Expansion of business is desirable to every businessperson. Your business requires funds for its growth. At times, owner’s own money is not enough to expand the business and even the profits accumulation is not that high to let you maximize your business potential. For expansion you look for loan. An efficient management of loan helps in increasing business operations which is the basic need of every entrepreneur.
There are different ways of borrowing funds like Project Loan, Home Loan, Overdraft limits, LAP etc. One of the ways is to secure funds is Loan Against Property. Borrower is the person who takes loan who can be an individual or a business firm/company. Lender is the person who gives loan which can be a Bank, NBFC (Non-Banking Finance Company) or even a private lender.
LAP is a loan which is taken on a property. The borrower here gives his/her property papers to the lender who gives a loan amount at certain percentage rate of interest to be paid back on agreed intervals of time. This giving of property papers as a security for loan is called mortgage.
Lets get into some facts about LAP. These will be helpful for you in deciding how and when to proceed.
Forms of LAP
By nature, LAP is of one type i.e. a property being mortgaged and loan is taken. However, it may differ in its terms and conditions due to the nature of property and future use of such loan.
Many times people ask for a loan to build a property which they will mortgage to lender. It means, the property which will be built out of loan amount will act as security for the loan and should be considered as LAP. This is not LAP!! For LAP, property has to be in existence already.
LAP can be taken on properties like:
- Industrial properties – Factories, Warehouse, Processing units
- Commercial properties- Malls, Shops, complexes, Office building, hotel building
- Residential properties – Residential homes, flats, apartments, individual houses
- Other properties like Schools, Hospitals, Cinema halls etc.
- LAP can also be taken against Land. It must be non-agricultural land.
- Agricultural property is not considered for LAP, as agricultural property is not mortgageable.
- Unbuilt or under construction property – Banks/ NBFC have a list of approved builders. If an under construction property is being built by an approved builder, then LAP is possible. However, if it is being built by an approved builder, the property must be 90% complete for obtaining a LAP. Percentage of completion is certified by an architect.
Legal check of Property
Legal checking of property is a routine process and it is important for the lender. This means checking the legality of the property. Whether the property is legal, is there any kind of municipality dues, is there any kind of encumbrances on the property, is the property booked under demolition, are the property papers legal, are the records with the registrar updated for this property or whether the borrower is actual owner of the property as per the Govt. records.
Valuation of Property – A very significant matter
Valuation of property is one of the most important matters of LAP. The loan is based on an existing property and is being given to the borrower for its value and present income. Valuation is done by a certified valuer who has the knowledge and authority to value a property.
The property valuer visits the site where the property is located. Enquiries are done from local brokers and agents for the valuation of properties in the area, market evaluation data is extracted from internet, Govt. websites, information about the latest property deals in the surrounding area is obtained to understand the current value of properties, the location of the property, expense incurred on its construction, size of property, age of property etc. are assessed and a figure is evaluated which is the current market value of the property. This value is presented to the lender in the form of a report signed by the certified valuer. The most important decision on the size of loan amount to be given to the borrower is decided on this value.
How LAP is calculated
Calculation of LAP is done on the basis of your present income. Your future income from the proposed use of loan is not considered. Present income of last 3 years is evaluated for understanding the financial health of the borrower. Lenders assess the financial position to understand whether the borrower will be able to pay back the loans with interest or not.
Assessment is done on the basis of last few years’ income tax returns, condition of business, profit margins in business, assessment of bank statement to understand movement of funds, maintenance of bank balance, payment of Govt. dues in time, creditor dues in time etc.
Lenders for lap
Lenders for lap can be different. It can be Bank, NBFC or Private lender as well. Lenders of organised sector like Banks are common in the finance market. However, the interest rates of loan differ between these lenders. Lowest being the Banks, then NBFC and then private lenders having the highest rate of interest.
Who can be a borrower of LAP
Anyone can be borrower of LAP be it an individual person, Proprietor, Partnership firm, LLP, Companies etc. The only important condition is to establish rightful ownership of the property.
How is it different from Project loan, business loan, OD/ CC Limits
Project loan means loan for the whole project. The project itself is mortgaged to the lender along with other collateral/ supporting securities. Fixed payments are then made at regular intervals in instalments to the lender.
Business loans are generally unsecured i.e. not against any property. They are given on present financial condition of the borrower, carry a high interest rate and less in amount.
Limits maybe secured on the properties, but do not involve a specific regular interval repayment. i.e. Borrower do not repay back the limit amount to banker as instalments. Limit is a regular bank account where the borrower can withdraw in surplus when needed and deposit back when money is received. The time period for which surplus amount is withdrawn will attract interest charges. The borrower only pays interest to the lender.
