When can you take a payment holiday?

It has been four months since government took proactive measures to safeguard the public from Covid-19 and limit the spread of the virus.

Even before these measures came into effect in March, certain sectors of the economy like hospitality, tourism, aviation and importers from countries like China and India could already see the adverse effects on their businesses.

With additional measures including closure of airspace, borders and lockdown, more sectors like education, entertainment and restaurants, wholesale and retail trade, transportation and logistics and commercial real estate were also brought into scope.

The restriction of movement permitting only sectors classified as essential services meant that other sectors were indirectly affected as well. Some entities could not get their human resource or finance staff to the office to run payroll in time.

During this period, banks witnessed diminished ability of certain customers to meet their debt obligations. Lenders have a fiduciary responsibility to initiate measures to lessen the burden for customers who have credit facilities and have been directly or indirectly affected by Covid-19 across various customer segments.
These payment relief measures on existing facilities are in different forms such as payment holidays, moratoriums, restructures and extension of facilities whose maturities were due.
Furthermore, in April, Bank of Uganda intervened with guidelines on credit relief measures, an acknowledgement of the severity of the pandemic’s threat to the stability of the financial sector, thereby giving the economy much needed breathing room over the next few months.

Concerns over payment holidays
Let us address swirling speculation and concerns regarding payment holidays and help identify the myths from the facts.

In any economic crisis, the health and survival of financial institutions is critical, given their importance in economic revival.

Payment holiday
A payment holiday is a period where repayment on debts or credit facilities is deferred. It does not absolve the borrower from the obligation but provides temporary relief during the deferment period.

This typically involves either deferring the principal payments, where the customer continues to service the interest; or both the principal and the interest payments.

Central Bank guidelines specify that the instalment amount before the payment holiday was granted should not increase. The lender, therefore, needs to amend the amortisation schedule by capitalising the accrued interest for the payment holiday period and extending the tenor of the facility.

Capitalised interest
Capitalised interest is the unpaid interest that is added to the total cost of the loan to form part of the loan balance so that interest is not recognised during the payment holiday period.

With this background, it is prudent that customers who can still afford to meet debt repayments shouldn’t request for a payment holiday. The ideal candidates are those facing short-term cash flow issues.

Although the payment holiday would result in loan tenor extension and capitalisation of interest makes the principal balance a bit higher (depending on the payment holiday period), it is better than defaulting which can have grave consequences such as recovery action and being adversely listed on the Credit Reference Bureau.

Cash flow challenges
If you are already indebted due to other reasons or your cash flow issues are long-term in nature, it is not advisable to be over-indebted by requesting for a payment holiday; but rather opt for debt consolidation or a restructure of the credit facility.

Do not ask for a payment holiday for a period longer than you need, to avoid diverting the cash flows that you have received, which could unnecessarily turn the loan expensive.

As an example, if I own a hotel, I would gauge that it will take six to 12 months for business levels to return to normal (depending on resumption of air travel) and request for a payment holiday for this duration.

I would also request for a payment holiday on behalf of my employees running salary loans be it on individual capacity or under a scheme arrangement since lenders tend to be more receptive to requests initiated by the employer.

In addition, the hotel’s suppliers affected to an extent that the majority of their cash flows are from the hotel, might require a payment holiday for their facilities running under SME banking.

With this approach, as a lender, we would have covered the entire value-chain from the anchor customer offering wholesome support to the affected sector with credit relief solutions.

Any customer still deciding whether to take up a payment holiday has time as the guidelines are in effect for 12 months. Therefore, most lenders will run this until this year-end.

The author is the head of credit at Absa bank.