Finding yourself in the middle of a severe cash crunch is nothing unusual. Consider it one of the hurdles of life that you may have to face someday or the other. But the question is: are you prepared well enough to face such a situation? Of course, borrowing money from your family or friends is an option (sometimes the first option for many of us), but there are other options too that you can consider. Borrowing from friends and family might add stress to their finances while it can jeopardise longstanding relationships if the money is not returned on time. As such, with a plethora of credit channels floating in the market, you can sign up for any one of them to meet your immediate fund requirement. However, you need to put in some effort to clearly understand how each of these credit tools works and what are things you need to factor in to avoid any unpleasant surprises later.
Here are some of the credit instruments you can opt for to get rid of your financial crunch.
1. Personal Loan
One of the most popular credit instruments in the market, personal loans are usually 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 working days. You can take a personal loan starting from Rs 25,000 (depending on your monthly income and repayment capacity) for a period of up to 5 years. The interest rate charged usually varies between 11.50% p.a. and 16% p.a., depending on the lender you choose. Then there is a processing fee that's typically 2% of the loan amount.
Keep in mind:
You have to repay the loan in instalments every month. So, in case you default, not only it will call for a penalty, your credit score is likely to take a hit as well. Other than that, though NBFCs (Non-Banking Financial institutions) offer minimal documentation and quick loan disbursal compared to banks, the interest rate charged is often higher. Also, if you have a low credit score, lenders may shy away from giving you a loan or impose higher interest rates against your loan. Remember that lenders will consider your repayment capacity and monthly income while deciding on the final loan amount. So, it could happen that you may not get the desired amount due to past credit records.
2. Payday Loan
Payday loans or microloans are designed to take care of your month-end cash crunch. The repayment tenure is usually 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 simple too. Some lenders also offer a flexible credit line, which means you will be given a specific amount and you can withdraw the amount as per your convenience. You can close the credit line once your requirement is met. To apply for a payday loan you need to do is download the lender's app, register, fill in an application form, and upload the required KYC documents. Upon completion, you will receive an OTP for authentication. If everything goes well, the amount may get disbursed within an hour.
Keep in mind:
Payday loans call for higher rates that usually vary between 0.8% and 2% per day. The processing fee can go up to 2% of the loan amount, thereby shooting up the overall cost of the loan. Also, in case you default, the lender may impose a 4% interest rate as a late penalty fee. So, go for a payday loan only if you're okay with paying rather high interest charges and have a clear repayment plan in place.
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3. Credit Card-linked Pre-approved Loan
This loan is linked to your credit card and comes with a pre-defined upper limit amount. Once the loan is disbursed, the EMI is added to your monthly credit card bills. Minimal documentation and quick disbursal make this type of loan a preferred option for many.
Keep in mind:
Not everyone but those who are seen as preferred customers by lenders are eligible for such loans. Various factors like your repayment history and creditworthiness are taken into consideration before sanctioning the loan. Also, the upper limit is usually linked to the credit limit of your credit card account. That means, there's a pre-defined threshold above which you cannot borrow, and your credit limit will be blocked to the extent of your outstanding loan amount disallowing you to use your card for other regular spends. Also, the interest rate charged varies between 12% and 29% p.a.
4. Gold Loan
Most banks and NBFCs offer loans against gold. The loans are one of the quickest and easiest ways of getting access to funds. The interest rate is not that high either, ranging from 12% to 16% p.a. Minimal documentation and quick disbursal are some of the major features of gold loans. Also, because it's a secured loan, most lenders don't have a minimum income requirement or exemplary credit score as criteria.
Keep in mind:
In the case of gold loans, the loan amount is decided on the basis of the loan-to-value (LTV) ratio. You can get a maximum of 80% of the value of the pledged gold. Also, in case you default, you may end up losing the collateral to the lender, which in this case is your pledged gold.
5. Loan Against Insurance Policies
Loan against an insurance policy is a secured loan where the lender holds your insurance policy as a pledge against the loan amount. Since it's a secured loan, lenders don't bother about your credit score or annual income. You can get loan of 60% to 90% of the surrender value of the policy through this credit instrument. Quick disbursal and relatively low interest rates ranging from 9.25% to 13% p.a. are some of the major highlights of this type of credit instrument.
Keep in mind:
Banks and insurance providers offer such loans only against traditional non-linked endowment plans and not 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 fail to repay, the lender has the right to liquidate your policy to recover the amount. That means you will no longer have your policy in place. So, sign up for loans against policies only if you have no other option left as may put your financial future at risk in the process.
6. Loan against Fixed Deposits
Other than expanding your investment portfolio, FDs can also double up 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 on the lower side, usually, 1% above the FD rate offered to you. Minimal documentation, no CIBIL score check, and no processing fee are some of the other features of loans against FDs.
Keep in mind:
If you fail to repay the amount, the concerned lender will liquidate your FD to recover the amount. That means, all the returns you could have enjoyed won't be at your disposal anymore. So, consider this factor before signing up for a loan against your FD account.
Things to consider before taking a loan
There's a myriad of credit channels that can help you in times of financial crunch, and with proper documentation and a stable income it's not that difficult to get a loan either. However, the responsibility will be put to test at the time of repaying your loan. So, keep these below pointers in mind before applying for a loan.
# Borrow only the amount you require
# Don't borrow just because you get an offer
# Compare interest rates and hunt for 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 instalments
# Ensure that you are financially stable enough to repay the loan
In conclusion, while credit instruments may come to the rescue of the cash-strapped, the undeniable fact remains that they will involve paying interest charges and pledging your assets like gold and insurance plans/FDs as collaterals in case you're going for a secured financing facility. Hence it's always better to have an adequate emergency fund in place (worth at least 6 months of your expenses) and a comprehensive health insurance policy to minimise your dependence on loans during crunch times.
(The author is CEO, BankBazaar.com)