Sometimes, individual investors and companies can face situations when they feel difficulties with meeting their financial obligations. Usually, these circumstances are unexpected, such as natural disasters, and for these situations, a moratorium period may be helpful.
In the article, we will describe what a moratorium period is in India and other countries and what its benefits are. You will also learn how to use it and see several practical examples of its application.
What is a moratorium period?
A moratorium is a period within which the borrower can postpone the payments according to the obligations. It is a suspension of payments for a certain time, defined by the lender and borrower.
This tool helps to handle the temporary financial difficulties of the borrower. For example, a moratorium period is often included in the home or educational loan agreements. Also, it can be used in various legal proceedings, such as the bankruptcy process.
Note!Businesses, market regulators, or governments can impose moratoriums.
How does the moratorium period work?
Typically, a moratorium period starts when a loan is granted, i.e., before the first payment due. This time helps the borrower to find finances and prepare for credit repayment.
In other cases, a moratorium period can be imposed in the middle of a loan term, according to the borrower’s request. In this case, a borrower can postpone regular payments for a specified time.
Note! In most cases, loan interest still accrues during a moratorium period.
Usually, a moratorium period is a response to the short-term difficulties of the borrower. It can be events that disrupt the normal business routine, for example, a flood or an earthquake.
It is also a useful financial tool that helps firms manage their funds efficiently and restructure outstanding debts. So, a company can use a moratorium for certain obligations to lower expenses. In addition, a moratorium period can also be used if the business wants to accumulate costs for some other activities, for example, expansion.
Example of a moratorium period
Generally, the term moratorium period is usually associated with different types of investments. A moratorium period in home loan agreements is, maybe, the most common example of its practical application. However, as with other types of contracts, borrowers can only request a moratorium if this clause is included in the agreement.
For example, the borrower has a home loan with a monthly payment. If the borrower’s financial situation has changed and they cannot pay in time, they can contact the bank and ask for a moratorium period, for example, for six months. If the lender agrees, the borrower does not have to make any remittances during these six months, and the obligations for monthly payments will start after this period.
A moratorium period is also applicable to other types of loans. For example, Mary took a $200,000 credit from a bank in January, which she plans to use for business expansion. According to the loan agreement, the woman has to make monthly payments of $10,000 over the next 24 months, and the total amount includes the loan itself and the interest. However, after three months, Mary’s firm started to experience difficulties. To reduce business costs, Marry has asked a bank for a moratorium period for the next nine months. As a result, she deferred her loan obligations to next January, i.e., after nine months.
Moratorium period in the news
As mentioned, governments and public organizations can also use moratoriums. You can see the following examples of moratoriums in the news:
- The Reserve Bank of India offered various relief options in the form of a moratorium period for loans, including home, education, and personal ones. A moratorium period started on March 1, 2020, and ended on September 30, 2020. During it, the interest continued to accrue to the outstanding loan amount.
- The Canadian government announced that students could pause education loan payments for the period from March 1, 2020, to August 31, 2020. This measure was part of a social package aimed at supporting Canadian people.
These are only the most illustrative examples that can be found in world practice.
Benefits of a moratorium period
The main benefit of a moratorium period is the ability to defer loan payments for some time. As a result, borrowers receive more financial flexibility and can manage their finances more efficiently during difficult periods.
At the same time, interest on the loan is still accrued during the moratorium period, so the borrower should calculate the total benefit from its application.
Moratorium period and grace period
Often, a moratorium period is associated with a grace period; however, they are different financial tools.
A grace period is a specific time after the payment deadline, within which the borrower can make such a payment without any fines or penalties. In other words, if the borrower fails to pay within a grace period, they will face penalties.
In its turn, the moratorium is a period during which the borrower is not obliged to make any payments. In this case, they have to resume payments only after the moratorium ends.
Another difference is that a moratorium is usually longer than a grace period.
Conclusion
A moratorium period is an essential and valuable tool that helps to manage finances wisely and reduce costs when needed. We hope that we have answered the question of what a moratorium period is, and now you know not only its meaning but also its benefits and practical application.
