A Loan is an amount of money provided to the borrower by the lender with or without any collateral, with the promise of repayment of the initial amount borrowed along with interest. This way the borrower gets the money in the time of need, and the lender earns extra on the original amount through interest. The goal of a borrower in availing a loan is to make up for the cash crunch and the goal of a lender is to earn profits as interest on the loan. Taking a loan nowadays is not a difficult task and many people opt for their different needs such as to buy a home, to buy a car, to bear the marriage expenses, for higher education, for any emergency like to bear medical expenses. Taking a loan provides you desirable amount of money in an easy way which one can repay through EMIs (equated monthly instalment) for this they charge a particular interest which you have to pay along with the principal amount. But when you opt for a loan a very important thing to keep in mind is that you should have a proper cash inflow. To have a proper cash flow is considered important because it shows one’s repaying capacity.
Cash crunches can happen anytime, even if someone has a proper cash flow either through salary or through own business and loan repayment may become tough or impossible in a particular period of time. This is unacceptable for any lender as lending is done to earn regular interest on the lent sum while recovering a portion of it every month. To recover the pending money the lender has different measures at its disposal, but what about the borrower? What is a borrower supposed to do when they are unable to repay the loan, either totally or just temporarily for a period of time? Hence, for a borrower it is very important to know what are their options, should they fail to repay and what rights do they have in such a situation. Let us have a look into all these in detail.
What Happens When a Borrower Fails to Repay a Loan
Credit Score Crashes
When a borrower defaults his/her loan repayments (EMIs) then as a consequence their credit score gets affected negatively. For all the borrowers, the lending institution sends their repayment records to CIBIL to and other credit rating institutions. As soon as the borrower defaults/delays his EMI, it is reported and as a result credit score comes down by some percentage. This also has a negative impact on future borrowing capacity. Whenever a person approaches a financial institution for any loan, their credit record is one of the first thing that the lenders consider. A record of defaults in the past and hence a lower credit score are considered credit risky profile by the lenders as there is a high chance of repetition of default or the borrower becoming a NPA, none of which a lender would want. However the final decision will be on the loan officer’s discretion. Hence even if such a borrower manages to get the loan, the interest rate charged will be definitely high in this case as compared to that of any other borrower with a good credit score and good repayment history.
Notices and Reminders by the Bank
Most banks and NBFCs allow one or two payments to slip by that can be said as late payments also. But, in the case when borrower do not pay the loan amount in three months(consecutive) , bank sends a notice to the borrower under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI), demanding the borrower to pay his/her EMI soon. If the borrower defaults for more than 90 days then they are marked as NPA or a Non Performing Asset. Becoming a NPA is the last thing a borrower should want, as this will close their all options of borrowing in the near future.
If one do not respond to the bank’s notices and reminders then the Bank or NBFCs can also take legal actions. The first step of this is sending legal notice to the borrower for the payments. The lender can also ask and contact the collateral in case the borrower is not responding or not available.
Penalty is Imposed
In case of many loans, banks/ NBFCs imposes penalty for the late payments and defaults but this mostly happens with unsecured loans where the lender don’t have any option to recover from the collateral. This penalty is must to pay but one can negotiate for the penalty amount.
Asset (collateral) is Affected
Collateral is the last thing which is considered. In case when borrower is not able to repay the loan even after the legal notices and the last option left with the lender is to recover it through the collateral. In case if the borrower has given any property as the collateral in that case the ownership of the property will go to the lender and then the lender can sell the property and recover the loan amount.
As such, defaulting on your loan would not be a wise decision, if voluntary, But if the time is really tough, then what is a borrower supposed to do, especially when they have a justified reason for the non-repayment.
Consequences of Defaulting Loans
For any kind of loan, banks and NBFCs first follow up with the borrowers through letters or emails when there is any kind of default. Then it the duty of the borrower to approach the bank and explain the reason behind the default in repayment.
The borrower can assure them for future timely repayments, or in the case when repayment is not likely to be possible, then one can request the lender to restructure the finance in terms of the interest rate charged and for tenure period.
If the borrower fails to repay the loan for consecutive or more than three months the lender has the right to take legal actions against the borrower.
What happens when different kind of loans default?
For Gold Loans:
In case of gold loan, if the borrower fails to repay the loan, the lender has the full authority to sell the gold and recover their money. If the price of gold is more the money left after taking the outstanding amount will be returned to the borrower.
Any kind of default against a home leads to the auctioning the property by the lender through the legal process.
Defaulting against auto loans or any kind of failure to repay the auto loan can lead to seizure of the automobile itself.
Personal loans are unsecured in nature and hence banks don’t have any belongings of the borrower to seize or take the ownership of. So, in this case, the bank has the authority to file a criminal or civil lawsuit against the borrower.
Steps to take When You are unable to Repay Your Loan
There can be many reasons which made you unable to pay your EMIs. There can be a sudden emergency which consumed all your money or one may have lost his job temporarily or a case of job change can also lead to this situation. Whatever the reason is the most important fact is that you have defaulted your repayments and actions can be taken against you. The steps one should take when he/she defaults their loan repayments are-
Talk to the Lender
If you have a valid reason for not paying your EMIs (even though it is not allowed) talk to your lender and ask them to consider your point. You may ask for an EMI holiday for one or two months. Asking for more than this is a foolishness and none of the lender will agree for this. If the case is valid the bank may accept your request but you will have to pay penalty against it.
Decrease Your EMIs
One of the reason behind defaulting an EMI can be an amount as an EMI. To avoid this situation one can meet the lender and request them to increase the tenure period of the loan by doing so EMI will be reduced which can help one to pay it off on time.
Debt consolidation is one of the method by which a borrower can come out of this situation. Debt consolidation is nothing but taking a new loan to repay all or most of the previous loan(s). It is considered best option in this situation. But when you go for debt consolidation loan always look for a loan in which the EMI along with the interest costs less than the total EMI you were paying for your previous loans. Personal loan is considered good in case of debt consolidation. The unsecured nature of the personal loan makes it easy for the borrower to avail and the high loan amounts offered make it possible to cover all other loans.
Inability to repay is not the end of the world and as can be seen from above that there exists ways to tackle a tough time. It is very important for a borrower to know these in advance, so that the necessary steps can be taken while still there is time. We all know, “Prevention is Better than Cure!” and hence it is wise to manage your finances well and have some extra money saved for the rainy days, so that there is never a need of favour from anyone. However easy might sound, it is not easy to save enough overnight or in a month’s time. A disciplined approach to earning, spending, saving and managing the money will not only reduce the needs for loan but also decrease the chances of defaulting, even if there are multiple ongoing loans. It is never too late to change the approach if there is a strong will and determination to do so. Happy Borrowing!