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Key takeaways

  • A personal loan is in default if you fail to make a scheduled payment on time.
  • Reaching out to your lender early can help you avoid serious damage to your credit score and even legal action.
  • Debt consolidation and working with a credit counselor can be helpful strategies for managing loan default.
  • There are steps you can take to avoid defaulting on a personal loan.

Defaulting on a personal loan can have immediate and long-term consequences on your financial future. Your credit score may drop, lenders may not approve you for new credit or you could face court action. You can take several steps to avoid default or dig out of it if you’ve already gotten behind on payments.

When is a loan in default?

Loan default means you’ve failed to make the required payment by the due date you agreed to.

A lender usually considers your loan in default if you’re more than 30 days late. At this point, the lenders may report the late payment to the credit bureaus. This will instantly affect your credit score. And the better your credit score was before, the further it will drop.

You can expect regular calls from the lender’s collection department.

If you’re more than 90 days late, the lender can charge off your debt. They assume you won’t repay it and consider it a financial loss. At that point, they can sell the account to a collection agency. The collection agency may offer to settle the account for less than you owe or offer a payment plan. You are still legally obligated to pay the debt.

You could face legal action and have property seized if you default on a secured personal loan. Because payment history is a big factor in your credit score, a default could cause a major drop. You may be denied for future credit products like loans and credit cards or only eligible for a bad credit loan interest rate.

Bankrate insight
Missing a payment by a few days won’t immediately affect your credit since most loan agreements have a grace period. You’ll only have to pay a late fee if you miss the grace period. This fee varies by lender but usually ranges from $25 to $50 or 3 to 5 percent of the amount due.

What happens after loan default?

The consequences of defaulting on a personal loan vary depending on how many payments you’ve missed. Lenders may have different ways of collecting the money you owe.

By law, they must follow the Fair Debt Collection Practices Act. It limits how and when they communicate with you. This is what typically happens after you default.

  • Expect phone calls: A lender can legally contact you between 8 a.m. and 9 p.m. seven days a week, including holidays and weekends. However, they can’t harass or be abusive.
  • Late payments will be reported to credit bureaus: Defaulting on a loan can result in negative marks on your credit report and score. This, in turn, will drag down your score for up to seven years. If you use a credit monitoring service, you may begin getting notices about changes to your score for the worse.
  • Credit access is limited: Some lenders may decline future credit applications. Or you may be approved for much smaller loan amounts.
  • You’ll pay higher future interest rates: A significant drop in your credit score means you won’t qualify for the best interest rates when applying for other credit products.
  • Creditors could take legal action: Depending on the type of loan and your state’s laws, what happens when you default on a loan could include debt collection, asset seizure, wage garnishment and a lawsuit.

What to do if you’re facing default on a personal loan

If you don’t think you can continue making payments on your personal loan, it’s critical to act fast. Inform your lender and seek an alternative to default.

Look at your financial situation

Begin by clearly understanding your financial situation and figure out why you can’t make your loan payments.

Look at the non-essential spending in your budget. Consider eating out less and getting rid of subscription services you never use. And compare rates for services like your home internet, auto insurance and home or renter’s insurance to see if you can get a better deal with another provider.

Consider a part-time side hustle to add extra monthly income. An extra $50 per week could help you avoid missing a personal loan payment.

Reach out to your lender

Be proactive and contact your lender to discuss your situation before you miss a payment. Let the lender know if you’re experiencing a temporary issue like an unexpected car repair or expense that’s depleted your savings. If it’s a longer-term issue, like a job loss, let them know. They may offer flexible payment options if they know you still want to repay the debt.

Ask about loan modifications

A loan modification allows you to set new repayment terms for your loan. Lenders may allow you to pause payments, spread them out over a longer time period or add missed payments to your loan balance to pay later.

Although these options may increase the total cost of your loan, loan modifications can give you much-needed near-term relief.

Research debt consolidation

If you’re having difficulty making your personal loan payment because you’ve racked up lots of credit card debt, you should check into a debt consolidation loan. The rates on personal loans are often lower, and the new lower payment could give you enough room in your budget to avoid defaulting.

Find a debt counselor

If you don’t know where to start, meeting with a credit counselor may help you focus on what to do next. Look for one working for an accredited nonprofit. They can guide you by reviewing your budget and discussing the different options based on their expertise.

They may help you renegotiate a plan with your lender, create a debt management plan you can afford or give you strategies to improve your credit after you default.

Look into debt relief

A debt relief company may be another option for finding lower payments. These companies work with your creditors to develop a more affordable payment plan and charge a fee once the plan is approved.

However, debt relief companies typically require you to stop making payments on your debts so borrowers will be more willing to work with them. This may further damage your credit score.

If you don’t want to work with a company, you can attempt to negotiate with your creditors yourself.

How to avoid personal loan default

To avoid finding yourself in a situation where you’re at risk of defaulting on a personal loan, consider the following strategies:

Make sure your loan terms work for your budget

Before you take out a loan, look honestly at your income, monthly debts and spending habits. If your income varies due to tips, commissions or self-employment, a personal loan might not be the best choice. If you are living paycheck to paycheck already, see if you can cut your grocery bill or entertainment spending to clear out room for a new payment.

Make sure you fully understand the loan terms including the interest rate, monthly payment and repayment period.

One drawback to a personal loan is the fixed monthly payment. A credit card or line of credit might be better if you don’t need all of the funds at once or need the flexibility to make minimum payments when your income is low. On the other hand, credit cards often have higher interest rates — and unlike a personal loan’s fixed rate, your card’s rate could go up.

Set up automatic payments

Life can get hectic, and bills can be overlooked. Automatic payments ensure you never miss a payment due to forgetfulness. You may even get an interest rate discount when setting up autopay. Make sure you have sufficient funds in your account on the due date to avoid overdraft fees.

The bottom line

Defaulting on a loan can harm your finances for years to come. Review your budget before applying for a loan or any type of debt to ensure you can afford your payments.

You always have options if you’re on the verge of defaulting on a loan or have already missed payments. The sooner and more frequently you communicate with your lender, the more likely you are to avoid severe default consequences.