What is debt restructuring?

Definition

Debt restructuring is the process of renegotiating the terms of your debts so that your payments become more manageable. This process may involve extending the repayment period, lowering the interest rate, or reducing the overall outstanding balance.

How Debt Restructuring Works

Debt restructuring typically occurs when you are threatened with defaulting on the loan. You work with the lender to change the terms of your debt agreement. Debt restructuring could lead to a reduction in the interest rate, an extension of the repayment period, or a reduction in the loan balance. Debt restructuring is often a last resort before filing for bankruptcy. It can be used by individuals, companies, or governments.

Types of Debt Restructuring

There are several types of debt restructuring. Some are tailored for individuals and families, while others are reserved for companies.

Loan Modification: A loan modification is a change to the terms of your loan, such as the interest rate, monthly payment, or loan term. Loan modifications are often used to make mortgage payments more manageable.

Informal Debt Repayment Agreements: You can negotiate informally with your creditor to come up with a new repayment plan. This option is usually only available if you are in default and not in bankruptcy.

Formal Debt Repayment Agreements: Formal debt repayment agreements, also known as specific guarantee agreements, are legally binding contracts between you and your creditors. These agreements can be used to restructure both secured and unsecured debts.

Debt Settlement: Debt settlement occurs when you negotiate with your creditors to pay less than what you owe. This is usually an option only if you are unable to make your payments and are facing bankruptcy.

Debt-to-Equity Swap: This happens when a creditor or lender agrees to reduce the company’s debt in exchange for an equity stake in the company.

Write-down of Owner Bonds: In this type of restructuring, bondholders agree to bear a loss in the value of their bonds. This can occur if the company is unprofitable and unable to pay its interest.

Debt-for-Debt Exchange: When a company takes on new debt to pay off its existing debt. This can be done by issuing new bonds or taking out a new loan.

Each type of debt restructuring has its advantages and disadvantages that you should consider before making a decision.

Advantages and Disadvantages of Debt Restructuring

Advantages

• Provides financial relief: Debt restructuring can help reduce your monthly payments or extend the repayment period, giving you more room in your budget.
• You can avoid defaulting on the loan: If you are struggling to make your monthly payments, debt restructuring can extend the repayment period, lower the interest rate, or even forgive part of your balance.

Disadvantages

• Negotiation requires a lot of time and effort: One of the main drawbacks of debt restructuring is that it can take a lot of time and effort to negotiate with creditors. This can be especially true if you have a lot of debt.
• Not always successful: While debt restructuring can be a good way to get more favorable terms from your creditors, it may not always be successful. Creditors may not be willing to agree to new terms, or you may not be able to reach an agreement that works for both sides.

Debt Restructuring vs. Bankruptcy

When you restructure your debts, you work with creditors to come up with a new repayment plan. This can help you get back on track with your payments and avoid defaulting on the loan.

In the case of bankruptcy, it involves a legal process that can eliminate some or all of your debts. This can give you a fresh start, but filing for bankruptcy is costly and will remain on your credit record for seven to ten years.

Restructuring

Debt Restructuring vs. Refinancing

Refinancing debt means taking out a new loan to pay off your current debts. This can help you secure a lower interest rate and reduce monthly payments. However, you will need to qualify for the new loan based on your credit history and income.

Debt restructuring is different in that you work with creditors to develop a new repayment plan. Typically, you restructure when you feel financially strained and want to avoid defaulting on the loan.

Alternatives to Debt Restructuring

If you feel that debt restructuring is not suitable for you, here are three alternatives you can consider.

Debt Consolidation: Debt consolidation means taking out a new loan to pay off your current debts. This can be a good option if you are struggling with multiple monthly payments. However, it is important to understand that debt consolidation does not reduce the total amount owed.

Debt Deferment: Debt deferment allows you to temporarily stop making payments on your debts. This can be a good option if you are facing financial hardships and need some time to recover. However, interest may continue to accrue on your debt during the deferment period, meaning you could end up with more debt in the long run.

Bankruptcy: Filing for bankruptcy should be a last resort. It can have a significant impact on your credit report and make it very difficult to get approved for new loans or lines of credit. However, if you are struggling to pay off your debts, it might be the best option for you.

Note

Considering liquidation? Review all alternatives before making a decision. You may also want to speak with a bankruptcy attorney or credit counseling agency to determine which option is right for you.

Frequently Asked Questions

Is debt restructuring a good idea?

Debt restructuring can be a good idea for individuals or businesses struggling to pay their debts on time. It can help you get your finances back on track and avoid defaulting on your debt. However, it can take time, which is why many consider hiring a debt relief company to negotiate on their behalf.

How can a company restructure its debt?

A company can reorganize its business debts similar to how individuals reorganize consumer debts. The first step is to contact your creditors or lenders, explain your situation, and see if they are willing to provide assistance. If they agree to move forward, you can negotiate the terms of your new contract before formally signing the agreement.

What are types of debt restructuring?

Individuals looking to restructure debt may want to consider loan modifications, informal debt settlement agreements, and debt settlement. There are also debt relief programs to explore. Businesses may want to consider debt-for-equity swaps, haircuts for bondholders, debt-for-debt exchanges, and informal agreements, depending on the size and complexity of the company.

Source: https://www.thebalancemoney.com/what-is-debt-restructuring-6753776