How to choose right Personal Loan

Personal loans are unsecured loans that are easier to procure because of less paperwork and lack of a security or guarantor. The common reasons for taking a personal loan are:

  • Medical emergency for self or family
  • Wedding or other social functions in the family
  • Debt consolidation
  • Paying off credit card bills
  • For funding vacations
  • For buying a high-end home appliance

Whatever your reason for opting for a personal loan, here are some tips to help you find a product that suits you the best:

  1. Compare interest rates: Perhaps a bank approaches you offering “just 14% per annum” for your personal loan. Or you approach the bank you have your savings account in and find that the interest rate is “just 16%”. However attractive the bank makes the offer seem to you, an important step before deciding which bank to take a loan from is to research personal loan terms of different banks and compare the interest rates. There are many ways to do this – you can either do your own research by going to the websites of different banks and finding out their interest rates, or go to financial websites such as BankBazaar that will give you all the required information based on the requirement you input. Let us make a sample comparison of interest rates here. For a loan of Rs. 5 lakh for a tenure of 4 years, here are the rates offered by some banks:

    Bank Interest rate
    Allahabad Bank 13.60%
    Standard Chartered Bank 13.75%
    Kotak Mahindra Bank 14.55%
    ICICI Bank 14.99%
    Yes Bank 15.99%
    State Bank of India 17.65%

    You will see that if you had approached ICICI Bank and settled for the loan without any research, you wouldn’t even have known that Allahabad Bank offers the same loan for an interest rate that is lower by 139 basis points.

  2. Compare fees and charges: Interest rates are not the only things you need to compare when choosing a personal loan. You also need to look at the various fees charged by the bank. The fees usually associated with a personal loan are: processing fees, late payment charges, cheque bounce charges, loan cancellation charges and service tax for each service provided by the bank. Of this, the most important is the processing fee, which usually is between 1% and 3%. Some banks may have a special limited-time offer In the above example of loan, let us look at the processing charges of each bank:

    Bank Processing fee
    Allahabad Bank 1%
    Standard Chartered Bank 2.25%
    Kotak Mahindra Bank 2%
    ICICI Bank 2.5%
    Yes Bank 2%
    State Bank of India 2-3%
  3. Look for repayment flexibility: Most personal loan products come with full and partial pre-payment charges. This means that if you want to pay off the outstanding amount of your loan before the tenure ends, you will have to pay a small fee. Some banks charge no foreclosure fees, but most banks charge between 2% and 5% of the balance amount. This might help you reduce your overall debt burden because of deduction of future interest payments, but it still sets you back by Rs. 10,000 to Rs. 25,000 on a Rs. 5 lakh loan. Here is a comparative table of foreclosure charges of the banks discussed in our first example:

    Bank Foreclosure Charges
    Allahabad Bank 2.25%
    Standard Chartered Bank 5%
    Kotak Mahindra Bank 5%
    ICICI Bank 5%
    Yes Bank 4%
    State Bank of India NIL
  4. Find an EMI you can afford: Before you take a loan, you need to be sure that you will be able to make regular repayments to close the loan on time and without any penalties. For this, you need to know an estimate of the equated monthly instalment (EMI) that you will have to pay on the amount you borrow. Knowing your approximate EMI is easy when you use an EMI calculator. BankBazaar’s comprehensive EMI calculator allows you to factor in details such as loan amount, tenure, interest rate, processing fee and pre-payment possibilities. By entering the respective values of the bank which you have decided to borrow from, you will get an idea of the amount that will get deducted from your account every month as personal loan EMI. The higher the amount, the more the EMI you will have to pay. Ensure that your total EMI deductions in a month are not more than 50% of your income. For example, if you’re monthly income is Rs. 50,000, all your EMIs put together should not exceed Rs. 25,000.
  5. Examine other loan possibilities: Personal loan is not always the only way to get yourself through an emergency. Approach friends and family to see if they can lend you money, especially if the amount is not large. This way you can do away with the whole hassle of payment of extra amounts to a bank. However, you also need to be wary of the fact that having monetary dealings could sometimes ruin relations. So if you take an interest-free loan from a family member, ensure that you pay them back promptly in order to avoid tension in your relationship.

Apart from the above points, you may also want to consider the penalty on late payment of EMI, the credibility of the bank that you’re borrowing from, the customer service of the bank and the tenure of the loan. Whatever decision you take, ensure that you keep your financial goals and abilities in mind.

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