In Pune, businessman Rahul Palekar is rueing the day he sold his trusted hatchback and upgraded to a SUV in 2019. His business has not done too well in the past two years and the Rs 9 lakh loan now feels like a millstone around his neck.
They are not alone. A lot of borrowers are finding it tough to repay their loans, which is reflected in the rise in NPAs of banks (see graphic). In its Financial Stability Report released in July, the RBI acknowledged that “Central banks across the world are bracing to deal with the expected deterioration in asset quality of banks in view of the impairment to loan servicing capacity among individuals and businesses”.
For borrowers like Sharma and Palekar, last year’s moratorium on loan repayments had come as a breather. But once the moratorium ended, the stress returned to haunt their finances. To provide relief to borrowers, the RBI announced another loan restructuring program in May this year. Under this, all borrowers who were regularly paying EMIs till March 2021 were eligible for restructuring of their loans.
All retail loans, including home loans, top-up home loans, personal loans, car loans, education loans and gold loans can be restructured under the scheme. While the terms and conditions are left to the individual banks, the borrower can choose from various restructuring options. It can be a complete holiday from repayment for up to two years, or payment of only simple interest on the loan. One can also extend the tenure of the loan to bring down the EMI to fit the post-covid pocket.
Should you restructure?
While the restructuring of the loan will certainly bring relief, it will also put an additional interest burden on the borrower. Whether you opt for a repayment holiday, or an extension of the loan tenure, any relaxation will lead to accrual of unpaid interest, which will push up the overall cost of the loan. The higher the interest rate on the loan, the greater is the impact. For instance, missing 12 EMIs of a personal loan at 16% will add two more EMIs to the loan tenure. So don’t opt for a payment holiday if the loan has a very high interest (see graphic).
Also consider the balance tenure of the loan when you take your loan for restructuring. “If you are applying for a restructuring very early in the loan journey, the impact will be very high,” warns Raj Khosla, Managing Director of MyMoneyMantra.com. Gaurav and Deepti Sharma took a 20-year home loan in October 2017. MyMoneyMantra estimates that if they opt for a repayment holiday for 24 months, they will add 63 months to their loan. Even after four years of paying EMIs, they will still have 21 years of repayment left.
What should borrowers do?
One way to stop the loan tenure from ballooning is by paying off the simple interest on the loan. On an outstanding amount of Rs 39 lakh, the simple interest at 7% works out to roughly Rs 22,500 per month. Not a very good option because the principal amount remains intact, but it will give the Sharmas some breathing space without extending their loan tenure. If and when their income improves, they can restart paying the regular EMI.
However, some borrowers are not in a position to even pay the simple interest. Many people who lost jobs due to covid or faced big pay cuts are in this situation. Experts say despite the cash crunch, a borrower should not skip EMIs because it would besmirch his credit history and jeopardise access to credit in future. “A bad remark in your credit report is like stepping on chewing gum. Its negative impact stays with you for a very long time,” says Khosla.
Where will the money come from? “This cash crunch is a good time to review your investment portfolio and take some hard decisions,” says Rohit Shah, founder of Getting You Rich. If you have fixed deposits or debt fund holdings, close them to pay off your EMIs. Interest rates are very low now and the post-tax return from fixed deposits is barely 4-5%. Shah says lowyield insurance plans that offer low life cover and gobble up large premiums should also be put on the chopping block. “Surrendering such useless plans will not only raise money but also free up the amount going into the premium,” he says.
Many people may find this too radical. If you don’t want to surrender your insurance policy, you can take a loan against it. LIC offers loans at 9% flat rate of interest, which can be availed of in times of a crunch. There are several other options to raise money, including loans from investments and against assets (see graphic).
A loan against property is especially useful in such situations. Being a collateralized loan, the interest rate is not very high. One can consolidate the debt outstandings by taking a large loan against property and using the money to pay off personal loans and other costlier borrowings.
Some advisers even suggest that stocks and equity funds should be sold to pay off loans. “The stock market rally has bloated the equity allocation in most portfolios. It is time to rebalance by selling some of the stocks and equity funds,” says financial planner Pankaaj Maalde.
Build an emergency fund
The cash crunch that individuals are facing underlines the importance of establishing an emergency fund. Financial planners usually suggest keeping aside six months worth of expenses for emergencies, though this can vary depending on individual circumstances.
A savings bank account with a sweep-in facility or a liquid fund are options worth considering. Returns are not important here. What is important is that this money is not used for any other expense and is accessible to the individual at short notice.
