledged gold.
5. Loan against insurance policies
The insurance policy loan is a secured loan where the lender holds your insurance policy as a pledge against the loan amount. Since this is a secured loan, lenders don’t care about your credit score or your annual income. You can get a loan of 60% to 90% of the cash value of the contract with this credit instrument. Quick disbursements and relatively low interest rates ranging from 9.25% to 13% per annum are some of the main highlights of this type of credit instrument.
Keep in mind:
Banks and insurers offer such loans only against traditional untied endowment plans and not with term policies or ULIPs. Also, one must pay the premiums for at least 3 years before applying for such a loan. As with all secured loans, if you don’t repay, the lender has the right to wind up your policy to get the amount back. This means that you will no longer have your policy in place. So, only take out loans against policies if you have no other options left as this could put your financial future at risk.
6. Loan against term deposits
Besides expanding your investment portfolio, DFs can also serve as a credit channel. With this facility, you can get a loan of up to 90% of the value of your fixed deposit. Another advantage is that the interest rate is lower, usually 1% above the FD rate offered to you. Minimal documentation, no CIBIL score verification, and no processing fees are some of the other features of FD loans.
Keep in mind:
If you do not repay the amount, the affected lender will liquidate your FD to recover the amount. This means that any returns that you might have benefited from will no longer be available to you. So, consider this factor before taking out a loan on your FD account.
Things to consider before taking out a loan
There are a myriad of credit channels that can help you in times of financial crisis, and with proper documentation and a stable income, getting a loan isn’t that difficult either. However, liability will be tested when repaying your loan. So, keep these tips below in mind before applying for a loan.
# Borrow only the amount you need
# Don’t borrow just because you get an offer
# Compare interest rates and find the best deals
# Check your credit score before applying for an unsecured loan product
# Use an EMI calculator to see how much will go into your monthly payments
# Make sure you are financially stable enough to repay the loan
In conclusion, while credit instruments can come to the rescue of those strapped for cash, the undeniable fact remains that they will involve paying interest charges and pledging your assets like gold and insurance / FD plans as collateral in case you opt for a finance facility. Therefore, it is always best to have an adequate emergency fund (worth at least 6 months of your expenses) and a comprehensive health insurance policy in place to minimize your reliance on loans during times of crisis.
(The author is CEO, BankBazaar.com)