5 Common Mistakes To Avoid While Applying for Personal Loans

Individuals applying for personal loans may make some mistakes during the application process due to their lack of product awareness and/or negligence. Any mistake while making the personal loan application may lead to loan rejection or selection of sub-optimal loans, which may not fulfill their requirement of availing this credit facility.

Common Mistakes To Avoid While Applying for Personal Loans
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Here are the five basic mistakes that prospective applicants seeking personal loans should avoid.

Exceeding the EMI/NMI Ratio

Lenders usually consider the EMI/NMI ratio of their loan applicants to determine their repayment capacity. Lenders use this ratio to calculate an individual’s share of net monthly income (NMI), which will be used to repay his/her existing debts as well as the proposed personal loan’s EMI. Banks and Non-Banking Financial Companies (NBFCs) usually approve loan applications of those having debt obligations, including EMI of their proposed personal loan, limited to 50-55% of their net monthly income. Prospective borrowers surpassing this limit are more likely to face personal loan rejection. Therefore, loan applicants should use the personal loan EMI calculators to know the optimum repayment period for their loan, which keeps their EMI/NMI ratio within the 50-55% limit. Applicants exceeding this limit can choose longer personal loan tenures to reduce their EMI payouts. However, note that selecting longer repayment periods will increase the total interest costs of their personal loans.

Not exploring personal loan offers from multiple lenders

The personal loan interest rates may vary across multiple lenders due to their cost of funds, net interest margins and credit risk assessment processes undertaken by them. Therefore, prospective borrowers should compare the personal loan schemes of multiple lenders before making the final loan application. Such applicants should first approach their existing lender(s) with whom they have deposits and availed loans and/or credit cards. They can then use the personal loan offers from their existing lenders as a benchmark to compare the personal loan schemes offered by other banks or NBFCs.

Several lenders also offer personal loans at preferential interest rates to their existing customers. Furthermore, many lenders also offer pre-approved instant personal loans to those among their existing customers having strong credit profiles. Such pre-approved or pre-qualified personal loans come with swift loan disbursal and minimal/nil documentation. Prospective loan applicants can also visit online financial marketplaces to compare personal loan interest rates and other features offered by other lenders, on the basis of their credit profiles, before zeroing in on a particular loan scheme.

Making Personal Loan Applications with Multiple Lenders within Short Durations

When lenders receive your personal loan application, they fetch your credit report from credit bureaus to determine your creditworthiness. Credit bureaus consider such lender-initiated credit report requests as hard inquiries. These bureaus deduct a few points from the loan applicant’s credit score for every such hard inquiry. Therefore, making multiple hard inquiries within a short time span may reduce your credit score significantly, thereby reducing your chances of availing of personal loans or other credit options in the future. To prevent this, loan applicants should visit online financial marketplaces to compare personal loan schemes offered by multiple lenders before selecting the most suitable offer. Credit report requests raised through online marketplaces are considered soft inquiries, which does not reduce your credit score.

Not Considering Prepayment Charges and Related terms

Lenders offering personal loans can levy additional penalties of up to 5% on the outstanding loan amount for personal loan prepayment or foreclosure. Note that the RBI has barred banks from charging part-prepayment or foreclosure fees on floating interest-rate personal loans. However, no such restrictions are applicable on personal loans availed at fixed interest rates. Some lenders also restrict their existing personal loan borrowers from prepaying their loans before they repay a preset number of EMIs. Therefore, prospective borrowers should compare the prepayment charges related to terms and conditions while comparing personal loan offers.

Not Considering Personal Loan Alternatives

Several loan products like loan against property, loan against securities, gold loans and top-up home loans are secured in nature with no end-usage restrictions. Such loan products can be considered as alternatives to personal loans. Moreover, lenders usually set lower rates of interest for secured loans as compared to personal loan interest rates. For example, existing home loan borrowers can opt for the home loan top-up facility with interest rates usually the same as or slightly higher than their underlying home loans. This makes the top-up home loan facility a more cost-effective alternative for existing home loan borrowers as compared to personal loans.

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