Know about Loans against Mutual Funds

The first idea that comes to people’s minds when facing a financial crunch is liquidating their investments. However, with mutual funds, there is an alternative solution. This involves taking a loan on mutual funds from a bank or an NBFC (Non-Banking Financial Company). This loan gives you dual benefits – your mutual funds portfolio is preserved and continues to produce returns, while the loan meets your immediate cash needs.

This blog will explore crucial aspects of loan against mutual funds. 

How Does a Loan Against Mutual Fund Work?

You must know that people can use various assets for collateral, such as gold or real estate, to obtain a loan. Similarly, investors can use their mutual fund holdings to avail a loan from financial institutions.

If someone is in dire need of money, they can pledge the units of their mutual funds as collateral, which financial institutions such as banks and NBFCs hold as security until the person repays their loan. Though the mutual fund units keep earning returns, they cannot be sold off during the period they remain pledged to the bank/NBFC. 

Understanding Lien for Mutual Funds 

Understanding the concept of lien is crucial, which is an integral part of loans against mutual funds. A lien is a document that gives a bank/NBFC the right to hold or sell off the mutual fund units against which one has taken a loan. So, simply put, when an individual marks a claim in the bank’s name, the financial institution receives ownership of the fund units. 

After this, the individual needs to contact the AMC (Asset Management Company) and ask for a lien for mutual fund units in the bank’s name. An important point that people should remember here is that the lien must have signatures of all the unit holders in the letter for lien transfer. 

After an individual repays their loan, the financier will request the AMC to remove the lien. If a customer makes part repayment, he or she can enforce a partial removal of the lien. This will free up a certain number of units though the others will remain pledged. 

Furthermore, a financial institution may enforce the lien if the borrower defaults or cannot repay the loan within the stipulated time. If such a situation arises, the financial institution will contact the fund house and ask them to redeem fund units to recover the outstanding amount.

Also Read: Disadvantages of Loan Against Fixed Deposit (FD)

How Is Lien Marked?

A form of a lien contains folio numbers, names of unit-holders and the number of units against which the lien is being marked. Every unit holder and joint holder needs to sign the lien. While submitting a lien, one must attach a creditor letter that clearly specifies bank account numbers and lender’s details. 

Investors should note that a lien is marked on the units only, not the amount. Moreover, people should remember that the value of these units is subject to fluctuation. 

People can get the format for marking a lien from the official website of mutual funds and Registrar and Transfer Agents (RTAs). However, a person must wait for a minimum of two to three days for a turnaround after filling and submitting the form.

Features of Loan against Mutual Fund

  • The amount of loan one can get against their mutual fund units is based on the type of mutual fund scheme and the financial institution from which they are borrowing. For example, certain banks might give you a loan up to 50% of the net asset value (NAV) for equity mutual funds and up to 80% for debt mutual funds. 
  • Many financial institutions have specified the minimum and maximum loan amounts a customer can avail. However, both these limits are generally higher when it comes to NBFCs. 
  • Please note that not every bank will issue loans on mutual funds. Moreover, certain banks have the rule to give loans only on the funds they select. For example, the State Bank of India (SBI) will provide loans against mutual funds of the SBI Mutual Fund House. 
  • Generally, the processing fee ranges from 0 to 1% of the loan amount. 

Benefits of Availing a Loan against Mutual Fund

  • If you use your mutual fund investments to get a loan, the units will remain invested in the market. Please note that even the financial institutions will not be able to sell off these units until and unless you fail to pay back the loan. 
  • In addition, if you wish to achieve liquidity instantly against your mutual fund holdings, getting a loan against them is a good idea. 
  • A financial institution may approve a loan against MF at a low-interest rate if an investor has a good credit history. Further, this interest rate is comparatively lower than credit card loans or personal loans. This is because loans against mutual funds are secured i.e. they are backed by collateral.

Loan against Mutual Fund Eligibility Criteria 

The following people can apply for a loan against MF:

  • A resident of India can apply for a loan on mutual funds
  • Non-Resident Indians (NRIs) 
  • Sole proprietorship, partnership, private limited company, public limited company, and private trusts are entities that are eligible to avail of loans on mutual funds.

Different financial institutions have their own list of AMCs (Asset Management Companies) for which they will approve a loan.

Please note that this criteria might differ in each financial institution.

How to Apply for a Loan Against Mutual Funds?

  • If you have a Demat account and have the necessary permission, you can receive instant loan approvals from many online portals.
  • If you hold the fund units in physical form, you can enter into a loan agreement with the financier or the bank. Otherwise, you can also convert the fund units into electronic form. 
  • To apply for the loan, you must apply online by logging into your internet banking. Alternatively, you can visit the nearest branch of the financial institution. 
  • Once your application is successfully verified by the financial institution, it will start processing the loan.
  • The lender institution will want a registrar such as Karvy or CAMS to mark a lien against the fund units pledged as a loan.
  • The registrar then stamps the lien and sends a confirmation letter to the lender, with a copy to the borrower. 

Maximum Amounts for Loans against Securities

The table below provides indicative details about the maximum amount that one can borrow against various other securities. Note that this value can change depending on the financial institution.

Securities Loan Amount
Non-Convertible Debentures 70% of face value 
Gold Deposit Certificates (GDC) 70% of face value 
Life Insurance Policies (LIC) 80% of surrender value 
National Savings Certificates (NSC) 70% of present value 
Kisan Vikas Patra (KVP) 70% of present value 

Final Word

Although people have become aware of the benefits of mutual funds, loans against mutual funds are quite a rare practice due to lack of awareness and information. This is an affordable option compared to unsecured loans like personal loans, making it ideal if you face any financial emergency. You can easily apply for such a loan online.

FAQs about loan against mutual funds

Is a loan against a mutual fund a good option for short-term capital needs?

A loan against a mutual fund is beneficial for meeting short-term financial needs. Investors can use it instead of liquidating their investments at a loss. A major benefit is one can repay it slowly without affecting the ownership of the scheme. 

Is the interest applicable for the entire amount of a loan against a mutual fund?

No, one has to pay interest only on the amount they utilise, i.e. the credited amount or overdraft from the current amount. 

Will I receive dividends if I take a loan against a mutual fund? 

Yes, investors will keep receiving dividend income and returns on investment if they take a loan against their mutual fund units. 

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Disclaimer: This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The article may also contain information which are the personal views/opinions of the authors. The information contained in this article is for general, educational and awareness purposes only and is not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision, whether related to investment or otherwise, taken on the basis of this article.