Personal loans: What are the hidden costs that you should be aware of?

A personal loan can be a panacea for a number of needs which include construction of a house, wedding at home, during an emergency, for an urgent trip, or even for higher education. However, when you take out a loan from a bank, it may impose a ‘cost’ which you were not earlier aware of. These are known as hidden charges.

It is imperative for the loan applicants to be aware of them and make a decision of whether to borrow a loan or not after factoring into this. Here’s a breakdown of the hidden charges associated with personal loans in India that every borrower should be aware of

Personal loan: Hidden charges

1.Processing fees: Banks levy a processing fee for processing your application which could range from 1 to 3 per cent of the loan amount. For example, when you raise a ₹5 lakh loan, a 2 per cent processing fee would cost ₹10,000. This is deducted upfront, reducing the actual loan amount you receive.

2.Foreclosure charges: Several borrowers aim to repay their loans early to reduce interest costs. However, banks and NBFCs often impose prepayment or foreclosure penalties, typically 2 to 5 per cent of the outstanding amount.

3.Late payment Fees: Missing an EMI can result in late payment penalties, usually ₹500 to ₹1,500 per instance or a percentage (2-3 per cent) of the overdue amount.

4.GST: Most loan-related charges attract Goods and Services Tax (GST) at 18 per cent. This is applicable on processing fees and prepayment charges.

5. Insurance fees: Lenders tend to offer loan protection insurance to cover EMI payments in case of job loss, disability, or death. The premium can be ₹5,000 - ₹15,000 or more, either paid upfront or added to the loan amount, raising the interest burden.

7. Conversion charges: Some banks may permit borrowers to change their loan tenure or switch from a fixed to floating interest rate (or vice versa) for a small fee. Notably, RBI recently instructed banks to give borrowers an option to switch from floating rate to fixed rate when the rates are reset.  

8. Minimum balance: If your bank account has insufficient funds for EMI auto-debit, you may be charged ₹300 to ₹750 per bounce. Multiple bounces can also lower your credit score.

(Note: Raising a loan comes with its own risks. So, due caution is advised)