One knows that money is always in short supply. No matter how much one earns money is never enough. There comes a time when one has to seek a loan in order to fulfill ones emergency needs or even personal consumption needs. One looks at a wide variety of ways to procure the amounts and loan against shares is one of the popular routes used. Equity Shares serve in two ways. They not only appreciate in a bull market but also can be pledged to raise a secured loan.
What is meant by a loan against shares -loan against security?
A loan against shares is basically borrowing funds from the bank whereby which the owner of shares pledges these shares as a security against the funds obtained .This type of a loan is called a secured loan. These shares are merely pledged and not sold and the borrower continues to enjoy the shareholder benefits of these shares such as rights, bonuses and dividends. An overdraft facility is also available against the pledged shares and depends on the value of shares pledged. A current account is opened in the name of the borrower along with facilities such as an ATM card, personalized cheque book, mobile and internet banking .Interest is charged only on the amount borrowed from this account and the time of utilization. The interest rates charged are lesser than that of a personal loan.
What is the eligibility criteria to procure a loan against shares -loan against security?
- One has to be within the age group of 18-65 years in order to avail of a loan against shares.
- The tenure of these loans is generally a year but can be extended and taken up for renewal if required.
- A minimum amount of INR 1 lakh and a maximum amount of INR 10 Lakhs can be availed for physical shares and INR 20 Lakhs for demat shares.
- Banks do not lend against any shares pledged. Only those shares which are on the banks list can be pledged .Each bank has its own list and this is modified periodically. The shares need to be fully paid up.
- An identity proof and a residence proof , income proof such as a salary slip , recent bank statements of 6 months, pan card ,cancelled cheque and a holding statement from the depository participant.
- The interest rates on these loans are in the range of 12-18% per annum and are cheaper than a personal loan.
- The RBI allows banks to lend up to 50% of the value of physical shares and 75% of the value of demat shares. Around 65% of the shares pledged are available as an overdraft in case of demat shares and 50% in case of physical shares.
- Shares held in the names of HUF, minors, Companies and NRI’s cannot be pledged. Only individuals are eligible.
- The Directors or Promoters of a Company cannot pledge shares of their respective Companies.
- The borrower needs to pledge his shares by filling a pledge request form with the details of the shares and these need to be submitted to the bank.
- A loan processing fee of 1-2% is charged against the loan amount sanctioned. There are no pre payment charges for these kinds of loans.
- One can pledge a single select script against a higher margin and a maximum of 20 scripts can generally be pledged at a time. Certain banks specify no upper limits.
- If the value of the shares falls or the credit limit falls short additional shares need to be pledged or cash must be paid.
- One can also pledge the shares of a spouse, parents, brother, in laws and children above 18 years of age.
- Physical shares are acceptable only as marketable lots.
What are the salient features of taking a loan against shares -loan against security?
- The shares in one’s portfolio serve as a ready means of liquidity and are essentially hassle free. These kinds of loans can be sanctioned in a single day or a week and depends on the value of shares in one’s portfolio.
- These loans are available for house hold expenses, marriage, higher studies, personal expenses as well as to purchase property.
- These kind of loans do not have prepayment charges as well as possess an overdraft facility.
- Shares are valued on a weekly basis in order to assess its value .As long as the market is bullish there is no problem taking a loan against shares.
- It is generally advisable to pledge shares in the demat form.
- The shares generally considered by the banks are very liquid and of reputed Companies. The amount of loan obtained depends on the margins set by the bank and the borrowers past credit history determined by his Cibil scores.
- No guarantor is required for these types of loans.
What are the disadvantages of taking a loan against shares -loan against security?
- These loans have various charges such as processing fees, renewal charges, government charges, service tax and in some cases a one time fee. A strict eye needs to be maintained on these charges .In some cases these charges can be more than the interest rate charged.
- If the value of the pledged shares goes down then the bank asks the borrower to make up the difference by pledging more shares or in some cases by paying cash. If the borrower is not able to meet these demands then the bank will sell the shares to recover the loan amounts.
- Many borrowers follow the policy of pledging their shares and taking a loan against them. They then reinvest this money in the share market with the intention of making a huge profit anticipating a bull run. If the market is in a bearish condition the losses are huge. This method is a strict no. Moreover many banks follow a strict policy of not lending against shares to those who indulge in these methods.
- Always borrow only to the extent which is deemed repayable .If the markets were to fall additional shares would need to be pledged. This could lead to a debt trap. One should opt for this method only if he is sure of his repayment capacity otherwise it is best to seek other loan avenues.
- The quantum of loan procured is lesser than a loan taken against Government securities against which 80% of the value can be borrowed as these are considered risk free assets.
I would like to end this article stating that among the secured loans a loan against shares is still a viable and good option especially if one can return the borrowed amounts in a relatively short span of time. Otherwise a loan against a fixed deposit or even a loan against Government securities is an option. This kind of borrowing is a strict no if one suspects his repaying capacity.