Investopedia: What is a 'Nonperforming Loan - NPL'?

Nonperforming Loan - NPL

What is a 'Nonperforming Loan - NPL'

A nonperforming loan (NPL) is the sum of borrowed money upon which the debtor has not made his scheduled payments for at least 90 days. A nonperforming loan is either in default or close to being in default. Once a loan is nonperforming, the odds that it will be repaid in full are considered to be substantially lower.
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BREAKING DOWN 'Nonperforming Loan - NPL'

If the debtor starts making payments again on a nonperforming loan, it becomes a reperforming loan, even if the debtor has not caught up on all the missed payments.

Institutions holding nonperforming loans in their portfolios may choose to sell them to other investors in order to get rid of risky assets and clean up their balance sheets. Sales of nonperforming loans must be carefully considered since they can have numerous financial implications, including affecting the company's profit and loss, and tax situations.

A nonperforming loan is any loan that can reasonably be expected to enter default. Often, if the loan isn’t already in default, the borrower has failed to make a number of payments within a specified period. Most commonly, no payments have been made within 90 days, though a loan can still qualify even if that time has not yet elapsed.
Lender Rights on Nonperforming Loans

Once a loan is considered nonperforming, lenders may have the opportunity to attempt to recover the principal. This especially applies to loans backed by specific assets, such as a home loan or vehicle loan. In these instances, the lender may begin the process of foreclosure, on a home, or move to seize the property, such as with a vehicle.

In cases where there is no specified asset, such as unsecured lines of credit, the lender may begin using internal collection services to recover the missing amounts. If extenuating circumstances are affecting the borrower, the lender may choose to put the loan into forbearance, suspending the need for payments until the situation changes. Forbearance is more common with student loans, especially if the borrower is still attending courses or has been unable to secure employment after graduation.
Collection Agencies

If a borrower still fails to make payments on the debt, the debt may be sold, generally for a notably reduced price, to an external collection agency. Alternatively, the lender may partner with a collection agency, offering to perform the service for a percentage of the recovered amount owed.

At this point, the lender can address any losses based on the difference of the principal owed and the price the debt was sold or the amount recovered minus any fees. Collection agencies then attempt to make a profit by securing a payment either in full, or as close to as possible, from the borrower.
Cash Basis Loan
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A loan where interest is recorded as earned when payment is collected. Ordinarily, interest income is accrued on loans, since regular payment of both principal and interest is assumed. However, in the case of nonperforming loans (loans gone bad), continuing payments are doubtful. Cash basis loans are nonperforming loans, and interest income can only be recorded when funds are actually received.
BREAKING DOWN 'Cash Basis Loan'

Typically, loans are considered to have gone bad when they are in default for 90 days. Different definitions may apply, however, to consumer loans, residential mortgage loans and other secured assets.
Nonperforming Asset
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Video Definition
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A nonperforming asset is a debt obligation where the borrower has not paid any previously agreed upon interest and principal repayments to the designated lender for an extended period of time. The nonperforming asset is therefore not yielding any income to the lender in the form of principal and interest payments.
BREAKING DOWN 'Nonperforming Asset'

For example, a mortgage in default would be considered non-performing. After a prolonged period of non-payment, the lender will force the borrower to liquidate any assets that were pledged as part of the debt agreement. If no assets were pledged, the lenders might write-off the asset as a bad debt and then sell it at a discount to a collections agency.
Problem Loan
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In the banking industry, a problem loan is one of two things; it can be a commercial loan that is at least 90 days past due, or a consumer loan that it at least 180 days past due. This type of loan is also referred to as a nonperforming asset.
BREAKING DOWN 'Problem Loan'

The subprime mortgage meltdown and 2007-2009 recession led to a rise in the number of problem loans that banks had on their books. Several federal programs were enacted to help consumers deal with their delinquent debt, most of which focused on mortgages. Problem loans can often result in property foreclosure, repossession or other adverse legal actions.
Renegotiated Loan
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The result of an agreement between a borrower and a lender to modify a loan by taking a loan that a customer was having difficulty paying and turning it into a loan that the customer can pay. The loan may be modified by lowering the interest rate, changing it from an adjustable-rate loan to a fixed-rate loan, lengthening the repayment period or forbearing principal.

