Loan Against Mutual Funds: Features, Eligibility, Interest Rate

Unexpected expenses are a part of life. When such situations arise, the immediate need for cash can put investors in a tough spot. Typically, they might consider selling their investments to meet the financial demands. However, selling investments could mean losing out on potential market appreciation. This is where Loan Against Mutual Funds comes into the picture. Instead of selling their holdings, investors can use their mutual funds as collateral to secure funding from banks or financial institutions.

How Does Loan Against Mutual Funds (LAMF) Work?

LAMFs (Loan Against Mutual Funds) work on a simple principle. Investors can borrow money by pledging their mutual fund holdings to banks or financial institutions. Here are three things you must know about this process:

1. There is a Limit on the Loan You Get

The amount you can obtain as a loan largely depends on the bank's evaluation of your funds and the bank or financial institution you choose to borrow from. Lenders typically assess the Net Asset Value (NAV) of your mutual funds and the type of funds you’ve invested in. Based on this evaluation, they offer loans against a certain percentage of the NAV. For example, some banks may offer loans equivalent to 50-60% of equity holdings and 80-90% of debt holdings.

2. You Continue to Earn Returns on Your Holdings

When you offer your mutual funds as collateral, they continue to be invested in the market. This means you benefit from any potential appreciation of the funds. Banks are entitled to sell your holdings only in case of default. Until then, you retain ownership of these funds and earn any returns they generate.

3. These Loans Cost Less Than Personal Loans

Loans against mutual funds generally cost less than personal loans since they’re backed by your holdings as collaterals. The collaterals reduce the risk for the bank, allowing them to provide loans at a lower interest rate. In contrast, personal loans that are not backed by any security lead to higher interest rates.

Benefits of Taking a Loan Against Mutual Fund

Loan against mutual funds is an effortless option, making it enticing for investors to procure funds without having to liquidate their investments. Here are some key advantages of this method:

1. Preserves Investment Portfolio

One factor that makes a loan against mutual funds an attractive option is that it helps an investor maintain their investment portfolio. You can borrow funds against your mutual fund holdings without having to sell them. 

This means that the investor can benefit from long-term holding of funds, benefit from potential market appreciation, and avoid any capital gain tax liability that may get triggered in case of redemption of funds.

2. Quick Approval of Loan

Taking a loan against mutual funds is faster and more efficient than any other loan-procuring method. Since the loan is secured by your mutual fund holdings, the approval process is streamlined, and the disbursal of funds is expedited.

3. Helps Avoid Tax Liability

Loans against mutual funds are also tax-efficient. By using your mutual funds as security instead of redeeming them, you avoid triggering capital gain taxes. Tax minimization is another reason why LAMFs are an ideal choice for quick loans.

Eligibility Criteria

Now that you know LAMFs are a tempting option, here’s a breakdown of all the boxes you need to tick to avail of the loan:

• Must be an Indian citizen
• Must be 18-90 years of age
• Minimum loan amount can be anywhere from ₹25,000 to ₹100,000, depending on your lender

How to Apply for Loan Against Mutual Funds?

While applying for a loan against your mutual funds, there are critical steps that you need to undertake to ensure a smooth application process.

Step 1: Assess the Value of Your Mutual Funds
Evaluate the current net asset value of your mutual funds and whether your mutual fund is eligible for pledging. This will vary depending on the lender you choose; usually, equity and debt mutual funds are accepted by banks.

Step 2: Choose a Lender
Research and compare different banks and financial institutions. Read through their loan terms, interest rates, loan disbursal process, and decide on a lender.

Step 3: Keep Your Documents Ready
Collate major documents like mutual fund account statement, identity proof such as Aadhar Card, PAN Card, and rent agreement for address proof.

Step 4: Fill Out the Application Form
Go to the lender's website and fill out an application form. Attach all necessary documents and complete your application online. You can also choose to undertake the process offline at the bank’s branch.

Step 5: Disbursement of Funds
Once all documentation is in place and the lender approves your application and pledges your mutual fund units, the loan amount shall be disbursed within a few days.

Tip for a seamless application process: Even though loans against mutual funds are secured by your holdings, ensure you maintain a good credit score to enhance your chances of securing a better interest rate.

Documents Required for Loan Against Mutual Funds

Although banks or financial institutions may ask for various documents, the major documentation for procuring a loan against mutual funds includes:

1. Mutual fund ownership confirmation
2. Identity proof
3. Address proof

Interest Rate and Charges

Interest rates and charges vary for different banks. Here’s a rundown of interest rates offered by some banks:

Note: The above data is fetched from the official website of the banks. Please visit the bank's website for confirmation.

Difference Between Loan Against Mutual Funds & Personal Loan

Conclusion

In essence, the benefits of taking a loan against mutual funds are two-fold. Firstly, investors can retain ownership of their investments while meeting their immediate needs for funds. Secondly, they can gain from potential market appreciation while avoiding the tax liabilities associated with liquidating investments.