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Effects of Loan Settlement On Your Credit Score

Posted on
Feb 26, 2023
Loan Settlement

Life is unpredictable; there’s no denying that. We apply for a business loan and intend to pay it back completely within a stipulated time. But sometimes, that becomes impossible. The reason could be unemployment, serious injury, or long-term disease. In such cases, repaying the loan is not easy.

If you approach your lender with such a situation, they will suggest a loan settlement. And it might feel like the best option. But its effect on your line of credit is worth considering before taking the step.

Loan Settlement and Its Impact on your Credit Score

If you cannot pay your term loan due to unavoidable reasons, you can approach your lender with your side of the story. The lender will do a complete assessment of all your assets and determine whether what you are claiming is true or not. Once the lender confirms that you really cannot repay your debt, you can ask the lender to give you some time off before restarting the payment, or the lender might offer you a Loan Settlement.

In a loan settlement, the lender agrees to settle for an amount that is less than the actual amount to be repaid. This amount is usually the amount paid by you to date, including the interest rates. Suppose you have taken a loan of Rs. 45 Lakhs. You had to repay it within the next 7 years. This is your year 4 of repayment, and you are no longer able to pay the EMI. But the amount repaid by you till now, including the interest rates, is Rs. 30 Lakhs. In a loan settlement, the lender will agree to settle the loan for Rs. 30 Lakhs, and you will not have to pay any additional amount.

This decision is not reached lightly. The lender sits and talks with you and gathers proof of your inability to repay term loans. They consider a waiting period of six months before taking this decision. Then finally, you get to settle the loan with the bank.

The lender gives you a certain time to collect the settlement amount and pay the lender. However, this may be in your favour. It is not. Because it negatively impacts your CIBIL Score. And having a negative impact on your CIBIL score is not always worth the settlement.

When you agree upon a loan settlement, the loan is ‘settled’ and not ‘closed’. When a lender agrees to settle a loan, the information is sent to CIBIL and other similar agencies that maintain track of your credit score. When you accept a loan, financial institutions assume that you would be unable to repay what you promised. This has a negative impact on your credit score.

On settlement of a loan, your credit score can decrease by 100 points. CIBIL keeps this information on your record for the next seven years. So if you apply for any form of credit within seven years of the loan settlement, financial institutes could deny it. The reason is your inability to close your last debt.

On average, financial institutes consider a CIBIL score of more than 750 for lending a loan. When you opt for loan settlement, your score can easily go below 750. That will make you not eligible for a loan from most financial institutes.

How to remove loan settlement status from CIBIL Score?

Even if you get a negative impact on your CIBIL score due to a loan settlement, you always have the option of turning it around. Suppose your financial condition improved a bit within 2 years of the loan settlement; then you can work your way to improve your credit score.

There is one final approach you can try to raise your CIBIL credit score to be eligible for more loans. You can request a repayment plan with the lender of your previous debt. The lender will mark your loan as closed once you have repaid the total loan amount. Loan closure is not the same as loan settlement. In reality, loan repayment has a beneficial effect on your credit score. In this manner, you can mitigate the negative impact of loan settlement on your credit score.

How can FlexiLoans help?

FlexiLoans has designed a very specific system for MSME business loans and lines of credit. The repayment options give you enough time between the withdrawal of the amount and repayment so that you don’t feel burdened. The best part about FlexiLoans Line of Credit is that you have to pay interest only on the amount that you have withdrawn. For example, you have a credit limit of Rs. 300,000. If you withdraw Rs. 50,000 from it, then the interest rates will only be applicable on that Rs. 50,000.

An outstanding team at FlexiLoans will help you at every turn. You don’t need to make repeated trips to the FlexiLoans office to get your loan accepted. The official FlexiLoans website has an online form for everything. We provide efficient and competitive financial services.

Representatives at FlexiLoans will advise you on the best course of action that will have little to no negative effect on your CIBIL credit score.


Q.1 By how many points does Loan Settlement affect CIBIL Score?

Ans: Loan settlement could affect your credit score by up to 100 points. But it would be best if you also considered the financial events that lead up to loan settlement. They could also have a negative impact on your CIBIL Score. So, a loan settlement could affect your CIBIL score by more than 100 points.

Q.2 Why is my credit score less than it was before Loan Settlement?

Ans: Loan Settlement is a diversion from the original contract signed between you and the lender. Upon settlement, the lender gets less money than promised. So the lender reports it to CIBIL and other institutes that track your credit score. Not paying your debt in full has a negative impact on your credit score. And thus, you will find a drop in your credit score after loan settlement.

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