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INTRODUCTION

We all have heard about individuals and businesses going bankrupt many times, but what is it? In simple terms, it is a legal process that is initiated when an individual or business is no longer able to repay their outstanding debts. Many factors contribute to bankruptcy such as medical expenses, job loss, increasing mortgage payments, unforeseen expenses, overspending, divorce, etc. However, sometimes individuals may choose to file for bankruptcy. Opting for bankruptcy can provide relief and offers a fresh start.

On the other hand, loan settlement is a process in which there is an agreement between the borrower and the lender to settle the loan at an amount that is less than the outstanding amount. After the settlement process, the loan is marked as “settled”. The final settlement amount depends on the genuineness of the inability of the borrower to repay the loan. Loan settlement provides instant relief to the borrower.

WORKING OF BANKRUPTCY

In India, the bankruptcy process for companies is governed by the Insolvency and Bankruptcy Code (IBC). The Insolvency and Bankruptcy Board of India (IBBI) regulates the insolvency proceedings and entities in India. It is a statutory body that was established in 2016 which regulates the profession and processes related to insolvency and bankruptcy. The laws that govern personal bankruptcy in India include Section 9 of the Provincial Insolvency Act, of 1920, and Section 12 of the Presidential Insolvency Act, of 1909.

An individual debtor who is unable to repay their debts can start the process of bankruptcy by applying for insolvency with the National Company Law Tribunal (NCLT).

According to the current process if you are not able to repay your loans and have debts of more than Rs. 500 you can file for bankruptcy. After that, you can apply for a stay against all recovery proceedings by your creditors. Your assets will be distributed by an official among your creditors. After the process is done the court will discharge you and you will be marked as “discharged from bankruptcy” by the court. This will allow you to start a fresh life leaving your previous financial hurdles behind.

ADVANTAGES OF OPTING FOR BANKRUPTCY

  •  SAVE YOU FROM POTENTIAL LAWSUITS: filing for bankruptcy can save you from facing lawsuits due to your default payments and other things. Getting involved in a lawsuit can be a very messy process and it will tarnish your reputation in society.
  •  LOW-COSTST OPTION: filing for bankruptcy costs less compared to other informal options.
  •  EASY AND QUICK PROCESS: The personal bankruptcy process doesn’t take much time and it’s an easy and quick process that will allow you to focus on rebuilding for the future.
  •  ALLOWS YOU TO HAVE A FRESH START: after the bankruptcy process, you can focus on rebuilding for financial future as it allows you to have a fresh start. With better financial habits, budgeting, and financial education you can have a financially stable future.

DISADVANTAGES OF OPTING FOR BANKRUPTCY

  • LOWER YOUR CREDIT SCORE: opting for bankruptcy will significantly drop your credit score which will make it difficult for you to avail of credit in the future.
  • YOU WILL LOSE YOUR CREDIT CARDS: after bankruptcy, you will need to re-apply for a credit card because when you file for bankruptcy you will lose all of your credit cards.
  • YOU MAY LOSE YOUR LUXURY BELONGINGS: During bankruptcy, you will lose your non-essential assets. Investments, equity in your home, or some other non-exempt assets, will be realized and distributed among the creditors.
  • MAY EFFECT YOUR FUTURE EMPLOYMENT PROSPECTS: being declared bankrupt may have negative consequences on your future employment opportunities especially if you are in charge of trust funds. Also, you can’t be a director of a company while you are bankrupt.

PROCESS OF LOAN SETTLEMENT

We have understood the bankruptcy process, its advantages and disadvantages but how does Loan settlement work? It starts with the borrower communicating to the lender about his inability to repay the loan stating the reason. After verifying the truth of the reason, the lender will offer an amount for the settlement of the loan that is less than the outstanding amount. The amount decided depends on the gravity of the situation and also on the repayment capacity of the borrower. After the borrower repays the agreed amount, the loan will be marked as “settled”. Depending upon the EMIs that are unpaid the lender can write off the penalty for delayed payment, processing fee, or a part of the principal amount.

ADVANTAGES OF LOAN SETTLEMENT

  1. HELPS TO ACHIEVE FINANCIAL STABILITY

Loan settlement allows you to be debt-free faster and with this, you can use your funds in other areas such as emergency funds, retirement plans, or some investment plan. After the settlement process, the borrower can focus on financial recovery and can achieve financial stability.

2. HELP YOU SAVE MONEY

When you pay less than the amount borrowed for the settlement of the loan, you are saving money. During times of financial crisis, it can be difficult to repay the whole amount borrowed. With loan settlement can you negotiate the settlement amount according to your repaying capacity.  

3. HELPS TO AVOID DEFAULT

Defaulting on a loan can come with serious consequences such as legal action, confiscation of assets, decline in credit score, etc. It also harms the reputation of the borrower in society and he may face difficulties in availing credit in the future. However, by resorting to loan settlement, the borrower can prevent all these negative consequences.

4. INSTANT RELIEF FROM DEBT

By loan settlement, the borrower can clear his obligation to repay the loan by repaying less than the amount borrowed. This reduces stress and anxiety and provides instant relief from debt.

DISADVANTAGES OF LOAN SETTLEMENT

Loan settlement can help the borrower out of his financial crisis but it comes with a lot of negative consequences. Firstly, it negatively impacts your credit score. When you pay less than the amount borrower it shows a lack of creditworthiness. After the settlement process, the lender reports it to the credit bureau, and the loan is marked as “settled” rather than “closed”. This significantly brings down the credit score of the borrower. As most personal loans are unsecured, it means that the lenders assess the risk involved and the repaying capacity of the borrower through the credit score. The higher the credit score the better chances of getting approved for loans with better terms and lower interest rates. But if the credit score is less the borrower will face difficulties in getting loans in the future.

Loan settlement also harms in the long run by limiting the financial opportunities in the future.

WHEN TO OPT FOR BANKRUPTCY?

  1.  You are not able to meet your financial obligations.
  2.  Debts outside your repaying capacity.
  3.  Potential of lawsuits.
  4.  Minimum payments of your debts are more than your monthly income.
  5.  Multiple unpaid debts.
  6.  Continuous calls and threats from creditors.

CONCLUSION

Both bankruptcy and loan settlement are processes that can help you get out of your financial hardship and have a fresh start. What is best for you depends on your financial situation and, the number of unpaid debts that you have among other factors. But when you have a huge amount of unmanageable debt and you don’t want to go through the bankruptcy process due to the social stigma, loan settlement can provide you with the solution. However, the loan settlement process is much lengthier than the bankruptcy process and it will severely affect your credit score.

Bankruptcy can provide you immediate relief and the process is also easy and economical. Before initiating any of these processes it’s better to evaluate your current financial situations, obligations, and non-negotiable expenses, asses your assets and liabilities and seek professional help for a seamless process toward achieving a new financial start.

This article is written by Purbasha Parui, a 1st-year law and finance enthusiast from BMS College of Law, Bangalore.

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