HOW TO IMPROVE YOUR CREDIT SCORE AFTER A LOAN SETTLEMENT?

Introduction

 
There can be many reasons why you may have missed some EMI payments or have defaulted a loan. In such cases, the lenders may offer the solution of settling the loan with one-time payment. The amount is not less than the principal amount but a large chunk of the interest gets waived off. Sounds like an act of generosity? Well, wait before you jump with joy. The One Time Settlement (OTS), as it is called in banking parlance, will get the recovery agents off your back after you have defaulted on a loan but it will also ruin your credit history for years. The worst part is that most people are unaware that lenders report your inability to pay the loan to the credit bureau, which gravely impacts your ability to access loans in the future. But in case you have opted for the settlement, don’t lose hope. You can still get your credit report back on track… steadily!   
 

What is a loan settlement?

 
Loan settlement is a process in which a borrower and lender agree to a reduced payoff amount for a loan. This is typically used as a way for the borrower to resolve a delinquent or defaulted loan. The borrower and lender will reach an agreement on a reduced payoff amount, which is usually less than the remaining balance of the loan. In exchange for this reduced payoff amount, the lender will typically release the borrower from any further obligations related to the loan. This can include any collection efforts or legal action that the lender may have taken against the borrower.
 
It is important to note that loan settlements can hurt a borrower's credit score, as it is an indication that the borrower was unable to repay the loan in full. It may be a better option than defaulting on the loan. However, it is always recommended to consult a financial advisor or attorney before entering into a loan settlement agreement.
 

When to opt for a loan settlement?

 

1. Monetary Constraints

   If you are experiencing financial hardship and are unable to make your loan payments, a loan settlement may be a good option. The lender here may agree to accept a lower payoff amount than the remaining balance of the loan, which can save you from being sued by the lender or facing property seizure garnishment.
    

2. Unaffordable EMI

   If your loan payments are unaffordable and you are unable to refinance or modify the loan, a loan settlement may be a viable option. It allows you to reduce your payments to a more manageable amount. That is because the lender may agree to reduce the balance of the loan and lower the monthly payments, making it more affordable for you to repay the loan.
    

3. Save Asset

   If you have received notice from your lender for auctioning off your mortgaged property, a loan settlement may be a way to avoid losing your property. It allows you to resolve the delinquent loan and keep your home. However, this kind of settlement can be time-consuming and costly for both you and the lender.
    

Also Read: What Credit Score do I need for Personal Loan
 

How a loan settlement affects your credit score?

After the settlement, the lender writes off the difference between the amount due and amount paid from its records, terminates your account, and reports the loss to the credit bureaus. Often such customers whose loans have been written off are also blacklisted. The credit report will not show any amount overdue against your name, the account status will show 'settled' and that may affect your future application.
 

How to improve credit score after settlement?

 

• Check your credit score for mistakes

  Keep an eye on the credit report as sometimes bureaus may make mistakes while updating your records. This may lower your score. Checking your report from time to time helps in identifying any discrepancies and correcting them by submitting a credit report dispute resolution form online. After settlement, always ask for a ‘no-dues certificate’ from the lender as a proof that the account was closed.
   

• Apply for credit card

  It’s quite natural that you might develop cold feet while applying for new credit cards. A case of once bitten, twice shy. But credit cards will improve your credit score if you spend less than credit limit and repay the dues before the deadline. Sometimes your credit card request may get denied thanks to your poor credit history. In such cases, you can get a credit card like a secured loan by keeping something valuable like a Fixed Deposit as collateral. You can get credit limit up to 80-90% of the collateral's value. Also, don’t apply for several credit cards as it would give the impression that you are in desperate need of capital.
   

• Don’t default on payments

  That's the basic rule. Pay all dues in time and build a reputation of a responsible and trustworthy borrower. Any default, if gets reported, to the bureaus will sabotage all your progress in building a positive credit history.
   

• Only buy items that you can afford

  The same monetary power that credit cards give also spells doom. Always live below your means. Going around buying stuff that you don’t need or can’t afford on credit cards will get you in the same tricky situation that leads to defaults. Improve your spending habits and stay below your credit limit.
   

How to update my Credit Score after settlement?

 
Updating your credit score after a loan settlement in India can be done by following a few steps.
 
Firstly, after reaching a settlement agreement with the lender, ensure that you get it in writing and that it clearly states that the account has been settled and is closed.
 
Secondly, check your credit report to ensure that the lender has updated the account status accordingly. You may check your credit report with the credit bureaus.
 
Thirdly, if the lender has not updated your credit report, you can contact them and ask them to update it. If they still don’t update it, you can contact the credit bureau with all the necessary documents and request them to update your credit report.
 
Also Read: A Brief Overview of The Difference Between Credit Score And CIBIL Score
 

How long will it take for your score to improve?

A loan settlement appears negatively in the credit report, not for one or two years but will stay alive for many years and wreck your chances of availing a new loan. The customer also has the option of getting the term 'settled' removed from their credit report by paying the waived amount at a later date. However, despite doing that, the history of default and settlement will be reflected for at least 36 months after the OTS.

While paying less via OTS can surely sound like a boon, but it is actually a bane. It damages the credit history and leaves the applicants in a lurch as they will have a hard time getting anymore credit. One should carefully evaluate the terms before accepting the lender’s settlement offer. However, it’s not the end of the road for people who have the temptation of settlement and they can always mend ways and improve their credit history gradually. Just to reiterate, it will need both patience and discipline.
 
Disclaimer: This post was first published on 5th February and has been updated for the latest information, freshness and accuracy.