Moratorium period and grace period are two terms that are often confused to be the same. These two terms, however, have many key differences. Let’s learn more about both, grace period and moratorium period while understanding how to make use of them in financial planning.
These days, it is a common practice to take out a loan from any bank or financial institution. Loan repayment is often done in the form of Equated Monthly Instalments (EMIs). EMIs comprise of repayment of principal amount and interest amount which is calculated with the applicable interest rate on the principal amount. If you’re a loan borrower or credit card user, you would have come across these terms. In this article, you can find the differences between these two terms to help you understand them better.
A grace period is calculated as the time between the last date of the credit card billing cycle and the payment due date. This grace period comes as an interest-free period which allows you sufficient time to pay your credit card bills before the lender starts charging interest on the due amount for the month.
Interest is charged on the portion of the balance that is paid during the grace period. Grace periods are not a mandate by law. However, lenders offer this timeline ranging between 21 and 25 days. For those lenders who offer a grace period to credit card holders, the law mandates that they must send the bill to the payer minimum 21 days before the due date.
If you can pay the entire balance during the allotted grace period, then the borrowed money can be termed as an interest-free loan. This is because there are no fees associated with the privilege of using the cash. Many studies suggest that most consumers tend to take advantage of the grace period for paying off their credit card dues every month.
A grace period can be called as a use-it-or-lose-it opportunity for borrowers or credit card users. If there is any balance left on your card from the prior month, you may end up paying interest on such amount and also the interest will be applied on future usage starting from the day the purchase is made.
Thus, if you pay Rs. 2,000 on your Rs. 10,000 credit card balance, interest will be charged on the remaining Rs. 8,000. If you happen to purchase something the next day for Rs. 5,000, there will also be interest accrued on that Rs. 5,000 spend. Sometimes, it may take nearly two billing cycles of full payments before you can enjoy the privilege of a grace period once again.
A moratorium period is somewhat similar to forbearance or deferment. A moratorium is when a lender allows the borrower to stop making payments for a certain time and a specified reason. Normally, the reason would involve an unmanageable financial hardship. A lender would prefer to give a few months to the borrower, so that he/she can regain financial stability rather than defaulting on payments or stop paying completely.
Benefits of Loan Moratorium
A moratorium period helps ease any financial stress faced by the borrower, especially as seen during the ongoing coronavirus outbreak. It ensures that borrowers can have some breathing space when there are liquidity issues. Borrowers can divert their funds towards essentials instead of worrying about repayment during a moratorium period.
When an individual avails the benefits of a moratorium period, the credit score does not get affected and he/she does not get reported as a defaulter. Thus, despite not paying the loan, it has no impact on your credit score or history. This, in turn, allows borrowers to continue borrowing in the future when a need arises. Banks generally don’t charge any penalty to borrowers for not repaying the loan, during the moratorium.
Drawbacks of Loan Moratorium
Despite its advantages, a moratorium period comes with a few negatives. Here are some of the drawbacks of a loan moratorium:
- A moratorium should not be mistaken as a waiver. You will still have to pay the EMIs at a later date. While the EMIs are deferred for six months, the interest continues to accumulate on the total outstanding amount. This would lead to a higher monthly installment or longer loan tenure. All of this requires you to make provisions in advance or during the moratorium period.
- People who have long term loans such as home loans will see an extension of tenure of the loan. Thus, they may end up paying a higher interest throughout the loan tenure if they avail the loan moratorium option.
- In case you defer two EMIs, the loan tenure could be further extended by 6-10 months.
- As compared to the present interest amount, the interest payable later will be higher and could have tax implications.
Moratorium Period vs. Grace Period
In many ways, a grace period is similar to the moratorium period. One of the reasons is that both these are a time frame which allows one to defer a loan or credit payment. Here are some of the noteworthy differences between the two concepts:
- The primary difference between the two is that a moratorium period is longer as compared to a grace period. Thus, there will be interest charged during such a moratorium period.
- If a lender provides a grace period to the credit card holder, it applies to all customers. As against, in case of a moratorium period, individual borrowers or cardholders have to request for the same, and the lender has to specifically approve the request.
- Moratorium period has no guarantee.
- In a grace period, the borrower must make payment within the grace period or will be penalised with either a late fee or a credit rating downgrade, etc. Through a moratorium period, a borrower does not have to make a payment.
- The length of a moratorium period could range from weeks to months. In case of a grace period, the length is often up to 15 days.
Grace period and moratorium period are facilities offered by lenders. However, these cannot be used interchangeably as they are different in more ways than one. While borrowing a loan or subscribing for a credit card, borrowers must be aware of these concepts to make use of them and avoid facing any kind of penalty or credit rating impact.