What happens if you default on your personal loan and it becomes an NPA?

In this article, we will understand what an NPA is, the process of categorising a loan as an NPA, and what happens when a loan is categorised as an NPA.

What is an NPA?

As per RBI guidelines, if a borrower doesn’t pay the personal loan interest or principal for 90 days or more, it is categorised as a non-performing asset (NPA). The personal loan is termed non-performing as it is not earning interest for the bank or the NBFC that has given it.

Before getting categorised as an NPA, the loan goes through the Special Mention Account (SMA) categorisation. When a loan starts showing early signs of stress, it is categorised as SMA as follows.

• SMA-0: When a personal loan principal or interest or both, have remained overdue for less than 30 days, it is included under the SMA-0 category.
• SMA-1: When a personal loan principal or interest or both, have remained overdue for more than 30 days but less than 60 days, it is included under the SMA-1 category.
• SMA-2: When a personal loan principal or interest, or both, have remained overdue for more than 60 days but less than 90 days, it is included under the SMA-2 category.

Let us understand with the help of an example. A borrower has taken a Rs. 50,000 personal loan with a one-year tenure. The EMI date is the 1st of the month. The borrower has paid 3 EMIs on time. The 4th EMI is due on 1st June, which the borrower misses.

So, the personal loan account will be categorised as SMA-0. If the loan EMI remains unpaid till 1st July, it will be categorised as SMA-1. If the loan EMI remains unpaid till 31st July, it will be categorised as SMA-2. Further, if the EMI remains unpaid till 30th August, the personal loan will be categorised as an NPA.

The number of days for which an EMI has remained unpaid is tracked through the Days Past Due (DPD). In the credit report, if the DPD is 0, it means the loan EMIs have been paid on time. Any number higher than 0 means the loan EMI repayment has been delayed. For example, if the EMI has remained unpaid for 30 days, it will be mentioned as 30 DPD.

Reporting of NPA to credit bureaus

Whenever there is any delay in the personal loan EMI repayment, the bank or NBFC reports it to the Credit Information Companies (CICs) like CRIF High Mark. The timely repayment of loan EMIs has the highest weightage in calculating an individual’s credit score. So, when there is an EMI repayment delay, there is a big drop in the borrower’s credit score.

Along with the EMI delay repayment, the borrower’s credit report will reflect the Days Past Due (DPD), and the SMA categorisation (SMA-0, SMA-1, or SMA-2).

Types of NPAs

Once a personal loan has been categorised as an NPA, it can be further sub-categorised as follows.

Substandard (SUB): If a personal loan has remained NPA for a period of less than or equal to 12 months, it will be categorised as sub-standard.

Doubtful (DBT): If a personal loan account has remained an NPA for more than 12 months, it will be categorised as doubtful. Usually, the longer the duration for which the personal loan remains unpaid, the lower the probability of recovery.

Loss (LSS): If the bank or NBFC feels the personal loan outstanding amount will remain uncollectible, it will be categorised as a loss. By this stage, the bank may have exhausted all the ways of recovering the loan money.

What happens when the EMI repayment is delayed?

If a borrower delays a personal loan EMI repayment, the bank will start the recovery process.

Recovery notice to borrower: The bank will send a legal notice to the borrower with the details of the outstanding loan amount and its repayment. The notice will mention the date by which the borrower must pay the outstanding loan amount.

If the borrower has a genuine problem due to which they are facing financial constraints, they may approach the bank. The borrower may discuss the issue with the bank and request a loan restructuring.

Filing a lawsuit: If the borrower doesn’t clear the outstanding loan amount by the date specified in the legal notice, the bank will file a Court case. During the Court proceedings, if the borrower doesn’t respond favourably, the Judge can pass an order to attach the borrower’s assets for loan recovery. The attachment order can include the borrower’s bank savings accounts, fixed deposits, etc.

Upgrade of NPA account to standard account

In the earlier section, we have seen how loan EMI repayment delays are reported to the credit bureaus. The credit score takes a hit, and the NPA status is reflected in the credit report. Once a loan account is categorised as an NPA, it will remain till the borrower clears the entire personal loan arrears, including principal and interest.

If and when the borrower clears the entire personal loan arrears, the NPA account is upgraded to a standard account.

Always pay EMIs on time

We have discussed how delaying personal loan EMI repayment damages the credit score and leads to bank legal action for recovery. Any reports of delays/defaults in the credit report make it difficult for the borrower to get new loans or credit cards soon. Also, bank legal action can lead to the attachment of assets through a Court order. Hence, the borrower must pay all personal loan EMIs before or on time to ensure much-needed peace of mind.

Gopal Gidwani is a freelance personal finance content writer with 15+ years of experience. He can be reached at LinkedIn.

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