Bad Loans

Bad loans are loans in which the borrower defaults because they have not made their scheduled payments for a predetermined amount of time. Although the specifics of a loan’s Non – Performing status can vary, “no payment” is typically described as a failure to pay either the principal or interest on a loan. Each sector and loan type has its unique timeframe for loan payments. For the most part, it’s 90 or 180 days. When a bank decides to sell its bad loans to free up capital and to focus on loan performance that generates income, this is one option they may consider.

Bad Loans Meaning

Loans from a bank that have not paid interest for more than 90 days are known as Bad Loans or Non – Performing Assets (NPAs). In other terms, a loan is considered a non-performing asset (NPA) if the bank ceases receiving payments on the principal and interest for more than three months.

How do Bad Loans work?

Financial institutions must disclose their Bad Loans or Non – Performing Assets (NPAs) in their Consolidated Statements of Operations. After a long period of non-payment, the lender will require the borrower to liquidate any assets pledged as part of the debt deal. If no assets were pledged, the lender may write off the asset as a bad debt and then sell it to a collection agency for a discount.

Non – Performing Debt or Bad Loan is typically defined as debt that has been unpaid for 90 days or more. In general, loans have a 90-day grace period; however, particular loan terms and conditions can make this period shorter or longer. If the loan does not pay off, it will be categorised as a Non – Performing Asset.

Bad Loans or Non – Performing Loans can severely impact a lender’s financial position. The lender’s cash flow is disrupted if the borrower fails to pay interest or principal. Provisions for loan losses lower the capital available for future loans to other borrowers. Defaulted loan losses are written off against earnings once the true extent of the damage is known. Regulators can tell if a bank’s financial health is in jeopardy if it has many Non – Performing Assets (NPAs) on its books.

Types of Bad Loans

Term loans are the most common type of Non – Performing Asset, but many others.

• An OD/CC Account has been out of service for more than 90 days.

• Interest or principal instalment payments on short-duration agricultural advances are more than two crop/harvest seasons late or one crop season late for long-duration agricultural advances.

• Payment is more than 90 days past due on all other accounts.

Bad Credit

When a person has a history of not making regular payments on their debts, they have bad credit history. A bad credit score is frequently the result. If a business has not paid its bills on time, it may have bad credit.

Bad credit history makes it difficult to borrow money, especially at low-interest rates. This is due to the lender’s perception of the borrower as riskier. It is true for both secured and unsecured loans, but there are solutions for the latter.

Credit score

A credit score can be defined as a three-digit figure between 300 and 900 that reflects a borrower’s creditworthiness. Potential lenders in India use credit scores calculated by CIBIL TransUnion, Experian, Equifax, or CRIF High Mark to determine if a loan can be granted to a customer. Borrowers with good credit scores are more likely to get loans than those with bad ones. With credit ratings, it can be known how much credit someone has, how much is used, how long their prior obligations were due, and so forth.

The credit bureaus provide a numerical representation of your creditworthiness, a credit score. TransUnion CIBIL, Equifax, Experian Credit Information Company, and High Mark Credit Information Service are the four credit bureaus responsible for calculating it. To calculate credit ratings, each credit bureau uses a unique methodology. To calculate the credit score, they consider various aspects, including credit history, payment history, and more.

Factors affecting Credit Score

• Payment History –

One of the most significant aspects in determining your creditworthiness is the payment history. If expenses and loan EMIs are paid on time, and consistently, it implies that the borrower is responsible with less danger of default. 

• Credit Utilisation Ratio – 

The credit usage ratio heavily influences the credit score. The credit utilization ratio is the entire amount of credit utilized as a percentage of the total credit limit available. Divide the entire outstanding debt by the total credit limit to get a credit utilization ratio. To keep a high credit score, experts recommend that people should spend 30-40% of their credit limit.

• Age of the Credit –

When calculating creditworthiness, credit history is also taken into account. As long as the borrower is careful with his credit in the past and continues to pay bills on time, his credit score will rise. Lenders can make an informed choice about whether or not to grant credit based on the long credit history. 

• Total Accounts –

Keeping a healthy mix of secured and unsecured credit accounts is critical. A credit mix can help you raise your rating. Even though it isn’t as significant as other elements, it cannot be overlooked. The sum of accounts shows how well managed both sorts of credit are. The credit score could be negatively impacted if a large amount of credit is taken out.

Loans for Bad Credit Score

• Non-Banking Financial Institutions (NBFCs) – 

Many NBFCs will provide a borrower loan even if his credit score is low; however, the interest rate may be a little higher on these bad CIBIL score loans. NBFCs, on the other hand, tend to be more lenient when it comes to credit scores. Credit scores as low as 360 have been approved for loans by several NBFCs.

• Peer-to-Peer Lending (P2P) – 

There are various online loans for bad credit scores. Several lending websites termed P2P websites give loans of up to Rs. 5 lakhs with tenures varying between 12 months and 60 months to those with a low credit score.

Conclusion

Bad loans are more likely to emerge when the economy is in a slump and defaults are at historically high levels. Borrower defaults occur when the loanee does not pay on time over an extended period (such as 90 to 180 days). Non-banks may sell performing loans to focus on the loans that generate monthly revenue. Trying to collect money from a defaulting borrower may not be as profitable as selling the loans at a discount. In addition to real estate investors, other banks and distressed debt investors may be interested in investing in non – performing loans