Buying Land: Personal Loan or Loan Against Mutual Fund?

Hi Sir, I’m planning to buy land worth ?14L. Should I opt for a personal loan or Loan against Mutual Fund? I currently have ?25L in debt, ?15L in mutual fund equity, a monthly take-home salary of ?1.65L, and no other loans.

Ans: Your financial profile shows good stability. With a monthly take-home of Rs 1.65L, you can manage debt comfortably. However, your existing Rs 25L debt is significant and needs strategic handling.

Owning mutual funds worth Rs 15L provides flexibility. These funds can be useful for a secured loan. Your Rs 14L land purchase must align with your long-term goals.

Option 1: Personal Loan Assessment
Personal loans are unsecured and processed quickly. However, they have higher interest rates compared to secured loans.

Repayment tenure is flexible but usually shorter. This results in higher EMIs.

Interest costs for personal loans are not tax-deductible. Hence, they don’t provide any tax benefits.

Taking a personal loan increases your overall debt burden further. Assess carefully if this aligns with your income stability.

Option 2: Loan Against Mutual Funds
This is a secured loan where your mutual funds are pledged. Interest rates are lower compared to personal loans.

You can continue earning returns on your mutual funds while they are pledged. This way, the capital remains invested.

Repayment flexibility is an advantage. Borrow only the amount you need, reducing unnecessary interest costs.

The processing is fast, but there could be a margin requirement. This depends on the lender's terms.

Evaluating Between Both Options
Key Advantages of Loan Against Mutual Funds:

Lower interest rates than personal loans.

Allows mutual fund investment continuity.

Flexible repayment options for better cash flow.

Key Limitations of Personal Loans:

Higher interest rates can strain your cash flow.

Shorter repayment period increases EMI amounts.

No parallel financial benefit during the repayment period.

Tax Implications and Loan Choice
If you redeem equity mutual funds, gains above Rs 1.25L are taxed at 12.5%. Short-term capital gains are taxed at 20%.

Loan against mutual funds avoids these taxes. Personal loans, however, won’t trigger tax liabilities.

This makes loans against mutual funds more tax-efficient for your situation.

Cash Flow and Debt Management Insights
Your Rs 25L existing debt is already sizeable. Adding Rs 14L debt increases your financial commitments.

Evaluate your monthly cash flow after loan EMIs. Ensure you have sufficient funds for other expenses.

Avoid over-leveraging to prevent financial stress. This is especially important in volatile economic times.

General Advice on Real Estate
Purchase land only if it supports your lifestyle or goals. Avoid considering real estate as an investment.

Real estate involves liquidity and market value challenges. It lacks the diversification and flexibility mutual funds offer.

Role of a Certified Financial Planner
Engage a Certified Financial Planner to align this decision with your financial goals. They provide personalised advice tailored to your needs.

A planner can help you optimise your mutual funds. They also ensure your debt is manageable within your financial capacity.

Action Steps for Better Financial Decisions
Use your mutual fund portfolio for a secured loan instead of a personal loan.

Plan repayments based on your cash flow and lifestyle requirements.

Avoid redeeming mutual funds unnecessarily to minimise tax liabilities.

Focus on a diversified investment strategy to enhance financial growth.

Finally
Your Rs 14L land purchase is achievable with proper planning. Opting for a loan against mutual funds is more cost-efficient and strategic. It reduces financial strain and aligns with your investment objectives.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in
https://www.youtube.com/@HolisticInvestment

Ans: You are considering buying land worth Rs 50 lakhs. You already have Rs 10 lakhs invested in mutual funds. You are weighing two options:

Sell your mutual funds and use the Rs 10 lakhs for the down payment.
Take a loan for the full Rs 50 lakhs.
This is a significant decision that could impact your financial health. Let’s evaluate both options carefully to determine what would be the most beneficial for you.

The Importance of Preserving Investments
One of the key principles of financial planning is ensuring that long-term investments are not disturbed unless absolutely necessary. Your mutual funds are part of your long-term wealth-building strategy. They are designed to grow over time and help you meet future financial goals like retirement, children’s education, or any other major life events. Selling these investments early can disrupt that growth, and you may lose out on potential returns.

Mutual funds offer compounding growth. By holding on to these investments, you benefit from compounding returns over time.

Selling them now may incur capital gains tax. Depending on how long you’ve held these investments, selling them could lead to a tax liability.

You might be forced to sell at the wrong time. If the markets are down, selling could mean realizing losses or missing out on future gains when the markets recover.

Evaluating the Loan Option
Taking a loan can help you finance your land purchase without touching your long-term investments. Let’s look at the advantages and drawbacks of taking a loan.

Benefits of Taking a Loan
Preserves your mutual fund investments. You allow your investments to grow and compound over the long term, potentially giving you better returns in the future.

You benefit from leverage. If the value of the land appreciates, you can enjoy higher returns while only paying a portion of the total cost upfront.

Flexible repayment options. Home loans and land loans come with flexible repayment terms, allowing you to manage cash flow effectively over a long period.

Tax benefits on loans. If the loan is for residential property, there are tax benefits available on both the principal repayment and the interest paid. Though this may not apply directly to land loans, it’s something to consider if you convert the land into residential property in the future.

Drawbacks of Taking a Loan
Interest costs. Taking a loan will add to your financial burden in terms of interest payments. Over the loan tenure, this could be substantial, especially if you take a high-value loan for a long period.

