Using Loans To Your Advantage

A loan is a popular financial instrument that may bridge the gaps in your financial shortcomings. Whether it is to fund your child’s education, buy a home or snag the latest gadget, a loan can help you meet these goals. Various types of customized loans are available to fit your needs. A timely loan provides credit, renders tax benefits and, in some instances, provides a better deployment opportunity for the capital.

Here are some examples of how you can benefit from borrowing money:

  • Leveraging opportunity cost: Most consumer loans today are available at 0% interest cost. Instead of paying upfront for it, you can purchase a new microwave or fancy smartphone through your bank’s debit/ credit card at a no-cost EMI.
  • Debt can be less costly: Banks and financial institutions are constantly jostling for their fair market share and, therefore, the best way to attract customers is to keep borrowing costs competitive. While this may not entirely be within the control of the financial institution, it presents a good opportunity to recover the value through smart investment. In a scenario you need to choose long-term debt, say for a home loan (estimated at 9%), you can reduce the EMI burden by going for a longer tenure at the same cost. Investing the savings on the EMI in a blue-chip or large-cap mutual fund (earning 12% to 14%) will provide superior returns and help you earn over and above the value of borrowing.
  • Tax benefits on education loans: When you take an education loan from a financial institution for higher studies, you can claim tax benefits on the interest paid, under Section 80E of the Income Tax Act. However, the principal amount isn't eligible for tax exemption. You can avail of this tax write-off if you would like to pursue a course after Class 12. You can also claim the tax break on education loans for your spouse, children or any individual for whom you have been appointed as a legal guardian.
  • Tax benefits on home loans: Home loans are likely to fret the lion’s share of your monthly income, but also provide maximum tax benefits, as both the principal and interest amount is eligible for tax breaks.
  • Benefits of car loans: A car is perceived as a luxury item, so if you're a salaried person taking an automobile loan to buy a car, you may not be eligible for benefits. However, as a self-employed individual, you can claim benefits on the interest as well as depreciation while filing income tax returns.
  • Personal loan: A personal loan can be used for almost anything. Some lenders want to know what you will do with the money they lend you, but as long as you’ve borrowed it for a responsible and legal reason, you can do what you wish with it.

Here are five circumstances in which a personal loan could be a good idea:

  • Consolidate credit cards: If you've got one or more credit cards that are charged to the max, you could get a personal loan to consolidate all the charges into one monthly payment. What makes this scenario even more appealing: The rate of interest on the loan could be considerably less than the annual percentage rates (APRs) on your credit cards. The best personal loans for bad credit are more limited in options but are still a stronger bet than payday loans. After this, it's time to take your credit cards very seriously and avoid such instances in the future.
  • Refinance student loans: Refinancing student loans can provide some financial relief. Your student loan rate of interest may be 6.8% or higher, depending on the type of loan you've got. You might be able to get a personal loan with a lower interest rate that enables you to pay off your loan(s) faster. But if you use a personal loan to pay off all or a portion of a student loan, you will lose the ability to deduct your interest payments (when you file your income taxes) along with the benefits that accompany some loans, like forbearance and deferment. And if your balance is sizable, a personal loan probably won’t cover it anyway. Evaluate options carefully before refinancing your student loan.
  • Finance an acquisition: Financing a purchase depends on whether it is a want or a requirement. If you’re going to take out a loan anyway, getting a personal loan and paying the vendor in cash might be a better deal than financing through the vendor or a high-interest credit card. However, it is strictly subject to the comparison of the offers you receive from the vendor. Compare and make the right choice.
  • Against home loan: If you avail of a personal loan as a down payment for your home loan or use the proceeds to renovate your house or even to buy a business asset as a self-employed individual, you can claim a tax deduction of up to ₹200,000 as interest paid on the personal loan under Section 24. 
  • Pay for a wedding: Any large event—such as a wedding—qualifies, if you would end up putting all associated charges on your credit card without having the ability to pay them off within a month. A personal loan for an outsized expense like this might save you a considerable amount on interest charges, provided it has a lower rate than your credit card.

Personal loans can be useful, given the right circumstances. For instance, most people can’t afford to pay for a home, making a mortgage loan a necessity. Make sure to consult with a trustworthy financial institution and weigh your options.

As we saw, a loan can help you save money by being smarter with the usage and taking advantage of tax benefits. However, it is advised that you choose a line of credit only after careful consideration of your repayment capability and only to the extent needed. Taking a loan beyond your repayment capability could adversely affect your credit score, resulting in a potential debt trap.

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