All about Student Loans

With education expenses in India rising at the speed of knots, it’s no wonder that the popularity of student loans are on the rise.  In fact, a recent article Economic Times article^ suggests that MBA costs are expected to rise at 15.26% per annum and other undergraduate expenses 12.59% in next five years. For undergraduate engineering courses, fees typically range from Rs 5-10 lakh, while for a five-year medical course at a private college this number could be upwards of Rs 50 lakh! For post-graduate management courses such an MBA or PGPM, fees could be more than Rs 10 lakh.

Banks offer loans of up to Rs 10 lakh for courses in Indian colleges and up to Rs 20 lakh for studies abroad, according to IBA guidelines. For post-graduate courses at premier Indian B-schools such as the IIM's, banks offer loans of up to Rs 20 lakh. While the size of a loan depends on the course and the college, the ticket-size of student loans in India ranges between Rs 2 lakh and Rs 22 lakh, the average ticket size being about Rs 5 lakh.

Student loans cover fees for tuition, examination, library, laboratory and hostel; money for purchasing books, equipment, instruments and uniform; travel expenses for studies abroad; caution deposit or refundable deposit, etc. The loan also pays for expenses on study tours and project work. In some cases, there are limits on some of these items.

How much will my loan cost me?

At present, interest rates on education loans range between 11.75% and 14.75%. The exact rate would depend upon the loan amount and the institution. For premier institutions, some lenders offer a discount of 0.25%. A few public sector banks offer a discount of 0.25% to female students as well.

In a nutshell: a loan amount of Rs. 10 Lacs will require the student to pay a monthly EMI of approximately 22,000 to 23,500 per month for a 5 year period, once the moratorium period of 6-12 months is over. The student winds up paying approximately 3.25 to 4 Lacs as interest to the bank over the repayment period.

If on the other hand, you decide to save this requisite Rs. 10 Lacs over the 5 year period immediately preceding the course, you’d have to put away Rs. 12,200 per month (a total of Rs. 7.34 Lacs, assuming a 12% CAGR). So a little bit of prior planning and prioritization can actually help you save Rs. 6-7 Lacs in this case!

Repayment terms

Borrowing students typically get a “moratorium period” of 6-12 months after course completion before they need to start paying EMI’s. The repayment isn’t contingent upon the student securing a job or not – it will start within one year of the course completion irrespective of a job having been secured or not. Once the repayment starts, the interest component of the loan can be claimed as a deduction under section 80E for a maximum of 8 years. At present, there is no upper limit on the allowable annual deduction amount.

Involved parties

A co-applicant (usually a parent) is compulsory for an education loan. In some cases, a sibling or spouse suffices. If the loan amount is less than Rs 4 lakh, the lender doesn't seek a guarantor or collateral. For loans of Rs 4 to Rs 7.5 lakh, a third-party guarantor (someone other than the parent and in sound financial condition) is required, while for loans exceeding Rs 7.5 lakh, lenders insist on collateral (usually property). Defaults in education loans negatively affect credit scores of both the borrower and the co-applicant.

Conditions to be met                                 

At first, the bank/ lender will run background checks to verify if the student has actually secured admission to the course or not. It will also consider the the quality of the college and the course (and whether it is approved by the AICTE and/or UGC). The lender also evaluates the student’s ability to secure an appropriate job after the course, as well as the credit scores of the co-applicant (or guarantor, if applicable). In case the loan is backed by collateral such as property, lenders will also take into account the value of the said property.

Special considerations for overseas students

For overseas education, students should ideally additional sources of funding such as scholarships or part-time jobs, as the funds required are very high (usually upwards of 30 Lacs for a postgraduate course). If the tuition fees for a college in India are between Rs 50,000-Rs 2 lakh, the same outside India could be 5-10 times more, to say the least. Throw in the higher cost of living involved, and you have one very expensive proposition on your hands.

What this essentially implies is that either your child’s working life will be off to a debt-ridden start that might lead him or her to make wrong career choices, or you’ll wind up helping your child pay EMI’s in your near-retirement phase, when you should be focusing on accumulating a retirement fund instead. Either way, a post- moratorium period EMI of Rs. 65,000 per month is bound to hurt! Even worse, you could end up liquidating your nest egg to fund your child’s education – an all too common scenario in our country.

Life Insurance, which is a compulsory requirement for foreign studies, is another added cost. The minimum sum assured required is linked to the loan amount and type of college, and can range from $50,000 to $250,000 (Rs 30 lakh to Rs 1.5 crore). The annual premiums can vary from Rs 8,500 - 10,000 per year for students travelling to UK, Australia and from Rs 20,000-30,000 per year to those travelling to USA.

There is always a risk the student may not get a job immediately after completing the course, so parents must be prepared to deal with the financial implications of such a scenario.

FinEdge recommends

At FinEdge, we always recommend our clients to begin saving for their child’s education well in advance, preferably immediately after the child is born. This wide timeframe allows compounding to work its magic and dramatically reduces the amount of funds required out of pocket – not to mention the massive savings in interest expenses. Consider the following example in which you plan to provision today’s equivalent of Rs. 10 Lacs for your 8 year old daughter’s higher studies. Based on very realistic assumptions, your decision to either save in advance or take a student loan in 2025 could make a difference of Rs. 25 Lacs. Compare this now with the financial implications of starting to plan as soon as your child is born. Your decision could help you save nearly 80 Lacs!

Are there any benefits of taking a student loan?

Possibly the only real benefit of availing a student loan (apart from the tax saving under 80E) is that by repaying their loans in a timely manner, students can build strong credit scores which will help them avail future loans (such as home loans or automobile loans) much more easily. But then, why not encourage your children to jump of the loan “hamster wheel” altogether and become savers instead of spenders to the extent possible?