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What determines extent of down payment for loan?

What determines extent of down payment for loan?

If a borrower puts in his own money, he is likely to be less fickle when it comes to repaying the loan.

Be it a loan for home, education or car, banks expect you to pay a certain amount of cash upfront as margin money or down payment before the loan is disbursed. This amount, typically ranging from 5% to 25% of the loan sought or the total amount sanctioned, is the difference between the actual cost of your dream and the amount that the bank is willing to lend. The logic behind a down payment is that if a borrower puts in a portion of his own money to finance a purchase, he is likely to be less fickle when it comes to repaying the loan since defaulting would mean losing hard-earned cash.

But, in the face of growing risk consciousness, banks are demanding higher amounts as margin money. This might seem like bad news for borrowers, but given the inverse relationship between interest rates and down payment, they could end up paying a low rate. On the flip side, a large down payment might make the loan unaffordable. Thankfully, there are ways to bankroll this requirement even if you do not have ready cash.

The first thing to do is understand the factors considered in the calculation of a down payment. When it comes to real estate, the older the property, the higher the down payment. Also, if you don't get the property valued accurately beforehand by experts, you may find that the bank's estimate is lower than yours, which means that you have to fund the entire shortfall yourself. In the case of auto loans, the amount of margin money depends on the vehicle's resale value.

Typically, you'd have to shell out less for an Indica compared to, say, a Ford Fiesta. Similarly, for an education loan, admission to premier institutions like an IIT or IIM is likely to get the down payment halved, if not waived. Alternatively, try to bag a scholarship or some form of financial assistance. This is often included in the margin calculation, so the borrower has to finance a smaller portion. The bottom line—if you choose carefully, you can bring down the margin money component.

If you still can't afford it, consider pledging investments like shares, securities or fixed deposits in lieu of the down payment. Loans against securities promise instant liquidity without having to sell your assets. Based on the value of the securities pledged, the bank will provide an overdraft amount and transfer it to a current account in your name.

Says an HDFC executive: "If you have an insurance policy with an existing high surrender value, you could take a loan against it. The same holds true for an employee provident fund account that is at least five years old." If you can't provide any security, as a last resort, you may consider taking a personal loan to service the down payment. But, remember, this is a very expensive option.

According to the research bureau, "Consider it only if your monthly income is above Rs 10,000 and you have the ability to pay the loan from sources other than those taken into account for the other loan." So a personal loan can be taken by another earning member of the family. If you are falling short by a small amount, your credit card can bail you out, but only if you can repay the entire amount on time.

Published on: May 28, 2009, 4:46 PM IST
Posted by: AtMigration, May 28, 2009, 4:46 PM IST