A renegotiated loan can benefit both borrowers and lenders. The borrower is able to maintain his or her credit rating, avoid bankruptcy and retain use of the asset that is tied to the loan (e.g., a house). The lender, while it may see less benefit (i.e., less interest income) from a renegotiated loan, retains the customer's business and may have better profits than it would by allowing the borrower to default.
BREAKING DOWN 'Renegotiated Loan'

Renegotiated loans, also called loan modifications, were popular in the aftermath of the 2007 housing-bubble burst among homeowners who found themselves unable to pay their mortgages. A bank will not always agree to renegotiate a loan. Sometimes the bank will see a greater financial benefit from letting the loan default and getting the nonperforming loan off its books than from modifying the loan.
Credit Crisis
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A crisis that occurs when several financial institutions issue or are sold high-risk loans that start to default. As borrowers default on their loans, the financial institutions that issued the loans stop receiving payments. This is followed by a period in which financial institutions redefine the riskiness of borrowers, making it difficult for debtors to find creditors.
BREAKING DOWN 'Credit Crisis'

In the case of a credit crisis, banks either do not charge enough interest on loans or pay too much for the securitized loan, or the rating system does not rate the risk of the loans correctly. A crisis occurs when several factors combine in the marketplace, affecting a large number of investors.

For example, banks will charge teaser rates on loans, but when the initial low payments change, they become too high for borrowers to pay. The borrowers default on the loans, and the loan's collateral value simultaneously drops. If enough lending institutions reduce the number of new loans issued, the economy will slow down, making it even harder for other borrowers to pay their loans.
Unsecured Loan
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Video Definition
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An unsecured loan is a loan that is issued and supported only by the borrower's creditworthiness, rather than by any type of collateral. An unsecured loan is one that is obtained without the use of property as collateral for the loan, and it is also called a signature loan or a personal loan. Borrowers generally must have high credit ratings to be approved for certain unsecured loans.
BREAKING DOWN 'Unsecured Loan'
Because an unsecured loan is not guaranteed by any type of property, these loans are bigger risks for lenders and, as such, typically have higher interest rates than secured loans such as mortgages or car loans.

What Are Examples of Unsecured Loans?

Unsecured loans include credit cards, student loans and personal loans, and these loans can be revolving or term loans. A revolving loan is a loan that has a credit limit that can be spent, repaid and spent again. Examples of revolving unsecured loans include credit cards and personal lines of credit.

Term loans, in contrast, are loans that the borrower repays in equal installments until the loan is paid off at the end of its term. While these types of loans are often affiliated with secured loans such as mortgages and car loans, there are also unsecured term loans. A consolidation loan to pay off credit cards or a signature loan from a bank would be considered unsecured term loans.
Alternative Lenders and Unsecured Loans

Alternative lenders such as payday lenders or companies who offer merchant cash advances do not offer secured loans in the traditional sense of the phrase. Their loans are not secured by tangible collateral as mortgages and car loans are. However, these lenders take other measures to secure repayment.

In particular, payday lenders have borrowers give them a postdated check or agree to an automatic withdrawal from their checking accounts to repay the loan. Many online merchant cash advance lenders require the borrower to pay a certain percentage of his online sales through a payment processing service such as PayPal. As a result, these loans are considered unsecured, although they are partially secured.
Defaulting on an Unsecured Loan

If a borrower defaults on a secured loan, the lender can repossess the collateral to recoup his losses. In contrast, if a borrower defaults on an unsecured loan, the lender cannot claim property. However, the lender has can take other actions, such as commissioning a collection agency to collect the debt or taking the borrower to court. If the court rules in the lender's favor, the borrower's wages may be garnished, a lien may be placed on the borrower's home, or the borrower may be otherwise ordered to pay the debt.
Standing Loan
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A type of loan where payments are made of interest only. Repayment of principal is required only at the end of the loan term. A standing loan is primarily used in real estate or automobile loans. This type of loan is less common, since most lenders are more comfortable with traditional amortizing loans, where principal is paid off gradually over time.
BREAKING DOWN 'Standing Loan'

A standing loan can be advantageous for certain borrowers, because the monthly payment is considerably lower. However, the borrower must have sufficient financial means to pay the full amount of the principal at the end of the loan term. Standing loans are generally considered more risky for the lender and thus usually come with a higher interest rate than a comparable amortizing loan.
Loan
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A loan is the act of giving money, property or other material goods to another party in exchange for future repayment of the principal amount along with interest or other finance charges. A loan may be for a specific, one-time amount or can be available as an open-ended line of credit up to a specified limit or ceiling amount.

