As a borrower, loan or debt is the biggest financial liability especially high-value loan. Human life is like a financial balance sheet of the company. We have assets on one side like Gold, Property, Investments etc. On the other side, we have liabilities like loan, debt, responsibilities etc. There are two types of liabilities i.e. one in the form of responsibilities like kid’s education, marriage etc. The 2nd type is more tangible i.e. financial liability e.g. debt or loan as a borrower.
The balance sheet is dynamic in nature. It keeps changing. If i avail a high-value loan then suddenly the liability section overtake the assets. In other words, i as an individual/borrower becomes debt-ridden company :). As a thumb rule, debt or loan for creating assets like property is good. Whereas any unsecured loan like personal loan or loan for depreciating assets is not good.
Needless to mention that life is uncertain. It may or may not give me a chance to close/clear my balance sheet before i die :). For example, if my age is 70 years then i am aware that i am in the later stages of a life. The life has given me enough time to manage my balance sheet of assets and liabilities. On the contrary, i am currently in late 30’s and if suddenly i die in an accident then what will happen? I am not worried about assets but more about liabilities. The entire situation becomes very complex. My legal heirs/beneficiaries will fanatically search for my WILL :). At the end of the day “The SHOW MUST GO ON” as the showman Raj Kapoor said once. They will be happy to see my assets but equally sad to see my loans, debts, and liabilities. Now, the Million dollar question arises Who will pay the Loan Liabilities of a Deceased Borrower i.e. Me?
Now you must be wondering Why i am getting worried about the fact Who will clear my Loan liabilities after me?. It is very important for me to address this issue as a borrower during my lifetime. Otherwise, trust me, my legal heirs or beneficiaries will curse me. To share a real life of example Ms. Tanuja from Indore (One of my client). Her husband bought a property in his name and she was included as a co-borrower on the insistence of a bank. Her husband died in an accident and being a co-borrower, the primary responsibility to clear home loan is of Ms. Tanuja. On the other hand, as per succession plan, her share in the property is only 1/3rd. Her mother in law who also has a 1/3rd share in the property refuse to bear the burden. Over time and again i keep highlighting that a husband should not include wife as co-borrower/co-applicant in the home loan. Especially if she is not a co-owner in a property or housewife/non-working. You may check my post, Joint Home Loan – 5 Most Common Myths for more details. Let’s check out how such cases are handled by the bank.
Primary Responsibility of a Loan Liability
Always remember that primary responsibility of a Loan Liability rests with the co-borrower or guarantor of the loan. The biggest catch is that the co-borrower or guarantor may not be the beneficiary. I shared the risks of being a guarantor in my post, Being a Loan Guarantor – Are You Risking Your Future? In one of the instance, Mr. Suresh was the guarantor of a home loan of his brother. His brother died due to some illness. Suresh was not a legal heir of his brother. Therefore, he was not a beneficiary but guarantor of the home loan. He contested the bank but bank forcefully recovered unpaid loan from him.
In the absence of co-borrower or guarantor, bank approaches legal heirs to clear the loan in the proportion of their share in the property/asset. In case, the loan is not cleared by legal heirs then the bank may take physical possession of the asset like House or Car & auction the same to recover their dues. We will discuss unsecured loans later in the post.
How to Secure a Loan – The Thumb Rule for a Borrower
There are many “permutations and combinations” & “ifs and buts”. Therefore, the basic thumb rule should be that the “Loan Liability of Borrower should rest on the Beneficiary/Legal Heir“. Here the most common anomaly is that loan liability is not in proportion to the share in the inheritance. As we checked in the case of Ms. Tanuja. Her share in the property is 1/3rd but loan burden is 55% of the property value. In this case, she decided to default on the home loan and let bank auction the property. If she would not have been the co-borrower in home loan then her debt liability was restricted to her share in the property i.e. 1/3rd instead of 100% outstanding. The dispute resulted in a huge financial loss to all the legal heirs/beneficiaries. As she was co-borrower, therefore, loan default impacted her CIBIL Score negatively. Let’s check out 2 possible solutions as per my understanding.
(a) Mention Loan or Debt details in the WILL:
It is always advisable to mention in the WILL that after the death of executor/borrower who will clear his/her liabilities. As i mentioned basic thumb rule is that onus to clear corresponding loan liability should rest with the beneficiary. Though it is very complex subject.
The unanswered question is who will clear the loan of a deceased borrower if the legal heir is co-borrower but beneficiary is someone else. For example, in one of the case, Person A’s wife was co-borrower of the home loan but the beneficiary of WILL was his father. Now the dispute arises who will clear the loan of a deceased borrower. Going by the home loan agreement, It is wife’s liability. The natural law of justice says that father should clear the loan. In my opinion, loan agreement supersedes the natural law of justice thus wife should clear the loan of a deceased borrower. In short, the property will be inherited by the father and loan will be cleared by the wife.
(b) Cover the Loan with Life Insurance Policy:
I will not discuss this in detail. In my previous posts, i discussed this point thoroughly. Only important point to make is that the beneficiary of Life insurance policy and the beneficiary/legal heir of the property should be the same. More importantly, benefit and liability should be in the same proportion. For example, if there are 3 legal heirs of property then all 3 should be nominee and beneficiary of life insurance policy in the same proportion.
What about Unsecured Loans?
Secured loans i.e. loans backed by collateral like property and vehicle are easy to recover. A major headache for banks is to recover unsecured loans of a deceased borrower like personal loan, credit card dues etc. In such cases, normally the bank approach legal heirs of the deceased.
One of the common misconceptions is that unsecured liabilities of a deceased also die with his death. The bank may take legal heirs to the court in the case of default and file civil suit. If the default is intentional then the bank can also file a criminal suit. It also depends on the quantum of outstanding. Normally, banks don’t pursue the case if the default is of the petty amount. In such cases, legal heirs also don’t mind paying the balance outstanding. If the unsecured loan is taken to create an asset like i converted my LED TV purchase into easy EMI. In this scenario, bank reserve right to attach the LED TV and will sell to recover the dues. Similarly, the borrower may avail personal loan to create an asset. if it is declared to the bank then the bank will attach the asset bought from a personal loan to recover the dues.
Words of Wisdom:
The biggest mistake by legal heirs/beneficiary of a deceased borrower is that they fail to inform bank regarding the death of a borrower. If the bank is informed on time then i observed that banks are accommodative in nature. They understand the situation and willing to offer EMI holiday to the legal heirs/beneficiary. The only pre-condition is that the intent should be to clear the liability of a deceased borrower. The bank may also entertain a request to transfer the loan in the name of a legal heir/beneficiary. For example, if the wife is the beneficiary of a property then the bank may transfer the loan of a husband in the name of a wife.
Last but not the least, in the case of dispute it is advisable to arrive at a mutually beneficial solution. A delay in resolution of a dispute or legal options might not be financially beneficial for the stakeholders.
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