Purpose of LAP
Purpose of LAP can be anything. Loan in LAP is not completely based on purpose of usage of loan funds. However, it is formally asked and noted while loan is being processed. Technically, there is no weightage of purpose, but loan taken for business purposes are the most supported. When the loan amount is used for business, it means that fresh funds are being introduced and this will lead to expansion of business and more turnover or profits. Lender is comfortable in giving loan when the funds are being used for business purpose as this will ensure better chances of repayment of loan.
Balance Transfer means transferring of balance loan from the existing lender to another lender. There are various terms and conditions attached when you take a loan against property. The most important being the interest rate. There are times when other lenders feel that your current loan terms can be relaxed based on interest rate drop in lending industry or based on the performance of your repayment of loan. Hence, the balance loan pending to the current Bank is transferred to another bank at lower interest rates or other easier terms & conditions. This ultimately leads to benefit of the borrower.
Repayment Mechanism of LAP
Repayment mechanism of LAP works on a regular interval time period of instalments. This instalment covers principle part and interest part. Based on the cash flows of business, frequency of receipts from sales, amount of cash surplus on regular intervals etc., the period of instalment payment is decided. Though it is monthly repayment in most of the cases. This instalment is directly deducted from the bank account of the borrower on the decided date.
Documents required for LAP
The documents required for obtaining LAP are different according to the parameters of different lenders and specifically change depending upon the type of borrower. Like, a borrower can be Individual, company, firm, etc. hence, the documentation changes. However, few of them are being illustrated here for reference and understanding of the concept.
- KYC of borrower
- If borrower is a company, then KYC of each director/partner/ shareholders
- Address proof of business
- Memorandum/ Articles of Association
- Board resolution
- Last 3 Income Tax Returns
- Balance Sheet, Profit & Loss account
- Bank statement
- Property papers
CIBIL –Credit Information Bureau (India) Limited
It is the authorised reservoir of credit information of every individual or company in India. Performance of taking and repayment of loan by any person is submitted by lender to CIBIL. Based on the performance, CIBIL grants scoring which is used as a basis for understanding past performance of loan borrower in commitment towards repayment of loans. A low credit score scare the lender to give loan and higher credit score establishes more trust towards the borrower.
Existing Loan Statement
If there are any existing loans going on, the lender will ask for existing loan statements. This is required to understand the movement of funds, discipline & commitment of the borrower towards repayment of loan.
Gaurantee for loan means giving a guarantee that the loan will be repaid. This guarantee is given by individual or a company. Gaurantee given by an individual is called personal guarantee and the one given by a company, is called a corporate guarantee. This is taken as a measure of more security towards the loan. In case the borrower defaults in repayment of loan, the lender can ask the guarantor to pay on behalf of the borrower.
LAP taken by companies is in the nature of secured loans. If a company owns a property and it mortgages the same to a lender for loan, it is called a secured loan. It shall be shown on Liability side of the balance sheet under the head Secured Loans.
The interest portion being paid in instalments is to be shown in Profit & loss as an expense.
Other matters related to LAP
- If a property is owned jointly within or outside family, it can be given for obtaining LAP. The owners in the property will be made joint owners of loan also and both will sign the loan documents.
- Disputed properties, inherited properties where all owners do not agree, property on Power of Attorney, Leasehold properties are not generally accepted by lenders. However, these, few NBFC have come forward to accept properties like Lal Dora or unrecognised govt. lands/properties to give loan.
- Some people have a tendency to suppress their financials any-how and show lowered income to avoid taxes. However, for Loan purposes, this reduces the value of borrower.
- Possession of property does not matter. A vacant property or property given on rent can also be considered for LAP.
- Borrowers are supposed to sign documents and detailed formats of lender. All the terms and conditions must be clear to the borrower before signing.
- Documents submitted by the borrower should be checked twice to ensure there is no error in submitting documents.
- Initial processing fee is asked for working over the processing of loan. This is mostly non-refundable. Some portion of it might be refunded if there is a fault of lender in processing and loan gets rejected.
- Timely filing of Income Tax Returns and showing good net worth helps in getting a loan.
- Original property documents will be kept with the borrower until the loan is repaid. Keep a photocopy of property documents with you and take a signed receipt from the lender that you have submitted the property documents.
- Do not handover your original property documents to anyone unless your loan is final. Until the sanction letter is given to you and final documentation is done, you can use a photocopy of property documents.
- Consultants should be hired in case the borrower is not well aware about his documents or not able to understand the terms.
Chartered Accountant, LLB, B.com (H)
He specialises in Loan Funding & GST. He is a partner in a CA firm based in New Delhi which takes care of Income Tax, Loan Funding, GST.