What Happens if You Default on a Personal Loan?

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Defaulting on a personal loan can damage your credit score and lead to both legal and financial trouble. If you aren’t able to make payments, talk to your lender as early as possible to avoid default and work out a new plan.

3 Real Consequences of Defaulting on a Personal Loan 

If you get a personal loan and aren’t able to keep up with payments, you’ll face a variety of consequences.

1. Your Credit Score May Drop

For one, your credit score may drop. According to LendingTree, missing loan payments by 90 days or more can cause your score to drop by over 100 points. That’s a huge decrease that could endanger your ability to get approved for new lines of credit and more.

2. Late Fees and Penalties

Missing loan payments will also result in late fees and penalty interest, digging a financial hole that can be difficult to get out of.

3. Your Debt Gets Sent to Collections

At a certain point, the lender will generally send your debt to collections, and then the collections agency will be the one reaching out to you to collect payment. If you don’t pay, the collections agency could sue you for the money you owe, and if you refuse to pay it can get a court order to garnish your wages.

How Personal Loan Default Affects Your Credit 

Does a personal loan hurt your credit? The impact on your credit is one of the pros and cons of a personal loan, and it all depends on how well you manage your monthly loan payments.

• Your credit score drops: Payment history accounts for 35% of your FICO score, so falling behind on personal loan payments can be devastating.
• Long-lasting damage: Negative events like defaults can stay on your credit report for up to seven years from the date of the first missed payment, according to Equifax, so the damage isn’t short-lived.
• It gets harder to borrow money: You’ll have a harder time getting approved to borrow money, open credit cards or even rent an apartment.
• You might only qualify for a higher interest rate: Your lower credit score will translate into higher interest rates because lenders will see you as a bigger risk.

What Should You Do If You Can’t Pay Your Loan? 

If you don’t think you’ll be able to keep up on loan payments, contact your lender as soon as possible. Explain your situation and ask what options are available. For example:

• Deferment or forbearance
• Modified payment plans
• Refinancing to lower monthly payments
• Talking to a nonprofit credit counselor for free advice

Timeline of a Personal Loan Default

Defaulting on a loan doesn’t happen overnight; lenders generally follow this timeline when processing missed payments:

• 1-30 days late: Lenders offer a grace period for the first 30 days, though late fees may still apply.
• 31 to 60 days late: At this point, the lender will likely report the missed payment to the credit bureaus, and your credit score will start to take a hit. This will happen for each payment that’s 30 days late or more.
• 90 days or more late: After 90 days, your payment transitions from being in delinquency to being in default, meaning that you’re failing to repay the loan according to the terms outlined in the agreement you signed.
• Over 120 days late: At this point, the lender generally sells off your debt to a collection agency. The collection agency will take over attempts to collect the money you owe, and it may pursue legal action.

What Happens if Your Loan Has a Co-Signer? 

If you applied for your loan with a cosigner, that cosigner becomes legally responsible for missed payments if you can no longer make them. If the cosigner doesn’t make payments, their credit score will also be negatively impacted, and the lender can also pursue them for repayment.

Can You Settle a Personal Loan After Default? 

If you can show serious financial hardship, you may be able to settle your personal loan debt after defaulting. That means you’ll pay less than you owe, often as a lump sum.

Your best bet is to reach out to your lender as soon as possible to explore your options, though you still may be able to settle a personal loan once it’s been sent to collections.

Your credit could still suffer even if you settle your debt, but it’s better than dealing with legal action from a collections agency.

What Is a Personal Loan Grace Period? 

Depending on your lender, you may have 10-15 days after your loan payment due date to make a payment without a penalty. However, not all lenders offer this grace period; check your specific loan agreement for the terms.

Also note that even if your lender offers a grace period, you may still accrue extra interest if you make a late payment. The grace period would only waive any late fees.

How To Avoid Defaulting on a Loan in the Future 

Given the dramatic impact that defaulting on a loan can have on your credit, it’s important to avoid getting into this situation at all costs. Here are some steps to take to avoid this negative event going forward:

1. Create a budget and prioritize high-interest debt: This will help you know exactly how much money you can afford to borrow and pay off each month, and prioritizing high-interest debt will save you money in the long term.
2. Look into debt consolidation loans or 0% balance transfer offers: Debt consolidation loans can help you streamline your debt into one manageable payment, and balance transfer credit cards offer a bit of breathing room, but you need to make sure you can pay off your balance by the time the introductory period ends.
3. Use a debt management plan through a nonprofit agency: Take advantage of free resources to get out of debt. Lenders and local programs may also offer hardship assistance.
4. Only borrow what you can realistically afford: This will help you avoid getting into debt or taking on more debt than you can manage.
5. Set up autopay or payment reminders: Sometimes missed payments happen on accident, but you can get ahead of them by automating your monthly payments.
6. Build an emergency fund to cover at least one monthly payment: Ideally, your emergency fund has at least three months of expenses, but even one month is a great place to start.
7. Read the loan terms carefully before signing: Make sure you know the terms, including if there’s a grace period, as well as any late fees.

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