Why Loan Against FD Is a Low-Risk Option for Borrowers?

In today’s financial landscape, securing a loan that aligns with one’s financial requirements while also ensuring minimal risk can be challenging. Loans come in various forms, each with its unique set of conditions, interest rates, and risks. Among the myriad options available, a loan against fixed deposit (FD) has emerged as a low-risk borrowing choice for many, thanks to its inherent features and benefits.

Fixed deposits are a popular investment vehicle, known for providing assured returns and liquidity post-maturity. However, besides serving as a stable investment, FDs can also be leveraged as collateral to avail of a loan. This dual utility makes a loan against FD an attractive proposition for both individuals and businesses looking for immediate funds without liquidating their assets.

Understanding a Loan Against FD

A loan against FD is a type of secured loan where the fixed deposit acts as collateral security. The depositor can avail of a loan amount typically ranging between 75% to 90% of the FD value, although this varies by bank and the terms of the deposit itself. The application process is relatively simple, and the loan is sanctioned quickly since the bank holds the FD as collateral.

Key Features and Benefits

1. Higher Loan-to-Value Ratio: Borrowers can generally secure a sizable portion of their FD’s value, which can be especially beneficial for those requiring substantial funds.

2. Lower Interest Rates: One of the most attractive aspects of loans against FD is the interest rate. The loan against FD interest rate is usually 1% to 2% higher than the FD rate. This makes it significantly lower than the rates offered for personal loans or credit card advances, which often carry double-digit interest rates.

3. Preservation of Savings: Since the FD continues to earn interest throughout the tenure of the loan, your investment remains intact and unharnessed for future needs.

4. Flexibility in Repayment: Borrowers can enjoy flexible repayment options, with the choice of either opting for an overdraft facility or a term loan, based on their cash flow and financial strategy.

5. Minimal Documentation: Given that the bank already has details of the depositor, the documentation required to secure a loan against an FD is considerably reduced. This streamlined process ensures quick fund disbursement.

6. No Prepayment Penalties: Many banks work with a no-prepayment-penalty clause, allowing borrowers to repay the loan amount before the tenure ends without attracting additional charges.

Low Risk for Borrowers

The security of using one’s own FD as collateral significantly reduces the risk for both the borrower and the lender. Here’s how:

1. Guaranteed Loan Approval: As the bank holds your FD as collateral, the likelihood of loan approval is almost guaranteed, provided all other criteria are met.

2. Bad Credit Isn’t a Barrier: Since the loan is secured, having a less-than-perfect credit score does not significantly impact the approval process. This can be beneficial for individuals who have faced financial challenges and are in need of immediate funds.

3. No Impact on Credit Score: Since the borrower’s creditworthiness isn’t intensely scrutinized due to the secured nature of the loan, there is minimal impact on one’s credit score, unlike unsecured loans where delayed payments can severely affect credit ratings.

Comparing with Other Loan Types

Personal Loans

Personal loans, though unsecured and widely available, come with higher interest rates due to the absence of collateral. Besides, the borrowing limits are strictly dependent on the creditworthiness of the individual. A  loan against FD, therefore, stands out as a more affordable option, provided the borrower has an existing FD.

Loans Against Securities or Property

Loans against securities or property require a comprehensive valuation process and considerable legal scrutiny, which can take time. Conversely, a loan against FD involves less administrative hassle, with the FD itself sufficing as enough collateral.

Industry Practices and Considerations

1. Eligibility: Most banks and financial institutions allow both individuals and businesses to avail of loans against FDs. However, policies may vary, particularly concerning the minimum deposit amount eligible for such loans.

2. Tenure: The tenure of a loan against FD generally aligns with the term of the deposit, although with certain institutions, options for extended tenure post-maturity may be available.

3. Tax Implications: It is crucial to note that interest paid on the loan doesn’t qualify for tax deductions, and the interest earned on the FD continues to be taxable per applicable laws.

4. Usage Restrictions: While there are typically no restrictions on the use of the loan amount, certain financial institutions might have terms regarding usage in line with corporate governance or specific institutional practices.

Conclusion

For many borrowers, particularly those looking to balance risk with the need for accessible funds, taking out a loan against an FD represents an optimal pathway. It affords the twin benefits of maintaining a savings cushion while gaining access to funds at a relatively lower cost.

This form of borrowing positions itself as both a strategic financial tool and a safe buffer for those seeking to navigate financial obligations without depleting their savings. The practicality, combined with minimal risk, enhances its appeal and makes it an advantageous choice in the arsenal of any prudent financial planner. 

Understanding market rates, evaluating personal financial needs, and assessing various offerings are key to maximizing the benefits of a loan against FD. Borrowers are encouraged to review industry practices diligently and weigh their options for a decision that serves their best interests in the long run.