Getting your finances in order is a tough task and takes up a lot of hard work, discipline and time. For purchasing a new home, organising a wedding, going for higher studies, or starting your business, everything requires high capital. While these are planned expenses, many times, people have to deal with unplanned financial expenses, like paying a hospital bill.
While some prefer to take care of financial emergencies from their savings, others might think of taking a loan or borrow money. But the question is, how to decide the right course of action?
There isn’t a one-size-fits-all approach to decide whether to select between cash vs. credit during an emergency. Paying from savings reduces any financial pressure of repaying a loan, but in case of an immediate emergency, borrowing money might seem to be the best option.
To help you make the right decision, here are the pros and cons of both using your savings and borrowing money at the time of an emergency.
Pros & Cons of Using your Savings
Digging into your savings during an emergency
Warren Buffett once remarked, “Do not save what is left after spending; instead spend what is left after saving.”
So it is critical to have a healthy saving in your financial portfolio at all times. But how do you decide if you should use it or not?
Pros of Using your Savings
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Spending your savings is much better than borrowing money in many ways as you are free from the stress of monthly EMIs and are also not indebted to anybody. Here are some other advantages of using your own savings:
- Eliminates interest
If you use your saved up money during an emergency, or even for other purposes, like buying a house or a household appliance, you end up eliminating the burden of paying interest on the amount. For instance, if you plan to purchase a phone for Rs. 40, 000, and take a personal loan for the same, you will end up paying Rs. 40, 000 + interest on the same. This is not the case with using your savings, as you can make the entire payment in one go from your savings. Thus, the prices of goods and services, as incurred by you, goes down when you use your saving instead of borrowing.
- Enhances fiscal prudence
Debts and loans have to be settled with the money you will earn in the future, which encourages careless spending habits because the future is unknown and seems far away. However, if you use your own savings, the setback of parting with your hard-earned money is harder, particularly if it is for a luxury item that is not necessary. Thus, using savings makes a person self-disciplined as they learn to curb their luxury and limit only what they can afford.
- Spending is stress-free
Spending from your pocket might be a bitter pill to swallow, but it helps you prevent the prolonged tension and stress that comes with paying off a loan for years. People who aren’t good at managing their finances can easily fall into debt traps if they aren’t careful with their borrowing, and hence, it is best to spend what you can afford right now.
- Credit scores become irrelevant
No matter what your credit history is if you are using your savings to fund a bill or make a purchase, your credit score becomes irrelevant and has no bearing on your capacity to spend. This is not the case with loans as most banks require borrowers to maintain high credit scores in order to be eligible for borrowing.
Cons of Using your Savings
People usually spend a considerable part of their lives, saving enough money, and that is why they need to think twice before using it all up. Here are a few cons of using your savings to fund an emergency purchase or bill:
- Saving limits your affordability
One of the primary drawbacks of savings is that a person can afford only to spend an amount which they have saved. In such a situation, a person will have to limit their wants, and they will be limited by the amount of their savings. Thus, if an emergency warrants higher spending, relying on savings won’t be enough.
- A long-drawn procedure
Very few people keep all their savings in their bank account and prefer to invest it in different forms, like shares, bonds, mutual funds, real estate, and gold. While these are safe investments, it usually takes a few days to access their liquidity when needed. Thus, if you need the amount urgently, digging into savings might not be the best idea.
- Hampers future plans
If you’ve regularly been saving for years with a dream of buying a car or a house, it might become difficult for you to use your savings without hampering your long-term goals. In times like these, a loan might be better suited for your needs. It may cost you more, but you will still stay on track with your plans.
- Discourages future saving
People who are forced to part with their savings in a single go might be dissuaded from starting from scratch again. People may begin to undermine the value of saving enough money and adopt reckless spending habits. This can make it harder to emerge from the setback.
Pros & Cons of Taking a Loan
Borrowing a loan in times of need
No debt is good debt is a common myth in the minds of several individuals who are strictly against borrowing money and spend their equity for making a purchase. But if appropriately planned, then debt can be used to leverage substantial gains as well.
