How to choose the ideal tenure for your personal loan?

Personal loans

There are many lending institutions that are offering personal loans. The market is in fact, bombarded with advertisements that lure customers with low interest rates, quick disbursals etc. Before we discuss the tenure of loans, one needs to know the difference between personal loans and other loans.

In layman’s language, there are primarily 3 types of loans that he is aware of – home loans, vehicle loans and personal loans. Personal loans, have of course, evolved into instant personal loans, as new-age lenders such as Fintechs have disrupted the market, offering instant cash loans in 1 hour in many of India’s top cities. Of these, it is understood that the personal loan has the highest interest rate and for reasons other than just buying a house or vehicle. But, there is more to personal loan than just the above mentioned facts. Personal loans are unsecured loans that are given by banks and other financial institutions to meet ones current financial needs like medical or marriage costs, home renovation, vacation or debt consolidation.

They are also known as consumer loans or unsecured loans and are given on the basis of credit history and the ability to repay the loan from one’s personal income.

Interest rates and trends

The interest rate is decided, based on factors such as secured or unsecured personal loan. In case of secured personal loan, an asset or a collateral is provided to the lender. In the event of non –payment of loan, the bank or NBFC can seize the collateral. Since there is limited risk, the interest rate is comparatively low.

For unsecured personal loans, there is no security offered by the consumer, there is only an assurance that the consumer will repay the loan on time through his prevailing financial condition. In such cases, since the risk is high, the interest rate is higher as well.

Currently the interest rate on personal loans starts from 10.99% and goes upto 33% depending on different banks and financial institution.

How to decide on tenure?

Banks and fintech institutions have different tenure options for loans as well. The range of tenure offered being 1year to 5 years. The longer the tenure, the EMI will be less and that amounts to more money in your salary account for use each month.  However, that also equates to more interest payout on a yearly basis.

But if one opts for short tenures of say a year or two, although the monthly payout is comparatively higher , there is the option of completing the payments quickly and so less interest payout for the loan amount.

For example- for a loan amount of 1 lakh, a yearly interest of Rs 25000. So for 2 years Rs 50, 000 is paid and for three years Rs 75000 is paid as interest.

In a long term tenure the interest outgo is too high. However if you are just starting out on your career, you might not be able to afford a high EMI per month.

Before deciding on the tenure there are 3 major points that has to be considered:

1. What is the monthly budget for your income?

2. Consider your existing liability

3. Plan based on your future financial prospects.

It is not considered wise to borrow more than 50% of your monthly salary. The EMI should ideally be either 50% or less. It will be good to take stock of all the existing liability such as house rent, credit card payments before opting for a long term personal loan.

Always make use of an income hike or bonus or unexpected financial gains to pay-off your personal loan debts thereby reducing the tenure and the interest payout.