The Finance Nest

As a salaried class, loans become an integral part of managing our finances. If you have ever applied for or availed yourself of a loan, you’ve likely noticed that personal loans are always 3-5% higher than home or car loans—irrespective of your employment.

Many assume, as it’s not secured, the rate is higher. While that’s partly true, it does not explain everything. In fact some unsecured loans, like business or education loans, are charged less. When personal loans are extended to government employees — whose income is highly secure — the interest still remains higher.

This higher interest rate on personal loans raises a question:

Why do lenders charge higher interest rates on personal loans compared to home, car, business, or education loans?

Let’s break it down.

The purpose of the loan matters:

Home loans, car loans, business loans, and education loans are purpose-specific. 

• Home loans and car loans help in infrastructure development, which fuels our economy.

• Business loans and education loans help in job creation.

On the other hand, personal loans are multipurpose or without any purpose. You are free to do anything with that money—a lavish vacation, expensive gadgets, investing in risky schemes, etc.

Employment creation is what the government wants:

Loans are a medium to infuse money into the market, and while doing so, the government and banks favor loans that encourage employment and productivity. When more individuals are engaged in meaningful work, the likelihood of involvement in unlawful activities tends to decrease, contributing to a safer and more stable society. Home loans, car loans, business loans, and education loans all help in creating jobs directly or indirectly, and it can be tracked easily. 

However, money from personal loans doesn’t necessarily contribute to economic growth or job creation — at least not in a measurable way. That’s another reason why lenders treat it cautiously and charge more interest to offset potential risk.

Before applying for a personal loan, explore whether a home, car, or education loan can serve the same purpose.

These loans usually have lower interest rates, longer tenures, and better tax benefits.

Personal loans offer unmatched flexibility, but that freedom comes at a price — higher interest rates. Unlike home, car, or education loans, they lack a defined purpose that contributes to the economy or employment, making them riskier for lenders. So, before opting for a personal loan, consider whether your need can be fulfilled through a more affordable loan types. Choosing wisely can save you thousands in the long run.