What to Do When You Can't Repay a Loan: Understanding Your Legal Rights

Loans have become a necessary part of modern life, particularly in urban areas, where meeting all financial needs without borrowing is difficult. Whether it is buying a car, fulfilling the dream of owning a home, starting a new business, or funding personal expenses, loans have become an essential tool to fulfil these aspirations.

However, circumstances may arise where one may not be able to repay a loan on time. These situations may include job loss, severe illness, or financial crises, which can make it challenging to keep up with loan repayments. Being in a position of not being able to repay a loan can lead to financial stress and potential legal consequences. Borrowers need to be aware of their rights and options in such situations to avoid falling into further debt and protect their financial well-being. This article elucidates borrowers' rights if they find themselves unable to repay a loan and the steps they can take to navigate this challenging situation.

To begin with, let's clarify some essential information you should be aware of before we discuss the rights of loan defaulters. In India, defaulting on a bank loan (i.e., being unable to repay the borrowed amount) is not considered a criminal offence unless there is evidence of fraudulent intent.

The legal system recognises that defaulters may have legitimate reasons for not being able to repay their loans and therefore provides them with protection. The Indian civil courts carefully consider genuine and lawful reasons for loan defaults. It is important to note that loan defaults in India are regarded as a civil offence, and the police cannot arrest a person simply because they are unable to repay a loan.

However, it is crucial to understand that these rules only apply to those who have legitimate reasons and not to those who intentionally default on their loans, engage in fraudulent activities, evade legal action, or disobey the law.

What happens if you are unable to repay a loan in India?

When you miss a few EMIs on your loan, the lender typically begins the recovery process after sending you multiple notices. In the case of secured loans such as home loans, two-wheeler loans, and car loans, the bank can take possession of the asset as per the SARFAESI (Securitization and Reconstruction of Financial Assets and Enforcement of Security Interests) Act.

However, the lender cannot start the repossession process without giving you sufficient notice. If you fail to pay the outstanding amount within this time, the lender can initiate the recovery process and take possession of the asset. In addition to the notice period, the lender must also follow other legal procedures and guidelines specified under the SARFAESI Act before initiating the repossession process.

In the case of an unsecured loan, the lender can take legal action against the defaulter by approaching the court to recover the outstanding amount. The court will then issue a notice to the defaulter, requiring them to appear in court and present their case. If the court finds that the defaulter has a genuine reason for not repaying the loan, it may provide them with protection and assistance.

However, if the court finds that the defaulter has no genuine reason for not repaying the loan or is engaging in fraudulent activities, it may rule in favour of the lender and allow them to recover the outstanding amount.

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What are your rights if you are unable to repay a loan?

To ensure the borrower is treated fairly during the recovery process, several rights are established by law:

1. Adequate Notice:

The borrower has a right to receive sufficient and timely notice before the bank can sell its assets in the event of loan default. In India, when a borrower is unable to make loan repayments for more than 90 days, their bank account is classified as a Non-Performing Asset (NPA). At this point, the lender issues a 60-day notice to the borrower, allowing them to repay the pending EMIs.

If the borrower is still unable to make the repayments, the lender has the legal authority to sell the assets pledged as collateral to recover the outstanding loan amount. However, even in this situation, the bank is required to issue a 30-day public notice before auctioning off the assets. This gives the borrower additional time to make the payment or arrange for alternative funding sources. By giving adequate notice, the borrower has an opportunity to protect their assets or challenge the bank's decision to auction them.

2. Fair Valuation of Assets:

The borrower has a right to receive a fair market value for the assets that are being sold by the lender in the event of loan default. In India, before the sale of the asset, the bank must issue a public notice that specifies all the details of the sale, such as the fair market value of the asset, the reserve price, and other auction details like the venue, date, and time.

The bank will appoint valuers to determine the sale price of the asset. If the borrower feels that the asset is being undervalued, they have the right to contest the auction. The borrower can also find another buyer and introduce them to the lender. In this case, if the new buyer agrees to pay a higher price than the one offered by the lender, the lender is obligated to sell the asset to the new buyer at a higher price.

This right is crucial for the borrower because the sale of assets at a price lower than the market value can cause significant financial losses for the borrower, making it more difficult for them to repay their loans. By ensuring that the borrower receives a fair value for their assets, the Right to Fair Valuation of Assets protects the borrower's interests and promotes fairness and transparency in the recovery process.

3. Balance of the Auction Proceeds:

The borrower or defaulter should receive any surplus money from the sale of their asset after the dues and liabilities to the lender have been cleared.

For example, if a borrower defaults on a home loan and the lender sells the property to recover their dues, the sale may fetch an amount that is more than what was owed by the borrower. In such a case, the borrower has a right to receive the excess amount as per law.

This provision helps to ensure that the lender does not unjustly enrich themselves by retaining more money than they are owed. The borrower is entitled to receive the surplus amount, and the lender must return it to the borrower.

4. Humane Treatment:

While lenders may use recovery agents to recover unpaid loans, they must ensure that these agents treat borrowers fairly and respectfully. The recovery agents must not harass or intimidate borrowers and are only allowed to meet with borrowers at a convenient time and place. They must schedule their visits between 7 am and 7 pm and must not violate any standards of decency.

If borrowers feel that recovery agents have harassed them or their family members physically or mentally, they can file a complaint with the lender or banking ombudsman officers. The lender must take action to ensure that borrowers are treated humanely and that their rights are protected.

What should you do if you are unable to repay a loan?

If you are unable to repay a loan, the first thing you should do is contact your lender and explain your situation. You may be able to work out a repayment plan by restructuring your loan or reducing the EMI amount, which can make your repayments more manageable. Ignoring your loan repayments can lead to late fees, penalties, and damage to your credit score. Hence, you should be proactive and honest with your lender in order to find a solution that works for both parties.

In certain situations, such as sudden death in the family, health issues, or job loss, the lender may offer an "EMI holiday" or moratorium period. This means that during this period, the borrower will not have to make their EMI payments and can manage their finances better. It is a temporary suspension of loan repayments, usually for a few months, that is offered by lenders to provide some relief to borrowers facing financial difficulties. However, before opting for an EMI holiday, you should check the terms and conditions with the lender, as it can increase your total interest outgo.

To sum it up :

Being unable to repay a loan can be a stressful situation. However, borrowers in India have certain rights that protect them from unfair and illegal practices by lenders and recovery agents. The right to adequate notice, fair valuation of assets, the balance of auction proceeds, and humane treatment ensure that borrowers are treated fairly and respectfully throughout the loan recovery process. It's important for borrowers to be aware of their rights and to reach out to their lender or banking ombudsman officers if they feel their rights are being violated. By understanding and exercising these rights, borrowers can navigate the loan recovery process more confidently and easily.

KETKI JADHAV is a Content Writer at PersonalFN since August 2021. She is an MBA (Finance) and has over seven years of experience in Retail Banking. Ketki specialises in covering articles around banking, insurance, personal finance, and mutual funds and has been doing it for over three years now.