Education Loan 101: All you need to know

Published: November 12, 2020 at 7:54 pm

Last Updated on November 12, 2020 at 7:54 pm

Taking a student loan is a difficult decision. At the same time, the most common question that students ask us if they should take the leap or not. Several aspects should be considered. Here is a summary of FAQs (please note, this applies to Indian students taking loans for domestic education) that should help you on your journey

About the author: Ayushi Mona is a Marketing and Communications professional. She is also the chief of the community at Broke Bibliophiles, one of India’s largest reader collectives and runs a podcast on literature called ‘India Booked’.

Should you take a loan to fund your education?  Yes. Education is an asset, and investing in yourself pays off the highest ROI. Moreover, some dreams can only be achieved by way of a funded education (becoming a doctor or a pilot). Unless you want to own/run a business — professional education can open a lot of doors for you in the pursuit of what you want to do. However, before taking a student loan, there are things you should consider:

  1. Can the change in you want in your career/education path be done without taking a loan? For instance, if you already work in servicing in an advertising agency, a switch to a brand role is a matter of knowing the right people and jumping a job (or two). Good luck, if you are an engineer who wants to work at a top tier bank in a treasury role without a good MBA/CFA/FRM sort of background (not impossible but the probabilities stack against you).
  2. What is the level of personal financial risk that you may incur in case your plans don’t work out? If you are unemployed post the education period, does that mean your parents compromise on their retirement savings? Unfortunately, it is people who have the greatest risk of financial compromise who need the loan the most. If that is you, don’t hesitate or have false fears when it comes to fulfilling your objective.

No bank can deny education loans on the basis of income of Parents. The Education Loan is given to a student on the basis of his/her academic record (Minimum 60%) and the future prospects (Placement, Package and Industry Trend) of the course in which he/she is getting enrolled.

My personal opinion is that you can get an education loan but not a retirement loan hence if you are in your 20’s, do not depend on your parents to support you financially — but take up financial responsibility on your own. Many parents are inclined to support or bail their children out partially, but most middle and upper-class children pay off their loans quite conveniently over a period of time. If you have money to spare or burn, use it for something else or let it compound in your retirement fund.

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  1. What is the objective for the loan? For many people, loans are a way to not financially burden the family even if the fees can be paid from the savings.
  2. ROI — This can be misleading. Looking at the immediate ROI or Return of Investment on your student loan in terms of a pay off may lead to good quantitative and bad qualitative decisions.
  3. Where should you take a loan from?

Most top institutions have affiliations with certain banks as well as customised lending programs for the institution. E.g., ISB and a certain bank may offer you a two-year loan mortarium when it comes to repayment, and another may offer you six months. Institutions have banks either on the premises or a close branch affiliation, likely with a Branch Manager who’s been doing this year on year for decades. Largely, everywhere, getting an education loan is a smooth experience. It is low risk for banks (parents are generally co-borrowers; students have their entire life for repaying and education mostly never diminishes earning capacity).

Check for the best combination:

  1. The credibility of the bank
  2. The specific scheme — SBI Scholar, Canara Vidya Turant
  3. Relationship with your institution — friendly branch manager on your campus with a bank where you don’t have an account > clueless dude back home in your parent’s bank.
  4. Alumni feedback (especially if the amount is large)
  5. What are some of the things/terms that you should keep in mind?
  6. Loan amount — What is the amount that you are taking the loan for? The full fees or partial amount? In many cases, the cost for laptop/educational materials may be covered. So before blindly putting the amount, evaluate this. Any mid-term escalation fees have to be covered by the student, for instance as per most loan brochures. Similarly, stipends/scholarships can be expected to be credited to the loan account, so be careful of the fine print.
  7. Sanctioned amount — This is the amount that the bank gives you (for instance your MBBS fees may be 30 lakhs, but the bank will be willing to sanction only 21 lakhs).
  8. Margin Money — This is the amount that the bank expects you to give as part of the sanctioned amount (equivalent to a downpayment). For instance, 10% margin money on your sanctioned amount is what you would need to pay for your share.
  9. Rate of Interest — ROI is usually based on the tier of institutions, and for all tier I institutes it’s MCLR based. MCLR is the Marginal Cost of Funds Based Lending Rate — refers to the minimum interest rate below which financial institutions can’t lend. MCLR is subject to changes as per RBI regulations and as per your personal financial situation as well.

If you borrowed on or before March 31, 2016, your loan would still be linked to the old system of the base rate. However, you can switch from base rate to MCLR at mutually agreed terms between you and the bank. The bank can charge you a fee for the switch.

If you are taking a loan now, this should not concern you. Here is a snapshot of the current interest rates below:

  1. Amortization or repayment period:

Use one of these calculators (ignore the USD) and put in all the inputs from your loan brochure to evaluate the repayment period. The typical repayment period is 10–15 years for education loans. Still, there are no foreclosure or pre-payment charges on education loans so always a good idea to not wait out the entire period. or

  1. Collateral Security:

In high-risk cases such as a lower-tiered institution, you may be asked for collateral (FD, PPF account, property, gold). Still, mostly education loan schemes come without any collateral security that needs to be pledged for taking the loan.

