When you struggle to repay your education loan!

An education loan is structured very differently compared to other loans from banks. As it is a loan which is used to fund education, the repayment of the principal of this loan begins after the student completes his education. This is unlike other loans, where both the principal and the interest amounts are repaid from the beginning of the loan. The repayment of an education loan starts after a moratorium, which is like a holiday period. This period usually extends to one year after completion of the course or six months after getting a job, whichever is earlier.

The first factor to remember while borrowing an education loan is to begin paying the interest amount while studying. Banks give an option to the borrower to repay the interest from the beginning of the loan, or along with the repayment of the principal. In case of the former, the interest levied is simple interest. By the time the loan is ready for repayment, the interest accrued during the study period is not included in the EMI payments. As a result, the burden of repayment is much lower. Further, some banks also give an interest subsidy of upto 1% if the interest is regularly serviced during the study period.

It is usually advisable that the borrower has a repayment plan in place before the repayment commences. However, sometimes, borrowers are unable to repay their education loan after education. The student is unable to get a job offer, or is offered a job where the salary is very low. This can result in a problem in loan repayment. What happens then?

If the borrower has not proactively approached the bank and discussed the concern on repayment, then the bank is unaware that the borrower will not be repaying the loan. So after waiting for a month or two, banks generally issue a formal notice to the borrower. Non payment of EMI also attracts a penalty. If there is no response from the borrower even after the issue of notice, the bank can take charge of the collateral given for the loan. Education loans are usually guaranteed by a parent or spouse or someone with a healthy asset base. The guarantor will be contacted and the collateral may be realised to close the loan.

However, note that this is an extreme scenario. As a prudent borrower, if you feel that you will be unable to repay the bank loan, you must inform the bank of the situation well in advance. Based on the validity of the case and your scenario, banks can work out one of the following solutions:

• Increase the tenure: Education loans come with tenures of 5 to 7 years. If the bank feels that your crisis situation is temporary and that you will start earning well in some time, they may agree to increase the tenure of the loan to up to 10 years or 15 years as the case may be. An increase in tenure means that the EMI will fall. A lower EMI may still be affordable to you, if you are earning a salary much below what was expected when the loan was taken. But do not forget that as in any other loan, a longer tenure means you will be paying a higher interest overall, for the full tenure of the loan.
• Extend moratorium period: Although this is rare, this is not completely impossible. If you have a good credit background, your negotiation skills are good and the reason for not landing a job is genuine, the bank may just agree to extend your moratorium period by six months to 1 year. This option is also possible if the borrower wishes to pursue higher studies immediately and so takes a top up loan. This can bring a huge relief as you do not have to manage EMI payments along with your regular expenses. However, remember that since you will continue to service interest, your interest outflow will be quite high.
• Income linked repayment: Another option to bargain with the bank is to ask for an income linked repayment scheme. Banks abroad have sophisticated software which can model this automatically. In India, at present, there is no provision to adopt this in banks. Nevertheless, a simpler model may soon be available, which captures the fact that individuals generally earn lower in the first few years of their career. This is in effect like a step up EMI option of a home loan, where the initial years of the repayment will carry a lower EMI and this will be increased as the years go by and the salary increases.

Avoiding payments or not informing the bank can be quite harmful for your credit health, as this can affect your credit standing adversely. Considering that there will be many more important loans you would want to borrow later in life, it is always better to keep the bank apprised of the situation of non payment of education loan, and work out an option which best suits both you and the bank.