Personal Loan Article (India)

Quick documentation, quick availability but not necessarily cheap.

Author Name : Nirav Mehta
Tuesday,14th November 2006

It was just another day at office and I got a call from a direct sales agency of a reputed bank inquiring whether I am interested in a personal loan. While I was still considering the merits of the product/bank, in question pat came another offer “Sir, we can arrange one for you from any other bank as well!!”

Welcome to the world of retail banking – Where both the Indian and multinational companies are fighting for a market share. And it is not restricted to personal loan industry only. Even the housing loan or credit card or auto loan market is facing the same level of competition, if not more.

‘No questions asked, no reasons required – We are ready to give it, if you are ready to take it!’ – is the punch line for all the banks. And words like best interest rates on offer, no need to disclose the purpose, no security or guarantee required… can easily lure a customer towards seeking that personal loan that sometimes they may not even require.

However, it is always advisable to be a little careful and look into the fine print of such ‘easily available loans’

Let’s look at a product that is better known as ‘Janata Loan’ or ‘Small Ticket Loan’ or ‘Low EMI Loan’. While the christening could be different, the products are basically same. And while they could be easily available, they could also cost you much more than any other product in the market.

These types of loans are specifically meant for low-income groups e.g. stenographers/ clerks/ typists/ peons/ drivers/ admin assistants/ cleaner/ watchmen etc. who otherwise find it very difficult to get bankers interested in them. However, these loans are typically designed to suit their needs.
Here are a few workings that explain the cost benefit of such products to you. A typical product would have the following tenets.

Quick Takes

Loan amount – Between Rs. 10,000 to Rs. 75,000

Salary required – Min 4,000/- Net Sal

Documentation –

• Three months salary slip & Bank Statement to assess your repayment capability, existing commitments or loans etc.
• Identification proof & residence proof
• Letter of employment & salary drawn from employer if salary slip is not made available

Processing fees – Ranging from 3 per cent to 4 per cent of the loan amount.

Tenure – Between 12 months to 30 months.

Now comes the most interesting part of such loans – the interest rate

A look at the tables given below and you would get more than a fair idea of how is this personal loan actually going to cost you.

Table

Case Scenario	Loan Amt. (Rs.)	Net Monthly Sal. (Rs.)	No.Of Dependents	Tenor (In Months)	EMI (Rs.) (Approx.)	Interest Rate (Flat)	Interest Rate
1	25,000/-	4,000/-	2	24	1,465/-	20.32%	35%
2	50,000/-	9,500/-	2	30	2,559/-	21.42%	36%
3	60,000/-	10,500/-	3	24	3,649/-	22.98%	39%
4	20,000/-	5,500/-	5	24	1,224/-	23.44%	40%
5	75,000/-	11,000/-	4	30	4,022/-	24.35%	41%

*All figures are hypothetical

The table above shows the interest rates charged by the banks for such loans. And the rage can be clearly identified – anywhere between 20 per cent to 25 per cent – of FLAT interest rates. IN other words, the reducing balance rates* would be much higher. As per our example it would anywhere between 35 and 40 per cent.

Add to the complex structure of Equated Monthly Installment (EMIs), the hidden cost of processing fees which are deducted in advance & the rates will increase further by 2 per cent (for FLAT rates) and a good 4 per cent (for reducing balance rates)

So why are these interest rates so high? – While bankers would argue that being a totally unsecured product, there are chances that borrower might default. In other words, the bank would take into account the high risk element in these loans. Moreover, given that the loan amounts are rather small, the cost of processing such loans is much higher. However, the overall cost just does not justify the risk profile or for that matter, the processing cost.

However, many consumers are attracted to such loans, simply because of the fact that these loans are available easily. However, whereas, they could take the personal loan if they do require it urgently they need to keep in that they are rather expensive. In simple words remember that something that is easy is never cheap.

*{Reducing balance is a calculation methodology of interest only on the outstanding amount at the end of a particular period e.g. monthly/ quarterly/ half- yearly/ yearly rests since EMI comprises of principal component as well as interest component }