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The Rights Of A Borrower: What Happens When You Default On Unsecured Loans?

Taking out credit cards and personal loans has replaced emergency savings for millennials in India. A decent amount of credit is good in an economy as it drives spending. Indians, however, are walking the thin line between good credit and bad debts.

The Indian government’s general debt, state and central, to GDP ratio has increased by over 40% from 48.8 in 1980 to 89.6% in 2021. In simpler terms, the debt to GDP ratio can also mark the number of years that the country would require to pay off their debt when the sole allocation of the GDP is for the same.

Similarly, the Indian household debt to GDP ratio has risen over three times in the past decade, going from 11.2% in 2011 to 37.1% in 2021.

It’s okay if you don’t know what to do with these statistics. They’re just here to show you’re not alone in your struggle with debt. When a huge chunk of households in the country are struggling to pay back their debt, we must relieve the pressure and give them a fighting chance to regain financial stability.
This is where India’s first debt relief platform, Freed, comes in. We are trying to shine the lantern on the path out of your debt trap and into financial freedom.

The first step in this journey to debt relief and financial freedom is awareness. Many who find themselves stuck in the debt loop are simply unaware of their rights as a borrower. They also underestimate the resolutions that are available to them in case they cannot keep up with their monthly payments.

We have thousands of resources for people to understand what actions the banks will take against them if they default on their dues. But very few inform the borrower of their rights and how to protect themselves from unethical practices.

What Happens When You Default On Personal Loan And Credit Card Payments?

The answer to this question is unfortunately as simple as legal action or collection activities. A lot of factors go into determining what happens to a defaulter. Understanding what caused you to default on your loans is the most important thing.

Types Of Defaulters And Which One Are You?

As per RBI (Reserve Bank of India) guidelines, there are two categories of defaulters.

Wilful Defaulters

Wilful defaulters have the means to pay off their loans, but they don’t. Lending Institutions classify these entities using various criteria that suggest they have the financial capacity to pay off their loans and are holding out on these payments intentionally. There are no remedies provided by the Reserve Bank of India when you’re classified as a wilful defaulter.

Non-wilful Defaulters

Non-wilful defaulters are individuals or companies that have come across financial hardships like insolvency, low income, unforeseen expenditure etc. and thus, cannot make payments towards their loans. The RBI has given rights to this type of defaulter to protect them from exploitation. India’s judicial system upholds these rights.

Being classified as a wilful defaulter by your bank can lead to strict action and is difficult to reverse. There are ways to avoid this category. One of the most important steps to take is to stay in contact with your lender and update them on your situation or financial hardships. We will cover more when we progress in this discussion.

Effects Of Defaulting On Loan Payments

You’ve been paying your credit card bill regularly. In fact, you make sure that’s the first thing you pay when your salary gets credited to your account. Then one day your car breaks down. You get that fixed, and that dips your disposable income. That’s fine though because you have a plan. You’ll pay the minimum due on your credit card this month but make up for it in the future.

This is a short-term solution, though. The minimum due amount you’ll pay will mainly cover any charges or penalties you incur on your outstanding debt. It might also pay some part of your outstanding. But the major chunk of your principal loan will not reduce and keep incurring interest and penalties. Since you’re struggling financially, you might end up defaulting, too.

Here, a few things will happen.

1. If you have missed the first or second consecutive EMI towards your outstanding loan, the bank will send you reminders. They’ll use SMS, calls, or emails to send you reminders to get back on track and settle your dues.

2. If you still miss the third consecutive EMI, the lender will classify you as a Non-performing Asset (NPA). The banks then prosecute NPAs in three ways.

The Credit Score

Not paying your loan EMIs can lead to your credit score falling. With every loan EMI, you miss, the fall in your credit score can be almost up to 70 points.

Legal Actions Against Defaulters

Section 138 of the Negotiable Instruments Act of 1881 allows banks and lending institutions to take legal action against the defaulter after the default period exceeds 180 days. With wilful defaulters, banks can also pursue criminal charges for the same.

