Education loans may become cheaper

This could be music to the ears of students seeking education loans. Interest rates on these are likely to drop and banks will no longer turn away students seeking loans for lack of collateral or a guarantor.

At the moment, a student can apply for an education loan up to Rs 4 lakh without any collateral or guarantor, while loans up to Rs 7.5 lakh can be had without providing collateral (but a guarantor is required). Since there is little provision of recovery in the event of default, banks, especially private ones, are hesitant to give education loans.

And, because of the 'risk' nature of such loans, the interest rates are usually kept higher than that on others such as car loans.

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To change this anomaly and to persuade banks to offer more education loans, the finance ministry will set up a Credit Guarantee Fund by December, which will allow public sector and private banks to extend advances of up to Rs 10,000 crore on education loans up to Rs 7.5 lakh.

The Fund, on which a Cabinet note is being prepared, will be on the lines of the funds set up for the housing sector and small and medium enterprises. The government is also planning to appoint a common technical body for all the three funds, to ensure their processes are streamlined.

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The ministry will put Rs 500 crore in the fund initially. Banks will be able to extend loans up to 20 times of the fund size, taking the total amount to Rs 10,000 crore (Rs 100 billion). As on March 31, banks have education loan dues of Rs 49,069 crore (Rs 490.69 billion).

The government will guarantee 75 per cent of the loan amount, while the bank will have to take a hit of 25 per cent of the loan in the event of default. This has been done to ensure that banks give the loans after proper assessment.

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"It is an irony that car and housing loans today are cheaper than education loans. Many banks are reluctant to give education loans as there is no collateral for loans below Rs 7.5 lakh. For this reason, interest rates on education loans are high. When the guarantee is provided, banks should be willing to lower the interest rates by about 50-100 basis points initially," said a ministry official.

All banks will have to contribute one per cent of the sanctioned loan amount to the fund every year. For example, if the loan is extended to a student at 12 per cent, another one per cent will be charged as fee towards the guarantee fund.

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This may neutralise the gains from reduction in interest rates initially, but the finance ministry is confident that education loans will eventually become cheaper. The fund, which was announced in the last Budget, is aimed at ensuring better flow of credit to deserving students.

It was first recommended last year by an expert committee of the Indian Banks' Association. Even some of the existing loans may be allowed to shift to the guarantee fund, the official said.

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Gross non-performing assets of banks for education loans stood at six per cent in the last financial year. Often, banks find it difficult to recover a loan when the student goes abroad after competition of the course.

Under the new scheme, banks can claim up to 75 of the loan amount from the credit guarantee fund in case of default.