We received a very interesting email from a reader the other day. This reader, Shravan (name changed to protect privacy), wrote in on behalf of his friend.
'My friend Shikha (name changed to protect privacy) took a loan in 2011, but got married and stopped working soon after. The bank has been unable to reach her and she has defaulted on her payments. What recourse does she have? The bank has now started harassing her.'
Consider Shikha's plight. Imagine yourself in a situation where you have taken a loan, say a home loan, and you lose your job and have difficulty getting another job at the same salary. Or for whatever reason, are unable to make the regular EMI payments. Perhaps you don't even have insurance on your home loan amount. (Use our Human Life Value calculator to see how much insurance you require)
The stressful nature of this situation can lead people to panic, or worse.
But all is not lost! It is very possible, with some discipline, to rectify the situation.
PersonalFN will lay out some simple steps that you can take if you ever find yourself or a friend or loved one in this situation.
Step 1: Don't Panic
This is not a rare situation. Banks have customers who default on payments all the time.
It might feel like you are alone, but you aren't. There's no need to feel like you have a great weight on your shoulders and you have to bear it by yourself. In fact, your bank will be the first entity willing to help you. Defaulting on your loan, even if it is a home loan, is not the end of the road.
Step 2: Get Your Papers in Order and Call Your Lender
Create a file containing all your past EMI payment details, notices sent to you by the bank if any, details of the loan i.e. date of taking the loan, tenure, interest rate, EMI amount and so forth. Have this handy when you talk to your lender. Tell your lender the genuine reason(s) that have rendered you unable to pay the EMIs, tell them that you would like to pay your loan back as soon as you can, and ask them what their options are.
You will most likely get an initial automated response that reads something like this:
We would like to work with you on the issue of your loan repayment - request you to write to us at firstname.lastname@example.org with your loan account number, contact details and the reference id ABCD00001111. A bank representative shall contact you as soon as we receive this information.
Regards, Customer Assistance, ABCD Bank"
Once you revert with the necessary details, you will get a call from your bank and can set up a meeting to calmly and rationally discuss your options.
(Read our article titled 8 Things You Should Know about Home Loans)
Step 3: Consider Your Options, in Dialogue with Your Lender
Can the bank repossess your asset i.e. your car or your home? Legally, yes they can.
But there are a couple of reasons why you don't have to necessarily worry about this.
Firstly, the repossession procedure in India (and in fact elsewhere in the world as well) is very lengthy and there are steps along the way where you and the bank can work together to come to a satisfactory deal.
If you have paid your EMIs on time until now, the bank knows you as a genuine borrower, and will take this into consideration when working together with you to find a mutually feasible solution. 'Genuine intent' to repay is the single largest thing that will work in your favour. Be sure to make it very clear to your bank that you do intend to repay and would like to work together to find a solution.
Genuine reasons that banks understand are loss of a job, illness, or an accident that may render you unable to work. You might also have multiple loans, and find yourself in too much debt to handle.
(Read our article titled How to Get out of Too Much Debt)
Secondly, the bank doesn't want to repossess your assets, it wants you to pay the money owed, or at least most or part of it. If you default, the bank's NPA ratio (Non Performing Assets) goes up. This reflects badly on the bank. Also, they lose out on the money you would have paid them. So the bank will much prefer to cut you a deal.
Here are what your options will likely be:
- Refinancing your loan
If your problem is one where the EMI is too high, due to either an increase in overall interest rates, or an increase in your personal commitments to yourself, your loved ones, or any other matter personal to you that reduces your bank balance, or a combination of these factors and others, then what the bank will do is restructure your loan.
If you are currently paying Rs. 10,000 per month for N years, and this is too high, the bank might offer you an EMI less than Rs. 10,000 per month, for a little more than N years. So your EMI goes down, giving you some breathing room and the bank doesn't lose money because it will simply make it up from you over a longer period of time. Everybody wins on some level.
Keep in mind that the payments you now make will eventually cost you more in terms of total money repaid, but if breathing room is what you need, this will provide it. However the extension in tenure will be small, so the change in your EMIs will also be small. Also, as a next step, the bank can opt for foreclosure by selling off the collaterals stated when you applied for the loan, by auction, with your co-operation.
Refinancing can be done for many situations.
It is also the go-to option for people who find that their bank is not reducing floating interest rates in line with other banks. You can approach your bank to reduce rates, or you will shift to a more amenable lender. For credit card debt, you can also opt for balance transfer by shifting your existing debt onto a new card with a 0% interest rate for 6 months, and paying off as much as you can within these 6 months.
(Read our article titled Want to Switch Your Home Loan? Read This First)
- Deferring Your Payments
May be the problem is not that you can't pay enough, it is that you can't pay at all.
If you are in a position where you feel that within a few months your financial situation will change, you will get a job and be able to start repaying your loan a little bit at a time, perhaps at a lower EMI, then you can approach your bank for deferral of your payments. The bank will grant relief, giving you a window of opportunity to calmly seek ways to increase your cash flows.
Once the window closes, your EMIs will restart (on either the same terms or your new negotiated terms), but will include late payment penalties, known as Delayed Payment Charges. These charges are applicable for payments made after their due date. In case some of your post dated cheques (PDCs) have bounced due to insufficient funds, you will also be subject to cheque bounce charges.
- Lump Sum Settlements
This is something that for obvious reasons might not be feasible for a home loan, but it can work for a personal loan, credit card debt, or a car loan. On a case to case basis, banks are sometimes willing to go for one time or lump sum settlements of outstanding dues. They will waive some of the charges or some of the amount and charges, and you can pay the rest as a loan settlement. However, this is murder on your credit score. Getting a loan in the future, if you want one, will become either very difficult or very expensive, or both.
(Know more about your credit score with our Comprehensive Credit Report Guide)
What happens if you still can't pay?
At this stage, your bank will seek repossession of the asset. The asset will be auctioned off within 15 days (for a movable asset like a car) or 30 days (for an immovable asset such as a home). During this period, you still have the option of buying back your own property provided the funds are available to you.
At no time during the process will the bank not give you the option to pay, in bits and pieces or via a reduced lump sum, and maintain possession of your asset.
Obviously, the best solution would be to not get into this situation in the first place. But once you are in it, remember that panicking will get you nowhere and your time would be better spent in dialogue with your bank, coming up with a feasible solution together. You can also contact credit counseling centers (such as Abhay Credit Counselling) for guidance.
One of the main tenets of financial planning is safety. This is done by way of a contingency fund. Remember, if you have EMIs, to include them in your contingency fund and have at least 6 months to 2 years of expenses set aside in a safe liquid fund, for use in case of emergency situations.
Also, if you wish to build up a strong mutual fund portfolio to meet your life goals including purchase of a home or planning your retirement, we would be happy to help you.