Features and Benefits of Loan Against Mutual Funds

Investments and securities can offer a dual benefit - generating dividends or interest, and help access credit. 

A loan against security is designed to allow borrowers to take loans by putting an asset as collateral. The collateral secures the loan, reduces default risk, and increases lender confidence. One popular type of such lines of credit is a loan against a mutual fund. 

You can turn your mutual fund investment into collateral and access funds without losing or redeeming your investment. The mutual funds AUM of India hit a record of ₹72.2 lakh crore in May this year. As investments grow rapidly, the loan facility allows investors to maximise benefits from their mutual fund investments.

There is an array of benefits of loan against mutual funds that we are going to explore in this blog, along with the features. Let’s start!

A Loan Against Mutual Funds: How Does it Work?

Banks and NBFCs offer loans against mutual funds to eligible borrowers. Before discussing the features and benefits of loan against mutual funds, check out how the loan works:

A borrower makes the loan application and uses the mutual fund holdings for pledging. The lender evaluates the eligibility of the borrower and the value of the mutual fund holdings. The borrower, then, is offered a certain percentage of the value of the mutual fund holdings. This is known as the loan-to-value ratio, or LTV. The LTV ratio varies from one lender to another.

Once the lender approves the loan application, the borrower receives the funds and is free to use them for personal or business purposes. The repayment schedule must be followed, and the loan is to be paid as decided in the loan agreement. While the mutual fund holdings act as collateral during the entire term, the holdings continue to generate interest as usual.

Since the loan is secured with the mutual fund holdings, the lenders tend to offer loans at lower rates and more favourable terms. In the case of a default, the lender can sell the pledged mutual fund to retrieve the loaned amount. 

Features of Loans Against Mutual Funds

The basic mechanism of mutual fund loans is the same as most secured loans. Naturally, some of the basic features and benefits of loan against mutual funds are similar to loans against other securities.

Here are the key features of a loan against mutual funds:

• Secured Nature: The pledged mutual fund holdings make the loan secure, as the lender has a way to retrieve the amount in case the borrower fails to repay.
• High LTV: Borrowers can get up to 80% of the value of the mutual fund holdings.
• Easy Approval: With the collateral in place, getting approval for the loan application is easier than for unsecured loans.
• No Restrictions on Fund Usage: You can use the fund for whatever you require without the lender putting any restrictions.
• No Ownership Lost: The ownership of the mutual fund holdings is not transferred. They continue to perform as per investment objectives through the loan tenure.
• Flexible Tenures: Tenures for loans against mutual funds can go up to several years, depending on the lender.
• Digital Process: From application to evaluation, the entire process can be done digitally.

Benefits of Loan Against Mutual Funds

Loan against mutual funds offers a range of advantages to borrowers who are looking for financial flexibility without having to liquidate their investments. Here are some of the key benefits of loan against mutual funds:

1. Liquidity Without Selling

One of the major benefits of loan against mutual funds is that it allows investors to access funds without having to sell their investment holdings. This means you can maintain your exposure to the financial markets and continue to benefit from any potential future gains in your mutual funds while accessing credit for financial emergencies.

2. Quick and Convenient

Obtaining a loan against mutual funds is often a faster and more convenient process compared to traditional loans, like personal loans or home loans. It involves minimal paperwork and is usually processed relatively quickly, making it a suitable option for addressing immediate financial needs.

3. Lower Interest Rates

Interest rates, typically lower than unsecured personal loans, credit card debts, or payday loans, fall under the key benefits of loan against mutual funds. This can lead to substantial savings on borrowing costs, making it a cost-effective way to access funds.

4. Flexible Loan Amounts

You can get a loan against mutual funds based on the value of your mutual fund holdings and the lender’s prescribed LTV ratio. LTV ratios typically range from 50% to 80%, allowing you to access a substantial portion of your mutual fund portfolio’s value.

5. Tax Efficiency

One of the crucial benefits of loan against mutual funds is that it does not trigger capital gains tax or redemption charges because you’re not selling your mutual fund units. This can be a tax-efficient way to access funds, especially if you have significant capital gains in your portfolio.

6. Improved Credit Score

You can get funds even in the absence of a high credit score. At the same time, one of the benefits of loan against mutual funds is how it can have a positive impact on your credit score. Timely repayments demonstrate financial responsibility and may improve your creditworthiness, making it easier to access credit in the future.

7. Choice of Interest Payment

With the many benefits of loan against mutual funds comes the flexibility in choosing how to pay the interest on the loan. You can opt for regular interest payments or choose to capitalize the interest, which means it gets added to the loan principal. This can be helpful if you want to minimize your immediate cash outflows.

8. Highly Accessible

The list of benefits of loan against mutual funds also includes how accessible it is to a wide range of investors, including retail investors, high-net-worth individuals, and even institutional investors. This inclusivity makes it a versatile financial solution.

9. Risk Management

In the event of a market downturn, loans against mutual funds allow you to access funds without selling at a potentially unfavourable time. This can be a valuable risk management strategy, especially for investors concerned about market volatility.

10. Preservation of Investment Goals

While opting for the mutual funds loan, you can stay committed to your long-term investment goals and avoid disrupting your financial plan. The benefits of loans against mutual funds do not come at the cost of your investment goals. This is particularly beneficial for individuals who want to avoid the temptation of withdrawing their investments prematurely.

Benefits of Loan Against Mutual Funds vs Benefits of Other Loans

Here’s a comparative overview of the benefits of loan against mutual funds, a personal loan, a loan against shares, and mutual fund redemption.

Documents Required for Taking a Loan Against Mutual Funds

Mentioned below are the essential documents that are required to get loans against mutual funds.

• Loan Application Form: Start by filling out the loan application form provided by the financial institution offering the loan.
• KYC Documents: Submit your Know Your Customer (KYC) documents, which include:
  • • Your identity proof (e.g., Aadhar card, passport, driver's license) 
    • Address proof (e.g., utility bills, bank statements).
• Mutual Fund Statement: Provide a copy of your mutual fund statement to demonstrate ownership of the funds you want to use as collateral.
• Loan Agreement: Sign the loan agreement, which outlines the terms and conditions of the loan, including interest rates and repayment schedule.
• Pledge Form: Complete a pledge form that specifies the mutual funds you intend to pledge as collateral for the loan.
• Power of Attorney: Some lenders may require a power of attorney to manage your mutual fund units during the loan tenure.
• Bank Statements: Furnish your recent bank statements to confirm your financial stability and repayment capacity.
• Credit Report: Some lenders may request your credit report to assess your creditworthiness.
• Passport-Size Photographs: Attach recent passport-size photographs as part of the application.

Conclusion

While loans against mutual funds offer numerous benefits, it’s essential to exercise caution and prudence when using this facility. Failing to repay the loan can result in the liquidation of your mutual fund units, and you may incur losses if the market value has declined since you took out the loan. Additionally, it’s advisable to compare the terms, interest rates, and fees of different lenders before choosing the one that best suits your financial needs. 

My Mudra is offering loans against mutual funds at a low interest rate and favourable terms. Choose us, redeem the wide range of benefits of loan against mutual funds, and pave the way for financial stability.

Also Read:
- How to Get Loan Against Mutual Funds
- What is Loan Against Mutual Funds? Know How It Works