All you need to know about Different Types of Loan in India

Giving a loan or loaning means lending money from one individual or entity to another. A loan has three components – principal or the borrowed amount, rate of interest and tenure or duration for which the loan is availed. It is one of the primary financial products of any bank or NBFC (Non-Banking Financial Company) offers.

Category of loans

Loans can be broadly categorised as secured or unsecured. Loans that are backed by collateral or security in the form of assets like property, gold, fixed deposits and PF among others are secured loans.

If the bank or NBFC agrees to give loans without security and purely based on CIBIL score and personal track records, it becomes unsecured loans. 

Loans are also classified on the basis of repayment period – revolving loans or term loans. Revolving refers to a loan that can be spent, repaid and spent again. A credit card is an example of this. And the loans paid off in equal monthly installments (EMI) over a pre-agreed period are called term loans.

Features and benefits of loans

• Financial Flexibility: Loans allows you to meet a financial requirement or expenses you incur in life. Taking a loan gives you a certain degree of financial freedom as it equips you to make big payments or take care of one time expenses without upsetting your planned budget.
• Easy availability: All types of loans are approved as quickly as 48 hours based on details of income financial history of the borrower and in some cases the collateral to be attached.
• Get required amount: Based on your income and financial history, the amount you require as loan can be disbursed to you.
• Convenient tenure: The tenure of a loan is ample depending on the bank and amount. Loans are generally available for a tenure of 12 months to 60 months or even more.
• Tax Benefits: According to the Income Tax Act of 1961, almost all types of loans offer tax benefits which you can avail.

Why take a loan?

• Life Goals: When you want financial assistance to make your life goals a reality be it a house, car or higher education.
• Immediate financial requirements: You can apply for a loan when you have a financial emergency
• To make financial arrangement for unforeseen expenses: If you are in an unforeseen situation where you have debts to clear such as social events, hospitalisation and so on; you can apply for a loan to make sure things go on smoothly.

Points to Consider Before Applying for a Loan

Taking a loan is a big financial decision which requires you to make informed choices. Here are some:

• Credit score: Before you apply for a loan you need to check your credit history. A credit history is a record of your previous borrowings if any and repayment record. This will explain if you have been responsible for re-paying or have lapsed payments in the past. A credit score of 750 and above is great.
• Rate of Interest: Check the loan interest rate before you actually apply for one. Loans which require a collateral generally have lower interest rates than loans which don’t require.
• Processing fee and other charges: When you apply for a loan and if you miss your payment deadlines for your loan, you will be likely to pay a processing and penalty fee respectively. These fees and charges depend on the loan amount and bank.
• Research to get the best rate for your loan: Research and compare from different banks and NBFCs to get the best interest rates, EMI, tenure and other charges that best suit you.

Types of Loans

Loan come in all kinds of forms and with varied terms, ranging from simple promissory notes between friends and family members to more complex loans like mortgage, auto, payday and student loans. Banks, credit unions and other people lend money for significant, but necessary items like a car, student loan or home. Other loans, like small business loans and those from the Department of Veterans Affairs, are only available to select groups of people. There are various types of loans available in India, and they are classified based on two factors:
– Whether they require collateral
– The purpose they are used for
Based on whether they require collateral, loans are classified into secured loans and unsecured loans. Let’s take a look at each type.

I. Secured loans 

These are loans that do require collateral, i.e., you have to provide an asset to the lender as security for the money you are borrowing. That way, if you are unable to repay the loan, the lender still has some means to get back their money. The rate of interest of secured loans tends to be lower as compared to those for loans without collateral.

Types of secured loans

1. Home loan
Home loans are a secured mode of finance, that give you the funds to buy or build the home of your choice. The following are the type of home loans available in India:
Land purchase loan: Purchase land for your new home
Home construction loan: Build a new home
Home loan balance transfer:Transfer the balance of your existing home loan at a lower interest rate
Top up loan: Can be used to renovate an existing home or have the latest interiors for your new home

2. Loan against property (LAP)
Loan against property is one of the most common forms of a secured loan where you can pledge any residential, commercial or industrial property for availing the funds required. The loan amount disbursed is equivalent to a certain percentage of the property’s value and varies across lenders.

While some lenders may offer an amount equivalent to 50-60% of the property’s value, others may offer an amount close to 80%. A loan against property helps you unlock the dormant value of your asset and can be used to satiate personal life goals such as higher education of children or marriage. Businesses use a loan against property for business expansion, R&D and product development among others.

3. Loans against insurance policies
Yes, you can also avail loans against your insurance policy. However, note that all insurance policies don’t qualify for this. Only policies, such as endowment and money-back policies, which have a maturity value can be used to avail loans.

