OD Facility

But this is no ordinary loan. There are no EMIs. No post-dated cheques. And no pre-payment charges either.

Print Edition: December 14, 2006


Need cash urgently when all your savings are locked up in blue-chip shares and mutual funds? Don’t fret, there’s help at hand. You can pledge
these investments to a bank and get a loan of up to 50% of their value.

But this is no ordinary loan. There are no EMIs. No post-dated cheques. And no pre-payment charges either. The customer is given an overdraft limit up to 50% of the value of the securities pledged to the bank. He is given an ATM card and a cheque book. The overdraft loan works like a credit card. Only the interest rate is far lower—1% a month compared with up to 2.95% on credit cards. The monthly interest is charged on the amount withdrawn and the customer is billed monthly. Also, there is no fee as in case of cash withdrawals on credit cards.

But use this facility with care. The overdraft limit is against the value of the securities. If that value falls, the limit also comes down. If a
customer’s borrowing has already reached the limit, he has to pay up. Suppose a customer pledges shares worth Rs 1 lakh and withdraws Rs 50,000. Then the markets crash and the value of the shares falls to Rs 80,000. The overdraft limit will then be recalibrated to Rs 40,000. Since his borrowings exceed the limit, he will have to pay Rs 10,000. If he fails to do so, the bank can sell the shares and recover its money.

This is not just a hypothetical scenario. When the markets crashed in May-June this year, to recover their dues, banks sold off the shares pledged to them at very low prices. To avoid such a situation, withdraw not more than 70-80% of your overdraft limit, keeping a 20-30% safety
margin. Also, never invest borrowed money in high-risk avenues.

What happens when you want to sell these securities? Just repay your outstanding loan and write to your bank to release the securities. Within a day, the owner gains fullcontrol over the securities.

Bonds, shares and mutual fund units are not the only things you can pledge to get a loan. Even a car is good enough. Banks zero in on car loan customers with a good repayment record and offer them overdraft facilities against their cars. If the loan is not fully repaid, the bank will pay off the outstanding balance and treat that payment as an outstanding. Here too, if you have been a good customer, expect the bank to reduce the processing fee and interest rate chargeable on the loan.

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