Financing your MBA education (Part 1)

Congratulations for securing a place in one of the best b-schools! In this article, we present you with details about how to finance your MBA education. We will discuss the various sources of funds available to you and evaluate their merits.

If you are a recent graduate or an experienced professional enrolling in to an MBA program, the very next thing you will need is to think about how you are going to fund your education.  Since at most of the top Indian b-schools, the average expense for 2 year MBA course can be Rs. 16 Lakh, this is also going to be one of the biggest and most important financial decisions you will make, which will impact your future earnings, long-term financial goals.  While Educational Loans are extremely popular sources of financing your MBA education, here are a few tips to keep in mind before you sign up for one.

 

Sources of funds for your MBA education –

Economic Theory says that as with any endeavour in business or life, the cost of financing increases with asymmetric information.  As with business, financing support for your MBA education, can come from the following sources –

 

(1) Internal Funds – these are the funds that won’t have to repay or pay any interest rates. For example, your savings are your internal funds

(2) Debt – debts are education loans, usually sourced from Banks. You will have to furnish several documents, and sometimes even provide collateral (security against loan) in order to get loan. Education loans may cover full or partial expense requirements

(3) Equity – equities are funds that require students to repay the loan by allocating a percentage of their earnings for an agreed-upon number of years. Most preferred equity funding for education is your employer’s support; other means are your friends or extended family!

(4) Others – other means of funding your education are scholarships (merit based, need based scholarships etc.), which are usually waivers given to a student for a particular situation. They usually won’t cover your entire financing needs, and yet are very important sources of funds. It is your duty as MBA aspirant to be on a constant lookout for such scholarships and grants.

 

It is up to you to evaluate and prioritize your sources of funds. But this article gives you a general guideline on how to go about it. For financing your MBA education, your first preference should be internal financing, then equity, and lastly only as the ‘last resort’ action, debt.  Let us present each option to you

(For financial calculation, each case is analyzed based on 2 Year MBA expense of Rs. 16 Lakh; Interest Rate of 10% and tenure of 5 year post MBA):

 

(1) Internal Funds –

 

Suppose you and your family have sufficient saving to fund the entire sum of Rs. 16 Lakh for your MBA education. This is one of the best propositions that you can have as there is absolutely no additional cost for financing your education, no financial risks (default on loan payment etc.) and there is no additional funding required. 

However, this option is not without its drawbacks. Setting aside such a large sum for education puts a high strain on your family’s savings.  This also translates in to a lost economic opportunity, as this amount could be invested in various financial instruments to generate additional value.  Also, in cases of emergency, when your family suddenly requires money, they may not have enough and are left wanting.

 

 

Saving Financed

Interest Rate (%)

-

Payback Tenure (yrs)

-

Year 1 (Lakh)

Rs. 8 Lakh

Year 2 (Lakh)

Rs. 8 Lakh

Loan Outstanding

-

EMI

-

 

(2) Equity –

 

Equity financing for education is mainly in the form of your employer’s support and / or your extended family’s or friends’ contribution. They may choose to partially or fully finance your MBA education; however, you will have to pay them back on no interest basis. While paying back to extended family or friends seems straightforward, the same with an employer is slightly complicated. There are several positives in such financing arrangement -

 

(1) Such an arrangement is nothing but 0% EMI

(2) You can also look at it as a type of 'scholarship' for yourself, for your employer put so much trust in your abilities as to invest in your education

(3) There will be a job-offer (and even a promotion) waiting, when you have finished your MBA

 

On the downside,

 

(1) Very few companies are known to have such programs for their employees

(2) There are several legal uncertainties on protecting employer's and employee's rights

(3) There is a likelihood that you might start at a lower package than the average graduating salary from your B-school

 

 

Equity Financed

Interest Rate (%)

0%

Payback Tenure (yrs)

5

Year 1 (Lakh)

Rs. 8 Lakh

Year 2 (Lakh)

Rs. 8 Lakh

Loan Outstanding after graduation

Rs. 16,80,000

EMI

Rs. 28,000

 

(3) Debt –

 

Education loans are the most preferred financing source for MBA education. There are so many private and public agencies (Banks, BFSIs, P2P Lending Companies etc.) that offer education loans that partially or entirely cover your course expense requirements. Based on the b-schools that you are entering in to, and the loan availed, these agencies may offer varying interest rates, varying repayment periods, and collateral to secure loans.

 

The biggest advantage of availing education loans is that they are properly structured – both legally and operationally making them so easy to avail. And that is the reason why they are so popular!

 

However, on the downside,

 

(1) Education loans come with very high cost (in the form of interest rates)

(2) There needs to be a lot of paper & legal work involved, which may sometime even require collaterals to secure the loan

(3) Education Loans may or may not cover the entire cost related to MBA education

(4) Repayment of loan puts strain on your savings and finances post MBA

(5) Loan defaults have serious negative impact on your credit-worthiness

(6) Because of the above two reasons, you may accept a lower package than the average graduating salary from your B-school

 

 

Debt Financed

Interest Rate (%)

10%

Payback Tenure (yrs)

5

Year 1 (Lakh)

Rs. 8 Lakh

Year 2 (Lakh)

Rs. 8 Lakh

Loan Outstanding after graduation

Rs. 16,80,000

EMI

Rs. 35,695

 

If you compare the three tables above, you can clearly see that while financing your MBA with savings should be a preferred choice for you (however, not an option without its own down-side), the debt financing (with education loan) is the costliest option.  Therefore, if you are already employed, it is beneficial to discuss a possibility of financing with your current employer.  If you are not employed, or if you don’t have that option available to you, think about asking for support from your friends and extended family.

 

Then evaluate what scholarship options you have and how much of your own savings you can use to finance your MBA. Once you have taken the stock of all the pledges made to you, your scholarships and your own savings, you can how much financing you will need in the form of education loan. It is a wise way of reducing your burden in the future.

 

Benefits of adding your savings and scholarships –

 

As explained above, education loans are the costliest of all the funding options available to you; therefore the lesser is the better. In the same example above, suppose you have Rs. 4 lakh in your personal savings and scholarships, you have reduced the same amount from your education loan burden.

 

 

Debt Financed

Debt Financed (net of Rs. 4 Lakh savings)

Interest Rate (%)

10%

10%

Payback Tenure (yrs)

5

5

Year 1 (Lakh)

Rs. 8 Lakh

Rs. 4 Lakh

Year 2 (Lakh)

Rs. 8 Lakh

Rs. 8 Lakh

Loan Outstanding after graduation

Rs. 16,80,000

Rs. 12,40,000

EMI

Rs. 35,695

Rs. 26,346

 

You can see that with just Rs. 4 Lakh of your money, you have reduced almost Rs. 9 thousand from your monthly EMI burden. A penny saved is a penny earned. You can invest the same amount in some financial instrument (such as mutual funds or fixed deposits) and generate economic value!

 

We hope that you have gained some insights from this article and that you will utilize your options wisely. In the next article, we will discuss the various Education Loans and MBA scholarships available to students.