Last Updated on May 10, 2023 by Anjali Chourasiya
Financial literacy is not much spoken about in a country like India. Because of this, many individuals often end up making decisions that do not align with their future goals. One such instance is seeking a personal loan from a bank. Although personal loans have a few benefits like quick processing, flexible payment duration, no collateral, and so on, the cons are high too. Personal loan borrowers are often subjected to exorbitant interest rates, high processing fees, and strict eligibility criteria. And hence, introducing you to alternatives to personal loans.
In this article, let’s look at 7 alternatives to personal loans and their pros and cons.
Table of Contents
Loan against fixed deposits
Most banks offer loans against an individual’s Fixed Deposit (FD) in the form of an overdraft at a rate of 1-3% higher than the FD’s interest rate. The loan is typically given for about 70-90% of the FD’s value. This allows individuals to keep their FD until its maturity date while allowing them to borrow at decent interest rates.
Advantages
- Low-interest rates.
- Easy and quick documentation process as the bank already has the necessary details and documents.
- FD does not have to be broken prematurely.
- No additional processing fees.
Disadvantages
In the event that you are unable to pay back your loan, the bank has the right to use the FD to settle the debt. This could create a dent in your savings. Other disadvantages are:
- You cannot have a tenure longer than that of your FD to pay back the loan.
- Breaking the FD might be a better option in some cases.
- No tax benefits
Credit cards
Credit cards are an excellent source of short-term loans as they have no interest rate if the loan is paid back promptly. The interest-free duration lasts for around 45-60 days. Most banks issue credit cards at a nominal annual fee.
Advantages
- Zero-interest rates when loans taken are paid back in time.
- Loans can be paid back using EMIs.
- Timely payment of dues helps build credit scores.
- Convenient payment option for various transactions.
- Provides rewards and discounts on purchases.
- Allows for increased spending power with higher spending limits.
Disadvantages
- Many users misunderstand the minimum due amount as their total loan amount when in fact, it is the amount that needs to be paid to the bank to keep availing credit card facilities.
- There are a lot of hidden costs like processing fees, joining fees, renewal fees, and so on.
- It could negatively impact your credit score in case of missed payments.
- In case of a default, the interest rate is higher than that of a personal loan.
- Because of the ease of access, several people fall into severe debt.
- Risk of credit card fraud.
Loans against gold
A gold loan is a type of secured loan where you use your gold jewellery or coins as collateral to borrow money from a lender. The loan amount is the percentage of the assessed value of the gold based on its weight and purity. The loan amount and interest rate will depend on several factors, including the lender’s policies and the current market value of gold.
Almost all major banks provide a gold loan facility. These are preferred to personal loans due to the relatively lower interest rates.
Advantages
- Lenient eligibility criteria since income proof or credit score are not required.
- Lower rates of interest than personal loans.
- Quick processing with zero processing fees.
- No foreclosure charges.
- Flexibility in repayment options.
Disadvantages
- Unsuitable for long-term loans.
- Risk of losing your gold if you are unable to repay the loan.
- Limited loan amount based on the value of your gold.
- Short repayment period, making it challenging for those on a limited budget.
- Higher interest rates compared to secured loans.
- Price fluctuations in the value of gold may require additional margin payments.
Loan against an insurance policy
A loan against insurance allows you to borrow money using your life insurance policy as collateral. The loan amount is a percentage of the policy’s value. The loan amount and interest rate will depend on several factors, including the lender’s policies and the terms of your insurance policy. To obtain a loan using insurance as collateral, it’s important to keep in mind that only policies with cash value are eligible. It’s not possible to use term life insurance for this purpose.
Advantages
- Decent LTV ratio. (LTV ratio is loosely the percentage value of an asset that a financial institute would pay out as a loan.)
- Quick processing.
- The loan is secured and independent of the credit score.
- A higher loan amount can be accessed.
- Easy access to funds in emergencies through loans against insurance policies
- Lower interest rates compared to other unsecured loans
- Flexible repayment options tailored to suit individual financial situations
Disadvantages
- If the policy is relatively new, the loan amount that can be availed is low.
- Loans are not given against term plans.
