Home Discover Journals What is a One-Time Loan Settlement? Here's How it Can Affect Your Credit Score

What is a One-Time Loan Settlement? Here's How it Can Affect Your Credit Score

By Chanel Rick - Apr 25,2022
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Every stage of life calls for different types of expenses. In the beginning, as a child, your parents take care of your needs by providing food, shelter, entertainment, and education. Although once grown up, it’s time for you to begin shouldering the burden of these expenses. But what happens when the costs exceed your income? You might consider taking out your first loan. 

A loan could help you finance further education, a fancy wedding, childbirth, and more! However, no matter how concrete your repayment plan may seem, you can’t foresee all the possible hindrances. You might risk becoming a victim of unpredictable scenarios like job loss or accidents. All of this would seriously impede your ability to repay the loan. 

After continuous failure to pay back the loan, the bank may approach you with options like a one-time loan settlement. Despite how simple this offer may seem, it could potentially ruin your credit score for the long haul. 

Also Read: Taking a Loan Against Securities? Here’s All You Need to Know

What is a One-Time Loan Settlement? 

A one-time loan settlement is when the bank, or financial institute, agrees to accept a smaller amount instead of the whole amount due. By doing so, they waive off the rest of the amount and make repayment easier for you. After six months of non-repayment, this option may be offered to you by banks. 

Before the bank arrives at this conclusion, they take several measures to investigate your case. It will allow them to validate your reason for not repaying the loan promptly. 

How Does It Work? 

If the bank believes that your reason for non-repayment is genuine, they may offer you a moratorium period. This option is only for those willing to pay off the loan in one go. Following your agreement, the bank will waive off a portion of the outstanding loan amount to make it easier for you to settle the loan. 

Bear in mind, that the amount written off will depend on the gravity of your financial condition and your ability to repay the bank. Additionally, since you agreed to settle the loan, its repayment status will be recorded as “Settled” and not “Closed”. This difference could affect your overall credit score. 

The Impact on Your Credit Score 

Once your loan is settled, the bank will report it to the Credit Information Bureau (India) Limited (CIBIL). Regardless of whether the relationship between you and the bank has been terminated, CIBIL won’t take into account that the relationship between you and the bank, via the loan, has ended. Instead, they will update the status as “Settled”. Unfortunately, this is viewed as negative credit behaviour and incidentally reduces your credit score by up to 100 points. Furthermore, CIBIL will hold this record for seven years. 

The next time you try to seek a loan, banks will likely reject your application. Banks review your repayment history before sanctioning loans, and having loan settlements in your records, will make them wary in the future. 

Alternatives to a One-Time Loan Settlement 

Unless necessary, opting for a one-time loan settlement is inadvisable. However, don’t be disheartened! There are still other avenues you could seek additional liquidity.

  1. Liquidate Your Savings: Instead of applying for a loan, consider liquidating your portfolio, like Mutual Funds or Fixed Deposits
  2. Negotiate with the Bank: Approach the bank and request either an extension for your repayment term or restructure the repayment plan with lower EMIs
  3. Request for Support: Additionally, you could ask the bank to reduce or hold off the interest rate until your financial situation is stable
  4. Reach Out to Friends & Family: While embarrassing for some, the generosity of your beloved ones could save you from tarnishing your credit score with a loan settlement 

In the end, it’s always advisable to opt for a one-time loan settlement as a last resort. And, if you do find yourself settling a loan this way, you can still attempt to recover your credit score. Just ensure to pay back all outstanding debts to mend the damage of loan settlement. 

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