12 Month Loans

What are 12 month loans?

The concept of the 12 month loan comes from Britain and the United States where you can take small loans and pay them back over a period of 1 year. They are also referred to as payday loans because the idea behind them is that you take what you need till you get paid and then pay the loan back as soon as you receive your salary. The industry in the US is a multi-billion dollar one and has grown to astronomical proportions in the last few years. These loans are given without the requirement of any securities and can be dispersed in as little as a day. The purpose of these loans is to help customers deal with emergent financial liabilities like bill payments, school fee payments, etc. that may crop up at any time.

Features of the 12 month loan

• The amount that you can borrow depends on the lender and can range from GBP 200 to GBP 1,000 or more in the UK.
• The amounts are dispersed very quickly; sometimes even in a day’s time once you apply.
• Payday loans may be approved even if your credit history is bad.
• They are generally available to those who are above the age of 18 years and have a regular income.
• You can even apply for this loan and get approvals online which means there is no need to run around.

Interest rates for 12 month/payday loans

The downside of these loans is that they come with extremely high interest rates which can, over the course of a year, amount to more than 100% p.a. Some lenders offer interest rates of 89% per annum while others may offer well over 1000% per annum. There are those who offer considerably lesser interest rates too.

Benefits of payday loans

• They will help you tide over your expenses, till such time as you receive your salary.
• They are issued quickly so you don’t have to run around or wait for the money to come.
• Payday loans can be issued even if your credit history is not that good. Which means that you always have an option of getting financed no matter your credit situation.

Disadvantages of payday loans

One big disadvantage of payday loans is the interest rate which can be in excess of 1200% per annum. What this does is increase your debt astronomically, if you are not careful with it. Another disadvantage of these loans is that they can work against you if your end-goal is financial stability. The set up is similar in the US as well where these loans can feature interest rates as high as 1900% per annum.

How do payday loans work?

Just like the name suggests, these loans are taken against your next paycheque. To take this loan you approach a company that provides them and after completing the formalities walk out with the money in your hand. Once it comes time to payback the calculations may go like so. Let’s suppose you borrow GBP 100 and are required to pay GBP 35 every month towards the loan then you can do so by either creating a standing instruction with your bank or by paying the monthly installment at the lender's office.

Why these loans become expensive is a result of the interest rate. In our current scenario, when you pay back GBP 35 to the lender, they might take 5 bucks out of that as payment towards the principal and the remaining 30 is just the interest!

The general advice associated with payday loans is that they should be your last resort. You should go in for one if, and only if, you have exhausted every other avenue of financing yourself. Even if you do go in for such a loan, you should borrow only what is absolutely necessary and no more.

Personal loans in India

Payday loans are not offered formally in India; although local moneylenders operate in the same way outside the banking system, we do have a different but legal and formal version of these loans.

A 12 month loan, in India, can basically be equated to a Personal Loan which you payback in one year or 12 months. These loans can be taken from banks, financial institutions and even private lenders. (Private lenders might not be an advisable source primarily because they tend to charge a higher rate of interest when compared to that charged by banks).

Imagine if you were in a situation where an unexpected expense suddenly rears its ugly head. Or much less pressing, you finally decide that it's time you got new furniture for the house. In both cases you don’t have the money with you and you decide that a loan is the best way to proceed. But you don’t want to spend years paying back that loan. What do you do?

Provided you have no other option to finance your requirements and you have the capacity to borrow, you can opt for a personal loan. As with payday loans, these can be taken for tenures as short as one year or 12 months.

You will be able to acquire the loan pretty fast and you will be able to finish it in a year’s time which means you won’t have to keep paying it back for the next decade or so. So what exactly is this loan?

Personal Loans vs. Payday Loans

Personal loans in India are loans that you can take for a duration of 6 months to 5 years or more. These loans are unsecured and don’t come with any conditions on how you are supposed to use the money. They can be taken to fulfil commitments that arise from impending marriage expenses or payments for school fee or even a desire to go on a vacation.

What is the interest rate on personal loans?

The interest rates on these loans will obviously depend on the bank that you approach but it could range from 12% per annum to 20% per annum. Some banks like ICICI Bank charge around 13% per annum while banks like HDFC may charge between 15% and 20% per annum. These interest rates are subject to change from time to time but remain fixed for the duration of your loan. Certainly compares more favourably than a 100% on a payday loan!