Thus, you can’t avail a loan against a term insurance plan as it doesn’t have any maturity benefits. Also, loans can’t be availed against unit-linked plans as the returns aren’t fixed and depends on the performance of the market. It’s essential to note that you can opt for a loan against endowment and money back policies only after they’ve acquired a surrender value. These policies acquire a surrender value only after paying regular premiums continuously for 3 years.

4. Gold loans
For the longest time, gold has been one of the most favoured asset classes. The organized Indian gold loan industry is expected to touch Rs.3,101 billion by 2019-20, according to a KPMG report, thanks to flexible interest rates offered by financial institutions.

A gold loan requires you to pledge gold jewellery or coins as collateral. The loan amount sanctioned is a certain percentage of the gold’s value pledged. Gold loans are generally used for short-term needs and have a short repayment tenor compared to home loans and loan against property.

5. Loans against mutual funds and shares
An ideal vehicle for long-term wealth creation, mutual funds can also be pledged as collateral for a loan. You can pledge equity or hybrid funds to the financial institution for availing a loan. For doing so, you need to write to your financier and execute a loan agreement.

Your financier then will write to the mutual fund registrar and a lien on the certain number of units to be pledged is marked. Typically, you can get 60-70% of the value of units pledged as a loan.

Similarly, with shares, financial institutions create a lien against shares against which the loan is taken and the loan value is equivalent to a percentage of the value of the shares.

6. Loans against fixed deposits
The humble fixed deposit not only offers assured returns but can also come handy when you need a loan. The amount of loan can vary between 70-90% of the FD’s value and varies across lenders. However, it’s essential to note that the loan tenor can’t be more than the FD’s tenor.

II. Unsecured loans

These are loans that do not require collateral. The lender lends you the money based on past associations, and your credit score and history. Thus, you have to have a good credit history to avail these loans. Unsecured loans usually come at a higher rate of interest due to the lack of collateral.

Types of unsecured loan

1. Personal loan
Offering an instant flush of liquidity, a personal loan is one of the most popular types of unsecured loans. However, since a personal loan is an unsecured mode of finance, the interest rates are higher compared to secured loans. A good credit score along with high and stable income ensures you can avail this loan at a competitive rate of interest. Personal loans can be used for the following purposes-
– Manage all expenses of a family wedding
– Pay for a vacation or an international trip
– Finance your home renovation project
– Fund the cost of your child’s higher education
– Consolidate all your debts into a single loan
– Meet unexpected/ unplanned/ urgent expenses

2. Short-term business loans
Another type of unsecured loans, a short-term business loan can be used to meet their expansion and daily expenses by various entities and organizations.
– Working capital loans
– Machinery loans and equipment finance
– Small business loans for MSMEs
– Loans for women entrepreneurs
– Loans for traders
– Loans for manufacturers
– Loans for service enterprises

Flexi Loans

A facility whereby you can avail funds from your approved limit and as when required and pay interest only on the amount used. You can withdraw on your loan limit, any number of times and prepay when you have extra cash, at no extra cost. Such a unique facility gives you the freedom to be in full control of your finances unlike rigid term loans and offers you savings on your EMIs by up to 45%. Here, you also have the option to pay only interest as EMIs, with the principal payable at the end of the tenor.

Based on what they are used for, loans are classified mainly into:

1. Education loans
Aspiration for higher education from reputed institutions have bolstered the demand for education loans in the country. This loan covers the basic fees of the course along with allied expenses such as the accommodation, exam fee, etc. In this loan, the student is the main borrower while parents, siblings and spouse are co-applicants.

An education loan can be taken for a full-time, part-time or vocational course along with graduation and post-graduation course in the fields of management, engineering and medicine, among others. The loan must repaid by the student once the course is complete.

A unique feature of an education loan is the moratorium period, wherein the student has the option of not paying the EMIs until after 12 months of completing the course or 6 months after he/she starts working, whichever is earlier.

2. Vehicle loans
A vehicle loan is extended in the form of a two or four-wheeler loan which helps you to buy your dream vehicle. Vehicle loans are offered either on purchase of a new vehicle or a used one. Your credit score, ratio of debt to income, loan tenor, etc., play a crucial role in determining the loan amount.

Regardless of type, every loan – and its conditions for repayment – is governed by state and federal guidelines to protect consumers from unsavory practices like excessive interest rates. In addition, loan length and default terms should be clearly detailed to avoid confusion or potential legal action.

Takeaway

If you are in need of money for an essential item or to help make your life more manageable, it’s a good thing to familiarize yourself with the kinds of credit and loans that might be available to you and the sorts of terms you can expect. Legal Window helps fellow Jaipurites to make their financial decisions better. It gives detailed information about different financial products in the Indian market. Loans in India are categorized into Personal Loan, Home Loan, Loan against property, home loan balance transfer etc. Indian loan market has evolved and instant loans are also available leveraging technology.