By Michelle Flores / Updated: Jul 14, 2019

Irreversible Consequences of the Default on a Loan

Irreversible Consequences of the Default on a Loan

Defaulting on any loan can have many severe consequences for the borrower, both on the short term and over the long haul, as well.

What is a Loan Default

A loan default happens when the borrower fails to pay back a loan based on the contract they signed when they accepted the loan. For most consumer loans, that usually means several payments have been missed throughout several months. In the vast majority of cases, lenders allow a grace period before assessing penalties on the borrower for missing a single payment.

Between the time a payment is missed and the time the lender declares the borrower in default, the account is considered delinquent. This is the period in which the debtor has time to avoid default by attempting to make arrangements with the lender to make up missed payments.

Essential Tip When you miss a loan payment, try to catch up and make good on your loan agreement.

When the lender puts the loan in default status, the account is sent to debt collectors, whose job it is to recover the unpaid amount.

Impact on the Credit Score

Defaulting on a loan will severely impact your credit score and can make it difficult to apply for a loan in the future, and it can even result in the repossession or seizure of your personal property, especially if that property serves as collateral on loan.

Impact of Default on Specific Types of Loans

Here are some specific types of loans and more particular consequences that can follow when you default. In all cases, a default will destroy your credit, but every kind of loan has potential specific implications.

How Can a Default on Auto Loans Impact You

For example, if you default on an auto loan, the bank or finance company will likely try to repossess the car, often leaving you with no way to get to work, which can make repaying your debts even more difficult.

If you depend on your car, you should always work to catch up your car loan because the first consequence of defaulting on a car loan is the seizure or repossession of the vehicle, which they will use to pay off the outstanding debt.

The Problem
Value of a car depreciates over time, which means the current value of your vehicle may not cover the outstanding loan amount.

That is why auto lenders consider repossession a last resort, and they prefer to get money directly from their borrower. That means, most of the time, they’re willing to work with borrowers to restructure the terms of an auto loan.

You can usually work with the lender to avoid default since default and repossession will ruin your credit and make it much less likely you’ll ever get another auto loan.

Consequences of the Default on Mortgages

Because a mortgage is secured using the purchased home as collateral, if you don’t pay for your home loan according to the original agreement, the potential consequences can be foreclosure and the loss of your home, in addition to the significant hit to your credit score and the inability to ever buy a house.

Foreclosure, which is the process through which the bank takes your home as a way to sell it and recover as much of the outstanding loan amount as possible.

The Problem
Potential consequences are losing your home, hit on your credit score and inability to ever buy a house.

It is worth their while for all homeowners to make payments on time, as a way to avoid default, which leads to a significant hit to your credit, in addition to the terrifying prospect of losing your home.

As is the case with other loans, it’s essential to communicate with your loan servicer if you think you can’t make your mortgage payment. If you have a good record of making payments on time and you can prove your current financial distress (by using these hardship templates, for example), you may be able to negotiate for a restructured loan agreement and keep your home.

Impact of the Default on Student Loans

The good news on student loans is, the delinquency period – the period where you can use various methods to catch up your student loans – is 270 days, so if you have student loans, you have a long time to avoid defaulting. It is essential to keep in touch with the loan servicers and use the various tools they make available to help you catch up.

The first consequence of default what is called “acceleration,” which means the entire balance of the loan balance is due immediately. Since student loan amounts are usually in five figures, and quite often in six-figure sums, this is generally impossible. But if you don’t pay off the balance, the government can then withhold tax refunds or garnish any federal benefits the borrower receives.

Besides, the debt collectors who are trying to recover student loan debt will sue borrowers to gain the right to garnish their wages until the debt is paid back, along with the court fees incurred by the collectors.

The Problem
Student loan defaults stay on the borrower’s record for life

Moreover, defaulted student loan borrowers can never again receive student financial aid.

Other Types of Loans

The consequences of default on personal loans and business loans will depend on whether the loan is secured or unsecured. A default on a personal loan, like any other loan, can send your credit score way down, and make it harder to get credit in the future, which makes avoiding default worthwhile.

Of course, a business loan default can have a severely negative impact on the credit outlook for the business and the business owner’s credit score, especially if the loan was backed by a personal guarantee.

Works Cited
1 LawInfo.com “Loan Default Litigation: How to Collect on a Defaulted Loan” https://resources.lawinfo.com/banking-and-finance/creditors-rights/loan-default-litigation-how-to-collect-on-a-d.html
2 ValuePenguin.com “What Does it Mean to Default on a Loan” https://www.valuepenguin.com/loans/what-does-it-mean-to-default-on-a-loan
3 Nolo.com “Car Repossession Laws Overview” https://www.nolo.com/legal-encyclopedia/car-repossession-laws-overview.html
4 Investopedia.Com “Default” https://www.investopedia.com/terms/d/default2.asp
5 StudentAid.ed.gov “Don’t get discouraged if you’re in default on your federal student loan.” https://studentaid.ed.gov/sa/repay-loans/default/get-out


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