The terms of a loan are agreed to by each party in the transaction before any money or property changes hands. If the lender requires collateral, that is outlined in the loan documents. Most loans also have provisions regarding the maximum amount of interest, as well as other covenants such as the length of time before repayment is required. A common loan for American consumers is a mortgage. The mortgage calculator below illustrates the various types of mortgages and their different terms.


Loans can come from individuals, corporations, financial institutions, and governments. They offer a way to grow the overall money supply in an economy as well as open up competition and expand business operations. The interest and fees from loans are a primary source of revenue for many financial institutions such as banks, as well as some retailers through the use of credit facilities.
The Difference Between Secured Loans and Unsecured Loans

Loans can be secured or unsecured. Mortgages and car loans are secured loans, as they are both backed or secured by collateral.

Loans such as credit cards and signature loans are unsecured or not backed by collateral. Unsecured loans typically have higher interest rates than secured loans, as they are riskier for the lender. With a secured loan, the lender can repossess the collateral in the case of default. However, interest rates vary wildly depending on multiple factors.
Revolving vs. Term Loans

Loans can also be described as revolving or term. Revolving refers to a loan that can be spent, repaid and spent again, while term refers to a loan paid off in equal monthly installments over a set period called a term. A credit card is an unsecured, revolving loan, while a home equity line of credit is a secured, revolving loan. In contrast, a car loan is a secured, term loan, and a signature loan is an unsecured, term loan.
How Do Interest Rates Affect Loans?

Interest rates have a huge effect on loans. In short, loans with high interest rates have higher monthly payments or take longer to pay off than loans with low interest rates. For example, if a person borrows $5,000 on an installment or term loan with a 4.5% interest rate, he faces a monthly payment of $93.22 for the next five years. In contrast, if the interest rate is 9%, the payments climb to $103.79.

Similarly, if a person owes $10,000 on a credit card with a 6% interest rate and he pays $200 each month, it will take him 58 months or nearly five years to pay off the balance. With a 20% interest rate, the same balance and the same $200 monthly payments, it will take 108 months or nine years to pay off the card.
BREAKING DOWN 'Loan'
Lender
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A lender is an individual, a public group, a private group or a financial institution that makes funds available to another with the expectation that the funds will be repaid, in addition to any interest and/or fees, either in increments (as in a monthly mortgage payment) or as a lump sum.

Lenders may provide funds for a variety of reasons, such as a mortgage, automobile loan or small business loan. The terms of the loan specify how the loan is to be satisfied, over what period and the consequences of default.

One of the largest loans consumers take out is a mortgage. Below are examples of lenders for such loans.

Factors Determining Loan Qualification

Qualifying for a loan depends largely on the borrower's credit history. The lender examines the borrower's credit report, which details the names of other lenders extending credit, what types of credit are extended, the borrower's repayment history and more. The report helps the lender determine whether the borrower is comfortable managing payments based on current employment and income. The lender may also evaluate the borrower's current and new debt compared to before-tax income to determine the borrower's debt-to-income (DTI) ratio. Lenders may also use the Fair Isaac Corporation (FICO) score in the borrower's credit report to determine creditworthiness and help make a lending decision.

When applying for a secured loan, such as an auto loan or a home equity line of credit, the borrower pledges collateral. The value of the collateral is evaluated, and the existing debt secured by the collateral is subtracted from its value. The remaining equity affects the lending decision.

The lender evaluates a borrower's capital, including savings, investments and other assets that may be used to repay the loan if household income is insufficient. This is helpful in case of a job loss or other financial challenge.

The lender may ask what the borrower plans to do with the loan, such as buy a vehicle or other property. Other factors may also be considered, such as environmental or economic conditions.
Small Business Lenders

Banks, savings and loans, and credit unions may offer Small Business Administration (SBA) programs and must adhere to SBA loan guidelines. Private institutions, angel investors, and venture capitalists lend money based on their own criteria as well as the nature of the business, the character of the business owner and the projected annual sales and growth.
Repayment of Small Business Loans

Small business owners prove their ability for loan repayment by providing lenders both personal and business balance sheets detailing their assets, liabilities and net worth. Although business owners may propose a repayment plan, the lender has the final say on the terms.
BREAKING DOWN 'Lender'

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