India markets closed

Why Taking A Loan Against Mutual Funds Could Be A Good Idea

Adhil Shetty
Photo: www.rupixen.com from Pixabay

Q: Hi Adhil. I have an urgent loan requirement and I’m considering taking a loan against my mutual fund investments. Do you think they are better than personal loans? What are the things I need to consider before taking such a loan?  – Abhishek

Ans: Hi, there. Yes, loans against mutual funds, which come under loans against securities, is indeed an interesting yet slightly overlooked financing option. Such a loan taken against either equity or debt-oriented mutual fund schemes could not just provide quick liquidity to the cash-strapped but are also slightly cheaper (they come in the range of 11-13% p.a.) than an unsecured loan like a personal loan (11-16% p.a.) in most cases.

Another advantage with a loan against mutual funds is that it works like an overdraft account and the borrower usually needs to pay interest only on the actual loan amount used. Taking such a loan could be better than liquidating mutual fund investments at heavy losses during a cash-crunch situation as you stay invested, and earn dividends, if any, even after taking the loan. When the loan is repaid, the lien on the pledged units is lifted by the lender and the borrower gets back the right ownership over them.

However, bear in mind that if you want to pledge your equity mutual funds as loan collateral, you won’t be able to borrow more than 50% of the pledged units’ NAV. The loan threshold is higher at 80% of NAV for pledged debt fund investments. Besides, don’t forget to check with your lender whether your mutual fund investments are eligible for a loan or not. Also, it might be a better idea to redeem your profitable mutual fund investments instead of taking a loan against them.

If you feel taking a loan against your mutual fund investments is a better option, you can approach most of the banks and leading NBFCs in the country. However, considering the Covid-19 situation, it might be a better idea to get such a loan in a completely digital manner for faster loan disbursal without the scope for any human contact. Also, factor in other charges like loan processing fee. If you’re looking for other collateralized loan options, you can also consider financing facilities like gold loans, loans against insurance plans (only traditional policies like endowment plans and money-back plans), loans against shares, etc.

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.