Loan Restructuring: Meaning, Process, Benefits & How to Apply

Loan restructuring is a financial relief option for borrowers facing challenges in repaying their loans. It allows borrowers to modify the terms of their existing loan, such as extending the repayment period, reducing the interest rate, or altering the principal amount. If you're facing financial distress—due to job loss, high-interest debts, or other unforeseen circumstances—loan restructuring can help alleviate the burden. In this article, we will explore the loan restructuring process, types, benefits, and disadvantages, as well as the implications on your credit score.

What is Loan Restructuring?

 
Loan restructuring is the process where a lender modifies the terms of an existing loan agreement, offering the borrower more favourable conditions to make the repayment process more manageable. This typically involves changes to the interest rate, loan tenure or repayment schedule. Loan restructuring can be beneficial for borrowers experiencing financial hardships and can help them avoid default and potential legal consequences.

When to Opt for Loan Restructuring?

You might consider loan restructuring if you’re facing any of the following:

1. Improved Credibility

   Over time, if your credit history improves, you may qualify for better loan terms.

2. Loss of Employment

   If you lose your job but still have significant debt, restructuring may ease the repayment burden.

3. Multiple Debts

   If you have several high-interest loans, restructuring can consolidate them into a more manageable payment.

Types of Loan Restructuring

There are several methods of loan restructuring, depending on the borrower’s situation and the lender’s policies:

1. Loan Modification

   This involves modifying the terms of the loan to lower interest rates, extend the repayment period, or adjust other terms to make payments more affordable.

2. Debt Settlement

   Debt settlement occurs when the lender agrees to accept a lump sum payment that is lower than the outstanding balance. It’s an option for those who can’t repay the full debt amount.

3. Debt-for-Equity Swap

   This method involves exchanging debt for equity shares in the borrower’s company. This is more common for businesses than Personal Loans and helps reduce the debt burden.

4. Debt-for-Debt Swap

   In this type of restructuring, one debt is replaced with another, potentially offering better terms, such as a lower interest rate or longer repayment period.

5. Bondholder Haircuts

   This refers to a reduction in the value of bonds held by creditors, typically as part of a corporate restructuring process. It’s most relevant in government or corporate debt scenarios.

Advantages of Loan Restructuring

Loan restructuring can provide several benefits for borrowers:

• Reduced financial burden

  By restructuring your debt, you may be able to lower your interest rates or extend the repayment period, making your monthly payments more manageable.

• Avoiding bankruptcy

  Loan restructuring offers a way to avoid bankruptcy, allowing you to manage your debt while preserving assets.

• Improved cash flow

  Reducing your debt obligations can free up cash for other financial needs, allowing you to stabilise your finances.

Disadvantages of Debt Restructuring

While loan restructuring can be beneficial, there are some drawbacks to consider:

• Loss of assets

  For secured loans, if you fail to meet the new repayment terms after restructuring, the lender may initiate recovery proceedings, which could result in the loss of pledged assets such as property or vehicles.

• Damaged credit score

  Restructuring your loan can negatively impact your credit score. However, this impact is typically temporary, and as long as you adhere to the new terms, your score may improve over time.

• Negative impact on shareholders

  For corporations, restructuring can dilute shareholder value, affecting the overall company stock price.

• Costly

  Loan restructuring may involve legal and administrative fees, especially for corporate debt, making it an expensive option in some cases.

What is the RBI's one-time debt restructuring scheme?

The RBI introduced a one-time debt restructuring scheme to support borrowers facing financial hardship due to the COVID-19 pandemic. Under this scheme, eligible borrowers were allowed to restructure their loans without being penalised for missed payments.

Eligibility:

• The borrower must not have availed of any other resolution plan under the RBI’s stressed assets framework.
• The borrower should not have defaulted in meeting payment obligations to any of their creditors.

Process:

• Borrowers had to demonstrate the future viability of their business and provide additional securities as required by the lender to qualify for the restructuring scheme.

Steps in the Loan Restructuring Process

The loan restructuring process typically follows these steps:

1. Assessment of Eligibility:

   The lender will assess your financial situation to determine if you qualify for restructuring.

2. Evaluation of Restructuring Options:

   Based on your financial condition, the lender will offer different restructuring options, and you can choose the one that best suits your needs.

3. Formal Application:

   The borrower submits a formal application, along with supporting financial documentation, to request the restructuring.

4. Credit Impact Consideration:

   The lender will inform the borrower about the potential impact on their credit score.

5. Approval and Agreement:

   If approved, the lender will present the new loan terms, and the borrower will sign an agreement to accept the modified terms.

Impact of Loan Restructuring on Credit Score

While loan restructuring can provide immediate financial relief, it typically has a negative impact on your credit score. This is because the restructured loan is considered an indicator of financial difficulty, even though it helps prevent loan default. Lenders report the restructuring to credit bureaus, which can affect your future borrowing ability.

However, once you adhere to the new repayment terms, your credit score can gradually improve over time.

Conclusion

Loan restructuring is a valuable option for borrowers struggling to repay their loans, but it’s important to understand the process and implications. By modifying loan terms, restructuring can provide financial relief, but it can also affect your credit score and financial future. Be sure to weigh the pros and cons and work closely with your lender to find the best solution for your circumstances.

Frequently Asked Questions (FAQs)

1. What is loan restructuring? 

Loan restructuring is the process of modifying the terms of an existing loan agreement to make it easier for the borrower to repay, typically by extending the repayment period or lowering the interest rate.

2. How does loan restructuring affect my credit score?

Loan restructuring can have a temporary negative impact on your credit score. However, if you follow the new payment plan, your score can improve over time.

3. Can I apply for loan restructuring online?

Yes, many lenders offer online platforms for loan restructuring applications, making the process more streamlined and convenient.

4. What types of loans can be restructured?

Loan restructuring can apply to various types of loans, including Personal Loans, Home Loans, and Business Loans.

5. What are the benefits of loan restructuring?

The benefits include reduced financial burden, avoiding bankruptcy, and improved cash flow, making it easier for borrowers to manage their debt.