An Overdraft Option

Where can you get a cheap loan with flexible disbursement and repayment schedules? If something like that existed, it would be as perfect a loan as you could conceive. The reality is, such a product does exist. It is what we call an ‘overdraft/loan against securities’. If you want periodic liquidity for some reason such as a cash flow mismatch or for a contingency then... it may be prudent to borrow against the securities.

A secured overdraft 

This is effectively a type of secured loan extended against a financial security. Rather than give a loan of a specified amount, it sanctions a credit line in your current account, through which you can withdraw the money according to your need and up to the approved limit. And you pay interest only on the amount you withdraw. Such a facility is efficient too in that it lets your assets earn their returns without disruption.

The overdraft facility provides customers the flexibility to structure their interest payments and repay their outstanding debt in parts based on their cash flows. Further, the repaid amount is again available as a credit line, which can be drawn down if the need arises. A lot of savvy customers utilize this facility as it is the cheapest and very flexible.

Securities you can pledge

 Dematerialized Shares ,  Mutual Funds,  Fixed Maturity Plans (FMP), Exchange Traded Funds (ETF) , Insurance Policies  ,Bonds, NSC / KVP etc

Costs Involved

Since a security reduces the risk for the lender, it can price this credit line at a lower rate than an unsecured loan.

While an overdraft facility may appear to be more expensive than a term loan, the flexibility of repayment when there is liquidity and, thus, the capability to reduce interest rates, is a huge benefit. Since you will have to pay the comparable processing fees for both lines of credit, we cannot say that overdraft is a more expensive product than a term loan. In a term loan, the interest liability is uniform on the loan amount sanctioned while in overdraft one pays interest based on his utilization.

Another benefit is that an overdraft facility can be foreclosed without any penalty, while you could have to pay 2-4 per cent of the outstanding principal as penalty when you foreclose a term loan.


Processing Time

Before issuing the credit line, banks have to establish a right over the asset through a mortgage-creation or lien-marking process. With improvements in technology and processing, across both the stock market and the mutual fund platform, processing normally takes a couple of days. The time taken is essentially in establishing contact with the depository participant and mutual fund registrar as we need the confirmation that we have an effective lien in our favour. For shares, you need to contact your depository participant and instruct them to mark a lien in the bank’s favour.

Conclusion
 

So, if you just need the money to tide over some swings in your cash flow, why liquidate your assets? Keep it simple and cheap and just go for an overdraft instead.