FD vs Personal Loan: When a sudden financial need arises, many individuals tend to apply for a personal loan without giving it much consideration. Obtaining a loan from a bank appears straightforward since the funds are directly credited to their account and can be repaid in installments. However, people frequently overlook the fact that if they possess a Fixed Deposit, they can also secure a loan against it. This alternative is often more cost-effective and comes with a lower interest burden.
How does a loan against an FD function?
When you opt for a loan against an FD, you don’t need to liquidate your deposit. The bank grants the loan using your FD as collateral. Typically, banks permit loans of up to 75 to 90 percent of the FD value. This ensures that your FD remains intact and continues to earn interest. The interest rate on such a loan is generally 1 to 2 percent higher than the FD interest rate. For instance, if your FD yields 7 percent interest, the loan could cost you around 8 to 9 percent.
Why are personal loans costly?
A personal loan is classified as an unsecured loan, meaning the bank lacks any collateral or assets. Consequently, banks impose higher interest rates due to the perceived risk involved. Interest rates for personal loans usually range from 10% to 18% or even more. Additional costs such as processing fees, prepayment penalties, and stringent eligibility requirements also apply. For instance, an individual taking out a personal loan of Rs 5 lakh for three years might end up paying a considerable amount in interest. This is why personal loans are regarded as some of the most expensive borrowing options available.
When is each option appropriate?
If you already have a substantial FD investment, securing a loan against it is often a more affordable and convenient choice. This helps you avoid penalties for early termination and reduces interest expenses. However, there are circumstances where obtaining a personal loan may be necessary. For example, if your FD is earmarked for a specific purpose or if you require a larger sum than what can be obtained through an FD. In such cases, it’s crucial to evaluate both options carefully before making a decision to prevent incurring excessive interest costs.