Handed Over To Collection Agents

The bank can hire recovery agents or collection agencies to hand over the defaulter’s account once deemed an NPA.

Rights Of Borrowers Who Have Defaulted On Loan Payments

The misinformation or lack of awareness places the common Indian borrower at a place of major disadvantage. It gives them nightmares, and anxiety and constantly conditions them to believe that being in debt is something to feel guilty about. What do you do when you’re stuck between a rock and a hard place? Plan how to get out of this place using the resources already available.That’s what knowing your rights as a defaulter would do for you. While knowing these rights won’t pay off your debt, it will give you a better chance of paying it off and getting the financial freedom you have been dreaming of.However, remember that these rights only extend to a non-willful defaulter.

Right To Notice

The first right given to a defaulter by the RBI is the right to notice. Banks or lending institutions must notify the defaulter of the actions they plan to take in the future. The bank must inform the borrower of all charges against their outstanding amount.
With a secured loan, the bank must issue a notice period of 60 days to the defaulter. The bank has to issue another 30-day public notice if the defaulter cannot repay their outstanding during these 60 days. Post the 30th day, they can proceed with the sale of property used to secure the loan.

Right To Fair Asset Valuation

This right of the defaulter only applies to secured loans. This allows the defaulter to contest the sale price of the collateral set by the bank. If the defaulter considers the sale price low, they can look for a buyer at a higher value and connect them to the lender. The bank should notify the defaulter of the reserve price, fair value of the asset, and details of the auction.

Right To Claim Balance Proceeds

This right allows a defaulter to claim any surplus proceeds received by the bank, over the outstanding loan amount, on the sale of the asset mentioned in the point above.

Right To Humane Treatment

This is an important one. Many recovery agents and collection agencies across India get hired by lending institutions and banks to reach out to defaulters to make them pay. The RBI came out with strict guidelines for the functioning of recovery agents on behalf of lending institutions and banks in 2007-08.

These guidelines allow recovery agents to only contact defaulters on phone numbers and locations consented to by the defaulter. They can undertake any collection activities only between 7 am and 7 pm, as per RBI guidelines. Recovery agents also need to carry an authorization letter and an ID card provided by the bank when meeting with the defaulter.

Other Steps That Defaulters Can Take To Safeguard Themselves Against Legal Actions By The Lender

When a borrower defaults, the bank can legally retrieve their money by following various courses of action. This includes filing a case against the defaulter. However, lending institutions care more about getting their money back than bringing a defaulter to justice through a long and winding legal battle.
This makes lenders open to certain negotiations.

Restructuring The Loan

Restructuring the loan refers to reducing EMIs payable by increasing the tenure of the loan. This allows a defaulter to pay off their loan while also not being pressured by the high EMIs.

Moratorium

The moratorium is a special allowance given by the bank to some borrowers. This refers to a period of pause on the loan EMI. Where the borrower has been going through genuine financial hardships, the bank can stop their EMI payments for a period of up to three years.
This is simply a postponement of EMI and defaulting penalties that a defaulter would have to pay. The interest on the loan amount still applies to the outstanding loan amount and is due post the moratorium period.

Debt Settlement

Debt Settlement refers to shaving off a certain amount of the loan to make it economically affordable for the defaulter. The settlement amount is to be paid in full by the borrowers.

FREED, India’s First Debt Relief Platform, helps defaulters save up for and negotiate settlement offers with their lenders along with tools to overcome the challenges of their debt settlement journey.

Debt traps aren’t something laid out overnight and people get caught in them. It is a long overdrawn process. It is a process of increasing guilt, shame, and helplessness. And for what? For being genuinely UNABLE to pay your dues? These feelings are best kept for those whose intentions were to not pay outstanding loans. The RBI agrees, thus wilful defaulters are supposed to be treated differently.

So before you spiral into feeling stuck in your debt, understand your rights, and reach out to those who can help you, i.e., your lenders.

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