Weathering The Debt Storm

There are times when you use up all your money and end up penniless, resulting in taking loan from your friends, relatives or colleagues. This monetary aid does not stop your problem right there as you continue to feel the financial crunch. To end this unavailability of cash, you borrow money and repeat it till you pile up debt. Many salaried class and other individuals take personal loans to clear their debt.

According to experts, taking personal loan for repayment of debt would be good for people with good credit score. They will get loan on lower interest rate as compared to those with a bad credit score. Also, timely payment of loans adds as an advantage since lenders keep a hawk’s eye on such factors.

Naveen Kukreja, CEO and Co-founder, Paisabazaar, stated, “As personal loans do not require any collateral, lenders do not have to undertake the process of evaluating collaterals. Hence, the documentation and processing of personal loan application is simpler and faster. This makes personal loan an ideal option for financial emergencies and immediate fund shortages,” he added.

Many circumstances force people to take personal loan, unpaid credit card dues being a major reason. Most credit card issuers charge anywhere from 30-47 per cent as finance charges along with a late payment fee of up to `1,000 on non-payment of minimum dues. As a result, those with large credit card debt soon enter into a situation where even servicing the interest component of the dues becomes difficult. “As the interest on personal loan is much lower than credit card finance charges, usually in the range of 11-26 per cent per annum, taking personal loan to repay credit card debt in lump sum helps in reducing the interest cost and repay the debt comfortably in smaller tranches as EMIs,” Kukreja said.

Thus, personal loans have become one of the best options for coming out of debt trap. Those with existing home loans can consider top-up home loans to repay their existing debt. These loans also do not have any end usage restriction on loan proceeds. Compared to personal loans, top-up home loans have lower interest rates and longer tenure.

Kukreja explained, the best way to avoid debt trap is to avail a credit facility only if borrower can easily repay it. Once a borrower avails a credit facility, he should make regular repayments to avoid debt accumulation through penal interest and charges. Borrower should also include EMIs of at least six months in their emergency fund. This will allow them to make repayments during the periods of loss of income easier. Credit cardholders who cannot repay their dues by the due dates can convert the entire balance or large ticket transaction into EMIs.

The interest rate on EMI conversion is much lower than the finance charges and usually a notch higher than the personal loan rates available for the same credit profile. Credit cardholders can also consider credit card balance transfer wherein the balance of an existing card is transferred to another credit card from another bank at lower or nil interest rates for a pre-specified period. Such period are popularly known as promotional interest period. Once the period is over, regular interest rate kicks in. The promotional interest period stops or slows down the accumulation of interest and provides a window period to arrange for funds. Those with large credit card dues can also convert their transferred balance into EMIs.

Hrushikesh Mehta, Country Manager, ClearScore, stated, “The credit score is higher for the first time borrower. You can get a personal loan at lower interest rate if you have good credit score.” People take personal loans for reasons such as their child’s wedding, lack of extra cash, buying a house or a car and so on. Also if some individuals are unable to pay off the current loan, which is not a desirable situation, they loan against property.

Navin Chandani, Chief Business Officer, BankBazaar, said a personal loan is a medium-term loan. Usually, the repayment tenor is between one and three years. It is an unsecured loan, that is, it does not require any collateral. “As a result, a personal loan tends to be more expensive as compared to secured loans, like home loans,” he said. Personal loans are usually small ticket loans. The average personal loan size in India is between `2.5 lakh to `3 lakh. It is also unsecured, and all the paperwork for the loan can be submitted online. Thereby making it easier to get sanctioned.

“Like the name suggests, personal loans are taken to fulfill personal financial requirements. These can be unexpected medical expenses, a marriage, travel, to purchase expensive gadgets such as a camera for personal or professional use. You need not provide the reason for the loan to the lender,” Chandani said.

Chandani further stated that using a personal loan to repay other existing debts can be a good debt restructuring plan if you have several high-interest debts, like credit card bills with a huge interest payable. In this case, taking a personal loan to cover all the credit card dues is a smart idea, because the interest and penalty rate of the credit card would be much higher than a personal loan. However, taking a personal loan to close another low-interest debt would not be wise.

ashfaque@outlookindia.com