Pros of Taking a Loan
Taking a loan might seem counter-intuitive if you have substantial savings, but it does come with a few advantages:
- Less expensive in the long-run
A loan is obviously costlier than using your savings in the current time, but in the long-term, your investments are likely to give you higher returns than the amount you end up paying as interest on the loan. For instance, if you end up selling a house that is appreciating by 10% in value each year, you will lose more money than paying a loan at 8% interest rate.
- Helps in reducing the tax burden
There is a hidden benefit of taking a debt; i.e., it helps in reducing the tax burden. This is because the cost of interest from taking loan reduces the taxable income and curbs down the tax amount. Thus, a person can save a considerable amount as tax when taking a loan and can offset the cost of interest by making use of the several deductions in the Income Tax Act of India related to loans.
- Instils financial discipline
Taking a debt demands discipline about efficiently managing the financial expenses, especially about investment and spending during the initial days until a person earns enough to repay it. Thus, a positive side of debt is that it aids in optimizing every single penny and helps the borrower lead a financially-disciplined life.
- Multiple-purpose usage of personal loans
While most loans are sanctioned for specific uses – purchasing a car or house, higher education, or starting a business – personal loans offer a variety of uses to their borrowers. There are usually no limitations on how borrowers choose to spend their personal loan amount, which means greater flexibility in spending.
Cons of Taking a Loan
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Alongside the benefits, there are several drawbacks of borrowing a loan as well. Here are some of them:
- Imposes the burden of EMI
Loans come with EMIs that must be paid over months, if not years. In practice, this means that the impact of one big purchase is felt for as long as the loan isn’t repaid completely. This is obviously not an ideal situation, as a part of your earnings is diverted to pay EMIs.
- High barriers
Most banks and financial institutions require their customers to submit collateral or securities against their loan amount. Furthermore, they also require that their borrowers have a high CIBIL score. In their absence, taking a loan can be really challenging; which means that there are several barriers to taking a loan.
- Interest rates can increase over time
Most banks and financial institutions revise their interest rates periodically as per the RBI policy to encourage or discourage credit in the economy. This means that customers who have existing loans also pay variable EMIs and the interest rate can vary over time as well. Thus, you may end up paying a little more in interest than planned over the years.
- Additional charges and penalties
Most banks and financial institutions levy charges like processing fees, prepayment charges, and late penalties on their customers. These can improve the overall cost of the loan and can become prohibitively higher for some customers.
- Approval and disbursal
Most banks have a lengthy process to apply for a loan and have strict eligibility conditions. Furthermore, there is no certainty on whether they will approve your entire loan amount, if at all. Then, the disbursal time for the loan also varies from bank-to-bank. To someone who requires money urgently, this can be a huge obstacle.
If you want to stay financially healthy in the long-run, try to use your savings for consumption purposes and debt for investment purposes. For example, debt such as an educational loan or housing loan can be paid off in the future and will add value to your skills or portfolio. However, avoid borrowing money for luxury products or for personal consumption and try to use your savings whenever possible.
To sum up, both cash and credit have their advantages which are worth paying heed, but there are certain drawbacks associated with them as well. Whether, a person, is better off in getting a loan or paying from their saving entirely depends upon their financial conditional. Other considerable factors include a person’s ability to save and their repayment strategies. Without having a planned financial strategy taking a loan or spending up the equity both can cause disaster. If the money required is for an emergency is high, then you may not have a ready amount handy in your savings, and you may end up borrowing money.
There are ways to get instant personal loans without collateral and high credit scores as well. For example, PaySense offers personal loans up to Rs. 5,00,000 for the purposes of business, travel, home improvement and purchasing big-ticket items like cars, bikes, television, refrigerators, washing machines, etc. without any collateral.
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The best part is that you can choose your own EMI repayment plan and manage your finances as per your requirements. To know how much loan amount you are eligible for, simply download the PaySense app from the Google Play Store and create your profile on the same.
Shivam is a passionate content writer with Masters in journalism. A mutiple-award-winning writer, he brings over a decade of experience as a BFSI writer. In fact, he himself is known in his circle for sound financial advice. A writer by day and a reader by night, Shivam enjoys researching and writing on various financial topics, including credit, stock market, crypto, taxes etc. When he is not spending his time penning down an informative article or opinion, he can be found playing with his kids or collecting stamps.
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