Know how much you can borrow using a Personal Loan

Due to its inherent features, a Personal Loan has become the go-to option for most of us looking for quick funds. It could be a planned need, such as a foreign holiday, the latest high-end mobile phone, home renovation, etc. Or it could be an unplanned or sudden need, a medical emergency, and so on.

When approving personal loan applications, banks use many parameters to assess your eligibility. One of the important parameters is the fixed obligation-to-income ratio (FOIR). FOIR compares your monthly fixed obligations (e.g., rent, loan repayment) to your monthly income.

Important parameters for loan approval

Banks look into the below-mentioned parameters when approving a Personal Loan.

(1) Age

Age is considered an indicator of financial stability. If your career started in your 20s, and you apply for a loan when you are 30, you would have around ten years of work experience and more time to repay the loan. However, if you apply for a loan as you near your retirement age, there is a high chance of rejection.

(2) Income

A Personal Loan falls is an unsecured loan, i.e., it doesn't require collateral. Hence, having a stable monthly income is a plus point while availing of a Personal Loan.

(3) Work stability

Do you get your salary on time? How long have you been employed in your current job? These are questions that indicate whether you have a stable income and the bank will determine by checking your employer and your employment status. Those with government jobs or those employed with a reputed company or even professionals like doctors, engineers, lawyers, and CAs are likely to get faster approval for their loan applications.

(4) Debt-to-Income (DTI) ratio or FOIR

The Debt-to-Income ratio is the same as your FOIR (fixed obligation-to-income ratio). Banks evaluate your earning capacity against your current obligations. This check helps them understand if you can repay the Personal Loan without any struggle.

The bank can charge you a higher interest rate for a Personal Loan if your DTI ratio or FOIR is high; there is a high chance of your loan being rejected.

(5) Credit history

Banks look at your credit history to understand your repayment track record. Any delay in repayment of prior loans reflects in your credit history and hurts your score and future loan approvals. Banks favour a credit score in the range of 700-800.

Understanding fixed obligations to income ratio (FOIR)

Banks/financial institutions use FOIR to evaluate your eligibility for a loan. It considers monthly expenditures and fixed obligations and avoids statutory deductions to calculate an individual's disposable income. This income determines if any existing and new debts can be repaid. In short, it is an indicator of your repayment capabilities.

Calculation of Personal Loan eligibility with FOIR

The formula to calculate the FOIR formula is:
Fixed Obligation to Income Ratio Total Fixed Monthly Obligations
(FOIR) = ——————————————— x 100 Net Monthly Salary
You can use the Personal Loan EMI calculator to know the actual EMI on your loan.

The standard margin for FOIR

Though there is no fixed margin for FOIR, banks and financial institutions require the FOIR of applicants to be around 40%. Depending on the borrower's net worth and the type of loan required, this range might vary.

A low FOIR indicates that you have fewer debts and pay your loan without worry. On the contrary, a high FOIR indicates high debt and difficulty in repaying the loans.

[Also Read: 4 must-follow rules for Personal Loans]

Tips to reduce your high FOIR

A high FOIR might lead to rejection or a high Personal Loan interest rate charged on a loan. There are a few tips you can follow to reduce your high FOIR.

1. Timely repayment

Timely repayment of loans improves your credit score and helps in securing loans in the future as well.

2. Joint loan

If you have a high FOIR, you can opt for a joint loan. Your spouse can be a co-applicant to the loan, and their income is additional. The co-applicants pay the EMIs (Per the division) in a joint loan.

3. Avoid many loans

Banks consider multiple loans on your credit report as a sign of mismanaged finances. Securing a loan is easier when you have fewer debt obligations.

4. Reduce multiple job switching

Switching jobs often hurts not only your resume but also your loan approvals. It is a sign of instability in jobs and income.

Conclusion

FOIR is an important parameter banks/financial institutions consider when evaluating your Personal Loan eligibility. It is important to understand the calculation of FOIR and its impact on your loan application to avoid rejection.

Disclaimer: This article is for information purpose only. The views expressed in this article are personal and do not necessarily constitute the views of Axis Bank Ltd. and its employees. Axis Bank Ltd. and/or the author shall not be responsible for any direct / indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision