Pros and Cons of Taking a Loan against Insurance Policy

Insurance Policy

A financial emergency can strike anybody, and when it comes, you want to be prepared with your options in case your savings aren’t up to it. One of the options that usually come to everybody’s mind is a personal loan but is it the best option? Well, if you do not have any other option, then taking a personal loan might be a good option for you but remember that it comes with a higher interest rate. Instead of going for the expensive credit option, you can get a loan against your LIC policy, provided you have it. Insurance policies allow the policyholder to avail of Aadhar Card Loan on their insurance policies during emergencies or to fund non-emergency needs. There are certain advantages and disadvantages of availing loan against LIC. Let’s understand them carefully before you go out to avail LIC loan:

You will be able to get a high loan value: The maximum loan you can avail yourself of against your LIC policy is 80-90% of the surrender value of your policy. This is especially beneficial if you have a low, bad credit score or don’t have it in the first place, which will anyway restrict your ability to fetch a higher loan amount. For the unversed, surrender value is the value that one gets when their insurance policy is terminated voluntarily by the insured itself. For example, you have an insurance cover of Rs. 50 lakh and its surrender value is Rs. 20 lakh. At the time of availing LIC loan, you will easily be able to get a loan of around Rs. 18-19 lakh. 

You will get the loan at a low-interest rate: One of the best perks of availing LIC loan is its ability to give you a loan at a lower interest rate which is better considering the rate of interest charged by the financial banks that is always on the higher end. However, one should know that the interest charge on Aadhar Card Loan on your LIC policy depends upon the premium already paid by the policyholder and the number of times the premium is already paid. Pro tip: the more the premium is paid and the number of times the policyholder is paid, the lower the interest will be at the end. The reason behind lower interest rates could also be due to the wealth coming from the insurance policy, which acts as collateral. And, the interest rate charged on loans that come with collateral will always be lower than the unsecured ones. 

Quickly accessible: During a financial emergency, one can easily rely on a loan against LIC policy due to the fact that it comes with minimum paperwork and doesn’t involve many documents from the policyholder. This can’t be said for an Aadhar Card Loan or personal loan, which requires your income proof, CIBIL score, and job profile, all of this is done by a financial institution to gauge a borrower’s ability to repay the loan without default. Considering this, a loan against life insurance policy scores over other types of loans available in the market when one is looking for minimal paperwork. 

Limited scrutiny from the bank or lender: A loan against LIC policy is given to policyholders against collateral (surrender value). That is, your life insurance policy is pledged as security for repayment of the loan in case the policyholder defaults on it. This is the reason why one gets a lower interest rate. Due to this, there is limited scrutiny from the lender, too, which allows the loan to be disbursed quickly. This cannot be possible with a personal loan or other types of loan where your credit score and your job profile will be evaluated thoroughly to check your repaying capacity. 

Cons of Taking a LIC Loan

Not possible to get a higher loan amount in the initial years: Most people believe that a LIC loan can only be availed against the sum assured of the policy. However, that’s not true. The Aadhar Card Loan on your LIC policy gets sanctioned to you against your surrender value only. It takes years for a policyholder to accumulate a significant surrender value for him or her to avail of a loan against it. Thus, in the initial period of purchasing a policy, the policyholder is limited to availing a loan limited to only a smaller loan amount against their life insurance policy.  

Cannot get a loan on all types of life insurance policies: There is a misconception amongst people that one can avail loan on all insurance policies, but it isn’t true. LIC loan can only be taken against traditional life insurance policies and not against a term plan. Traditional plans include endowment,  money-back plans, whole life, etc., where there is a component of guaranteed returns. However,  few life insurance companies also give out loans against ULIP, a unit-linked insurance plan. 

There is a waiting period: One will not be eligible for a loan as soon as they buy the insurance policy. There is a waiting period of around 3 years. The period is there in the first place to see whether you have paid premium regularly or have defaulted during the three-year waiting period. Taking into account this, the loan will be sanctioned to you. 

Default on repaying the loan: In case the policyholder defaults on repaying the loan or paying the future premiums towards their policy, the insurance policy will lapse. This makes the insurance company liable to recover the principal and interest due from the surrender value of the policy.

It is imperative to check with your insurance provider whether your policy is eligible for an Aadhar Card Loan on your LIC policy or not. One must note that the maximum amount of loan you can avail of will come around 80-90 per cent of the surrender value of the policy. However, if you have taken a loan in the initial period of a policy, then the amount available to you for a loan will be significantly lower. Overall, taking a loan against a life insurance policy is still a better idea than availing of a personal loan. It is suggested when you are taking a loan, and you may try to avail yourself of it from the insurance company itself rather than approaching the financial instruction. It is because going with the insurer will get you some flexibility on the repayment period, and you might be able to negotiate the interest rate as well.