Debt default: What is it? How can you prevent it? Your car note fell behind the refrigerator. You got busy with work and didn’t remember to schedule your online student loan payment. You were down with the flu for a week and totally forgot to pay your credit card bill.
We get it. These things happen. Everyone makes mistakes. And these are usually one-time incidents or unpleasant speed bumps on the road to financial stability. You learn from your mistakes, and you move on (and you enroll in automated bill pay!).
Unfortunately, for some folks, a single late payment can quickly snowball out of control: They miss one payment, then two. Then the late fees start to pile up. Suddenly, that harmless missed-payment speed bump is a car-sized financial sinkhole called “default.”
What is default, exactly? Why does it happen? And what can you do if you’re teetering on the brink of financial disaster? In this article, we’ll take a look at how to avoid defaulting on your loans – and what to do if the unthinkable happens.
Late vs. Delinquent vs. Default: What’s the Difference?
One important thing to know is that the status of your overdue payment changes depending on just how late it is. The breakdown might vary a little from lender to lender, but it goes something like this:
Late: A payment that is several days or a week or two past due is considered “late.” In most cases, a single late payment that is less than 30 days overdue won’t make or break your credit score. If it’s a first offense and you have a history of paying on time, most credit card lenders will probably let it slide.
Delinquent: Here’s where the real trouble starts. Once your payment is more than 30 days overdue, it moves into “delinquent” territory. You’ll probably notice an uptick in calls, emails, or letters from your lender, reminding you to make your payment. At this point, late fees and penalty interest rates will start to kick in, too. What’s more, once you’re somewhere between 30 and 60 days delinquent, your lender will notify the credit reporting bureaus, which means your credit score will take a hit. Just one reported delinquency can set you back 100 points or more!
The upside here is that as long as you’re in the “delinquent” stage, you can still get back on track and start to repair the damage. All you have to do is pay your outstanding balance.
Default: A lender will typically attempt to collect a delinquent debt for about six months. After that, the account is officially in default. Depending on the type of loan, this means you could be looking at anything from garnished wages to repossession of your home or vehicle.
Why Default Happens – and What You Can Do About it
Nobody sets out to become delinquent on their loans. In most cases, delinquencies are the result of a personal financial crisis, like getting laid off or being unable to work because of a serious illness or injury. Unless you have a solid emergency fund in place, an event like this can be devastating.
Unfortunately, there’s no quick fix if you find yourself in a difficult financial situation without a safety net. But there are a few things you can do to avoid going into delinquency or default while you’re getting back on your feet:
Contact your lender(s) right away. We can’t stress this enough. Your instinct might be to avoid an unpleasant conversation, but the sooner you reach out, the better. Explain your situation and emphasize that you want to work with them to keep your accounts up to date. They’ll appreciate your honesty – and they’ll probably be willing to work something out.
Discuss your options. Remember, your lender wants to get paid, so they’ll probably be willing to help you if it means you can keep making your payments. Chances are, there is some form of hardship assistance or deferment available for situations like yours. For example, if you’re concerned about a student loan, you may be able to put those payments on hold for a set amount of time (interest will still accrue, but you won’t rack up late fees, and your account will remain in good standing). If you’re worried about credit card debt, try to negotiate for a lower monthly payment. Yes, this will likely mean that you pay more over time, but lower monthly payments will provide some short-term relief.
Stay the course. Once you’ve got an arrangement worked out, stick to it. If you’ve negotiated lower payments, keep making them. Try to find a source of additional income: Take on a part-time job (if you’re able). Have a garage sale. Focus on rebuilding your finances. Most importantly, keep communicating with your lenders.
What to Do if You’re Already in Default
If you’ve already defaulted on one or more of your loans, you could be facing a wide range of penalties: Your wages could be garnished, or your income tax could be withheld. You could lose your home or your vehicle. Some lenders may even be willing to take you to court – at your expense – to try and recoup some of the money you owe.
It’s a scary situation, but don’t lose hope! Here’s what you should do if you find yourself in default:
Negotiate a settlement. At this point, your lender may be willing to settle your debt for a lower amount than you owe. After all, getting some of their money back is better than nothing. If you can come to a settlement agreement, you may be able to pay a lump sum and walk away.
Consider credit counseling. A reputable credit counseling agency can help you stay afloat during a financial rough patch. If you’re in default, a good credit counselor can help negotiate with your lenders on your behalf, develop a payment plan or a settlement, and help you build stronger financial skills like creating a budget and establishing an emergency fund.
Check your credit report and your credit score. It won’t be pretty, but you can’t start to repair the damage until you know what you’re dealing with. If you’ve settled your delinquent debts, you can begin the hard work of rebuilding your credit history. The key here is to be patient: It won’t happen overnight, but there is a way out if you’re willing to change your spending habits.
Remember, whether you’re behind on a single payment or drowning in delinquent debts, don’t lose hope! There’s always a solution. And you don’t have to go it alone: If you’re looking for help getting your finances back on track, rebuilding your credit, or negotiating with your lenders, call the friendly team at American Credit Foundation.