Quick Loans Against Mutual Funds in India

In India’s dynamic financial landscape, the need for quick access to funds has driven innovation in loan products. One such product that has gained prominence is loans against mutual funds, which allows investors to use their mutual fund holdings as collateral to secure loans. This is an attractive option for individuals who require liquidity but do not want to liquidate their mutual fund investments. By pledging mutual funds, borrowers can unlock the value of their investments and meet their financial needs without disrupting their portfolio.

In this detailed guide, we will delve into the workings of loans against mutual funds, their benefits, the process involved, interest rates, risks, and how this financial tool can be an advantageous borrowing option for many individuals.

What is a Loan Against Mutual Funds?

A loan against mutual funds is a type of secured loan where you pledge your mutual fund investments as collateral. This allows you to borrow money from banks or non-banking financial companies (NBFCs) without having to sell your investments. Mutual funds remain in your name, and you continue to earn returns on them while using the loan amount for personal or professional needs.

The loan amount sanctioned depends on the value of your mutual fund units. Typically, the lender allows you to borrow a percentage of the total value of your portfolio, referred to as the loan-to-value (LTV) ratio. LTV ratios generally range between 50% to 80% of the mutual fund value, depending on the type of fund.

The process is relatively fast, and the loan can be disbursed within a few days, making it a convenient option for those in need of quick cash. You retain ownership of your mutual fund units, and the loan can be used for any purpose, such as medical emergencies, business needs, or personal expenses.

How Do Loans Against Mutual Funds Work?

When you opt for a loan against mutual funds, the lender creates a lien on your mutual fund units. This lien acts as security for the loan. While a lien is in place, the mutual fund units cannot be sold or redeemed by you, but you continue to own them and benefit from any dividends or capital gains they generate. Once the loan is fully repaid, the lien is removed, and you regain complete control over your units.

Here’s a step-by-step breakdown of how the process works:

1. Application: You apply for the loan with a bank or NBFC that offers loans against mutual funds.
2. Lien Creation: After verifying your mutual fund details, the lender creates a lien on your units. This ensures the lender has a legal claim over the pledged funds until the loan is repaid.
3. Loan Disbursement: Once the lien is created, the loan amount is disbursed into your account. The disbursement process is often quick, taking 1-3 days.
4. Repayment: You repay the loan according to the agreed terms. Some lenders may offer flexible repayment options, allowing you to pay off the loan in full or in installments.
5. Lien Release: After the loan is fully repaid, the lien on your mutual fund units is released, and you regain full access to your investment.

It’s important to note that the mutual funds continue to fluctuate in value based on market conditions. If the value of the mutual fund units falls significantly, the lender may ask you to either pledge additional units or repay a portion of the loan to maintain the required LTV ratio.

Eligibility Criteria for Loans Against Mutual Funds

Lenders have specific criteria that must be met for an individual to qualify for a loan against mutual funds. These criteria ensure that the borrower is financially stable and that the mutual fund holdings can adequately serve as collateral. Below are some common eligibility requirements:

• Age: Borrowers must typically be at least 21 years old to apply.
• KYC Compliance: All applicants must be KYC (Know Your Customer) compliant, meaning they should have valid identification documents such as a PAN card, Aadhaar card, passport, or voter ID.
• Mutual Fund Type: Not all mutual fund schemes are eligible for loans. Lenders usually accept mutual funds from approved asset management companies (AMCs). Some lenders might have specific criteria regarding the type of fund (equity, debt, or hybrid).
• Demat Account: Many lenders require the mutual fund units to be held in Demat form, although some accept physical units. It’s essential to check with the lender on their specific requirements.

Process of Availing a Loan Against Mutual Funds

The process of obtaining a loan against mutual funds is relatively straightforward and can be completed either online or offline. Here’s a detailed look at the steps involved:

1. Choose a Lender

The first step is to choose a lender, whether it’s a bank or an NBFC. Compare their offerings, including interest rates, loan-to-value ratios, processing fees, and tenure, to find the best fit for your needs.

2. Submit an Application

Once you’ve selected a lender, you need to submit an application. The application process can be completed online through the lender’s portal, where you’ll need to provide your mutual fund details and personal information.

3. Lien Creation on Mutual Fund Units

After the application is submitted and approved, the lender will create a lien on your mutual fund units. This ensures that while the loan is outstanding, the units cannot be sold or transferred. The lien creation process may take 1-2 days.

4. Loan Disbursement

Once the lien is in place, the loan amount is credited to your account. The amount you can borrow depends on the value of your mutual funds and the lender’s LTV policy, which typically ranges from 50% to 80% of the fund’s value.

