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What Happens When You Default on Personal Loan Payments?

What Happens When You Default on Personal Loan Payments?

Applying for a personal loan can help individuals (especially salaried people in India) achieve bigger things in life with the much-required financial assistance. However, in a land like India, borrowers face many consequences with a default on a personal loan. As a salaried individual meeting financial challenges, enjoying a debt-free life can only be possible once you understand the repayment strategies.

Defaulting on personal loan payments may have serious consequences that drastically impact your financial well-being and credit score. Defaults in India are a significant concern, and borrowers may have to face legal consequences with a loan default.

While you borrow money with the intention to pay it back on time, there are times when things don’t go according to your plan. As a result, a mere loan default can change your life forever. However, the consequences of repayment failure may vary from one individual to another, especially when a personal loan is involved.

Top Repercussions a Borrower May Face with a Default on a Personal Loan

When it comes to immediate financial assistance, a personal loan comes as a blessing in disguise. From offering immediate funds for emergencies to reducing your financial burden, this type of loan can help an individual manage finances effectively.

The consequences of a default on a personal loan are huge. Amidst the legal complications and penalty charges associated with loan defaulters, the following are the consequences a borrower may experience with loan default.

Impacting Your Credit Score Drastically

The most significant consequence of a personal loan default is the impact on your credit score. Credit bureaus keep records of individual credit behaviour, such as the history of loan repayment. So, defaulting on a loan means the credit bureaus will report it. As a result, it damages your credit score. Usually, the CIBIL score ranges between 300 and 900. The calculation occurs on the basis of these parameters:

  • Credit history
  • Payment behaviour
  • Credit utilization
RangeRating (What it Means)
300 to 550Indicates a Poor Rating
551 to 650Suggests a Fair Rating
651 to 750A Good Rate
Above 750An Excellent Rate

So, with a low credit score, the borrower may face difficulties obtaining future loans or credit cards. A lender or lending institute uses your credit score to determine your creditworthiness. That means a poor score results in the rejection of your future loan applications. Alternatively, it may result in an approved loan with a higher interest rate.

Besides, the defaulted loan remains on the credit score for a longer period of time. This serves as a warning sign for prospective creditors and lenders for future loan or credit card applications.

Legal Warnings

After you miss the second or third payment, your lender may issue a notification. A few lending institutes’ agents call or message you on the registered telephone number to ask for the payment. If the payment is still not clear from your end, the lender may issue the default notice document.

After a lender initiates this type of process, a borrower is bound to solve the problem by contacting them. For a genuine defaulter, the lender may consider the reason for defaulting. As a result, the EMIs might be reduced or stopped for the time being. After a certain point in time, you need to initiate the repayment as mentioned in your contract.

If you don’t contact them after their notice, the lender might take further steps to ensure the repayment is made on your end. As a result, they sent a notice mentioning that the post-dated cheque was resent to your bank on a specific date. It also mentions that the borrower must have enough balance in the account for the cheque to go through.

So, if you don’t have enough money in your account on the date when the lender sends the post-dated cheque, you may face legal consequences. A few legal consequences that you may face include the following:

  • Lenders may file a case in the civil court for repayment
  • A defaulter may experience wage garnishment

Note that a wage garnishment is the official notice or court order that directs the employer to collect money to fulfil debts (or financial obligations). Here, payroll deductions are considered.

Legal Consequences

Failing to pay the personal loan on time is a breach of contract. So, in times of a default on a personal loan, a lender may take legal action against that individual. If the lender initiates legal proceedings, it may result in a criminal case.

According to RBI, genuine defaulters shouldn’t be hassled. They must be given a certain period of time for recovery. Moreover, it states that customers shouldn’t experience undue harassment by lenders.

However, once the lender files a civil lawsuit against that individual, the court may order them to pay the amount alongside interest.

One can explore negotiation and other settlement options with the lending institute. Someone who wants to opt for settlement options may have to experience impacts on the credit score. A settlement can dramatically affect your future loan procedures.

Any unsettled default may bring more challenging scenarios for the borrowers. As a result, the borrower may experience imprisonment under section 420 of the Indian Penal Code.

In extreme cases, a lender might initiate bankruptcy proceedings against the borrower. So, in such circumstances, a borrower who is unable to repay the personal loan amount through EMI can file for bankruptcy. The first thing that the borrower has to do is file a petition for bankruptcy with NCLT (or National Company Law Tribunal. An insolvency consultant will then oversee the proceedings. 

Penalties and Late Payment Fees

While a personal loan can be used to meet emergency financial needs, a loan default may bring additional charges and penalties. Penalties on default are charged when the individual who opted for the loan fails to repay the amount in the way stated in the contract. If the person fails to pay monthly EMIs in a timely manner, the bank or financial institute may impose a penalty as a late payment charge.

A few lenders may also increase the interest rate on the remaining loan balance in case of default. Some financial institutes may charge a default interest when you fail to make monthly repayments. This amount is added to the outstanding balance of the loan amount after a default on a personal loan. The above penalties and additional charges may make it more challenging for the borrower to make repayments in a timely manner. As a result, it may result in further defaults over time.

Mental and Emotional Stress

Debt can impact negatively on your mental health. That’s why the rate of people suffering from debt-stress syndrome in India is exponentially growing. The constant pressure of managing lender’s calls and legal notices may take a toll on you emotionally. Financial strain and the inability to pay monthly EMIs on time may impact your life.

Additional Tips to Manage Your Finance after a Default on a Personal Loan

A loan default reflects on your financial health by impacting your credit score. So, whether it’s a sudden job loss, medical emergency, or accident, a default on your personal loan needs to be handled effectively. On that note, the following presents the top tips you can implement to manage and overcome the financial challenges resulting from a default.

  • As soon as the situation results in a default, you should consult your lender immediately
  • It’s better to restructure than loan than to wait for the lender to send you notice (you may communicate with the lender to change your tenor and EMI amount accordingly)
  • Learn about a deferring payment option to get temporary financial relief (when the interest is not charged)
  • Discover whether your lender offers an EMI holiday during periods of financial hardship (you can use it during unemployment, unforeseen accident, or medical emergencies)

One quick note: During this period, a borrower does not need to make loan repayments, though the interest will accrue on the balance.

A Final Thought

A personal loan default can impact your credit score. Besides the legal consequences, it may impose penalties and financial and mental harassment. Lenders may take legal action by reporting it to the credit bureaus. This results in reduced credit ratings. So, a borrower should think strategically to ensure minimum hassles during crucial times.

You may plan to negotiate with the lender and seek an appropriate settlement. You may also consider consolidating the debt by paying off different debts with a new loan or balance transfer credit card. This comes with a lower interest rate. Whatever the situation is, you must consider one of these choices to ensure the loan amount is paid strategically. Now that you understand the repercussions of a default on a personal loan, how do you want to make a choice? Select the right steps to reduce the chances of future debts. Seek a customized loan deal from a lender that can suit your repayment potential and meet your financial requirements accordingly.

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