What is a Moratorium Period?
A moratorium period is a period during which the borrower is not obligated to make payments. In other words, during a moratorium period, the borrower is permitted to halt their payments. It is commonly incorporated in home loans – called an equated monthly installments holiday – and educational loans.
- A moratorium period is a period during which the borrower is not obligated to make payments.
- Interest on a loan during the moratorium period generally accrues.
- A moratorium period is commonly incorporated in home loans and educational loans.
Understanding a Moratorium Period
A moratorium period is illustrated below:
A moratorium period typically commences once a loan is granted. It is primarily extended to give the borrower adequate time to sort out finances and prepare for loan repayment. A moratorium period can also occur during the mid-life of a loan. It would be the case if the lender allows the borrower to stop making payments over a specified period for a specific reason – for example, due to financial hardship. It should be noted that interest on the loan generally accrues over the moratorium period.
Example of a Moratorium Period
John was provided a $500,000 loan by Money Tree Bank, a fictitious bank, in January 2020 to expand his restaurant business. John agreed to pay fixed monthly payments of $100,000 over six months (total repayment of $600,000) to secure the loan, with the first payment due at the start of February 2020 and subsequent payments at the start of each following month.
However, in mid-March 2020, John’s restaurant business was forced to close due to the coronavirus pandemic. Due to such an unprecedented event, Money Tree Bank decided to grant John a moratorium period from mid-March 2020 to June 2020 for no additional charge. As a result, John is now able to defer his April 2020 payment to July 2020.
The example above is graphically summarized below:
Moratorium Period in the News
Examples of moratorium periods in the news are provided below:
- Due to the coronavirus pandemic, the National Student Loan Service Centre in Canada announced that it would allow students to pause their student loan payments from March 30, 2020 to September 30, 2020. The pause on student loan payments is part of a rescue package for the Canadian economy.
- Also, following the coronavirus pandemic, the Reserve Bank of India offered relief to loans (such as home loans, personal loans, education loans, etc.) in the form of a moratorium period from March 1, 2020 to August 31, 2020. Although borrowers are not required to make payments during the moratorium period, the Reserve Bank of India indicated that interest is not waived off and will continue to accrue.
Is a Moratorium Period Beneficial?
The ability to defer payments into the future offers greater financial flexibility. However, it is important to recall that interest generally accrues over the moratorium period, resulting in a higher total loan amount payable.
Unless the borrower is under financial distress – i.e., unable to make payments – the financial flexibility of a moratorium period is largely offset by the additional interest charge.
Moratorium Period vs. Grace Period
A moratorium period is commonly confused with a grace period. It is important to note that a grace period is a set length of time after payment is due, where a payment can be made without penalty. In other words, a borrower is expected to make a payment over the grace period or face penalization – such as a late fee, credit rating downgrade, etc.
On the other hand, over a moratorium period, a borrower is not required to make a payment over the period. In addition to the distinct difference as outlined above, a moratorium period length can range from weeks to months, whereas a grace period length is usually 15 days.
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