Should you really go for a loan against car

Arthashastra

A new kind of finance, called loan against a car, is fast becoming popular. Usually a loan is available for the purchase of a car, but now banks are also lending against an existing car in an effort to expand their consumer loan portfolios. For an individual, this opens up a new avenue for raising finance. But one needs to be alert and weigh the advantages and disadvantages of the product before availing it. Also, it is important to ask whether ones needs this kind of a finance at all.

Here is a look at the issues in detail and what you should look at.

Basic features: At the starting point, one needs to understand the basic working of the loan. This is a loan against a car and it means the individual trying to avail of it has to own a car, against which the loan will be offered.

Unlike in the case of other assets, such as a house, against which one can avail a loan, in this case the price of the car will depreciate in value and, hence, there is a different kind of risk the bank will bear. One of the conditions an individual may need to meet for this kind of a loan is that some banks will lend only to an existing customer who may have already taken a car loan, as the lender has already built up a relationship with the customer and knows the client details.

Also, every bank is not offering such a loan. Only a select few large private sector banks have launched this product. Thus the customer will have to find the right bank which offers such a credit facility.

Interest rate: One of the benefits for the loan taker is that the interest rate on this loan could be far lesser than the other options available in the market. One of the most common loans available, personal loan, has quite a high rate of interest. Even when one goes for a loan against other assets, it is not necessary that the rates would be very low. In that sense, this is an option that will be competitive in terms of rate of interest and, hence, one can consider it. Another point to consider is the loan amount available. Usually, this will be lower at around 60-70 per cent of the car value, and this has to be understood in the context of the depreciating asset value and, thus, the higher risk involved. This needs to be factored in the working for the loan.

Other factors to consider: It is not necessary for an individual to go and take the loan simply because the benefit of car refinance is available.

One should look at it only if there is an emergency need for funds and other options are not readily available. Too much borrowing is not good in terms of the overall financial position of an individual, and hence, this needs to be avoided.

In general, the goal of an individual should be to pay off all the loans as fast as one can, starting with the ones where the rate of interest is the highest so that the interest burden is reduced at the end of the day.

(The writer is a CA and certified financial planner)

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