In case, the property needs to be mortgaged — general insurance needs to be taken on the same. Property legal verification and valuation fee need to be paid. Though banks may claim no processing fee, all this accounts close to 2–2.5% of the loan amount.

As per RBI guidelines to banks, education loans up to Rs. 10 Lac and Rs.20 Lac for studies abroad can be granted to all eligible students. No collateral security/ third party guarantee is required for loans up to Rs.4 Lac. In loans above Rs. 7.5 Lac, banks can obtain collateral security.

  1. Documentation and charges:

You would require a bunch of documents (PAN, Aadhar, address proofs, photographs, admission acceptance letter from college, income details etc.). This may vary mildly from bank to bank, and it’s a good idea to ask upfront for the extent of paperwork.

Apart from the primary lending form, banks may also debit a small amount from your savings account as processing fees for the work they did. There are also penal charges for defaulting on EMI payments.

  1. CIBIL Score

This is tricky. I had a credit card with timely payments hence a positive credit history at the time of lending. However, many students may not have a CIBIL score. Banks may check this for your parents or co-borrowers but cannot stop you from availing an education loan if you don’t have the same.

(Please note if you are not able to pay off your loan due to financial issues and your bank negotiates and waives off interest under extraneous circumstances or changes your settlement — this is known as an OTS or One Time Settlement and will remain as a negative thing in your credit history forever so don’t run to waive off your interest if a bank offers a restructuring during a financial crisis).

Pro-tip: Check your CIBIL score once after paying off your loan.

  1. Can you fund a course from two banks/NBFCs?

Yes as long as the loan brochure or terms of the agreement don’t contradict it. This is a reasonable use case for when your primary bank won’t lend you the full amount.

Be careful with a loan transfer case though, just because you may want to transfer your loan to a bank with a lower interest rate, you may have to go through multiple rounds of paperwork.

  1. What is a mortarium period?

It is the period when interest is charged, but you may not pay for some time. For instance, while you are completing your education and an added period that may vary from 6–24 months. In the case of Education loan, the in-between payment of interest (during course completion) and in the period between course completion and moratorium closure is optional.

One may pay it to keep final interest outgo low or pay only after completion.

The choice is yours.

In many cases during the mortarium, you are charged simple interest, that switches to compound interest, once you start repaying. Be careful of the time you start paying back!

Repayment during the study period is not mandatory, and I have seen ridiculous cases of parents paying interests during the education period. Not needed, the primary borrower/student can pay it back when they pay back the remaining interest and principal.

Paying off your loan in the mortarium period, especially when still in college is like reaching the airport 24 hours before your flight.

Note: Accumulated interest during education period and recurring interest post repayment are both applicable for interest deduction under 80E.

In education loan, during the college education, the interest accrues, and EMIs start post-education +6months or employment date. Use this period to create an RD/FD which you can use for a bulk settlement so that your monthly interest payment gets reduced right upfront.

  1. My bank can’t find my collateral documents. Help!

In case your bank misplaces customer documents. Per RBI regulations, they have to give newspaper advertising stating papers are lost by them, plus a letter from Lawyer stating the property is yours and has clear title and duplicate paper from Court. Also, you can take a letter from the bank that the property has a clear title and they will go loan to the borrows without chain papers. But for the love of God, keep your originals to yourself and take pictures and make photocopies for everything!

  1. What are the things to keep in mind about taxation?

There is no tax benefit for the principal part of the EMI. Only claim deductions for the interest you pay. You can only claim as an individual (i.e. you / your relatives/ your co-borrowers) and not as a Hindu Undivided Family or partnership or any other form of legal structuring.

There is no limit on the maximum amount that is allowed as deduction. You, however, need to obtain a certificate from your Bank. Such certificate should segregate the principal and the interest portion of the education loan paid by you during the financial year. The total interest paid will be allowed as a deduction.

The deduction for the interest on loan starts from the year in which you start repaying the loan. It is available only for 8 years starting from the year in which you start repaying the loan or until the interest is fully repaid whichever is earlier. This means if the complete repayment of the loan is made in 3 years only, then tax deduction will be allowed for 3 years and not 8 years.

Always take the interest certificate from your bank annually in your loan account that says “Amount paid by the customer towards interest during the financial year up to 31st March XXXX: Rs.XYZ” when filing your ITR.

  1. What is the Central Scheme of Interest Subsidy for Educational Loans?

In case your family income is less than 4.5 lakhs, you get a subsidy on your interest. The choice is yours.  You can choose to avail it and do the extra paperwork. You can also choose to let go if you are confident about employment prospects.

