LoanRaja Blog- Personal Finance Guide

Lenders are often wary of lending to someone who is self-employed, particularly if they are new to it and cannot provide proof of steady income. Personal loans can help a self-employed person to exploit the opportunities even when required finances are not available. In today’s highly competitive personal loan market, banks and financial institutions now encourage self-employed individuals to avail themselves of personal loans. Those eligible are self-employed professionals like doctors, chartered accountants, engineers, MBA consultants, architects, company secretaries. Other self-employed individuals eligible for personal loan are sole proprietors, partners and directors engaged in the business of manufacturing, trading or services.

No uniformity

Generally lenders are more stringent on determining the eligibility and income criteria of a first time self-employed loan seeker. Sales agents will be doing a thorough background check verify the customer’s credentials and repayment capacity. The documentation and processing of application also may be different from that of a salaried individual. The cut-off level of income for being eligible for a personal loan and the maximum loan available for self employed professionals is also different from that of salaried applicants. It may be easier for an existing customer of the bank to get a personal loan as creditworthiness in such cases means a lot to the lender. Some banks have different loan schemes available for different professions.

For example, many banks have special schemes for doctors such as Axis Bank which has a scheme for self-employed doctors who have a MBBS or BDS or higher qualification. Self-employed doctors between the ages of 24 and 65 are eligible for a maximum loan amount of Rs.20 lakh. They need a minimum experience of two years in the profession and annual income must be not less than Rs.2.4 lakh. The same bank has a different eligibility criterion for other self-employed professionals. Maximum loan available for other self employed professionals will be Rs.10 lakh with a minimum annual income requirement of Rs.1 Lakh and three years of continuous work experience.

Documents

The documents banks require from self employed loan applicants are also different. Along with a passport size photograph customer has to submit proof of identity, address and professional qualification. Pan card/ passport copy/ ration card/ Voter ID are accepted. If you are self-employed, you will have to produce a certified balance-sheet and profit and loss account of the past two/three years along with other mandatory documents, such as partnership deed. Bank statements for the previous six months also have to be furnished. Proof of continuity of current profession (IT Returns / Certificate of business continuity issued by the bank) and Proof of office (Lease deed / Utility bill / Municipal Tax receipt / title deed) are the other requirements.

Since profits of self -employed people are irregular in nature it will have an impact on the repaying ability of the borrower. This is the reason many self-employed individuals like traders or mechanics approach NBFCs to meet their requirements for urgent cash even though it is costlier. A personal loan from a bank won’t be suited to small traders who need a short term loan for two-three months as banks offer a minimum loan tenure of 12 months. An NBFC on the other hand will meet his demand as the company provides more flexibility in eligibility and repayment terms. NBFCs who often come to the rescue of customers ignored by banks are keen to get new customers and build up a pool of tested clientele.

Comparative rates

Following is an example of how a public sector bank and an NBFC treat the same amount of personal loan with the same tenure. The amount of personal loan is Rs.25,000 with a two-year tenure:

Note: These rates may have changed, please check current rates at the time of applying

SBI Saral Personal Loan:
Interest rate : 14.5%
EMI : Rs.1,206
Processing fee : 1-2%
Prepayment fee : Nil after 6 months
Total interest : Rs.3,950.

Citi Financials Personal Loan::
Interest rate : 22 %
EMI : Rs.1,297
Processing fee : 2%
Prepayment fee : 4%
Total interest : Rs.6,127.

Competition in the high-yield personal loans market has increased with the entry of multinationals, private banks and Non-Banking Financial Companies (NBFCs). While banks have the advantage of low cost of capital NBFCs are free from many capital related requirements. They compete with banks in easy and fast appraisal and disbursements of loans. A present day borrower looks for more convenience, quick appraisal and decision-making, higher amount of loan and longer tenure. Banks may not offer the flexibility that a personal loan seeker expects.

This is where NBFCs are at an advantage. While they can’t compete with banks on lower interest rates NBFCs are competing very clearly on the service aspects by coming out with new products which offer larger flexibility to the client. Through innovative ways they are penetrating semi-urban and rural centres with limited reach of banks. In urban areas, NBFCs focus on segments usually neglected by banks like non-salaried individuals, traders, transporters, stock brokers, etc. But they have a higher rate of sticky loans.

Rising credit demand

India has a huge market for unsecured credit. Banks alone won’t be in a position to meet the growing demand. Although NBFCs are no replacement for banks they are snatching business from banks in personal loans, mortgage, insurance, car loans, AMC, MF distribution, insurance advisory etc. NBFCs are present where the risk is higher and chances of returns are higher. After facing stiff competition from banks in their traditional business of retail financing they have diversified to tap the opportunities thrown up by a fast growing economy. NBFCs know that the younger generation dreams big and is not averse to borrowing for an improved lifestyle.

Nationalized banks, private sector banks and multinational banks all offer personal loans. It meets a customer’s urgent need for cash and the lender is not bothered about the purpose of the loan. Eligibility norms, documentation and income criteria vary from bank to bank. So are the interest rates and other charges. Interest rate ranges from 12 to 30 per cent with a maximum tenure of 60 months. Customer’s advantage in taking a personal loan from a bank is that it will have well-established procedures and clear-cut norms on eligibility, income calculation and repayment. The cheapest personal loan is available at nationalized banks. The flip side is that processing may take more time than you have bargained for.

NBFCs’ strength

The core strengths of NBFCs lie in their strong customer relationships, good understanding of regional dynamics, service orientation, and ability to reach out to customers who would otherwise have been ignored by banks. Some of the leading NBFC players in the personal loan segment are CitiFinancial Consumer Finance India Ltd.,GE Money, Countrywide Finance and Cholamandalam DBS. Different NBFCs have different rates of interests and other charges. At the time of writing Countrywide Finance offers personal loans at 27 percent interest and 2 pc processing fee with 2 pc prepayment charge. CitiFinancial charges 22 per cent interest and 2 per cent processing fee with 4 percent prepayment charge. Though some players like Citi Financial and Fullerton go through a personal screening of customers, not everyone follows this practice.

In their bid to make a fast buck, NBFCs often hawk expensive loans to low-income groups, without seeking adequate income proof. Two successive defaults would bring the ‘unfriendly’ recovery agent to a customer’s doorstep. NBFCs are not as transparent as nationalized banks on the actual cost of personal loan. Borrowers at the time of sanction of loans may not be fully aware of the terms and conditions of the loans including rate of interest either because the NBFC does not provide details of the same or the borrower has no time look into detailed agreement. RBI directive last year to give a copy of the loan agreement to the borrower listing all the charges may improve the situation.

Comparative rates

Following is an example of how a public sector bank and an NBFC treat the same amount of personal loan with the same tenure. The amount of personal loan is Rs.25,000 with a two-year tenure:

Note: These rates may have changed, please check current rates at the time of applying

SBI Saral Personal Loan:
Interest rate : 14.5%
EMI : Rs.1,206
Processing fee : 1-2%
Prepayment fee : Nil after 6 months
Total interest : Rs.3,950.

Citi Financials Personal Loan::
Interest rate : 22 %
EMI : Rs.1,297
Processing fee : 2%
Prepayment fee : 4%
Total interest : Rs.6,127.