What is a Deferment Period?
A deferment period refers to an agreed-upon timeframe during which a borrower doesn’t have to pay interest or repay the principal on a loan. It also applies to callable securities, indicating the time frame during which the issuer cannot call the security.
The length of a deferment period varies and is usually determined by a contract between the borrower and the lender. For instance, a student loan deferment can last up to three years, while many municipal bonds have a deferment period of ten years.
Key Takeaways
- Deferred Payment: Time when the borrower doesn’t need to pay interest or principal.
- Interest Accrual: Depending on the loan terms, interest may accrue during this period and could be tacked onto the total amount due.
- Callable Securities: Issuers can’t call the securities before the maturity date during this period, providing stability for investors.
Understanding Deferment Periods
Deferment periods are applicable to student loans, mortgages, callable securities, some options, and benefit claims in the insurance sector. Borrowers mustn’t confuse a deferment period with a grace period, which is usually much shorter and allows payments without penalties after the due date has passed.
Deferment Period on Student Loans
Student loans often include deferment periods to help borrowers manage educational expenses. Lenders may grant deferment while the student is in school or just after graduation. They can also grant deferment during times of financial hardship, offering temporary relief and avoiding default. Interest might accrue during this deferment, so it’s crucial to understand your loan terms. Subsidized loans often do not accrue interest during deferment, while unsubsidized ones do, possibly increasing the total debt amount.
Deferment Period on Mortgages
Newly established mortgages often come with an initial deferment of the first payment. Signing a mortgage in March may mean payments don’t begin until May. This is different from forbearance, which is a negotiated agreement to temporarily pause payments usually to prevent foreclosure.
Deferment Period on Callable Securities
Callable securities may include an embedded call option, allowing issuers to repurchase them before maturity. This is often used when market interest rates drop, making it favorable for issuers to refinance at lower rates. The deferment period prevents early redemption, ensuring bondholders receive interest income for a predefined time.
Deferment Period on Options
European options, a type of financial option, have a deferment period throughout their life, making them exercisable only at expiration. Another option type, the Deferment Period Option, can be exercised anytime before it expires, but the payment is deferred until the original expiration date.
Deferment Period in Insurance
In the insurance realm, the deferment period is the span from the onset of a disabling condition to the time the benefit payout begins. During this time, an employee must be out of work due to illness or injury before compensation starts to accumulate.
Example of a Deferment Period
Consider a bond with a 15-year maturity but a deferment period of six years. Investors receive periodic interest payments guaranteed for at least the first six years. Afterward, depending on prevailing market interest rates, the issuer might repurchase the bonds. Many municipal bonds follow this model with a ten-year deferment period.
Common Questions & Answers
Do all Student Loans Eligible for a Deferment Period? Not necessarily. While most federal loans offer deferment options, private loans may not. Always check with your lender to see if this option is available.
Does Interest Still Accrue During Deferment? Yes, for many types of loans, interest continues to accrue during deferment, increasing your overall balance.
How Long Can Deferment on Student Loans Last? For federal student loans, deferment can last up to three years, depending on the circumstances.
The Bottom Line
Deferments can play a crucial role in different financial contexts. For students, deferment provides breathing room during or after school. For callable securities, it assures stable interest payments. Deferments can help you better manage your financial position, providing relief and protection in various forms of financial agreements.
Related Terms: loan deferment, grace period, forbearance, capitalization of interest
References
- Federal Student Aid. “What Are Loan Deferment And Forbearance?”
- Federal Student Aid. “Subsidized and Unsubsidized Loans”.
- Consumer Finance Protection Bureau. “Learn About Forbearance”.
- Knopman Marks. “What Does ‘Call Protection’ Mean?”
- Reassured. “Deferred Period”.
- Credible. “How to Defer Private Student Loans”.