The education loan scheme is a Government of India scheme, and there are uniform rules and regulations followed by all banks. They can’t deviate. So, take a call.

Learn more here:

  1. What is the connection between insurance and education loan?

Many banks will force you to take personal term insurance to go with your education loan. The call is yours. If you do not have financial dependents or already have a term plan or life insurance coverage in some form or space equivalent to the loan amount, ditch this frill. It is just a bank’s way to cross-sell. General insurance for mortgaged property for education loan may be mandatory. Again, cross-check and read the fine print!

  1. What are the steps that I need to follow for closure?

First, close the loan by paying off the full amount online or at the branch. Reach out to the loan servicing branch in your city, and get this loan closed from there. This may be called a Retail Asset Hub or some other nomenclature.

Ask for a loan foreclosure advice if paying off early and a loan account statement. Obtain no dues letter.

In the loan foreclosure letter, check if there are any prepayment charges and they are as per your agreement/sanction letter which was issued when the loan was taken. This ideally should not be the case.

Check the loan account statement to see if all your EMIs have been correctly adjusted and there are no words about charges levied here and there which are not known to you. Accordingly, tally the outstanding amount as per loan foreclosure advice with the outstanding as mentioned in the loan account statement.

Once you have closed with the loan foreclosure and received the no dues letter for your loan account, follow the process laid down for savings bank account closure. Or continue the Savings bank account per your choice.

  1. What are some stupid things that I should avoid?

Signing blank checks/documents. Signing anything without understanding why you are signing that for.

  1. How should I repay my loan?

Internet banking/mobile banking/standing instruction is the best. You may be working in a different city from the one you are studying in so avoid the physical remittance.

  1. How much EMI should I pay every month?

Personal finance is ‘personal’. Your income, expenses, lifestyle are all your own. No one can tell you the right amount.

There are two principles: (1) Always meet the minimum amount (2) Pay as soon as possible.

  1. Is it a wise decision to repay the loan ASAP?

Don’t be tax-wise, repayment-foolish. I know a lot of people who think it is a good idea to stretch their loans by reducing EMIs and putting the remaining money in equity/MFs. Ask yourself if:

(1) The mental peace and financial freedom is worth it

(2) Reducing tax outgo can be done without increasing interest outgo to the bank.

Don’t make your bank rich. The repayment period for interest is only 8 years, and in most cases, you should pay it up before. In the later years, your principal overtakes your interest, so you hardly get enough benefit. The tax amount is not in your pocket. It’s with the bank.

For example, purpose, if your interest outgo is 2L, you are paying 60000 from tax money and 1.4L from your pocket.

If you close loan today (imagine), even after paying that 60000 tax, you are having 1.4L in your own pocket.

For someone in the 20–30% tax bracket, there is a tendency to stretch but (personal opinion) subject to your own circumstances is to avoid.

  1. Can my parent/spouse claim 80E deductions?

Yes, anyone who meets the definition of relative under the Income Tax Axe can claim deductions under 80E as long as they are the ones paying the EMI.

  1. Should you take a longer-term loan or a shorter-term loan?

Take a longer-term if you are asked to choose by yourself for flexibility as long as it does not invite foreclosure (early closure charges).

  1. New tax regime or old?

The old one is beneficial when you have large interest payments in the first couple of years of paying off your loan. Just use a comparative calculator and take a call for your income and tax bracket as well as other aspects factored (80C).

  1. Is there something that I should do before I start paying off my education loan?

Yes. Create an emergency fund of 3–6 months in a savings account, liquid fund or Fixed Deposit.

  1. Should I reduce my expenses?

Don’t kill yourself in the pursuit of loan repayment. If you enjoy travelling/shopping, do so in moderation. Living a terrible life to save a few thousand more is not ideal. Instead, look at side gigs or alternate income sources that you can add to pay faster. Use your annual variable pay to reduce the chunk of loan to be paid etc.

  1. What’s something that I should keep in mind that no one talks about?
  2. Financial wisdom during the 1/2/3/5 years when you are actually studying with the comfort of your loan. Do not burn money to keep up with privileged friends. You will be surprised that you can go on a vacation with the same friends 2 years later with a comfortable salary coming in every month.
  3. Take up side projects in your field to earn more and learn more to compensate for your living expenses.
  4. Avoiding financial products, you don’t understand. Don’t start jumping into ULIPs, equities, MFs while paying off your loan. Max out your 80C, get insurance and have a basic emergency fund FIRST and then dabble into trading etc.
  5. Try to grab scholarships! They are the easiest way to reduce your financial burden where possible by way of academic/sports merit etc.
  6. Living expenses can be very high. Flight tickets home, cafeteria trips, movies. While all of these things are important for a fun college experience, try to fund them via your own personal savings, stipend/side-gig money or build some structure around them. Even with food & shelter taken care of — apparel, gadgets, subscription fees, lifestyle elements can inundate you.

I hope this article was informative for you!

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