- There is a minimum wait period before you can take loans against insurance policies.
- The payment load increases as the borrower needs to pay back the loan while paying insurance premiums. In case of a default in either, the insurance policy will lapse.
- Reduction in death benefits that would be payable in case of death, potentially leaving your family with less financial support
- Potential reduction in the policy’s surrender value, affecting emergency funds
P2P Lending
P2P or Peer-to-Peer loan is a practice wherein online platforms are used by lenders and borrowers, both individually and for small businesses, to lend and borrow at simultaneously agreed-upon terms. The online platform offers both secured and unsecured loans.
Advantages
- Faster and more convenient as all transactions are conducted online.
- Potentially lower interest rates than traditional loans.
- The credit score is unaffected and may qualify with below-average credit.
- Since the loans are not officially issued by a financial institution, investors can get traditional loans.
Disadvantages
- The eligibility criteria are stricter as the creditworthiness of borrowers is evaluated twice.
- High processing fees.
- It is not easily accessible everywhere as there are legal complications.
- Could pay higher interest rates than traditional loans, especially with poor credit.
Loan against shares
Instead of selling your shares to raise money for your needs and miss out on potential future returns, you could use the shares as collateral to raise a loan. The same is applicable to mutual funds as well.
Advantages
- Quick and convenient.
- Repayment flexibility.
- Returns from the securities can be used to pay off the loan.
- Lower interest rates.
- No prepayment charges.
Disadvantages
- When having stocks as assets, the LTV ratio is low.
- Usually, loans are only approved when the stock belongs to reputed companies.
- Inability to sell stocks.
Loan against property
A type of loan that allows you to leverage your property as collateral against substantial funds is referred to as a loan against property. The loan is available against farmhouses, hotels, schools, or other commercial properties. Loan Against Property interest rates range between 8.00% p.a. to 25% p.a.
Advantages
- Higher loan amount up to 70% of the property’s current valuation.
- Lower interest rates due to the involvement of valuable property, which reduces credit risk.
- Simple eligibility criteria even for those new to credit.
Disadvantages
- Lengthy processing time due to documentation and property appraisal requirements.
- Risk of property seizure if unable to repay EMIs, potentially leading to financial loss.
- Higher EMIs, require a solid repayment plan to avoid default and NPA classification.
To wrap up
People usually take personal loans for a wide range of instances like emergencies, wedding expenses, purchases of appliances, etc. But a personal loan is not the only solution. There are quite a few other options that you can explore. It is crucial to meticulously consider all the available options and choose the one that aligns with your needs and overall financial goals. Study other viable options in detail and only then proceed to draw a loan.
FAQs
Which loan is better than a personal loan?
The answer to this question depends on the specific financial situation of the borrower. For example, if the borrower has a valuable asset to offer as collateral, a secured loan, such as a loan against property, maybe a better option with lower interest rates. However, if the borrower has a good credit score and a steady income, they may qualify for a low-interest rate credit card or line of credit, which may be a better option than a personal loan.
How can I make money without a personal loan?
There are many ways to make money without taking out a personal loan, such as:
– Selling unwanted items online or at a garage sale
– Starting a side hustle or freelance gig
– Participating in the sharing economy, such as driving for a ride-sharing service or renting out a spare room on Airbnb
– Taking on a part-time job
– Saving money by cutting back on expenses and budgeting
What are other options for personal loans?
There are various alternatives to personal loans, such as credit cards, loans against property, loans against insurance, loans against shares, and more. Select an option that suits your financial situation and goals the best. It is worthwhile to hire a financial advisor to chart out your loan and investment plan.
Can I withdraw PF to pay a personal loan?
Yes, you can withdraw money from your Provident Fund (PF) to pay off a personal loan. However, it can impact your retirement savings. Withdrawing from your PF account before you reach retirement age can also result in tax implications and penalties. It is advisable to consult with a financial advisor before making any decision to withdraw from your PF account.
As an insatiable reader and learner, I’ve spent the last two years exploring the world of finance. With my creative mind and curious spirit, I love making complex finance topics easy and fun for everyone to understand. Join me on my journey as we navigate the world of finance together!
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