Investing in mutual funds is a popular way to grow one’s wealth over time. However, there are various reasons why people might choose to redeem their mutual fund investments.
Additionally, individuals might require funds for urgent financial needs without disturbing their investment plans. In such cases, availing loans against mutual funds can be a viable solution. In this comprehensive guide, we will delve into the common reasons for redeeming mutual funds and explore how individuals can avail of loans against their mutual fund holdings.
Reasons for Redeeming Mutual Funds
Financial Goals
Many investors redeem mutual funds to achieve specific financial goals, such as buying a house, funding education, or starting a business. When the investment horizon aligns with the goal’s timeline, redeeming the funds becomes a means to realize those aspirations.
Emergency Expenses
Unexpected financial emergencies, like medical emergencies or repairs, may arise when there is no other source of funds available. In such situations, individuals may choose to redeem their mutual funds for immediate cash.
Rebalancing Portfolio
As financial goals change or investment strategies evolve, investors may choose to rebalance their portfolio. Redeeming a portion of mutual funds might be necessary to reallocate funds to other investment options.
Profit Booking
Investors may redeem mutual funds to book profits after witnessing substantial gains in the market. Profit booking allows them to lock in their earnings and secure their investment gains.
Risk Aversion
During periods of market uncertainty or economic downturns, risk-averse investors might choose to redeem their mutual funds to safeguard their capital from potential losses.
Switching Funds
Investors may decide to switch from one mutual fund scheme to another that better aligns with their financial objectives or offers superior returns.
Liquidity Needs
In certain situations, individuals may face immediate liquidity needs due to unplanned expenses or unexpected life events, leading them to redeem their mutual funds.
While redeeming mutual funds can address short-term financial requirements, it’s essential to carefully evaluate the impact on long-term financial goals and consider alternative options.
Availing Loans Against Mutual Funds
Instead of redeeming mutual funds and losing potential future returns, investors can leverage the facility of availing loans against their mutual fund holdings. This option allows individuals to access funds quickly while keeping their investments intact. Here’s how it works:
Loan-to-Value (LTV) Ratio
Financial institutions, including banks and non-banking financial companies (NBFCs), offer loans against mutual funds with an LTV ratio. The LTV ratio determines the loan amount an investor can avail against the value of their mutual fund holdings. Typically, it ranges from 50% to 80% of the mutual fund’s net asset value (NAV).
Eligible Mutual Funds
Not all mutual funds are eligible for availing loans. Generally, lenders prefer liquid mutual funds or debt funds with a stable track record. Certain equity funds may also be eligible, depending on the lender’s policy.
Loan Tenure and Interest Rate
The loan tenure and interest rate on loans against mutual funds may vary among lenders. The interest rate is typically lower than unsecured personal loans since the mutual fund holdings act as collateral.
Loan Repayment
Loan repayment options vary based on the lender’s policies. Typically, borrowers have the flexibility to repay the loan in EMIs (Equated Monthly Installments) or choose to repay the principal and interest amount at the end of the loan tenure.
Prepayment and Closure
Borrowers have the option to prepay the loan before the tenure ends, subject to the lender’s terms and conditions. Additionally, loans against mutual funds can be closed by redeeming the mutual fund units and settling the outstanding loan amount.
Benefits of Availing Loans Against Mutual Funds
Retain Investment Benefits
By availing loans against mutual funds, investors can continue to benefit from potential investment growth, dividends, and capital appreciation on their holdings.
Lower Interest Rates
Loans against mutual funds generally have lower interest rates compared to unsecured loans, reducing the overall cost of borrowing.
Quick and Convenient Access to Funds
The loan approval process is often faster and more straightforward, providing borrowers with quick access to funds during emergencies.
No Need to Liquidate Investments
Borrowers can avoid the need to liquidate their mutual fund holdings, preserving their long-term investment strategy and avoiding potential capital gains tax implications.
Enhanced Financial Flexibility
Availing loans against mutual funds offers borrowers the flexibility to meet urgent financial needs without disrupting their existing investment plans.
Conclusion
Understanding why people redeem mutual funds and exploring the option of availing loans against mutual funds is crucial for investors seeking financial flexibility.
While redeeming mutual funds might address immediate financial needs, availing loans against mutual funds allows individuals to access funds quickly while retaining their long-term investment benefits. Investors should carefully evaluate their financial goals and risk tolerance before making any financial decision, and seeking professional advice is always recommended for personalized guidance.