Loans or any kind of credit makes owning various assets easier. In addition, it can also help tide over periods of emergency or also aid during times of shortfall of cash. At present, there are loans that cater to various needs right from buying a home, a four-wheeler or a two-wheeler to funding your business or education. You could also borrow against the security of gold or property held by you. There are short term loans that could help you manage expenses till you get your salary or give you loans to buy something on EMIs. As different the needs, so are the different varieties of loans.
However, one factor that any loan demands from you is that it is repaid promptly. Normally all loans are paid back in Equated Monthly Installments or EMIs as it is popularly known as. Each EMI has a portion of interest and one portion of the principal, which can vary depending upon the percentage of interest charged. When you apply for a loan, the date on which the EMI will fall due is specified, usually during the first half of the month.
You must have often wondered what happens when you are not in a position to pay one or more EMIs, whether due to an emergency or due to oversight. Paying dues on time is absolutely essential for your creditworthiness and a good credit score. There are no two ways about it. However, depending upon the duration of late payment, the classification of missing payments differ.
The common man finds it difficult to understand many terms being used while dealing with credit or finance. We at CreditMantri are always there to help you and make the world of credit easier for you to navigate. Hence, through this post, we aim to shed more light on the frequently used terms - Delinquency and Defaults in Loan Accounts
What are Delinquent Loan Accounts?
We had a client named Rakesh, who hailed from Bangalore. He approached us when his application for a car loan was turned down and the reason given was that he had a Delinquent Account. He was quite confused and did not know what the term Delinquent Account signified. It could happen to any of you, so it very important to know what the term means.
Any account that has not been paid past the due date is considered delinquent. Technically, even a one-day delay in repayment can cause your account to be reported as delinquent.
However, your lenders do not report missing payments as delinquent immediately. They often give you a margin of some days. Many times, you may be reminded by a phone call or an email. Going by the current practice, lenders generally term an account as delinquent only when at leat the past 2 payments have been missed.
An individual may be termed as delinquent if the payments are missed on a single loan account repeatedly (more than 2 missed payments) or it may be a missed payment in a single month across various credit accounts. For Ex: Credit Cards, Home Loan, Personal Loan, etc. When a number of such accounts show missed payments, an account may be termed as Delinquent in the first month itself.
What are the Consequences of a Delinquent Account?
We know by now that each credit action of your affects your credit score either positively or negatively.
Consequences of a Delinquent Account
Drop in the Credit Score if there is a single delinquent account
Multiple delinquent accounts can cause a big drop of about 100 points on your credit score
You would need to pay penalty interest or late payment fee
What is Default on Loan Accounts?
Default is also a similar sounding term as a Delinquent account. However, it differs in its connotation. While delinquency signifies a missed payment which is subsequently made good, default on a loan account means that the payment has not been made at all on the loan. Default on a loan involves several missed payments and not keeping up with the terms and conditions of the loan as per the signed agreement when the loan was disbursed.
In comparison with delinquency, the degree of graveness of the problem is much more with default. When there is a default on a loan, lenders wait for some time. It will initially be termed as a delinquent loan and when the payments are not forthcoming, the lenders take action to brand the loan as defaulted one.
What are the Consequences of a Defaulted Loan?
As the offense involved in a default loan is graver, the underlying consequences also increase.
Consequences of a Defaulted Loan Account
Increased number of calls and emails from the lender
Recovery agents will be authorized by the lenders to recover the amount due from you
Possible invocation of The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI) by the lender
Collateral, if provided by the borrower could be possessed by the lender and auctioned
Big hit on the credit score
The default is a big red mark on the Credit Report which will remain on the report for years to come
Difficulty in availing any credit in future
So, a delinquency or a default, both are undesirable situations where you not only subject yourself to mental agony but also are risking availability of credit in future. While there may be circumstances beyond your control (medical emergencies, loss of job, etc) which may make payment of EMI difficult or impossible for you, delinquencies and defaults are best avoided.
To avoid that, we bring you some simple tips that you can incorporate in case you come to such a point.
Options That You Can Try If You Come Close To A Default On Your Loan/ Credit Account
When you go in for a loan, try and put aside 3 months worth of EMI in a separate emergency kitty. This comes in use when you come to a situation where you cannot bear the EMIs.
Try loan restructuring with the bank, if you feel the EMI amount is too high. The tenure of the loan may be extended by the bank, if possible.
Try availing a loan on an asset held like against a FD or Gold Loan to pay off this loan. However, this option should be exercised with great caution.
If the loan being defaulted is a secured loan, as a desperate measure, you may try selling off the asset at a discount and try closing the loan.
You may also approach the lender for a Settlement on the Loan. If accepted, this measure may give you relief but will mar your credit score forever.
As you may see, the options are very limited and not without side effects if you come to default on a loan. Hence, it is very important to evaluate your financial position before applying for any credit and making sure that you have the wherewithal to make prompt repayments so that your creditworthiness is not affected.