Want to be a smart borrower? Follow these 6 rules

Updated: April 3, 2019 7:42:29 AM

Although these benefits come in handy to reduce the overall cost of the loan, it does not make sense to keep the loan running just for tax benefits. Compare the effective cost of loan with the returns that you could earn if the amount was invested.

If you do not have enough resources at hand to pay all EMIs due for the month, prioritise them in a way that you have to pay the least penalty and interest.

By Tax Guru

The gap between what we can afford to buy and what we aspire for is a huge opportunity for lenders. Technology has made it easier for borrowers to compare interest rates offered by different lenders and zero in on an option that best matches their needs.

Here are the golden rules of borrowing.

Don’t borrow more than what you can repay

You should not borrow at all if you think your needs can be met from other sources. However, if you do, your EMI outgo should not exceed 50% of your monthly income. Before you take a loan, use an EMI calculator to find out the monthly EMI. If the EMI is 50-70% of your income, it will be extremely difficult for you to save for the future. In such cases, retirement funds and savings to fund your child’s education will have to be compromised. Borrow an amount that keeps your debt-to-income ratio within acceptable limits.

Never borrow to splurge

It is not advisable to borrow for discretionary expenses. For example, you may get several travel loan offers from different banks but splurging on a lavish trip makes sense only when you have saved up enough. Taking up a debt for such entertainment expenses has the highest potential to pull you into a debt trap. Second, never borrow to invest. Any investment, including the most secure ones, cannot meet the cost of a loan.

Keep the loan tenure short

To lure customers into paying smaller EMIs every month, banks offer longer loan tenures. The longest tenure is offered in case of home loan and it can go as long as 30 years. However, you should shorten the term until you reach an EMI you think you can afford because a long tenure also calls for higher interest pay-out. Use EMI calculator to ascertain the EMI with different tenures and select the shortest one affordable in your budget.

Never delay the payments

It is the most important rule of taking any type of loan. Being disciplined will not only keep your payments organised but will also save you huge amounts that would otherwise go out as penalty or extra interests. Missing payments has a direct impact on your credit profile and hinders your chances of getting a loan in future. While it is important to save and invest, we would not advise to do so by compromising on your debt payments. If you do not have enough resources at hand to pay all EMIs due for the month, prioritise them in a way that you have to pay the least penalty and interest.

Keep looking for lower rates

Why should you keep paying high rates of interest when you can transfer the balance and avail lower rates? The financial market has become highly competitive so banks and NBFCs keep coming up with various offers. Keep your eyes and ears open for such offers and make the most of them. The earlier you transfer your balance to a lower rate, the more benefits you can avail. If you are looking to prepay your loan, compare the cost of this foreclosure with the amount you would save and opt for it only when the savings are significant.

Don’t keep loans running just to avail tax benefits

The government offers tax benefits on some loans. For example, tax deduction on home loan is offered under Sections 24 and 80EE of Income Tax Act. The interest paid on education loan is also fully deductible. Although these benefits come in handy to reduce the overall cost of the loan, it does not make sense to keep the loan running just for tax benefits. Compare the effective cost of loan with the returns that you could earn if the amount was invested.

(Source: Tax Guru)

Get live Stock Prices from BSE and NSE and latest NAV, portfolio of Mutual Funds, calculate your tax by Income Tax Calculator, know market’s Top Gainers, Top Losers & Best Equity Funds. Like us on Facebook and follow us on Twitter.

Switch to Hindi Edition