If you’re struggling to make your car payment on time, you’re probably already feeling stress and frustration. Once you’re behind on payments you’re considered delinquent and your credit score will take a hit. Falling further behind moves you into default on your auto loan, which will come with even more serious consequences.
Written by Attorney Eric Hansen.
Updated December 15, 2021
Defaulting on a car loan can be discouraging, financially damaging, and bad for your credit score. But, luckily, there are ways to avoid it. This article will discuss how an auto loan default happens, what the consequences are, and how you can avoid defaulting in the first place.
Defaulting on a Car Loan
A lot of people have to get a car loan to purchase a vehicle, whether it’s a new or used car. If you make timely payments on your loan each month, you shouldn’t have any trouble. But just like when you miss credit card payments, if you fail to make your loan payments each month, you risk becoming delinquent and then defaulting on the loan. This puts you at risk of having your vehicle repossessed and it will also hurt your credit score.
As soon as you miss a payment as a borrower, your lender can consider your account delinquent. But not all lenders are so strict. Many offer a short grace period, which gives borrowers a timeframe (typically 10 or 15 days) to make a full monthly payment and bring their account back to current. If your lender offers a grace period, they don’t usually charge late fees or report a late payment to the credit bureaus as long as you pay before the grace period ends.
But if you fail to make your car payment after 30 days, your lender will report the past-due payment to the three major consumer credit bureaus — Equifax, Experian, and TransUnion. Having a missed payment or history of delinquent accounts on your credit report will damage your credit score.
Delinquency is serious. If you don’t address it, your account will eventually be considered in default, which is even worse. Your loan contract will spell out when you’re in default. This varies by lender. Some auto lenders consider borrowers in default after they miss just one car payment. Others wait for 90 days. Defaulting comes with serious consequences.
Consequences of Defaulting
Once your account is in default, collection activities can start. Some auto lenders have in-house collections teams, while others will turn your account over to a third-party debt collection agency that will try to recover payment. Once collection activities begin, you’ll start receiving calls and letters and could potentially be sued for the auto loan debt you’ve defaulted on.
At this point, the lender may also repossess the vehicle. Most car loans are secured loans. This means the vehicle acts as collateral for the loan and the lender can legally take the vehicle back and sell it to pay off the loan. Some lenders have asset recovery teams and keep the repo process in-house. Others hire repossession companies to send agents — referred to as repo men — to track down and take the vehicle.
After repossession, the lender can sell the vehicle and use the funds from the sale to address the defaulted account. If the sale proceeds don’t cover the full amount you owed on the loan, you could be held responsible to pay the difference, which is called the deficiency balance. Some states allow lenders to go after borrowers for deficiencies on defaulted car loans, and some don’t. Another thing that varies by state is loan reinstatement, which allows you to get your car back after repossession if you’re able to bring your loan current.
Whether you can get your car back at this point, having had an account in collections and having had your car repossessed will both likely be reported on your credit report. This will hurt your credit score and can decrease your chances of getting future credit. Financial institutions like banks, credit unions, and online lenders may be less willing to give you a loan or credit card if they see you failed to pay a past loan.
Delinquencies on the Rise
Auto loan defaults are on the rise. This is likely due, in part, to the coronavirus pandemic and its economic effects. The Federal Reserve Bank of New York found that approximately 5% of auto loans were 90 days or more delinquent in the second quarter of 2020. That makes it the highest 90-day loan delinquency rate in the last seven years. The last time auto loan delinquencies and defaults were this high was when Americans were recovering from the Great Recession in 2008.
One of the major consumer credit bureaus, TransUnion, also reported that more than 9% of subprime borrowers were more than 60 days delinquent in the fourth quarter of 2020. Subprime borrowers are those whose credit scores are 580-619.
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How To Avoid Car Loan Default
If you’re having a hard time making your car payments on time, talk to your lender immediately. They may be willing to make an agreement that helps you avoid delinquency and default. If you make an agreement with your lender, be sure to get everything in writing and ask if there will be any fees or penalties.
Your lender may be willing to negotiate with you by:
Deferring payments for a few months.
Renegotiating loan terms like the length of the loan, the interest rate, or the monthly loan payment amount.
Offering coronavirus relief programs. Some relief programs are now expired, but some are still available, so it’s worth asking.
You may also be able to avoid defaulting to refinancing your auto loan. A refinance can help you get a lower, more affordable monthly payment by getting a lower interest rate or increasing the term of the loan. If necessary, you could also sell the car to pay off the loan. Just remember that if you can’t sell the car for at least what you owe on it, you’ll have to make up the difference or the lender can try to collect the deficiency. This is also true with a voluntary repossession, which is where you voluntarily give your car back to the lender. This looks better on your credit report than an involuntary repossession, but you still might be responsible for a deficiency.
Finally, it’s always a good idea to get professional help and talk to a nonprofit credit counselor. Counselors can help you assess your budget and the debt you owe to make a plan to address it.
Not paying your car payment on time will lead to being delinquent on the account and then defaulting on the loan. Defaulting will have serious and long-term negative effects on your credit as the late payments, collections entries, and potentially a repossession are reported on your credit history. If the lender repossesses your vehicle, you may still have to pay a deficiency balance if the sale of the car doesn’t cover what’s left to pay on your loan.
There are several ways to prevent defaulting on your auto loan. It’s important to act as soon as you start having financial difficulty. Lenders are often willing to work with borrowers, so contact them to ask what your options are. And remember, doing nothing will certainly make things worse.