• Matt Morizio

Should you defer your loan payments?

With over 20 million US unemployment claims the last few weeks, it doesn’t take an economist to realize a lot of us are getting punched in the financial gut.

And that means covering monthly living expenses is harder, or in some cases not possible at all.

For the majority of families in the US, the largest monthly expense is a mortgage payment. And most every mortgage lender is offering some type of COVID-19 forbearance, or deferment, plan.

Loan forbearance is NOT loan forgiveness

What does deferring your loan mean?

In a nutshell, your lender - whether it is mortgage, business loan, auto loan, student loan, personal loan, home equity loan, etc - will offer you a chance to skip payments on your loan for a set time period, usually 90-120 days, at which point you will be required to repay the the months you skipped.

What you need to know about loan forbearance/deferment

  1. You need to request or apply for loan deferment. Your lender won’t automatically give it to you.

  2. I have not seen private deferment plans for longer than 120 days without some type of review. Expect a 90-120 day forbearance plan.

  3. INTEREST WILL CONTINUE TO ACCRUE. Your private loan isn’t being forgiven or frozen. Your payments are on pause, that’s all. Interest is still accruing.

  4. Your credit should NOT be negatively impacted, and you should NOT be charged late fees during the deferment period.

  5. THE REPAYMENT OPTIONS ARE WHERE YOU DECIDE IF THIS MAKES SENSE FOR YOU. Here are the three most common repayment options I’ve seen:

  • A lump sum payment at the end of the forbearance period - in other words, if you have a 90 day deferment period and have to repay a lump sum, you’d owe four months worth of payments immediately

  • A spread out payment over a determined time period - the subsequent 12 months is common.

  • Missed payments are tacked on to the end of the loan, thereby extending your total loan by 3-4 months.

When does it make sense for you?

This might sound obvious, but it makes sense if you need it. Here’s what I mean - if your income has been negatively impacted, you’re going to have a harder time paying bills. In that case, this might make sense. But pay careful attention to the repayment plan.

I can’t imagine a scenario in this current pandemic environment where someone needs forbearance today and will be able to pay four months worth of mortgage bills in 90 days. So be careful of the lump sum repayment.

You will need to do some legwork and explore all your options. Unfortunately, the terms are specific to each lender.

Here’s another scenario to consider - let’s say you have a high interest debt, like a credit card, and a really low interest mortgage. You apply for mortgage forbearance because your salary has been impacted, and the mortgage repayment allows you to tack the skipped payments to the end of the loan.

Now you have potentially thousands of dollars freed up over the next 90 days to aggressively attack those high interest debts!

Or maybe you don’t have high interest debt but have been trying to free up cash to invest. I’m not saying you take advantage of your lender, but I am suggesting you use your money as a tool, which may mean you miss paying some low interest debt to instead invest in higher yielding accounts…just a thought.

And here is a word of caution on deferring payments on a credit card - if you’re granted forbearance, your card may get temporarily frozen, not allowing you to make any additional purchases until the card is paid off.

When DOESN’T it make sense?

If your income isn’t affected, you don’t need it. And if you qualify but aren’t planning to do anything that adds value with that extra cash, it doesn’t make sense.

Things that add value may include: paying off higher rate debt, investing in higher yielding accounts, freeing up cash to put food on the table, paying it forward and helping someone in need (more of a charitable investment vs financial but well worth it).

What’s the catch?

It isn’t free money - the banks are giving you a small reprieve, but they are still collecting interest on your loan while you aren’t paying. And you’ll eventually pay the entire loan.

Also, if you do defer your mortgage, your insurance and taxes are not included in your deferment, so make sure you make the necessary arrangements to pay those.

Lastly and most importantly, understand the terms of the repayment. You may be putting yourself in a WORSE financial position in 90 days by having to pay 4 months of bills in one lump payment while you’re unemployed.

As they say, the devil is in the details.

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Investment advice offered through Beck Bode, LLC, a fee-only Registered Investment Advisor in the Greater Boston area.