The EMI Rigmarole: Pushing Customers into the Debt Trap
Yes, yes, I know. EMI stands for equated monthly instalments. But that is just the definition. The real meaning is much more sinister Ever more indebted.
 
When I was young, being in debt was considered shameful. Before you bought anything, even a small transistor radio, you had to save the money to buy it. In any case, nobody would sell you anything on credit (except VG Panneerdas in Southern India), and nobody gave loans. 
 
All this began to change in the 1990s when two things happened:
  • Liberalisation arrived, the licence-raj ended and consumer goods started flooding the market.
  • Banks started doling out auto loans, two-wheeler loans, consumer loans, housing loans and credit cards.
 
Suddenly it was no longer shameful to borrow – it became fashionable instead. People told themselves—why wait to enjoy the good things of life? Enjoy them right now and pay for them as you go along.
 
The magic wand was the EMI. You no longer looked at how much you were borrowing. All you needed to know—how much will you have to pay each month?
 
The buying spree is based on one underlying assumption: As long as you keep earning enough to cover all the EMIs due every month, you are quite safe. 
 
The thought process is “How much does this new car or bike or phone or TV would cost? Just X rupees a month? No problem, I can manage that.”
 
But there are two other underlying assumptions as well, which people ignore:
1. You will continue to earn your current salary or income, month after month. If anything, it can only grow.
2. You will not need to buy anything more in future, so you can squeeze in more and more EMIs within your current salary.
 
Regarding the first of these, I will not bring up the plight of the unfortunate employees of heartless billionaires (Vijay Mallya and Nirav Modi, to name just two) who have fled to the haven of all swindlers—Great Britain. Suffice it to remind you of  the sales guys, whose income has nearly evaporated in the Covid days (they cannot go around selling, hence no incentives), those rendered jobless when their employer downsized, the IT geeks, whose skills are no longer relevant, those who have had to accept pay cuts due to Covid—you know it all.
 
For these unfortunate souls, the salaries have dwindled or even vanished, but the EMIs have not.
 
Regarding the second assumption, what happens when you need to spend on something really important—a house repair, some medical emergency, even an anniversary gift for your wife? No problem, just use your credit card. The EMIs will start only 45 days later.
 
So much for the philosophy (if one can call it that) of buying through EMIs. 
 
Let us look at the practicalities now.
 
Every EMI contains an interest element, even the so-called ‘interest free’ EMIs. If you do not believe me, just ask yourself two questions:
  • why would a seller let you buy something for Rs10 a month, for 10 months, when he can sell the item for Rs100, cash up-front?
  • how can the seller afford to wait many months to get his money?
 
The answer is simple: he does not. Someone else lends you the money to pay the seller, and charges you interest.
 
This is how it works. The actual price is Rs95, not Rs100. You walk off with your new purchase after promising to pay the ‘someone’ (usually your credit card issuer) Rs10 a month for 10 months. The credit card issuer pays the seller Rs95. The Rs5 difference is the interest.
 
The interest is built in by making you pay more, over the months ahead, than the actual price of the item. High-end items, like an iPhone, are mostly sold on EMI. If any gullible fool, such as me, does pay the ‘loaded’ cost, i.e. Rs100, cash down, the seller just has a big laugh. Everyone else buys on EMI, thinking that they are paying just the list price, but over many months, interest-free.
 
The hidden fact is that the interest (the Rs5) is a number, which you do not get to know, and hence you do not know the interest rate that you are actually paying.
 
If you have bought a fridge, a smart TV, a phone, some furniture, maybe a holiday, all on EMIs, you do not really know what hidden interest you are actually paying on all these loans. My guess is – anywhere between 12% and 22% depending on the amount of the purchase.
 
The final question—how to deal with EMIs?
 
The first thing to understand is how much you are borrowing, not how much EMI you are paying. If for any reason you are unable to pay an EMI, it can eventually turn into a chunky loan (penal interest and charges added on) for which debt collectors will start chasing you. If the total debt hiding behind all your various EMIs exceeds your one year’s gross salary, you may be heading for trouble. 
 
The second thing to consider is: how much money will you have left over every month after you have paid all your EMIs, i.e. your ‘disposable income’? If this falls below 40% of your net take-home pay, you may be heading for trouble.
 
The third thing to consider, especially when you need to buy a whole lot of stuff at one go, e.g. when setting up home, is whether you can get a personal loan to buy everything in cash, rather than buy each item against an EMI. You will be able to get a discount if you pay up-front, your interest rate will be known (and lower, too), and you will have your total debt number in front of your eyes.
 
My earnest plea is—look long and hard at:
  • how many EMIs you are currently paying;
  • what percentage of your take-home income is going on EMIs; and
  • what is the total of the underlying loans you have taken.
 
If the numbers are at the simple benchmarks (40%, or one year’s income) already, beware. Do not buy anything more on EMIs.
 
And, if you have some money to spare from your pay packet, do not take on any more EMIs. Put the money into SIPs—it will come in handy in your article-writing days.
 
(Deserting engineering after a year in a factory, Amitabha Banerjee did an MBA in the US and returned to India. Choosing work-to-live over live-to-work, he joined banking and worked for various banks in India and the Middle East. Post retirement, he returned to his hometown Kolkata and is now spending his golden years travelling the world (until Covid, that is), playing bridge, befriending Netflix & Prime Video and writing in his wife’s travel blog.)
 
Comments
pcjha
12 months ago
The downside of taking loans well explained. Upside however is if your investment from monthly savings gives you much better return as against the loan interest you're paying.
benu9714
Replied to pcjha comment 12 months ago
Amitabha Banerjee : Yes, of course, in principle. Unfortunately, there don't seem to be any low risk investments that yield you assured returns of over 12% p.a. consistently.
tillan2k
1 year ago
When u buy car from car financier u pay not only interest but hidden over loaded insurance. Finance companies get cars in bulk from manufacturers at deeper discount than dealers, may be 30/35 % . When u buy car from finance companies throw away listed price and listed discounts; ask for 40 % discount on listed or advertised price
benu9714
Replied to tillan2k comment 1 year ago
Amitabha Banerjee : Good tip for many people. Thanks
m.prabhu.shankar
1 year ago
Excellent Article. Thanks a lot.
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