When in Credit Default

Majority of bank customers take loans with the genuine intention of eventually paying back the borrowed funds. As detailed in the earlier write up on,The credit decision, any contray intention will most times be detected during the assessment process. There is however no full proof analytical process though as such some applications of low quality happen to go through. In the eventuality of such, banks have put in place measures to ensure that there is recourse. Details around these are usually captured in the bulky credit letter of offer signed by the customer whose contents are heavy on both legal and financial jargon and here the client has the right to seek clarification whenever ambiguity is detected. Few borrowers take time to read through this document whose time of lapse after delivery usually is 90 days. A key clause of importance is the one mentioning default and the consequences associated. Those who have never been in loan arrears most times never get to what it contains and the obligations of both parties just in case the unfortunate happens. It is however important to have this knowledge since for various reasons loan defaults occur. Once here the client is advised to rather than panic focus on the correct steps to take. A client should therefore positively engage the lender with the intention of finding a mutually acceptable way forward. Many have ignored this to their detriment.

Lending for most local financial institutions is lucrative as such earnings from this area is a major income booster.  It is a highly risky business since it involves the disbursement of liquid cash. Banks are therefore called to put in place a system of ensuring that the internal systems and processes governing the credit facility cycle are robust and good enough to stem default. These mechanisms are developed and established based on past precedence and Credit performance. Banks in their own right have this habit of gathering lots of information on various industries, prevailing economic factors, customer character and business margins to inform their internal working procedures in the management of risk. Loan default estimates are constantly being projected so that an institution is not caught by surprise when this occurs and have ways of minimizing risk on this. In financial terms this is referred to as impairment and is closely monitored by the supervisor of the financial industry which in Kenya and in most other countries is the Central bank,an institution established by law. Close monitoring is a prerequisite here because the Credit default rate within a country is not only a key economic performance indicator but also provides insight into the quality level of the credit issuance process and other tools used by banks in assessing the same. Reported high default rates have the potential of collapsing a financial institution and eventually resulting in depositors losing their liquid assets. On the contrary lower ones though desirable could be an indicator of credit denial to the market thus stifling economic growth. For this reason the regulator closely monitors this sector through periodical audits and performance returns.  Any investors seeking for returns from the finance industry need to take a critical look at the credit book status of any bank before placing their bid for shares. Just like any other industry, standard ratios for benchmarking are available for comparison purposes as a guide. When in doubt one is advised to seek the advice of a financial consultant.

Any borrowing client should understand that defaulting on your obligations is something that can happen both for the small and the large client. The causes for such are many and include both predictable and unforeseen. One example is the unprecedented economic melt down created by the advent of the Covid 19 pandemic that forced many business to either scale down or completely shut down. Others include job loss, permanent disability, economic downturns etc. During such times both customers and banks have to find a common ground for business continuity and final credit settlement. As businesses shut down on the entry of Covid 19,the authorities had to step in to help for instances such as Credit Reference Bureau listing. It should be remembered that banks do not have money of their own to lend and therefore will always seek to recover monies lent out whatever it takes. The funds belong either to shareholders or depositors the later of which can be called back by their clients at a short notice more so for those classified as being on demand. It would be embarrassing  for a finance institution to fail to honor the deposit demand in full just incase a customer called back for their funds which could become a legal matter since it amounts to contract breach. It therefore is the obligation of every financial institution to avoid posting huge impairment figures an expense that directly hits the profit and loss account. There will therefore be made all attempts to ensure that most of the bank's assets if not all do not end up down the drain. No lender wishes to go the debt collection route as it is expensive, time wasting and frustrates the relationship with the client. On rare occasions if well managed can be a source of return business although many have ended in the total severance of the bank-client relations.

Faced with such a scenario a client is encouraged to keep all communication channels with the lender open. It is advisable where possible to disclose any early signs of business stress and the causes of the same. While remembering that no business is an island of its own, be forthright and honest as the lender can use this information to devise ways of salvaging the situation. Many others are in that industry and bank analysts have alot of data and information in that area. Any attempt to falsify facts can be detected and based on the risk potential of the loan,banks have alot of leeway on the course of action to take in the effort to prevent making losses. In the financial sector honesty is a virtue that can place the defaulting client on a higher standing than even the rogue one who is dutifully honouring obligations. Alot of time and money is usually spent in the control and monitoring process on the later.

When carrying out root cause analysis,a good number of defaulting customers have been found to have either falsified or conveniently shielded certain critical material facts from the lender at onset. This in itself is a criminal offence since signing at the dotted line of the application legally binds one to the material facts presented.

There are a number of pitfalls to avoid when business stress is noticed and one is in default. These include breach of commitments such as the requirement to channel all business proceeds through the primary lending account, business relocation, name change, transfer of stock in case there is a debenture taken on the same or even just vanishing from sight. For such action or even any attempt to do the same can invite heavy penalties both legal and financial as well as inflict a huge reputation damage. Remember it is human beings sitting behind that desk at the bank and can sit with the client and reason to find amicable solutions. When in difficulty, own up and tell your banker the situation as it is in good time, what you are doing about it and the assistance needed. There are ways in which banks can arrange for temporary accommodation e.g. arranging for moratoriums,reschedule payment amount and date. There have been instances whereby further lending has been identified as a solution leading to the unlocking of bigger business opportunities and restoration to normalcy.

No lender cherishes taking the legal route when matters come to a dead end. It only  comes in as a last resort when all available options have been exhausted. It is an action that is at the tail end when all other avenues have been exhausted. By this time the client will have already been listed with the Credit Reference Bureau as a defaulter and the associated consequences following. The debt recovery process is a legal one and the bank is thus obligated to keep the defaulting borrower abreast on all developments, and the next course of action and deadlines.

Debt collection and recovery is an emotionally draining process for both the clients and the bank staff as such one is advised to avoid the eventuality of such a scenario by all means possible. Different lenders depending on circumstances have varied ways of handling their clients.

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