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Loan Agreement: How to Check for the Fine Print


Loan Agreement: How to Check for the Fine Print

  • By Saral Credit
  • December 08, 2021

For whatever purpose you are taking a loan, you always get a bunch of documents that you need to sign and submit for final clearance. All these documents come with a fine print that you should never miss reading.

What is a Fine Print?

Fine print is the Terms & Conditions, Disclosures, and other important information that are not mentioned in the main document. These documents are instead placed as a supplement document in the footnotes.

Before you enter the agreement and close the deal, it is good to read the fine print to learn about complete information. Sometimes fine print includes the information that the issuer doesn't want you to know.

If you miss reading the fine print for any loan agreement, you might be making a bad investment and making your money worthless.

A loan agreement is always made between the lender and borrower that outlines the entire information about the loan type, how the borrower will repay it, and many more.

The loan agreement always has signs of both parties that prove that the T&Cs are wholly agreed upon by both the parties and are liable to take action if the second party (lender or borrower) isn't working as per T&C or Disclosures.

It's interesting to know that the loan agreement becomes a legal document once both parties sign it. After the loan agreement, the lender is obligated to give the mentioned loan amount to the borrower, and the borrower is obligated to repay the loan amount as per the document.

If you are a newbie, it's good to thoroughly read this article to know what a loan agreement includes. A professionally scanned loan agreement includes the below-listed information.

  • Name of lender
  • Borrower information
  • Dates - Including date the loan agreement
  • Loan amount – Total sum provided by the lender
  • Down payment amount
  • Interest rate
  • Fees- Including loan closing or administrative fees
  • Repayment terms - Including payment method and prepayment penalties
  • Information about collateral
  • Events of default – a description of actions if you default on the loan

People with shallow financial knowledge find it challenging what to look at in a fine print of the loan agreement. Here are some commonly used terms that you will encounter when reading the fine print.

Interest Rate: The interest rate is the percentage of principal that you have to pay to the lender as a charge for borrowing the money. Generally, the interest rate shown to you is calculated annually that a borrower has to pay alongside the principal amount. 

Annual Percentage Rate (APR): This is the total cost a lender charges to the borrower per year of the disbursed amount. It is calculated by adding the total interest paid in the year and other addon charges/fees averaged over 12 months.

You mustn't be confused between ARP and Factor rates. The ARP shows you the interest rate on the left-over principle, whereas the factor rate is the interest on your initial principal.

Fixed/Variable Rates: Fixed-rate means the annual interest rate will remain fixed regardless of the market fluctuations. The RoI will remain fixed throughout the repayment tenure. On the other hand, the variable rate fluctuates based on RBI repo rates, bank base interest rate, etc. In short, the variable rate is entirely dependent on market fluctuations.

Collateral: Collateral is the property you put to the lender to get a secured loan. The loan agreement empowers the lender to sell the collateral if the borrower fails to repay the loan EMI for a specific time interval. Most lenders prefer giving collateral loans (aka secured loans) to ensure low NPA rates.

It's crucial to read the fine print to ensure your personal assets are not being used to guarantee the loan. Personal retirement savings, Demat accounts, and other personal assets are often mentioned in the fine print; as collateral.

Secured Loan vs. Unsecured Loan: Secured loans are loans where the borrower puts collateral against a specific loan amount. In case the borrower fails to repay the dues, the lender can seize the collateral. Secured loans are highly opted for people with a bad credit score or with bad credit history. On the other hand, unsecured loans are the loan types where lenders don't get any collateral against the loan amount. Unsecured loans are mostly given to creditworthy borrowers.

Amortization Schedule: It is a complete table of the loan amount to be paid until the last payment date. You should thoroughly check the amortization schedule in the fine print, including the principal and interest amount that you have to pay every month until the last payment date.

If you check the amortization schedule, you will find that the portion of principal increases, and the interest rate decreases as the loan matures. The reason being lenders initially take the interest rate followed by the principal.

Automated Clearing House (ACH): This is the loan payment that is automatically dedicated from the borrower's account every month. Most borrowers prefer using this facility to omit the heck of timely repayment.

RBI introduced the new rules for auto-debit facilities starting from October 1, 2021. RBI states that the customers will be given an update (via email or SMS) above every auto-deduction made from their account. If the preset standing instruction is non-compliant with new RBI rules, the customer OTP will be sent for additional authentication for payments over Rs 5,000.

Balloon Payment: This is the loan amount that borrower pays when they apply for foreclosure of the loan account. The balloon payment covers the entire payment that you have to pay for agreement termination. You should check the fine print for the additional charges in case you want to close the loan before its tenure.

Reset Clause on Fixed Rates: Nowadays, banks have introduced a reset clause on the fixed rates. It means the bank has the authority to increase the interest rate in case the market rate increases in the future. It is a big disadvantage for the borrowers who prefer this option to maintain the monthly EMI amount without worrying about market fluctuations.

Co-Signer: It is also known as co-borrower. A co-signer is the person who signed the loan agreement with you and is liable to continue paying the dues in case you default.

Curtailment: Curtailment is a large chunk of repayment, which is done in case the borrower gets additional funds to minimize the loan amount. It entirely varies from one bank to another. You should check the fine print to know the maximum counts (per year) for the curtailment.

Loan to Value Ratio (LTV): LTV determines the amount of loan you are demanding against the actual price of the property.

Refinancing: It refers to switching to a new lender who can offer you better facilities with low-interest rates. Refinancing is common in home loans as the loan amount is high, and borrowers always look for a better service with lower interest rates.

Grace Period: Grace period is a general use term. It is the period that a lender gives to the borrower before imposing late payment charges. There are two types of grace periods. The first grace period is the tenure, after which the lender can impose late payment changes.

The second one is the tenure during which the lender doesn't impose any interest on the account balance.

Breach of Agreement: It is the conditions that can be considered as a violation of T&Cs mentioned in the loan agreement. Breach of contract can be any state when either lender or borrower doesn't fulfill the given agreement rules.

Fault: The common meaning of Fault in the fine print is the condition when you fail to repay the EMI or miss it for various reasons. However, in home loans, some banks have given a different definition. According to them, Fault is the case when a borrower experiences, is divorced or is involved in any criminal activity. Hence you should know what your bank/lender means with the term fault. You can ask the lender and clarify the doubt to ensure it doesn’t harm you in future.

When working with a lender, you should always check how the lender makes money. There are primarily two types of lenders based on their money-making formats.

The first type of lender makes most of the profit via interest paid by the borrower. Moreover, the lender offers a variable interest rate based on the borrower's credit history. On the other hand, the second type of lender majorly makes money through penalties and seized collateral. You should always prefer working with the first type of lender as they focus more on building a long-term relationship with the borrower.

So, whether you are a financial expert or a newbie, this detailed article will help you read the fine print for a loan agreement in detail and make sure you choose the right lender/bank for your financial needs.

It's always better to discuss the terms & conditions mentioned in the agreement and fine print to ensure everything is transparent between the two parties.