What happens if I cannot pay off an installment loan?

Default occurs when you regularly miss your monthly loan payments for an extended period of time. Depending on the loan type, this can range from one day to 270 days since the last payment. When this happens, your loan will be sent to a collection agency to recover the unpaid loan balance.

Defaulting on a loan can cause long-term damage to your credit score, rack up late fees, and in some cases lead to you being sued by your lender or having your property or assets seized. Fortunately, there are ways to avoid loan default, especially if you act quickly.

Consequences of defaulting on an installment loan

Defaulting on an installment loan often leads to lasting negative effects on your financial health, especially when it comes to your credit score.

While there are a number of possible consequences that could happen to borrowers if they default, the consequences ultimately depend on the lender’s decision, the type of loan or line of credit you have taken out, and any payment options you have.

Credit damage

If your monthly payments are more than 30 days late, the lender may report the delinquent balance to the credit bureaus, which will drop your credit score by a few points.

Most lenders will use your FICO score when looking at your credit status, and 35 percent of the score is your payment history. Therefore, routinely missing monthly payments can negatively impact your credit score.

Additionally, late or missed payments appear on your credit report, giving lenders and banks a holistic view of your credit status and history. When determining whether you qualify for products such as mortgages, car loans and personal loans, lenders look at your credit report. A negative repayment history will remain on your report for seven years and may limit your ability to qualify for future loans. Or, if you do get approved, you’re more likely to be offered a much higher interest rate than if you had a positive repayment history.

Late payment fees

Most lenders – not all – charge late fees for late payments. This fee can be anywhere from $20 to $40; although a $39 late fee is most common.

Depending on the type of loan, your lender may offer a grace period. This is a set period of time – usually about 10 days – during which you will not face any negative consequences for a late payment. To avoid potential late fees, check to see if your lender offers a grace period and make the payment within the deadline if possible.

If you have a positive repayment history, have never missed a payment in several years, or have an existing relationship with the institution, it doesn’t hurt to call and ask if they can waive your late fee. While this isn’t an option with most lenders, some may have a one-time waiver or offer a similar benefit to existing customers.

Collection

If your debt has been outstanding for a longer period of time, the lender may send the balance to a collection agency. This can result in frequent phone calls, letters and emails from the agency in an attempt to collect the debt.

Collections can be stressful because the agency will likely contact you weekly, if not daily, about the delinquent debt. Reputable companies must communicate in writing that you have 30 days to dispute the debt. If you do not do this, the agency may continue to contact you. You may be able to agree on a repayment or repayment plan for certain debts.

Please note that harassment of any kind – such as threats of jail time or police presence – is illegal due to the Fair Debt Collection Practices Act (FDCPA). If the debt collector engages in deceptive practices, such as lying about who he is or how much he owes, you can report the company to government authorities or sue them for deceptive practices.

Possible court hearing

If all else fails, the lender may sue you for unpaid past debts that have gone into collections. If this happens and you receive a summons, it is important that you know your rights as a consumer.

Debt collectors have a limited amount of time to file a lawsuit – known as the statute of limitations – and once this time has passed, debt collectors no longer have legal grounds to sue you for the past due balance.

The statute of limitations varies by state, but typically lasts three to six years. In some states, debt collectors may not be able to take you to court after the statute of limitations has expired, but they can still contact you. At this point, your credit score will have taken a huge hit. To avoid this, contact the agency, confirm your debt, and discuss your repayment options as soon as you receive the collection notice.

How to avoid defaulting on your loans

Preventing default on your loan starts with your loan terms and agreement. Before you sign on the dotted line, make sure your finances can handle current and future monthly payments. Consider possible emergency costs or medical bills. Can you still keep up with payments if something happens?

If you can’t answer that question with confidence but still need the money, ask the lender or institution about extended repayment options or whether it offers relief from payment problems. While relief options won’t pay off your debt, they can reduce the risk of default and make your monthly payments more budget-friendly.

If you are in a difficult situation and cannot make the payments, please contact your lender’s customer service immediately. It is always better to be honest with the lender and communicate your situation as soon as possible to reduce the risk of default.

How to get out of loan default

There are a number of alternatives that can help you get out of the absenteeism situation and get back on your feet if you have already received the notice of default. In addition to talking to your lender about repayment options, you may also consider borrowing a debt consolidation loan, although this can be difficult if you default. You may also be able to work with a debt counselor.

If your credit is solid, you have a rich history of positive repayments, or you have a creditworthy cosigner, you may be able to combine your defaulted debts with other open accounts through a debt consolidation loan. This will take your loan out of default status. However, you will need to examine your budget carefully to ensure you can afford the monthly payments on the new loan.

A common option is to seek out a credit counselor to help you manage and pay off your debts. Credit counselors offer services to help consumers get back on track financially, and some organizations offer their assistance free.

Frequently asked questions about loan defaults

• Is defaulting on a loan a crime?

  Defaulting on a loan is not a crime. Lenders have no legal jurisdiction to arrest you for a past due balance. However, defaulting on a loan will have serious financial consequences. It can result in the lender seizing your property as collateral (if applicable) and can be considered a civil offense, meaning the lender can sue you for the unpaid amount.

• What happens if you miss a loan payment?

  Depending on the lender, missing a payment after the grace period could result in an automatic late payment penalty and a drop in your credit score. It is best to repay the overdue amount as soon as possible, as prolonged unpaid amounts will result in a decrease in credit, possible wage garnishment and default.

• Are installment loans on your credit report?

  Installment loans appear on your credit report in different ways. When you first apply for a loan, the lender will run a hard credit check, which will result in a drop in your credit score. The loan will also show up as an open credit account, and if you miss a payment, it will remain on your report for up to seven years.