Q. Hi! I lost my job in the hospitality industry in April this year. Managed my expenses through my savings but had to take loan against my wife’s gold ornaments for the registration of my new house. The gold prices were on the rise then. But now there is a correction. Will this affect me as an existing borrower, and if so, how? – Balvinder Verma
A. Hi Balvinder! Sorry to hear about your job loss but it is commendable that you were able to tackle this difficult situation using your savings. Please try to replenish your savings as soon as your income channels are back on track.
Now, since many households accumulate gold as an asset, it comes as a viable option for borrowing during any liquidity crisis. Getting a loan against gold is also popular as it comes with competitive interest rates and might involve less documentation and speedy disbursal. In fact, to help people better deal with cash-crunch necessitated by the Covid-19 crisis, the Reserve Bank of India decided to increase the loan-to-value (LTV) ratio for bank gold loans to 90% from 75% until March 2021. This means that you can get a higher amount of loan with for the same amount of gold.
How Gold Prices Could Affect Existing Gold Loan Borrowers?
Gold loans are linked to gold prices and these are highly fluctuating. So, when gold prices are high, people fetch a higher loan amount. However, when the prices fall or correct, the loan amount that a person can borrow reduces too. For existing borrowers, a substantial correction in gold prices may result in lending institutions asking them to pledge more gold or make a part-prepayment to adjust for the shortfall. This is because when gold prices fall, the LTV goes up and to bring it to the required level, the lender may ask the borrower to provide additional collateral. However, lenders usually consider the monthly average of gold prices and keep sufficient margins while ascertaining the applicable interest rate which can easily absorb short-term or nominal corrections in gold prices during the loan tenure. But in case of an extraordinary correction, lenders may ask for additional collateral or part-prepayments, things that could put an extra burden on the borrower. In a nutshell, if the correction in gold prices isn’t substantial, your lender is unlikely to ask for a cash call or additional gold. On the other hand, if there’s a substantial drop in gold prices and your LTV ratio is very high, you might have to arrange for the additional collateral or part-prepayments depending on your lender’s policies. Failing to do so could lead to loss of your precious asset as the lender can sell your gold to recover its dues. The point being it’s very important to read the fine print thoroughly before applying for a loan to avoid any unpleasant surprises later. Lastly, you must keep your loan amount as low as possible so that such difficulties could be better managed if they arise.
Have a question on personal finance? Ping me on Twitter at @adhilshetty with the hashtag #AskAdhil. The writer is CEO, BankBazaar.com, an online marketplace for loans and credit cards.