Try taking a loan against mutual funds as opposed to liquidating them; it is a better option and will keep your investment going on.
Financial emergencies could hit anyone; mostly happens when you are the least prepared. Most of us turn to personal loans or secured loans (like gold loans) to meet these short-term fund crunch. But these loans are not available to everyone instantly and could also cost you a lot in terms of interest rates.
Our best bet would be to withdraw from our emergency funds. But what if you need more than what is available in your emergency fund? What if the fund is not enough to meet your short-term needs?
There are other options like borrowing from family and friends, going for a home loan top-up, or getting a loan against property. But those options take time and may not put the much-needed money in your pocket instantly. Also, they are good for big amounts, but when you want to borrow a small amount, for a shorter term, there are but only a few alternatives.
If you have investments in mutual funds, you can take a loan against them. It is an easier and faster way to get funds at a cheaper rate. You can take a loan against mutual funds for your short-term needs.
Taking A Loan Vs Liquidating The Mutual Funds
Why take a loan and not just liquidate the mutual funds?
This decision requires some financial shrewdness. For one, you need to weigh the long-term returns of the mutual funds and the interest rate you will pay on the short-term loan.
Liquidating the mutual funds may deprive you of the long-term gains of the mutual funds. Whereas, a loan on mutual funds will only require interest outflow for a shorter term, while your mutual funds are earning gains.
This again depends on the type of fund you are holding. For example, if you have a debt fund with average returns of 5-6% per annum and the interest rate on the loan is somewhere around 10-12%, then it is wise to liquidate the fund and take the amount instead of a loan.
On the other hand, if you hold an equity fund with average returns of 15-17%, a loan is the better option.
As said above, the decision is purely based on the type of fund you have and the interest rate you are getting on the loan.
How To Avail Loan Against Mutual Funds?
- You don’t have to redeem your mutual fund units prematurely if you take out a loan against them.
- This also guarantees that your Systematic Investment Plan (SIP) will run smoothly.
- The procedure is similar to how bank accounts provide overdrafts.
- Approach any non-banking financial company (NBFC) or bank for a loan against equity or hybrid mutual funds.
- You must pledge your mutual fund units as security for the debt in order for the bank to consider your loan request.
- The loan will be determined by the value of the units in the folio as well as the term you select.
If you hold units in Demat form and have prior permission, many online portals will approve loans quickly. A loan agreement with the financier/bank should be in place if you own the funds physically. The lender instructs a mutual fund registrar, such as CAMS or Karvy, to place a lien on the number of pledged units. The registrar then stamps the lien and sends a letter to the lender confirming the lien, with a copy to the borrower. It’s important to remember that the lien is registered against the units, not the amount. The units cannot be redeemed until the loan is fully paid off.
What Kind Of Interest Rate Should I Expect For Loans Secured By Mutual Funds?
The majority of lenders charge a 10% to 11% interest rate on mutual fund units. However, the financier’s terms and conditions, as well as the loan term, will apply. The interest rate will be lower than an unsecured loan because it is a secured loan. If you have a good credit score or have been a long-time bank customer, the bank manager may agree to a lower interest rate.
How many loans Can I Get Against My Mutual Funds?
It’s important to remember that the amount of money you can borrow is determined by the mutual fund you own. For example, equity-based funds can fetch close to 50% of their Net Asset Value. Some banks also have a maximum and minimum loan amount that can be applied for.
Why Loan Against Mutual Funds And Not Any Other Loan?
- Unsecured loans, such as personal loans, are more expensive than secured loans, such as home loans, auto loans, and loans against securities.
- Because home and auto loans can only be used to buy a home or a vehicle, a loan against securities is the best way to borrow money when you need it most.
- Equity-oriented MF schemes are one of the best options, with a diversified portfolio and the potential for a higher long-term return, against which financial institutions generally issue loans quickly and at a favorable rate.
- Furthermore, even if you take a loan against a mutual fund scheme, your investments through a Systematic Investment Plan (SIP) will continue uninterrupted.
A loan against mutual fund units is a safe and reliable option, especially when compared to a credit card. For shorter-term fund needs, mutual funds serve as good collateral for a loan. There are no credit checks on the borrower which do not affect your credit score either. The loan amount can be used for various purposes without any restrictions. So the next time you are in a pinch, get a loan against your mutual funds and you will be able to get the money you need.