Gold Loan is one of the easiest and safest ways to avail of required funds at short notice. Any customer who has availed of a gold loan needs to consider a few things like rate, tenure etc. Despite any scheme that the customer has selected any gold loan scheme it is advisable to note the gold loan rates of different banks.
Things to consider if the market price of gold drops during an ongoing loan tenure?
There are a few things to consider if the gold prices drop during the loan tenure:-
- If the gold prices drops the lender will inform the customer to pay a part of the payment sanctioned as a loan.
- Lenders approve loan amount for up to 75% gold jewellery amount. This 75% is a ratio which is called Loan to Value (LTV). The amount depends on the purity of the gold.
- LTV is the maximum value of money that the lender approves to the applicant. In cases where the approved LTV is 75% and the market value of the pledged gold is Rs. 1 lakh, the borrower is eligible to avail Rs.75,000 as a loan amount.
- Lenders abide by their own ways of calculating the loan amount. As an outcome, the Loan To Value amount goes on differentiating from one lender to another.
- If the prevailing market price of gold experiences a sudden drop, then Non-Banking Financial Companies and banks also reduce their LTV for gold loans.
- Basically, the NBFCs and Banks fix the LTV at the starting of a new month with the premeditated margin to evade any circumstances.
- However, any drop in the prices may upshot financial institutes to request part payment from borrowers. This is an ostensible amount that goes toward the principal. This is because the gold value pledged will go down and the banks have to follow RBI authorisation.
- The customers are allotted some time to pay the difference in the amount, but in other cases, if the borrower fails to pay, the gold is taken by the lender after giving official notice to the customer.
- Also, Banks & NBFCs tender up to 65% or 70% of the loan against the gold pledged for their borrowers just to avoid a part of the payment of the loan in case the price of gold drops.
Impact of diminishing gold price on financial institutions
When the market value of gold reduces, the calculated amount of the gold pledged as collateral given by the borrower also reduces. Old borrowers’ substantial reduction in gold prices, the lending institutes ask them to pledge more gold or make small payments to alter the deficit. The reason is that the gold price goes down while the approved LTV ratio at the start of the loan stays the same. In such cases, the lending institutes ask the borrower to provide additional collateral to balance out the prior gold loan rates.
When the gold prices drop by 30%-40%, the lender asks the borrower to keep more gold or suggest making a good margin in cash. In case the customer is incapable of meeting the deficit and starts evasion on loan, the company would auction the pledged jewellery at a much lower price in the market. However, selling worn household jewellery in a declining marketplace will perpetually lead to a still lower apprehension.
Gold loan groups would sometimes find it hard to meet temporary payment obligations towards the creditors and the banks. Meaning, if the gold price falls, there will arise sudden demands on cash flow and balance sheets. Fresh borrowers will have to forego lending; hence the borrower would get a lower amount because of the declining value of gold. The overheads of gold loan companies are basically fixed in nature. Organisations have branches to maintain, salaries of their staff members and much more. Such expenditures cannot be cut short suddenly due to which the gold rate is behind 40%. All expenses will come to a standstill. This will be hectic. If the loan book shrinks, profits will decline as sharply as they went up.
Gold prices have a fluctuating nature. It is always advisable for the borrowers to compare gold loan rates before finalising a particular lender. On the contrary, lenders also face unavoidable repercussions when the prices of gold suddenly drop down. This happens because they have already approved multiple loans to various applicants as per the pre-existing market price.