Overdraft facility against gold cheaper than term loan, say experts

Opt for overdraft facility if you have a recurring need, a term loan if you require a lump sum

Gold loans were a key source of funding for those who found themselves in financial distress during the Covid-19 pandemic. According to the Reserve Bank of India data, the outstanding loan in this category stood at Rs 62,926 crore on August 27, registering a year-on-year growth rate of 66.2 per cent - the fastest among all categories of loans given to individuals.    

It appears that these loans will continue to be popular even in the near future. A recent report from CRISIL says that the assets under management of non-banking financial companies (NBFCs), which primarily offer loans against gold, is expected to rise 18-20 per cent in this financial year. Meanwhile, Punjab National Bank has tried to enhance the attractiveness of its gold loans by reducing the interest rate on loans against jewellery to 7.3 per cent.

Proprietors of small enterprises opt for these loans in a big way.

Says Praveen Kutty, head-retail banking, DCB Bank: “Many proprietors and entrepreneurs need financial help in restarting or expanding their businesses in the run-up to the festival season. Gold loan is a quick way for them to raise and infuse the much-needed working capital into their businesses.”

Quick liquidity  

Gold loans allow borrowers to access money quickly. 

Says V Swaminathan, chief executive officer (CEO), Andromeda and ApnaPaisa: “These loans can be taken without any documentation. The borrower doesn’t even need to show proof of income. Disbursement is almost immediate. It takes more time to avail of a personal loan or a loan against property.”

Borrowers also have the freedom to utilise the money raised through these loans in any manner they desire. No proof of expenditure has to be submitted to the lender.

These loans also offer greater flexible repayment terms. Borrowers can repay through equated monthly instalments or make bullet payments. The latter option is especially useful to those with uncertain incomes who struggle to adhere to a monthly repayment schedule.

These loans are also inexpensive.

According to Adhil Shetty, CEO, BankBazaar, “This is a secured loan and is hence, cheaper than unsecured loans, such as personal loans or credit card debt.”

Another advantage, according to Shetty, is that even borrowers with poor or non-existent credit profiles can access them.

Some banks like DCB allow customers to deposit their gold with the bank and avail of an overdraft facility.

Says Kutty: “When the customer needs money, he can borrow it. He needs to pay interest only on the utilised amount. When his salary or business income increases, he can use a part of it to reduce the outstanding.”

A person can reduce his debt burden considerably by opting for an overdraft facility instead of a loan. “It is very flexible. Few NBFCs provide this facility,” adds Kutty.

You risk losing your gold  

One big downside of these loans is that a borrower who fails to repay ends up losing his gold. Both banks and NBFCs are now allowed to offer loan only up to 75 per cent of the value of the gold pledged.

Says Swaminathan: “In case of default, the borrower ends up losing the additional 25 per cent of gold value.”

The maximum repayment tenure of 24 months in these loans is quite short. It goes up to 60-72 months in personal loans.

Compare lenders on a number of parameters before selecting one: tenure, interest rate, loan-to-value ratio, repayment options, processing fee, and prepayment or foreclosure charges.

Says Shetty: “Go with a regulated lender, such as a bank or NBFC. Banks usually charge a lower rate of interest.”

Avail of the type of loan that suits your needs. If you need a one-time lump sum amount, go for a term loan. But if you need money over a period of time, an overdraft facility would be a better option. The interest cost is lower in the overdraft option since interest is charged only on the amount utilised.