How to Prevent Your Personal Loan from Turning into a Bad Debt?

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The current financial year has seen public sector banks take the worst hit, in terms of profit. State Bank of India, IDBI, Bank of Baroda, etc have all been suffering due to the forever hanging sword of bad debts or non-performing assets.  On an individual level, most of the time unsecured loans such as personal loans can turn into an NPA account or a bad loan, if you falter at loan repayments.

The Reserve Bank of India has started a cleanup drive for the non-performing assets (NPAs) with the objective of strengthening the banks’ balance sheets. Most of the NPAs happen to be corporate loans. Such corporate loans are principally from the infrastructure, steel, power, textiles, and commercial real estate sectors. This is the state of affairs as the industries mentioned above are heavily capital-intensive.

Precautionary Ways to Stop Personal Loans from Becoming a Bad Debt

  • You may not be able to repay your loan in time. However, it does not mean you never repay the debt. Try to liquidate a few assets and use the returns from the same to complete loan payments.
  • If you find the EMIs too high, then work out a plan with the lender on restructuring the loan to smaller EMIs and greater tenure.
  • Have a word with the lender to find out if your unsecured personal loan can be turned into a secured one to reduce the risk of bad debt.
  • Take a soft loan from friends or family to pay for the SBI personal loan, in case you are unable to secure urgent cash for the EMIs.
  • Lastly, you can opt for loan settlement, but that is not recommended as one of the first measures. A loan settlement can impact your credit score negatively for a while.

NPAs or bad debts also originate when banks do not identify the dangers of portfolio concentration. This implies that their fund allocation is not proper, priority-wise as well as sector-wise. A well-formed strategy is necessary to address the problem.

The strategy can include:

  1. Reduction of the risk of portfolio concentration: The sectors that receive the funds must be monitored. The concentration of loans provided to a few particular sectors needs to be spread out for diversifying the portfolio.
  2. Focus on Capital Efficiency: Capital efficiency is a correlation between the costs incurred by a business enterprise; in comparison to the amount of money it utilizes to manufacture goods or services. This requires restricting controllable expenses and utilizing the funds optimally.
  3. Unlocking of the Subsidiary Value: Most banks have subsidiaries such as an insurance business, an asset management business, or separate subsidiaries that provide home loans or property loans. It is necessary to manage the subsidiaries so that profits and value are added to the principal business of banking.

The banks can expect to see an increase in profits after implementing these measures. The profits will be helpful in creating a cushion against the threat of NPAs. It is not practically possible to have zero bad debts. In the case of India which is a developing country, funding cannot be kept check always on the basis of profits. Some priority sectors would still require to be funded, the risk of them turning into NPAs notwithstanding.

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