You may be familiar with secured loans where assets like gold, land or even a house property can be offered as collateral. But have you heard of a loan against mutual funds (LAMF)? It is exactly what it sounds like — you pledge your mutual fund investments as collateral and borrow funds from the lending bank or financial institution in return.
Like all secured loans, obtaining loans on mutual funds is easy if you have sufficient collateral. However, before you avail of the LAMF facility, you must know how it works and its key features. Let’s explore this in detail.
For example, say you have invested in ELSS mutual funds and have an urgent need for funds because of a family medical emergency. In that case, you can avail of a loan against the ELSS mutual funds and settle the medical bill. You can repay the loan per the bank’s terms, after which you can redeem your investment if you wish to.
A loan against mutual funds has many distinct features. While the exact terms of the loan may vary from one lender to another, the features outlined below generally pertain to this credit facility.
Since this is a secured loan, your application will be processed almost instantly after the lien on the asset is granted. The funds are also disbursed to your bank account promptly without any delay.
The lending bank or NBFC sets the minimum and the maximum amount of loan you can avail of. The maximum amount you can borrow is typically a percentage of the mutual fund's net asset value (NAV).
The interest rate on a loan against mutual funds is generally affordable when compared with the interest rates on personal loans and other unsecured borrowings. This is because the asset pledged in a LAMF reduces the lender’s risk.
Not all mutual fund schemes are eligible to be pledged as collateral. Only specific schemes as selected by the lending financial institution can be offered as security. Check the list of eligible schemes before you apply for a loan against mutual funds.
You cannot liquidate your mutual fund investments during the repayment period. The lien on these assets will remain in force until you have repaid the borrowed amount and the interest thereon.
The bottom line is that you can pledge your mutual fund investments to borrow funds and meet your financial requirements. However, it’s crucial to repay the loan entirely so you can redeem your mutual funds and capitalise on the profits. To use the loan against the MF facility smartly, it’s best to only avail of it if you need funds urgently. Pledging your mutual funds to borrow money for discretionary expenses is never a good idea.
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In a loan against mutual funds, you pledge your investment as collateral to borrow funds. You must then repay the loan. During the repayment period, you cannot sell your investments.
If you need funds urgently to meet a financial emergency, a loan on mutual funds may be a good choice because it helps you tackle this requirement without redeeming your investments.
The maximum amount of loan that can be obtained against mutual fund investments depends on the MF scheme and the lender’s terms and conditions.
A loan against mutual funds is provided by banks and NBFCs and not by the mutual fund house itself. The fund house only offers a lien on your investments to the lending bank.
Yes, mutual fund withdrawals are taxable. Short-term capital gains from equity funds are taxed at 15% (if they exceed Rs. 1 lakh), while non-equity funds are taxed at the slab rate applicable. Long-term capital gains from equity funds are taxed 10% without indexation, while those from non-equity funds are taxed 20% with indexation.