Monthly EMI commitment. Taking a loan will lead to monthly EMIs, which could affect your cash flow and other financial obligations.

Possible impact on credit score. If there is a delay or difficulty in repayment, it could impact your credit score and future loan eligibility.

Should You Sell Mutual Funds or Proceed With a Loan?
Now, let’s evaluate whether selling mutual funds or taking a loan is the better option.

Reasons to Avoid Selling Mutual Funds
Opportunity cost. Selling mutual funds now means you miss out on the potential growth these investments could provide in the future. Equity mutual funds, in particular, tend to offer better long-term returns compared to real estate.

Lock-in periods and exit loads. Some mutual funds come with lock-in periods or exit loads if redeemed too early. This could result in additional costs if you sell them prematurely.

Market timing. The markets might be down when you decide to sell. This could mean getting less than the actual value of your investments, leading to losses.

Long-term financial goals. Your mutual funds could be part of your long-term financial planning. Selling them now could derail some of your future financial goals, such as retirement or children's education.

When Selling Mutual Funds Might Make Sense
There are some instances where selling mutual funds can be considered:

If the mutual funds are not performing well. If you find that your funds have consistently underperformed or if you’ve already planned to exit them, selling might be justified.

No immediate long-term financial goals. If the Rs 10 lakh in mutual funds is not tied to any specific long-term goal, and you have a stable income source, you may consider selling them.

If the land is for immediate use. If the land is for personal use (like building a house), and you feel that selling mutual funds will allow you to avoid taking on more debt, you might consider it. However, this should only be done after careful consideration of your entire financial situation.

The Right Balance: A Combination of Loan and Mutual Funds
A balanced approach could be the best option. You could partially sell a portion of your mutual funds and also take a loan. This way, you retain most of your long-term investments while reducing the total loan amount.

Advantages of Combining Both Options
Reduced loan amount. By using Rs 5-7 lakhs from your mutual funds, you can reduce the loan amount. This reduces your overall EMI burden and interest costs, making the loan more manageable.

Preserve some investments. By not selling all your mutual funds, you still retain a portion of your investment portfolio, which can continue to grow.

Tax efficiency. If you structure the loan well, especially if it's for residential purposes later, you could still benefit from tax deductions on interest and principal repayment.

Managing Your Cash Flow
If you decide to take a loan, managing your cash flow becomes essential. Here are a few tips to ensure that you can comfortably manage your loan repayments without straining your financial resources:

Allocate a percentage of your income for EMIs. A common rule of thumb is that your EMIs should not exceed 40-45% of your monthly income. This ensures that you have enough left over for other financial goals and expenses.

Create an emergency fund. Before taking on a loan, ensure you have a sufficient emergency fund. This can cover any unforeseen expenses without disrupting your loan repayments.

Reassess other investments. If you have other investments besides mutual funds, such as fixed deposits or gold, you may want to assess whether these can be used to reduce the loan amount.

Consider loan tenure. Choose a loan tenure that balances between manageable EMIs and the total interest cost. A shorter tenure means higher EMIs but lower interest paid over time, while a longer tenure reduces the monthly EMI but increases the overall interest burden.

Real Estate as an Investment
It’s important to remember that real estate should not be viewed purely as an investment. The value of land may appreciate, but it is not guaranteed. Land and real estate are illiquid assets, meaning it may take time to sell when you need cash. Additionally, real estate transactions come with other costs like registration fees, taxes, and maintenance.

Key Considerations for Real Estate Purchases:
Long-term capital appreciation is uncertain. Unlike equity mutual funds, real estate does not always guarantee returns. Property values depend on location, demand, and various market factors.

Illiquidity. Real estate is not as easily liquidated as mutual funds. If you need cash urgently, selling land can be time-consuming and could result in lower than expected returns.

Maintenance and other costs. Owning land comes with additional costs such as property taxes, maintenance, and legal fees.

Benefits of Consulting a Certified Financial Planner
Whenever you are faced with a major financial decision, consulting a Certified Financial Planner (CFP) is invaluable. A CFP helps you see the bigger picture and understand the long-term impacts of your decisions.

Objective advice. A CFP provides advice based on your personal financial situation, ensuring that all your financial goals are considered.

Holistic planning. A CFP looks at all aspects of your finances, from taxes to long-term savings, and provides a plan that works for you.

Regular reviews. Working with a CFP allows you to adjust your plans as your financial situation changes over time.

Final Insights
It’s essential to evaluate your decision from multiple angles. Selling mutual funds should be a last resort unless those funds are already underperforming or unnecessary for future goals. Taking a loan allows you to preserve your investments and could lead to tax benefits if structured correctly.

Keep your long-term goals in mind. Don’t sell long-term investments without assessing the future impact.

Taking a loan can help you preserve your mutual funds, allowing them to continue growing over time.

A balanced approach could involve selling a portion of your mutual funds and taking a smaller loan.

Always maintain a healthy cash flow and ensure that loan EMIs do not exceed what you can comfortably manage.

Lastly, real estate, especially land, should be purchased for personal or functional reasons, not as an investment.

Best Regards,

K. Ramalingam, MBA, CFP,

Chief Financial Planner,

www.holisticinvestment.in
Instagram: https://www.instagram.com/holistic_investment_planners/