Loan Against Mutual Funds: How It Works, Types, and How to Apply

Financial emergencies can arise unexpectedly, requiring quick access to funds. While traditional loans often involve extensive paperwork and long approval processes, one innovative option gaining traction is a loan against mutual funds. This financing solution allows individuals to leverage their mutual fund investments without liquidating them, ensuring they retain their portfolio growth potential. In this blog, we’ll explore how loans against mutual funds work, their types, benefits, and the step-by-step process to apply for one.

What Is a Loan Against Mutual Funds?

A loan against mutual funds is a secured loan where you pledge your mutual fund units as collateral to obtain a loan. Instead of selling your investments during financial crunches, you can use them as security and borrow a certain percentage of their value.

This option is particularly beneficial for investors who wish to maintain their investment portfolio while addressing immediate cash requirements. The interest rates for loans against mutual funds are typically lower than personal loans or credit card debt, making them a cost-effective financing option.

How Does a Loan Against Mutual Funds Work?

Here’s a step-by-step explanation of how a loan against mutual funds operates:

1. Pledging Mutual Funds as Collateral

The borrower pledges their mutual fund units to the lender (usually a bank or financial institution) in exchange for the loan. These units are marked as liened, meaning they cannot be sold or redeemed until the loan is repaid.

2. Loan Amount Eligibility

The loan amount depends on the type and value of mutual funds pledged. Equity mutual funds typically have a loan-to-value (LTV) ratio of around 50%, while debt mutual funds can have an LTV of up to 80%.

3. Interest Rates

Since the loan is secured, the interest rates are generally lower than unsecured loans. Rates may vary based on the lender and the risk associated with the pledged mutual funds.

4. Repayment Flexibility

Borrowers can repay the loan as per the terms agreed upon with the lender. Some lenders offer overdraft facilities, allowing you to pay interest only on the amount used.

5. Continued Portfolio Growth

The pledged mutual funds remain invested, enabling borrowers to benefit from any appreciation in their value during the loan tenure.

Loan Against Mutual Funds as Overdraft Facility

A Loan Against Mutual Funds is sanctioned as an overdraft facility. In this arrangement, the lender provides an overdraft account with a limit determined by the value of the pledged mutual funds. Borrowers can withdraw funds as needed and pay interest only on the amount utilized.

Benefits of a Loan Against Mutual Funds

1. No Need to Sell Investments

A loan against mutual funds allows you to address financial needs without liquidating your investments. This ensures that your portfolio continues to grow and earn returns.

2. Lower Interest Rates

Compared to personal loans or credit card debt, loans against mutual funds offer more competitive interest rates, reducing the overall cost of borrowing.

3. Quick Disbursement

Since the loan is secured, lenders usually process and disburse the loan amount faster, making it an excellent choice for urgent financial requirements.

4. Flexible Repayment Options

Many lenders offer flexible repayment options, including overdraft facilities and EMIs, enabling borrowers to manage their finances more effectively.

5. Credit Score Impact

Availing a loan against mutual funds does not immediately impact your credit score, as it is a secured loan. However, timely repayments can help build or maintain a positive credit history.

6. Diversified Use of Funds

You can use it for medical emergencies, business needs, education expenses, or even a vacation.

Loan Against Shares vs. Loan Against Mutual Funds

While loans against mutual funds and loans against shares are similar in concept, they differ in terms of collateral and risk. Here’s a quick comparison:

Feature	Loan Against Shares	Loan Against Mutual Funds
Collateral	Equity shares	Mutual fund units
Loan-to-Value Ratio	Around 50%	50%-80% (depending on fund type)
Market Volatility Impact	Higher (due to share price fluctuations)	Lower (relatively stable NAV)
Portfolio Continuity	Continues to grow	Continues to grow

Both options are suitable for individuals looking to leverage their investments, but loans against mutual funds are often preferred due to their relatively stable nature and higher LTV for debt funds.

How to Apply for a Loan Against Mutual Funds

Applying for a loan against mutual funds is a straightforward process. Here’s a step-by-step guide:

1. Check Eligibility

• Ensure you have mutual fund investments in your name.
• Check the list of eligible mutual funds accepted by the lender.
• Verify if your mutual funds are held in Demat form, as most lenders require this format.

2. Select a Lender

• Compare lenders based on interest rates, LTV ratios, processing fees, and repayment options.
• Choose a bank or financial institution that aligns with your requirements.

3. Submit the Application

Via Internet Banking:

1. Log in and navigate to Cards & Loans > Loans > Loan Against Mutual Funds.
2. Select the Mutual Fund type for lien marking.
3. Provide FATCA* details and additional information.
4. Calculate the loan amount and access funds via your Overdraft Account.

Via iMobile App:

1. Log in and go to Pre-approved Loans/Offers > Loan Against Mutual Funds.
2. Select the Mutual Fund type for lien marking.
3. Provide FATCA* details and additional information.
4. Calculate the loan amount and access funds via your Overdraft Account.

4. Lien Creation

• Once your application is approved, the lender will mark a lien on the pledged mutual fund units.
• This lien restricts you from redeeming or selling the units until the loan is repaid.

5. Loan Disbursement

• After the lien is created, the loan amount is disbursed to your new overdraft account.
• You can now use the funds as needed.

6. Repay the Loan

• Make repayments as per the agreed terms.
• Once the loan is fully repaid, the lien on the mutual fund units is lifted, restoring your full ownership.

Factors to Consider Before Availing a Loan Against Mutual Funds

1. Loan-to-Value Ratio

Understand the LTV ratio offered by the lender and how it impacts the loan amount.

2. Interest Rates and Fees

Compare interest rates and processing fees across lenders to find the most cost-effective option.

3. Risk of Market Volatility

While mutual funds generally continue to grow, a market downturn can affect their value, potentially reducing your borrowing limit.

4. Repayment Terms

Ensure you’re comfortable with the repayment schedule, whether it’s EMI-based or an overdraft facility.

5. Tax Implications

Consult a financial advisor to understand any tax benefits or implications associated with the loan.