Lending money may earn you more interest. But before you lend study the business and figure out if they will give back what you have earned.
In the column that appeared in May, we learnt that it is possible to earn more than what the banks are offering as interest for fixed deposits. This is by lending money to high quality businesses that are in need of money.
Let us see how we can identify good companies that are worth lending to.
But first think for a moment what a bank deposit really is. While the term “bank deposit” sounds rather safe, it is in effect no different from lending money to your friend or someone in your neighbourhood, except for one big difference. The banks usually return your “deposit” with interest; something that cannot be taken for granted when it comes to needy friends or businesses. In the event that the banks run in to trouble (banks are businesses too!), your deposit is guaranteed. There is a scheme called deposit insurance, under which your deposits are guaranteed up to Rs. 1,00,000 per bank.
Short of lending to government, lending to (or depositing money with) banks is the safest course. But how about lending to businesses that can pay us more interest compared to bank deposits?
When you lend
Look for “willingness to pay”. This is about the character and integrity of the borrower.
I. If a friend borrows money from you, but does not want to pay you back, it does not matter to you how much money he has. Because, no matter what, he has no intention to pay you back.
II. Look for “ability to pay”.
If you are lending to a friend, this means that your friend should have some means of getting the money to pay you back. Let us assume that your friend borrows money from you to watch a movie. After the movie, the fun is over. It is time for your friend to pay you back. But where does he get the money to pay you back? Either his parents give him money or he has money saved somewhere or he will do odd jobs to earn money. The greater the chance of any one of these happening, the greater the ability to pay. Otherwise, he may have good intentions to repay, but he may not have the means.
Young World Money-Wizards Quiz #23
Can you do an internet search and identify at least two credit rating agencies that are operating in India?
If you know the answer, email it to email@example.com. The first five correct answers within seven days will each be awarded flipkart evouchers worth Rs. 250. The results and the answers will be published on Money-Wizards.
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