In some cases, you may be eligible for a moratorium on payments while you get your finances in order.In a debt spiral, a person is so deep in debt, he needs to borrow even more to pay off their dues. But in doing so, his debt becomes bigger and tougher to repay, keeping him trapped in unending financial misery. Besides the stress, loan repayment problems remain on the credit record for years and could make it difficult to get fresh loans in a time of need.
Let’s look at simple ways to address debt spirals.
Positive intent
You should remain positive that you will find a way to pay your dues. This intent is necessary. It is your moral, legal, and financial obligation to repay your loans. Payment delays, defaults, and settlements (where your bank agrees to accept a one-time part-payment to close the loan) will all damage your credit history. This will make it difficult for you to apply for new credit lines in the future.
Lenders will either reject your loan applications or charge you a very high interest rate. Therefore, your intent must be to pay your dues in full and to find solutions to make this happen.
The psychology of debt
Debt problems can happen for various reasons such as loss of income or a costly hospitalisation. The borrower may also be unable to think through financial decisions, especially understanding how borrowing is going to impact his finances. Debt spirals may also happen for non-financial reasons such as your mental health. For example, compulsive buying disorder may cause an obsession about shopping. Whatever the underlying reason for the spiral, it can cause stress, anxiety and depression, and aggravate the mental health issues existing in the borrower. It’s important therefore to seek professional help. For financial matters, a personal finance advisor may be able to chart a path out of debt. And for mental health issues leading to financial problems, therapy may be required.
Prioritise debts
Assuming you’ve decided to repay your debts, let’s start with taking stock of your loans. Some loans are more important than others, and you need to pay them first. For example, high-interest debt such as credit card dues need to go soon as their interest compounds fastest. Large-value loans will draw out the biggest dues and need to be paid soon. For example, a home loan default can lead to the repossession of your house. Create a plan for how you’re going to pay these debts on priority. You may have to save money or liquidate assets to raise cash.
Consolidate, refinance & restructure
Loan consolidation helps you club multiple loans into a single loan whose interest rate and repayment terms may be easier on your finances. For example, you could pay off your dues on multiple credit cards via a single personal loan whose interest rate may be much lower in comparison and therefore easier to pay.
It’s in your lender’s interest that you pay your dues. Therefore, the lender will extend you all help within their policy to make repayment easier. Some options could be refinancing or restructuring your loan. You may refinance to a lower interest rate, or restructure the loan to lower the EMI and lengthen the tenure.
In some cases, you may be eligible for a moratorium on payments while you get your finances in order. Regardless, don’t forget that delayed dues will continue to attract interest which will increase your dues. Avoid loan settlements. They may solve a short-term problem but create the long-term problem of a bad credit history.
Be smart about new loans
If you’re taking a new loan to pay off old loans, be mindful of the impact it will have on your finances. You could take a loan against a security such as gold or property to meet your liquidity needs. You could borrow from family and friends and ask for a low-interest loan. Remember, another unpaid loan could lead to the forfeiture of your property, or damage your relationships with your friends and family.
Debt traps are easy to get into and hard to exit. But with the right approach, borrowers may overcome this challenge.
The writer is CEO, BankBazaar.com
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