5 Easy Rules To Follow When Taking A Loan

By | December 4, 2017

Are you considering taking out a Personal Loan to finance those long overdue home repairs? Here are 5 thumb rules you need to keep in mind.

5 Easy Rules To Follow When Taking A Loan

Any loan can be a real life-saver if used for the right reasons, and not just because the interest rate is attractive or you can claim tax benefits. Follow these 5 cardinal rules to ensure that your loan experience is hassle-free and rewarding.

  • EMIs should be affordable

One of the golden rules of taking out a loan is to never bite off more than you can chew. Your car EMI should not exceed 15% of your net monthly income, while Personal Loan EMIs should not exceed 10%.

The monthly contributions towards all your EMIs should not be more than 50% of your net income. Your loan-to-income ratio should be within acceptable limits, otherwise, your other crucial financial goals like saving for retirement or planning for your child’s higher education will have to take a backseat.

While calculating your repayment capacity, base your calculations on your existing net income. Don’t take into account your future income. After all, the 5% or 10% increment that you’ve based your calculations on might not happen if one year later your industry is in a slump.

One way to make the EMI affordable is to prolong the tenure of repayment. Defaulting on payments can create a dent in your credit profile, which puts you at risk for future loans. If you anticipate a delay in payment, inform your lender in advance.

Additional reading: How Can You Plan Your EMIs?
  • Keep loan tenure short

 Borrowers may be tempted to go in for long-term loans because the EMI is lower and they enjoy tax breaks on the loan. But remember, the longer the tenure of the loan, the bigger is the interest burden on the borrower.

Though tax benefits bring down the effective cost of the loan, unless the money can earn more than the effective cost of the borrowing, it should be used to prepay the outstanding sum.

 However, opting for a short-term loan may not always be feasible for everyone. Young people with low incomes may not be able to afford a short tenure. The best option for them is to repay the loan as fast as possible by increasing the EMI. EMIs should be increased every year in line with an increase in income.

Additional reading: Select Your Loan Tenure Wisely!
  • Switch lenders if needed

 Banks charge lower rates to new customers, but charge existing customers higher rates. Always be on the lookout for changes in interest rates. The difference in rates should be at least 2 percentage points, otherwise, the switching and processing charges will eat into the gains from the lower rate. Switching is more beneficial when done early in the loan tenure.

Consider closing your loan early when you get a sizeable tax refund or bonus. However, read the fine print to avoid any unpleasant surprises. Some lenders levy prepayment penalties that may offset the gains from the switch.

Besides switching, one can also consider consolidating all debts under one low-cost loan. This will not only bring down the interest rate, but one won’t have to keep track of multiple loan repayments.

Additional reading: Foreclosing A Loan? Few Things To Keep In Mind To Keep Your Credit Score Intact
  • Don’t ignore other goals

 For a majority of Indians, their child’s education and marriage are considered critical financial goals. Dipping into one’s retirement corpus to fund one’s child’s education puts one’s own future financial security in jeopardy.

Taking an Education Loan will not only keep your retirement kitty safe but also instil a sense of fiscal responsibility in your child, who has to repay it. Moreover, Education Loans offer tax breaks, so the effective cost of the loans come down.

Additional reading: Are You Saving Enough For Retirement? Find Out.

  • The rate of interest

 While scouting for deals on loans, the easiest option would be to settle for the bank that you already have an account with. This, however, isn’t ideal. It’s advisable to first scout around for the best deals before settling for anything that comes your way.

The internet can give you a fair idea on the ballpark range for the interest rates that would be available in the market.

With a winning Credit Score, your bargaining strength for better interest rates and favourable repayment terms increases. You can also get banks to compete with each other in giving you a better deal. Even with half a percentage reduction in interest rates, your monthly EMIs and total payout of the loan over the years reduces drastically.

Additional Reading: Check Your Credit Score For Free

It’s important to do some homework with the above pointers in mind when you begin your search for the perfect loan for you. Remember, securing a loan is only half the financial battle won. Toeing the right line until the loan is paid off constitutes the remaining half of the battle.

Now that you know where to start, care to give our one-day and paperless loans a try?

All information including news articles and blogs published on this website are strictly for general information purpose only. BankBazaar does not provide any warranty about the authenticity and accuracy of such information. BankBazaar will not be held responsible for any loss and/or damage that arises or is incurred by use of such information. Rates and offers as may be applicable at the time of applying for a product may vary from that mentioned above. Please visit www.bankbazaar.com for the latest rates/offers.

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