Debt Refinance

Debt refinancing is the replacement of an existing debt by means of another debt with terms and/or conditions that are more favorable. In other words, debt refinancing refers to the replacement of existing debt with new debt.

Debt refinancing is commonly used to take advantage of new financing that offers more favorable terms and/or conditions. In such a situation, an individual or company will settle their current debt outstanding through issuing new debt with more favorable terms or conditions.

An individual currently has Rs. 10,00,000 remaining on their property loan for 20 years at 10%. In such a situation, the monthly installment payments (principal and interest) would be Rs. 9,650. The bank has indicated to the individual that they would be able to refinance to a 7% loan for 20 years due to a decrease in the bank’s interest rate.

As such, the monthly installment payments for the new mortgage would be Rs. 7,753. If the individual refinances their mortgage, they would be saving Rs 1,897 (Rs 9,650 –  Rs 7,753) in monthly installment payments.

Although refinancing existing debt is an attractive option for borrowers, it may not be feasible in some cases. Debt may include call provisions so that a penalty payment is incurred to the borrower if they refinance the debt. In addition, there may be closing and/or transaction fees associated with refinancing existing debt.

As such, although an individual or company may have the option to secure better terms and/or conditions on their debt, it may not be ideal to do so when considering the penalty payment, closing fees, and/or transaction fees.

In the example above, refinancing the debt would save the individual approximately Rs 4,55,280 over the life of the property loan. If the penalty payment, closing fees, and/or transaction fees do not amount up to Rs 4,55,280, the individual should refinance the debt. If the penalty payment, closing fees, and/or transaction fees exceed Rs 4,55,280, it would not be in the best interest of the individual to refinance their debt.

The two terms are commonly used interchangeably. You should note that they are actually different.

To reiterate, debt refinancing is used to convey the replacement of existing debt with new debt that offers more favorable terms or conditions. On the other hand, debt restructuring is used to describe the altering of existing debt. It can be in the form of delaying interest payments or extending the term of the debt. Debt restructuring is commonly used by a company that is approaching bankruptcy and needs to restructure its debt to stay afloat.

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