Did you know that the investment you are making in any mutual fund, whether through a systematic investment plan (SIP) or through a lump sum investment, can also act as a contingency fund? During emergencies, liquidating your mutual fund investment is not the only option.
You can take advantage of loans from banks or NBFCs by opting for a digital loan against mutual funds solution instead of, say, a personal loan at a high interest rate. So here's everything you need to know about loans against mutual funds.
How does loan against mutual funds work?
You can approach a bank or non-bank finance company (NBFC) and request a loan or overdraft against your mutual fund investments. The bank would consider your loan application after applying for a lien on the units in the bank's name. The loan will be offered to you based on the value of the units you have in your mutual fund account folio.
Once you pay off the loan, the bank will release the lien and you will gain rightful ownership of your mutual fund units.
Understanding the Lien for Mutual Fund Loans
The digital lien marking for banks is nothing more than a document that gives the bank the property right to hold or sell the funds. Therefore, when you mark a lien in favour of the bank, you effectively give the bank ownership of the fund units it owns.
To request a bank lien transfer, you will need to go to your mutual fund house and request a lien on your units in favour of your bank. The lien request letter must be signed by all unit owners if your mutual fund is jointly owned.
Availability of loan against mutual funds
The amount of money you can borrow against mutual funds depends on the type of fund you own. For stock-based mutual funds, you can borrow up to 50% on the NAV of your funds. Some banks have limits on the minimum and maximum loan amount you can take advantage of when choosing to borrow against mutual funds.
Most public sector banks, private banks and large NBFCs offer loans against securities, under which loans against mutual funds are classified. Interest rates for loans against mutual funds can be a little lower than personal loans, but in most cases, the applicable interest rate is decided by the bank after weighing the risk in each case.
Things to know before opting for a mutual fund loan
Before approaching a bank for a loan on your mutual fund investments, here are some essential things to consider:
-Not all mutual fund units are eligible for a loan. Loans are made only against the list of approved mutual funds or mutual fund schemes as determined by your respective bank.-Mutual fund loans are available for both equity and debt funds, but check to see if your mutual fund is approved by your bank for loans.-While almost all banks offer loans against mutual funds, the rules of the Reserve Bank of India state that only NBFCs with assets of more than Rs 100 crore can offer such a loan.-You cannot redeem any fund units during the life of the loan, but you can continue to receive dividends.-If you default on your loan, the bank can invoke the lien and ask the mutual fund company to redeem your units for loan repayment.
Loans against mutual funds are rarely used, as many borrowers are not aware of such loan arrangement. The next time you're looking to raise funds for an emergency, remember that a loan against your mutual fund investments can be a better option than some of the traditional routes.