Chartered accountant Harsh Vardhan Roongta has over 21 years of experience in financial services, consultancy and personal finance matters. He will write a column every month that will tell you how you can be a shrewd and wise borrower.
Almost every one of you must have received calls on your cell phone offering a free credit card or a 'no questions asked' personal loan.
Apart from the issues of invasion of privacy (which has been only partially addressed by the Reserve Bank of India), the other question that arises is whether you should actually borrow on a credit card or a personal loan.
The days of the Bard's dictum that 'neither a borrower nor a lender be' have long since passed. Even the best financial planners recommend the responsible use of credit as a legitimate financial planning tool.
The catch lies in the words 'responsible use'.
What the responsible use of credit in the context of an individual would vary based on his circumstances. However, some broad guidelines are applicable in most circumstances.
Most financial planners recommend the concept of 'good debt' and 'bad debt'.
Broadly speaking, good debt is used to create productive and long-term assets or for increasing one's income generating capability. Based on this simple definition, loans such as education loans, loans taken to acquire/construct a house/property, or loans taken for buying tools and/or setting up trade or professional infrastructure or for working capital in a business would be classified as good debt.
In a country like India, with its poor public transport infrastructure, even a car loan would, in my opinion, classify as good debt.
Also, credit to meet unforeseen emergencies such as medical/natural catastrophes, etc, would, in any case, classify as good debt. Ideally, though, a good financial plan should provide for insurance as well as access to some amount of liquid funds (money you can readily access) for such events, rather than depending on credit to meet the needs arising from such events.
Even good debt remains 'good' only as long as it comes at a reasonable rate and on fair terms and conditions.
For each loan category, there would be a tipping point beyond which the loan no longer remains a 'good debt'. Again, the tipping point would be different for different categories of loans, and for different individuals, depending on their circumstances.
If one were to lay down a pecking order from 'good debt' to 'bad debt', it would look something like this for most individuals:
~ Education loans
~Home loans
~Business loans, whether secured or unsecured
~Unsecured loans to fund consumption items
~Borrowings on credit card
What about people who have already taken on 'bad debt'?
It is possible for them to move from a situation of 'bad debt' to relatively 'good debt' by moving up the pecking order. For instance, most people who revolve balances on their credit card statements month after month (pay only the minimum amount and carry forward the rest) don't know it is relatively simple to obtain a unsecured personal loan if you have maintained a good track record of meeting the minimum payment requirements on time for about six months. The latter will be at least 10% per annum cheaper (that's right I said 10% per annum) than the interest they pay on their credit card.
But, at 14% to 21%, even personal loans are relatively more expensive as compared to secured loans (whether against property or any other financial asset).
Hence, if you have a house (even one on which a loan already exists), you can definitely explore the opportunity of getting a relatively 'good debt' by pledging the value of the house and utilising the loan for paying off a higher cost loan.
For such cases, you can also explore the possibility of raising a loan against your securities and/or the surrender value on your life insurance policies.
Of course, all these corrective measures will work only if you do not take on fresh 'bad debt' later.
Best of luck with improving your financial health.
Harsh Vardhan Roongta is the co-founder and director of Apnaloan.com, an online neutral marketplace for loans and credit cards.
