A few days back, one of my clients me told that his brother was going for higher education and that he (his brother) was unsure if he should take a personal loan or education loan to fund the education. Frankly, it was an apple and orange comparison. It is difficult to compare an education and a personal loan.
With a personal loan, the repayment starts immediately. There is no moratorium period. For someone who is going to school, how does he honor such commitment? Therefore, a personal loan for higher education is not an option for most people.
In this specific case, my client mentioned his father could pay the EMIs till such time his brother finishes the education and subsequently his brother can take over the responsibility. This makes things interesting. Since the brother had been working for a couple of years, he had a choice of taking a personal loan. Education loan or personal loan, which one would make greater sense in this case? Let’s compare a personal loan and education loan on various aspects and see what makes for a better choice in this case.
Education loan is better on this front. With personal loan, as discussed earlier, there is no moratorium period. With education loan, you do not have to make any repayment during the education period. You may not have to pay anything for an additional 6-12 months after your studies. Well, you have a choice. If you have resources, you can make repayment or pay interest even while you are studying. However, moratorium does not come free. Interest rate during the moratorium period gets added to the principal outstanding.
In this specific case, since father is willing to fund EMIs during education period, moratorium is not much of a decision point.
Education loan is likely to be much cheaper than a personal loan. The rates depend on multiple parameters and keep fluctuating. However, don’t be surprised if education loan is cheaper by 1%-3% p.a. as compared to a personal loan.
You won’t easily get personal loan for a tenure higher than say 5 years. With education loan, you can easily get loan for 8-10 years (including moratorium period). Clearly, with a longer tenure, EMI can be lower.
In addition, it may not be easy to get a personal loan of a very big amount. No hard and fast rule here but getting a personal loan of Rs 4-5 lacs may not be that difficult. However, if the cost of education is much higher, a personal loan may not even be an option. Even if you somehow manage a personal loan of a much bigger amount, you have to view this amount along with loan tenure. A big loan amount and a short loan tenure (and it is quite short for a personal loan) will result in a big EMI.
Needless to say, in this case, the family needs to look at EMI affordability.
There are no tax benefits for repayment of personal loan.
On the other hand, interest payment for an education loan qualifies for tax deduction under Section 80E of the Income Tax Act. You get this tax benefit for 8 years. I have discussed the tax benefit of education in detail in another post. These tax benefits bring down the effective cost of loan.
A point to note is that only the borrower gets the benefit. Therefore, if father takes a loan for son’s (or daughter’s) education, he gets the tax benefit. However, if the education loan has been taken by son but father makes the repayment, the father won’t get any tax benefit.
Ease of Access
A personal loan is a big winner in this case. In some cases, you may even get a personal loan instantly.
On the other hand, education loan may be a long drawn out process. You need admission documents. You need a co-applicant or a guarantor. You may even need to provide security. So, education loan application can get quite messy. Do note, if you are going to a premier college or university, these requirements may not be as stringent. At top b-schools and engineering colleges, you can simply visit the bank branch in campus and walk out with a loan. But again, not everyone has this option.
What Is a Good Choice?
In cases where the cost of loan has to be borne by the student himself, personal loan is not an option. Well, I assume there is no foolish plan to take a personal loan and pay EMIs from own funds. You had to go with an education loan.
In this case, there is financial support from family. EMIs can be paid during the study period too. However, considering the interest rate for the education is lower than the personal loan and there are tax benefits too, an education loan is a superior choice.
Who takes the loan? Father or the son? Depends on the understanding between the two and who can get better tax benefit.
In my opinion, the son should take the education loan for two reasons.
- A loan will imbibe a sense of responsibility in him. EMI commitment may also help keep his expenses in check post education.
- His father won’t have to stretch his retirement plans (divert funds meant for retirement) for son’s education. Clearly, the assumption is that the father does not have infinite funds and there is a give and take involved.
Another possibility is that father could pay interest on the education loan during the loan period. This will ensure that the outstanding principal does not grow big (if this was a concern). Again, this is not suggestion but an option.