What is Loan Settlement or Debt Settlement? What is its Impact on Your CIBIL Score?

You have a loan running and paying it back on time but what if due to some reasons you are unable to pay off your loan? The reason could be any; illness, bankruptcy, loss of job, death or any other financial losses. Loan settlement comes into the picture now! But what is loan settlement? Well, it allows you one-time repayment of the loan with a concession on the total remaining balance. 

What is Loan Settlement?

When the borrower cannot repay the loan due to unavoidable but genuine reasons, the lender offers a one-time payment of the remaining loan amount, which is called loan settlement. In loan settlement, you will have to pay less than the total due amount; interest and other charges are waived off.

How is Debt Settlement Different from Debt Closure?

Often loan settlement is confused with loan closure, but it works differently and also affects the credit score differently. In loan settlement, you get a concession in the total value of the outstanding loan because you are unable to pay off your dues and the lender wants to cover the loss as much as possible. Whereas in loan closure, you make a one-time full payment of the balance loan out of choice and save the money that you will pay as interest charged in future.

Loan closure shows a positive impact on your credit score as it reflects your sound financial health. Speaking of the loan settlement, it impacts your credit score badly citing a weaker financial state that causes challenges in getting a loan in the future.

Let’s now see how to settle a debt that is similar to the credit card settlement process in India.

How to Settle Debt?

  1. The lender verifies and confirms if the reason for the default in loan repayment is unavoidable and genuine.
  2. The lender evaluates the value of the loan payable by the borrower in the settlement, writing off the interest and penalties.
  3. If the borrower is ready to pay the finalised amount, the lender approves the loan settlement. 
  4. After the borrower pays the settlement amount, the lender writes off the loan, closes it and marks “Settled” in the report for credit bureaus.

Pros and Cons of Debt Settlement


  1. Provides relief from debt: The debt settlement is an expedient way of saving from any penalty or other lawful actions against the borrower when the loan repayment is impossible for any genuine and unavoidable reasons. Once you opt for debt settlement, your loan is settled and you get relief from debt once you pay off the final amount.
  2. Saves from bankruptcy: Debt settlement will put a negative impact on your credit score but not more than bankruptcy will. The bankruptcy affects your credit score for 7 years which means you cannot get a loan in the future or you may end up with bad deals. While loan settlement is a better way and in the next 3-4 years, the credit score comes to a normal state.
  3. Saves from being sued: Default in loan, calls for the lender to sue you for non-payment of the loan. It will not only jeopardize your credit score but attract penalties with full repayment of the dues. Choosing debt settlement can save you from any such situation as it is a legit and safer way.


  1. Debt settlement fees: For the debt settlement, mostly the borrower goes to a third party or say organizations exclusively working for it. Here, hefty fees are charged attached to the value of the loan settlement you propose to the lender. It can sometimes decrease the chances of approval by reducing the total payable amount proposed. 
  2. Debt settlement tax implications: No tax is charged when you are unable to pay back the borrowed money and go for a debt settlement.
  3. Chances of building up more debt: When you apply for debt settlement, your usual monthly instalments are stopped and you pay nothing until you get approval. In case of disapproval, you have to pay the full amount that you were not paying during the settlement process. Penalties will add along with the fees due to the organization that was handling your case. 

How Does Debt Settlement Affect Your Credit Score?

After debt settlement, on your credit report, “Settled” is mentioned against the loan, thereby hurting the credit score. It shows the borrower had been unable to repay the loan in the past, raising a question in approval of a new loan. This effect can remain for 3-4 years in the credit report sometimes lasting for 7 years.

The answer to “Is settlement god for credit” depends completely on the alternatives you have and how they will impact your credit score. Debt settlement is suggested over insolvency, bankruptcy or default on a loan.  For a new loan, the reason for settlement is considered and also the present financial state is observed.


1. Am I eligible for loan settlement?

Mostly, the unsecured loans are eligible for loan settlement because in secured loans the loss is covered by the mortgage. Speaking specifically about the borrower if one is eligible for debt settlement or not, it depends completely on the reason for default in payment. Clean past credit records of the borrower can also play a big role in getting approval on loan settlement requests. 

2. Can I take a new loan after loan settlement?

Yes, you can take another loan after loan settlement. Since the loan settlement hampers your credit score, it can affect the rate of interest, sum approved and other charges.

3. How is the loan settlement figure calculated?

Usually, once the settlement date has been decided, the settlement figure is calculated by considering the current capital element of the balance outstanding, adding the interest due up to the agreed settlement date, plus one month’s additional interest. Once this figure is calculated, the payable amount is reached taking into account how much the borrower can repay. This amount can be 70% to 50% of actual due and sometimes goes down to 30% as well. 

4. How can I increase the CIBIL score after loan settlement?

  • Build a good history. Your credit report is the first document a lender would access to evaluate your loan eligibility.
  • Clear all your dues on time
  • Manage credit cards rightly
  • Take care of your credit utilisation
  • Do not make loan queries

5. When do the banks offer loan settlement?

Banks offer loan settlement in case of non-performing assets (NPA) to save it from turning into a bad debt. Any loan overdue for more than 90 days becomes an NPA. Banks write off these loans in 180-270 days of the  loan payment date. The settlement can happen both before and after the write-off.