5. Loan Repayment

Loan repayment can be done in a lump sum or in installments, depending on the loan terms. Most lenders offer flexible repayment options, and many do not charge a prepayment penalty, allowing you to repay the loan early without additional fees.

6. Lien Removal

After you’ve repaid the loan in full, the lender will remove the lien from your mutual fund units, allowing you to redeem or sell them as you wish.

Benefits of Loans Against Mutual Funds

There are several reasons why loans against mutual funds have become a popular borrowing option:

1. Access to Funds Without Liquidation

One of the primary benefits is that you do not have to sell your mutual fund investments to access liquidity. This allows your investments to continue earning returns, while you use the loan amount for immediate financial needs.

2. Lower Interest Rates

Loans against mutual funds typically come with lower interest rates compared to unsecured loans such as personal loans or credit card debt. Since the loan is secured by your mutual funds, lenders offer more favorable interest rates, which usually range from 9% to 12% annually.

3. No Prepayment Penalty

Many lenders do not charge a prepayment penalty, which means you can repay the loan early without incurring extra fees. This flexibility is particularly beneficial if you come into funds and wish to clear your debt ahead of schedule.

4. Quick Processing

The loan approval and disbursement process is relatively fast. In most cases, loans are disbursed within 1-3 days after the lien on the mutual funds is created. This makes loans against mutual funds an ideal option for individuals who need quick access to funds.

5. No Impact on Credit Score

Since loans against mutual funds are secured, they typically do not have a negative impact on your credit score. Unlike unsecured loans, these loans are less risky for lenders, which means that even in case of delayed repayments, the impact on your credit score is minimal.

Types of Mutual Funds Eligible for Loans

Not all mutual funds are eligible for loans. The eligibility of mutual funds largely depends on the lender and the risk associated with different types of funds. Typically, the following types of mutual funds are considered eligible for loans:

1. Equity Mutual Funds

Equity mutual funds, which invest in stocks, are eligible for loans but at a lower loan-to-value ratio. This is because equity funds are more volatile and subject to market fluctuations. Lenders may allow you to borrow up to 50-60% of the value of your equity mutual fund units.

2. Debt Mutual Funds

Debt funds, which invest in fixed-income instruments like government bonds and corporate debt, are considered safer than equity funds. Lenders usually offer a higher LTV ratio for debt mutual funds, often up to 70-80%.

3. Hybrid Mutual Funds

Hybrid funds invest in both equity and debt instruments. The LTV ratio for hybrid funds depends on the proportion of equity and debt in the portfolio. Funds with a higher allocation to debt may be eligible for a higher loan amount.

Interest Rates and Loan Terms

Interest rates for loans against mutual funds are generally lower than those for unsecured loans, as the loan is backed by collateral. The interest rates typically range from 9% to 12%, depending on the lender and the type of mutual funds pledged. Other factors influencing the interest rate include:

• Type of Mutual Fund: Loans against debt funds often attract lower interest rates compared to equity funds due to their lower risk profile.
• Loan Amount: Higher loan amounts may qualify for lower interest rates.
• Lender’s Policy: Banks and NBFCs have varying interest rate structures based on market conditions and customer profiles.

The loan tenure typically ranges from 1 to 3 years, but some lenders may offer shorter or longer repayment periods depending on the borrower’s needs. The repayment schedule is flexible, allowing borrowers to repay the loan in installments or in full at any time without additional charges.

Risks and Things to Keep in Mind

While loans against mutual funds offer several advantages, there are certain risks and considerations to be aware of:

1. Market Risk

The value of mutual funds fluctuates with the market. If the value of your pledged mutual funds drops significantly, the lender may require you to pledge additional units or repay part of the loan to maintain the LTV ratio. This could lead to financial strain if you’re unable to meet the lender’s requirements.

2. Interest Payments

Even though interest rates for loans against mutual funds are lower than personal loans, you still have to account for the interest payments, which add to the cost of borrowing. It’s essential to evaluate whether you can afford the loan and its interest payments before proceeding.

3. Over-borrowing Risk

Since the loan is secured against your investments, it might be tempting to borrow more than you actually need. Over-borrowing can lead to a financial burden if you are unable to make timely repayments. Always borrow only the amount required and ensure that you have a plan for repayment.

Conclusion

Loans against mutual funds offer a practical way to access liquidity without disturbing your investment portfolio. With competitive interest rates, flexible repayment options, and minimal paperwork, this loan option is gaining popularity in India. However, it is crucial to evaluate your financial needs, the associated market risks, and repayment ability before opting for this loan.

By using mutual funds as collateral, you can efficiently manage your short-term financial requirements while your investments continue to grow.