The prime reason for saving and investing for any person is to have a secured future. Also, it helps them achieve their various financial goals or help in any business emergencies that may need an immediate inflow of funds. However, at such times (especially for high volume expenses), rather than using up the entire life savings, it is prudent to take out a loan to meet them.In these cases, availing a loan against existing assets can prove to be a good move.
Most lenders have a set of guidelines that determine eligibility for every kind of loan and also may need any surety from the borrower to safeguard their interests. Many assets can be used by borrowers to meet this requirement. Some of such assets that can be used for this purpose are given below.
What is a secured loan?
A bank offers mainly two types of loans for any purpose, a secured loan, and an unsecured loan. A secured loan is a loan that is backed by any asset provided by the borrower. This asset will act as collateral if the borrower is not able to meet their loan obligations. The bank can then liquidate the asset as per their regulations or the agreement between the borrower and the lender. The proceeds of the sale of such assets will be first used to clear the loan obligation and the balance, if any, is usually returned to the borrower.
This type of lending is also known as asset based lending. This type of lending is beneficial for the lender as well as the borrower. The lenders are assured of the viability of the loan at the same time, the borrowers get the loan at a relatively low cost as the interest rate is lower for secured loans as compared to unsecured loans.
What is an asset based lending ratio?
Every lender has its own set of guidelines for the amount of loan that can be sanctioned against the collateral. The final loan amount that can be sanctioned is based on many factors like the eligibility of the borrower, their repaying capacity as well as the value of the collateral.
Asset lending ratios for some of the assets are as below
75% to 80% of the value of gold for gold loans
50% to 150% of the value of the car
95% of the value of FD as loans,
70% on property
Most banks use a standard formula to calculate the loan amount that can be sanctioned based on the value of the asset. It is generally observed that lenders usually tend to provide higher loan value for collateral that is more liquid assets. The loan to value ratio used by banks is given below.
Loan to value ratio = Loan amount/ Asset value
What are the different types of assets that can be used as collateral?
Some of the common assets that can be used as collateral with most lenders are mentioned below.
- Property (Commercial or residential)
Property can be residential or commercial to use as collateral. It is one of the most common assets that is used as collateral for any loan as it is viewed as one of the most secured assets owned by a borrower. Hence, this assures the lenders of the viability of the loan. The rate of interest also is lower for such loans.
Like property, the land is also a very secured asset as the value of land virtually never depreciates. Lenders, therefore, prefer to have land as collateral especially in high-volume loans like long-term business loans. Borrowers can get up to 80%- 90% of the value of land as a loan.
Cars or any other vehicles can also be used as collateral. They can be used against short-term loans as well and can provide the borrowers as high as 150% of the value of the car as loan amount and the rate of interest can be approximately 10% to 15% depending on the lender.
Gold is another important asset that is most readily available to the borrowers and used by them for getting a loan. The majority of banks have lucrative gold loans where the borrowers are required to deposit their gold with the bank and get loans at reasonable interest rates. The gold is returned to the borrowers when the loan is repaid.
- Fixed deposits
Bank FDs are another popular asset often used by borrowers to get a secured loan. The loan to value ratio in the case of Bank FD is quite high, often up to 95% of the value of the FD. Also, the rate of interest for such loans is lower as the bank provides loans at a concessional rate for their existing customers.
- Insurance, Shares, Mutual Funds
Apart from stable assets like property and land, banks also prefer liquid assets as collateral. Liquid assets can include shares held in the Demat account, mutual funds held by the borrower, or life insurance. The amount of loan to be sanctioned based on these types of assets depends on the bank’s guidelines. However, it is to be noted that liquid assets can provide loans up to 80%-90% of the asset value depending on the bank’s policies.
What are the benefits of asset based lending?
Secured loans or asset based lending is a preferred mode of lending for banks and is also beneficial to the borrowers. Some of the key benefits of such lending are highlighted below.
- The rate of interest of secured loans is lower as compared to unsecured loans.
- Banks are also assured of the repayment of the loans and the chances of an increase in banks’ NPAs are greatly reduced.
- The borrowers can get the loans relatively faster as the lenders do not have to run extensive credit and profile checks to safeguard their interests.
- The loan amount that can be sanctioned by lenders against the collateral is higher as compared to unsecured loans.
Loans against an asset is an age-old concept and also the basis of banking functions. In today’s world, many types of assets can help borrowers get immediate financial assistance for various purposes (PPF, future payments from commercial property, NSC, etc.) Most banks also have asset-specific loans and the maximum amount that can be given against them. This helps the borrowers make informed and timely decisions to use their assets effectively.
Yes. If the shares are inherited by a person, and duly transferred to their name before applying for the loan, such shares can be used as collateral.
Yes. A property with multiple owners can be used as collateral provided all the owners have no objection for the same.
Yes. The gold deposited with banks to get gold loans are kept in secured facilities and returned in the same form to the borrowers when they repay the entire loan within the loan tenure.
No. For land to be used as collateral it should have a clear title. Hence, disputed land cannot be used to secure a loan.