Mutual Funds are assets in your name, which can be used to get a loan from banks and financial institutions. Here is how it works. The investor applies to the bank for a loan against the Mutual Fund units they hold. The bank does its due diligence, which involves researching your Credit Score, assessing the value of your assets, and determining your loan amount eligibility.
The loan amount depends on the value of the Mutual Fund units to be used against the loan. Usually, the amount sanctioned for the loan is 60-70% of the value of the Mutual Fund units pledged at the time of approval.
Once the loan is sanctioned, the investor has to inform the registrar about the lien given to the bank for the loan extended. The details include the Mutual Fund name, the number of units pledged and the bank name. The bank then has a lien over the Mutual Fund units thus pledged. The lien is a right given to the financial institutions to sell and recover the loan amount in case the borrower defaults on the repayment. Obviously, when a lien is marked on the Mutual Fund units, the investor cannot sell them.
The investor has to repay the loan at the interest rate agreed upon within the loan tenure. Once the loan is repaid by the borrower, the lender has to inform the Mutual Fund company to remove the lien on the units. Once this happens, the investor is free to exercise the units held. The bank can also request the fund to remove the lien on a part of the Mutual Fund portfolio if the investor has repaid a certain amount of the loan. These units can then be sold in the market.
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