Refinancing and Restructuring of Existing Debt

Refinancing and restructuring are two separate processes, but they often invoke the same image—that of a desperate company on the verge of bankruptcy making a last-ditch effort to keep the business afloat.

There are various reasons for refinancing, with the most common reasons being reducing interest rates on loans, consolidating debts, changing loan structure and freeing up cash. Borrowers with high credit scores especially benefit from refinancing because they can secure more favorable contract terms and lower interest rates.

Essentially, you are replacing one loan with another, so debt refinancing is often used when there is a change in interest rates that may influence newly created debt contracts. For instance, if interest rates are slashed by the Federal Reserve, then new loans as well as bonds will offer a lower yield on interest payments, which is advantageous to borrowers. In this circumstance, a debt refinancing can allow borrowers to pay much less interest over time for the same nominal loan. 

For more dire situations, borrowers can turn to debt restructuring. At the most basic level, restructuring refers to altering an already existing contract (versus refinancing which starts with a new contract). An example of a typical restructuring would be lengthening the due date for the principal payment on a debt contract or modifying the frequencies of interest payments. Restructuring occurs mostly in special circumstances, where borrowers are deemed financially unstable and are unable to meet debt obligations. Restructuring can also negatively affect your credit score, which is why it is a last-ditch strategy. 

In debt restructuring, the borrowing party must negotiate with the creditor to create a situation where both parties are better off. If you know you cannot make timely payments on your loan, or if a layoff has compromised your financial stability, then it is often prudent to begin talks with the lenders. Lenders don’t want borrowers to default on their loans because of all the aforementioned costs of bankruptcy. The majority of the time, lenders will agree to negotiate with underwater borrowers to restructure the loan, whether that means waiving late fees, extending payment dates or changing frequencies and amount of coupon payments.