Taking a loan? Here are 5 mistakes to avoid

By: | Published: November 2, 2016 6:36 AM

Taking a loan is easy, but understand the fine print and be aware of the pitfalls as mistakes can prove dear

With corporate credit growth in the doldrums, banks and non-banking financial companies (NBFCs) have stepped up their retail lending with people taking loans, especially for vehicles, consumer durables and credit card spends. However, individuals must understand the terms and conditions for loans to avoid making any mistakes which can lead to trouble later. It is always prudent to read the fine print of the loan agreement before signing the document. Here are some key factors that meed to be kept in mind while taking a loan.

Compare lending rates

As banks and NBFCs offer various loans and interest rates differ, compare and select the one which suits you the best. Just because one bank has sent you a pre-approved loan or you have an account with the bank does not mean that it is giving you the best deal. Spend time comparing loan conditions, cost and repayment options. Always give the right information about your income and liabilities to the bank and bargain for the best rate.

Borrow within limit

Take a loan that you can repay easily and ensure that the loan-to-income ratio is within acceptable limits. Typically, your housing loan EMI should be less than 40% of your income, car loan less than 15% and personal loan not over 10%. Also, keep in mind that the overall EMI payout of all loans put together should not exceed 50% of your monthly income. Spending too much on EMI can derail your important financial goals like children’s education, retirement and medical expenses. Never miss or delay an EMI as it will impact your credit profile and hinder your chances of taking a loan for other needs later in life.

Avoid being a guarantor

While you many want to help your friend by being a guarantor for a loan, any default on the loan by your friend or relative will hamper your credit score. Also, in case they do not repay the loan, you will be legally bound to repay the loan as a guarantor or a co-borrower.

Keep loan tenure short

Always remember, the longer the tenure of servicing a loan, the higher will be the interest payouts. While home loans can be for a period of 20-25 years, it is wise to partly prepay the outstanding principal whenever you have spare money or when you get annual bonus. While younger borrowers can go for a longer tenure, they can step up the EMI amount every year according to the increase in their annual income. Increasing the EMI amount will lower the loan tenure and reduce interest payouts in the long run.

Take loan insurance

For big-ticket home loans, it is always advisable to take a term plan or a loan protection cover to protect your family from debt if something happens to you. A loan protection insurance will help you protect your monthly loan payments if you become unemployed or suffer an accident. A joint loan insurance plan will cover you and the co-borrower. However, a regular term plan is better in the long run as it can continue even after the loan is repaid or if you switch to another lender.

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