Should You Take A Personal Loan For Investments

Naksh is a 32-year-old working professional. He came across a mutual fund with a consistent 14% annual return. But he did not have the full amount to invest. He contacted his bank. They offered him a personal loan of ₹3 lakh at an annual interest of 11% for three years.

He calculated that the total interest over the loan tenure would be around ₹52,800. On the other hand, his investment fetched around ₹1.38 lakh in returns. Even after repaying his interest, he gained ₹85,200.

This might sound impressive to you. Also, you might want to do the same, but is it right for you? In this blog, we will see if taking a personal loan for investment is a good idea for you or not.

What Does It Mean To Invest With Borrowed Money?

It is simple. You take a personal loan and use the funds to put money into something that can grow in value, such as:

• Stocks
• Mutual funds
• IPOs
• Real estate
• Bonds or fixed-income products

The idea is to earn more from the investment than what you pay as interest on the loan. 

When Can It Be A Good Option?

1. When the Investment Gives a Higher Return Than Loan Interest

Say you borrow at 11% and invest in a mutual fund giving 14%. You earn a 3% margin.

2. When You Have a Steady Job or Business

Repayment of your loan is fixed. You need to make sure that your income is enough to handle the monthly EMI without strain.

3. When You Know the Asset Well

If you have researched the mutual fund or know-how equity works, it lowers the risk.

4. When You are Investing for the Long-Term

You might know that short-term market moves can be rough. So long-term investments offer you better chances of growth.

When It’s Not The Right Move?

• If your monthly income isn’t enough to handle EMI plus living costs.
• If you’re already paying off other high-interest debts.
• If your knowledge of the investment is weak or based on someone else’s advice.
• If you’re investing in fixed returns like FDs or low-yield bonds.

Benefits Of Taking A Loan To Invest

What Are The Risks?

Important Calculation You Must Do

Before borrowing, you need to know the minimum return your investment must earn.

Formula:

Required Return = Interest Rate / (1 – Tax Rate)

Example:

• If loan interest = 10%
• Tax rate on investment return = 20% or 0.20
• Then, Required Return = 10 / (1 – 0.20) = 12.5%

So, you must earn at least 12.5% annually (before tax) on your investment just to break even.

How Does Loan Interest Affect Net Gains?

If your loan interest exceeds your investment return, then you lose money. The following is the sample table:

What Can You Invest In?

Movie Scenes That Teach Lessons

If you have seen the movie 'The Big Short', then you know that in the movie, a few investors correctly predicted that the housing market would crash. So, they made huge profits. 

But others who borrowed blindly lost everything. This movie shows us how wrong timing and overconfidence can lead to disaster.

Also, if you have seen the movie 'Jawan', then you should know that before making any big move how it is necessary for you to do: 

• Proper planning
• Have patience
• Know the stakes

Comparing Loan-Based Investing Vs Saving First

Final Thoughts

If you want to borrow to invest, you need to ensure that your investment earns more than the cost of borrowing. You need to:

• Have a reliable income
• Be confident in your investment
• Know the real return needed after tax
• Be ready for any short-term market dips

You must remember that this approach does not suit everyone. It is best for you if you understand the risk and have a plan. You must always compare the numbers before you decide.

FAQs

1. Is this strategy suitable for beginners?

Not really. It’s better suited for people with some investment knowledge.

2. Should I borrow to invest in FDs or bonds?

No, since the returns are too low to cover loan interest.

3. Can salaried people do this?

Yes, if they have enough monthly income to handle the EMIs.

4. What happens if the market crashes after I invest?

You may lose money but must still repay the full loan amount.

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About the Author

LoansJagat Team

We are a team of writers, editors, and proofreaders with 15+ years of experience in the finance field. We are your personal finance gurus! But, we will explain everything in simplified language. Our aim is to make personal and business finance easier for you. While we help you upgrade your financial knowledge, why don't you read some of our blogs?