Mutual funds are usually seen as long-term investments meant for wealth creation. But many investors don’t realize that these investments can also be used to raise money without selling them. A loan against mutual funds allows you to borrow funds by pledging your mutual fund units as security, while your investments remain intact.
This option is gaining popularity among investors who need short-term liquidity but do not want to disturb their long-term investment plans. Like any financial product, it comes with clear benefits and certain limitations. Understanding both sides helps you decide whether it fits your situation.
What Is a Loan Against Mutual Funds?
A loan against mutual funds is a secured loan where you pledge your mutual fund units to a bank or financial institution. The lender provides a loan based on a percentage of the value of those units. You continue to remain the owner of the mutual funds, but they are marked as lien in favor of the lender until the loan is repaid.
Both equity and debt mutual funds can be used, though loan terms vary depending on the fund type.
How Does It Work?
The lender evaluates the current value of your mutual fund holdings. Based on this value, a loan amount is sanctioned—usually a lower percentage for equity funds and a higher one for debt funds due to risk differences.
Interest is charged only on the amount used. Once the loan is repaid, the lien on the mutual fund units is removed, and you regain full control.
Key Features of Loan Against Mutual Funds
- Secured loan backed by mutual fund units
- Lower interest rates compared to unsecured loans
- No need to sell investments
- Flexible usage of funds
- Short to medium-term loan option
Advantages of Loan Against Mutual Funds
1. No Need to Sell Investments
The biggest advantage is that you don’t have to redeem your mutual fund units. This helps you stay invested and benefit from long-term market growth.
2. Lower Interest Rates
Since the loan is secured, interest rates are generally lower than personal loans or credit card borrowing.
3. Quick Access to Funds
Approval and disbursal are usually fast, especially if the mutual funds are already held with a recognized platform.
4. Flexible End Use
The loan amount can be used for personal needs, business expenses, emergencies, or short-term funding gaps.
5. Interest on Utilized Amount Only
In many cases, interest is charged only on the amount actually used, not the entire sanctioned limit.
6. Credit Score Friendly
If repayments are made on time, this loan has minimal negative impact on your credit profile.
Disadvantages of Loan Against Mutual Funds
1. Market Risk
If the value of your mutual funds falls sharply, the lender may ask for additional margin or partial repayment.
2. Limited Loan Amount
You cannot borrow the full value of your investments. The loan amount is capped at a percentage of the fund value.
3. Lien Restriction
While the loan is active, you cannot sell or switch the pledged mutual fund units.
4. Not Ideal for Long-Term Borrowing
This loan works best for short-term needs. Using it for long-term expenses can be risky due to market fluctuations.
5. Margin Call Risk
A sudden market downturn can trigger margin calls, requiring quick action to avoid forced liquidation.
Loan Against Mutual Funds vs Selling Mutual Funds
Selling mutual funds gives immediate liquidity but ends your investment journey and may trigger capital gains tax.
A loan against mutual funds provides liquidity without disturbing your portfolio and helps avoid tax liability, provided the loan is managed properly.
When Is a Loan Against Mutual Funds a Good Option?
This loan is suitable when:
- You need short-term funds
- You want to avoid selling long-term investments
- You are confident about repayment
- Market conditions are stable
It is less suitable during highly volatile market phases or for long-term borrowing.
Things to Consider Before Taking This Loan
- Check loan-to-value ratio
- Understand margin call conditions
- Compare interest rates and charges
- Ensure stable repayment capacity
- Avoid pledging your entire portfolio
Careful planning reduces risk.
Conclusion
A loan against mutual funds is a smart liquidity option for investors who want access to funds without breaking their long-term investment strategy. It offers lower interest rates, quick access, and flexibility, making it a useful alternative to unsecured loans.
However, it is not risk-free. Market volatility, margin calls, and lien restrictions must be understood clearly. When used for short-term needs and managed responsibly, a loan against mutual funds can be a powerful financial tool. When used carelessly or for long-term borrowing, it can create unnecessary pressure. As with any loan, the key lies in matching the product to the purpose and repayment ability.
