With the ease of getting a loan or paying for purchases with EMI options, it has become increasingly important to understand the basics of loans. Read on as we answer all your questions about loans and the things to keep in mind before taking a loan.

Why do you need a loan?

Most people borrow money for one of these reasons

1. To buy a house or a car

2. To pay for higher education

3. Personal loan to fund a wedding, vacation or an immediate medical emergency

Many also borrow for day-to-day purchases using EMI schemes. What we don’t take into consideration is when we do so, this has a compounding impact on interest and our income and savings. The total money that needs to be repaid is often underestimated.

When should you take a loan?

Before taking a loan, one of the most important things you should do is to ask yourself if it is absolutely necessary for you to borrow that money.

Ideally one must take a loan to build assets like buying a house or car or funding an education and not for discretionary spends like vacations, expensive electronics or investing in stocks. On the other hand, borrowing for spending or to pay off another loan only makes you a victim of the debt trap.

Once you start earning, build an Emergency Corpus so that in case of any emergencies you don’t have to borrow money to meet your needs.

How much can you afford to borrow?

The only rule of taking a loan is to borrow only what you can repay. Before you take a loan write down your monthly income and expenses. We recommend that your home loan EMIs do not exceed 40% of your monthly income and car and personal loans do not exceed 15% of your monthly income. It is important to ensure that all your EMIs put together do not exceed 40% of your monthly income.

While deciding the tenure of a loan, do not get lured by long-term loans because of lower EMIs. Longer the tenure of the loans, the more interest you end up paying due to the compounding effect. Thus decide on EMIs keeping in mind your income and repayment ability.

How can you take a loan?

It has become extremely easy to take a loan nowadays. Be it a home loan or personal loan there are advertisements, promotional phone calls and emails that continuously promote different loan products. We recommend taking loans from credible Banks and Non Banking Financial Corporations (NBFC) instead of private financiers or local money-lenders who may vary interest rates as per their convenience.

It is advisable to compare rates and terms of various lenders on loan aggregator websites, before taking the loan.

Negotiate a good interest rate

In the ever-changing interest rate environment, whether you are taking a new loan or have an existing loan, there is no shame in negotiating with a few lenders, to opt for the loan with the lowest interest rate. Keep in mind that typically Public Sector and co-operative banks provide loans at a lower interest rate compared to Private banks and NBFCs. And if you are a working woman, most banks and NBFCs will provide you a loan at interest rates that are lower by 0.5% - 1% than the standard rates.

If you have an existing loan at a high interest rate, you can refinance your loan with a lender that is providing a lower interest rate, after complying with all the terms and conditions of the loan.

Read the fine print

To avoid the shock of high processing charges or increasing interest rates, read and understand all the terms and conditions of your loan. Get a clear understanding on the quantum, tenure and interest rate of your loan. You must also clarify the prepayment and foreclosure details so that you can easily prepay your loan or refinance your loan with a lender who is giving a lower interest rate.

Bottom Line

Taking a loan is an important financial decision for most people. Being prudent and informed while taking a loan is even more important. Stay tuned as we discuss loans, credit scores and address the most common doubts on borrowing.

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