Eligibility criteria for personal loans

These loans are available to people who meet certain conditions which are:

• They should either be salaried or self-employed.
• They must also have a monthly income that is no less than a specific amount defined by the bank. This amount varies for metro cities and non-metro cities with metros having a higher monthly income requirement.
• Their age needs to be between 21 years and 60 years. This age criteria is also subject to the bank's own policies and may, in some cases, be increased or decreased.
• If applicants are salaried then they might be required to have a minimum work experience of a few years (generally 2 or more years) with the last year having been served with their current employer.
• With certain banks like SBI it may also be required that the ratio of your EMI and you net monthly income not exceed 50. This is done to ensure that you don’t end up taking a loan that you won’t be able to pay back.

Features of personal loans

Personal loans come packed with features that are designed to ensure that customers have easy access to finances when they need them.

• The amount that you can borrow under these loans can go as high as Rs. 30 lakhs, however, every bank will not provide such high loan amounts. The actual loan amounts may differ from one bank to the next.
• These loans can be issued in a short period of time. Some banks like ICICI claim that they can issue the funds in as little as 72 hours from the time the documents are received.
• Since these 12 month loans are actually personal loans, the repayment period could range from 6 months to 5 years, depending on the bank.
• Some banks will even allow you to pay back the loan early if you wish. You may or may not be charged a prepayment fee.

Why opt for a personal loan

There are a lot of reasons why you should consider choosing a personal loan. These reasons range from minimal documentation to quick approvals and convenient payback options.

• The biggest advantage of these loans is that they do not require you to provide collateral to secure the loan. They are unsecured loans unlike home loans or car loans where the house or the car acts as the security for the loan.
• These loans also offer simple documentation which means that you can get one with just a photograph, a pay slip and your form 16, in addition to the application form, of course.
• Unlike home and car loans, there is no restriction on how you spend the money so you can use it to work yourself out of any financial jams that you might have gotten into.
• They are convenient to take and pay back since you can pay them back through post-dated cheques, auto debit facilities or through ECS facilities.
• In certain cases, banks may even allow you to pay more than the required EMI so that you can clear the loan faster. The best part is that they might not charge you a penalty for paying more.

The downside of personal loans

With all the convenience that these loans offer one would imagine that there are no negative aspects to personal loans but there are some disadvantages.

• Since personal loans are unsecured loans, taking too many of them tend to bring your CIBIL score down.
• If you are going in for a tenure of 1 year and the loan amount is big, then you might find it difficult to pay it back since the EMI too will be substantial.
• The interest rates on these loans tend to be a bit high as compared to other loans.
• Being able to get a personal loan may also depend on how good your credit score is so it will be difficult for you to secure a loan if your credit score is not good.
• Since some banks have restriction on how much EMI can be paid by a person, if you want to take too high a sum then your loan might be rejected for a 12 month repayment period.

How to calculate the EMI on a personal loan

The formula used for calculating the EMI for a Personal Loan is:

EMI = [P x R x (1+R)^N]/[(1+R)^N-1]

Here:

EMI is the equated monthly instalment

P is the amount that you wish to borrow

R is the rate of interest which is converted from annual interest to monthly interest calculated by dividing the annual interest by 12X100.

N is the number of months you want to take to repay the loan.

Taking a personal loan Vs cash advance on credit cards

The scenario is that you need cash in a hurry and you have a credit card and might wonder why not just withdraw cash on the credit card. You could do that but there are some limitations to that plan. Limitations like:

• Credit cards don’t always come with high cash withdrawal limits.
• The interest charged on credit card cash withdrawal is much higher than the interest on a personal loan.
• If you are close to the limit on your card than the cash available to you is even more limited.
• The high interest on cash withdrawals can push you over the limit of your credit card which can be more damaging to your credit history than a personal loan.

Let us suppose you want to borrow a sum of Rs. 1.5 lakhs and pay it back over a period of 12 months. The interest rate offered to you is 14% per annum. If we use the formula we arrive at an EMI of Rs. 13,468 per month. This means that for this loan you pay an interest of Rs. 11,617.