A loan against mutual funds (LAMF) allows you to borrow money by pledging your mutual fund units as collateral, without redeeming them. This way, your investments remain intact while you access quick liquidity for immediate needs. While it’s a convenient option, there are important factors to consider to ensure the loan works in your favour.
Here are the key things to know before applying:
Loan-to-Value (LTV) ratio
The Loan-to-Value ratio determines how much you can borrow against your fund’s Net Asset Value (NAV). Typically, lenders offer 50% to 70% of the NAV, depending on whether the fund is equity- or debt-based. Equity funds usually carry a lower LTV due to market volatility. Knowing your eligible loan amount helps set realistic expectations from the start.- Impact on investment growth
Though your mutual fund units stay invested, they’re marked under lien, restricting you from redeeming or switching them during the loan term. This limits your flexibility and could affect your ability to rebalance or book profits.
Also, if markets dip, the lender may ask for additional collateral to maintain the LTV. Weigh these risks before pledging your units. Interest rates and charges
LAMFs usually have lower interest rates than unsecured loans, but rates vary by lender, fund type, and loan amount. Also watch out for:
Processing or documentation fees
Pledge creation charges
- Foreclosure penalties
4. Loan tenure
Tenures can range from a few months to a few years. Shorter tenures mean faster repayment and lower interest costs, but higher EMIs. Longer tenures ease monthly outgo but increase interest overall.
5. Eligible mutual funds
Not all mutual funds are accepted as collateral. Most lenders prefer liquid, large-cap, or debt funds. Sectoral and small-cap funds may be excluded due to their volatility.
In conclusion, while a loan against mutual funds can provide immediate liquidity, it is crucial to weigh the pros and cons before proceeding. Carefully assess your financial situation, the potential impact on your investments, and your repayment capabilities. Consult with a financial adviser, if necessary, to ensure you make a well-informed decision that aligns with your financial goals.