Financing your child's study

It is possible for a parent to be part of the bank deal and take on or reduce the cost.

Bhaskar Dutta is troubled. His daughter wants to study management and is willing to take an education loan. “But what if she doesn’t get the right job or wants to become an entrepreneur or just gets married?” asks Dutta. He would rather not burden his daughter with a loan when she is just starting her career.

The solution: Dutta takes the burden on himself. He could start paying off the loan in the moratorium period itself. “Parents can always pay back their child’s education loan without any penalty, on a daily reducing balance method,” said S Govindan, general manager, personal banking, Union Bank of India.

There are riders. “If a parent or a guardian wants to repay his/her child’s education loan, he/she should preferably be a co-applicant,” said an executive from State Bank of India (SBI).

Benefits
Benefits on prepayment are likely— one per cent concession on interest, which will also not be compounded. However, banks do not provide any discount on the principal amount. Assume a student takes an education loan of Rs 4 lakh from State Bank of India at 11.25 per cent for seven years. The equated monthly instalment (EMI) will be Rs 6,901 (Rs 82,820 a year). Over seven years, you will pay a total of Rs 5.79 lakh, of which Rs 1.79 lakh will be the interest.

If the same loan is to be paid back within the course tenure, interest will be payable at 10.25 per cent. The first year interest will be Rs 41,000 (Rs 10,250 per quarter). Anything paid over this amount will be adjusted against the principal. Assume you paid Rs 2 lakh in the first year; your principal will be reduced by Rs 1.59 lakh. Interest payable in the second year will be calculated on the outstanding principal (Rs 2.41 lakh), which is Rs 24,600.

That is, total interest paid = Rs 64,600; saving = Rs 1.15 lakh.

The lower rate of interest and absence of compounding are big positives. There are other options also, such as payment of only interest during the moratorium period. The idea is to reduce the burden as much as possible and, preferably, during the period the student is doing the course. “By Reserve Bank of India guidelines, foreclosure (prepayment) of an education loan should be rewarded,” said S V Parthasarathy, head, consumer finance, IndusInd Bank. Still, bankers say prepayment of an education loan is rare.

Source
If the parent/guardian is not a co-applicant, the bank will ask his/her locus standi. “If the child is the only applicant and is looking to repay the loan before time, it is important to know where the money is coming from,” said an executive from Bank of Baroda. For, the education loan is designed for a student. The moratorium period, the lower rate of interest and other facilities are provided to make repayment easier. The bank does not expect this loan to be repaid before the course is over.

But even if a parent is not a co-applicant, the repayment should come in the name of the child. For instance, the repayment amount can be gifted to the child from the parent. And it can be given on record to the bank that he/she is using the gift to repay the loan liability. Any amount received as gift, lottery, matured life insurance policy, national savings certificate and so on can be used for repayment, as long as the source is disclosed by the applicant (student). “The child needs to show that the money is from his own sources for the no-prepayment penalty,” said the executive from Bank of Baroda.

Not all banks reward prepayment, but some do. Also, banks allow foreclosure of the education loan without charging a penalty if the borrower repays from his/her own sources. But, in case you want to transfer the loan to some other bank, you may be levied a foreclosure charge (up to two per cent) on the outstanding loan amount.

Though you can claim a deduction for interest repayment on an education loan under Section 80E of the Income Tax Act, the earlier you get rid of a liability, the better.