Most people borrow with the full intention of repaying their loans. However, things can go differently than planned. This can result in the loan going unpaid altogether in severe cases. This condition is known in financial terms as an obligation going into default. As you might well imagine, this can trigger some rather significant consequences.
Here’s what happens if you default on a loan.
What Constitutes Default
In the simplest terms, default happens when a loan isn’t repaid. However, it’s not quite that simple, as a number of things happen prior to a loan being officially declared to be in default.
In fact, the elements defining the condition can be different for various types of loans. The exact parameters are described in loan agreements and will vary from lender to lender — even within the same category of loans.
“With a personal loan or a private student loan, for instance, your lender may consider you to be in default after one missed payment,” says U.S News & World Report. “With federal student loans, on the other hand, default may not apply until you’re 270 days late with a payment.”
The Effect of Defaulting on Your Credit Score
Regardless of the type of loan, if a default is logged into your credit history, your credit score will drop significantly.
“When you’re delinquent on a loan or credit card for at least 30 days, notification of that late payment will remain on your credit report for seven years,” says the credit-reporting bureau Experian. “Once you default, that can also be reported to the credit reporting agencies as a collection account, which can further damage your credit score. Collection accounts also typically remain on your credit report for seven years.”
The good news is you may still be able to get credit from other sources. The bad news is it will come at an extremely high price. Considered bad credit loans, they tend to come with exceptionally high interest rates.
Defaulting on a Secured Loan
Financing for real property such as homes, cars, boats and other similar items are typically secured by retaining an interest in the item until the loan is paid in full. In other words, they become collateral for the loan.
The item can be seized by the lender and sold to recoup as much of their investment as possible if a default occurs. The lender can also sue you to collect the difference if the value of the item is insufficient to satisfy the loan in full.
With real estate, you’ll typically have approximately 150 days to put things straight before your loan is declared to be in default. Foreclosure proceedings can then take between 60 days and two years after default is established.
Defaulting on an Unsecured Loan
As the nomenclature indicates, unsecured loans provide no collateral upon which a lender can fall back. Credit card accounts are considered to be in default after three months of payments are missed in most cases.
The debt will be charged off of the lender’s books somewhere between three and six months later if it goes uncollected. It’s important to note you’ll still owe the money and be held legally responsible for repaying the debt.
Lenders can also seek a judgment against you in court and ask to have liens placed against any real property you own. If this happens, they’ll be paid first if you ever sell the property. They can also request a judge order your wages to be garnished to pay off the debt.
These are just a few instances of what happens if you default on a loan. The consequences are considerably less than pleasant, which is why it’s a good idea to be as certain as possible you can repay any loan for which you apply.
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