The loans availed by individuals from a bank are considered to be assets by the lender. From the perspective of the bank, these loans are a way to earn interest. So, what happens when an individual fails to repay the loans? When borrowers fail to pay back the loan amount along with the interest within the predetermined tenure, whether months or years, it becomes a loss or a non-performing asset (NPA) for the lending institution.
In such a situation, the loan becomes a bad debt. So, while accounting, these loans can be written off by the bank in order to minimise the bank’s tax liabilities. A personal loan – which is an unsecured loan that does not require collateral – can also be written off upon its non-repayment.
How are loans written off?
When allowance or provision accounting is carried out, uncollected debt is credited under ‘Accounts Receivable’ on the balance sheet. In the balance sheet, the same amount is debited under the column marked ‘Allowance for Doubtful Accounts’.
Under the direct write-off method, a lender makes a debit entry under the bad expense account on the income statement. The amount in question is credited as accounts receivable on the balance sheet. Unlike provision and allowance accounting, this method does have an ‘Allowance for doubtful accounts’ category.
What are the repercussions of a loan write-off?
Just because a loan has been written off does not mean that the bank will stop attempting to recover it from the borrower. In fact, recovery of a loan after writing it off presents an advantage to the bank. The borrower remains liable for repayment of the loan amount as well the interest on it, and the amount thus received is considered to be a profit. Moreover, as mentioned earlier, the bank gets a tax break on the losses it incurs on non-repayment of loans. The bank can also sell a loan written off to a recovery company.
A bank may write off a loan from its accounts if it is not repaid. However, it reflects poorly on the borrower. If the loan is not repaid even after a bank gives additional time upon the completion of the tenor, it writes off the loan and reports it to the credit bureau. Your credit report, therefore, has ‘written off’ labelled against the loan borrowed. This reduces the chances of availing a loan in the future. Along with the borrower’s creditworthiness, their credit or CIBIL score also takes a hit.
Now, let’s look at how loan write-offs affect others. The government bears the brunt of loan write-offs as there is a reduction in tax revenue. The losses faced by banks are set off against taxes. Furthermore, writing off of loans goes on to impact other depositors as well. Lenders that have many NPAs offer low rates on deposits and higher lending rates to recover from the losses of bad loans.
Conclusion
It is prudent to gain an all-around understanding of a personal loan before you apply for it. While researching for comparative interest rates, ensuring a good CIBIL score and evaluating your repayment capacity are necessary, it is also imperative that you know what happens if you fail to repay a personal loan, also check CIBIL score. Starting at an interest rate of 10% per annum, you can check out Finserv MARKETS’ personal loan. Get up to Rs. 25 Lakhs in loan for a tenor of up to 5 years with Finserv MARKETS.
