Not many know this, but reading and understanding the loan terms is essential when applying for a loan. The terms include the amount you get, interest rates, payment period, and even what happens when you default on the loan.
The terms are there to protect you and the lender. But life happens, and you can fail to pay your monthly loan payment as outlined in the loan agreement. Should this be the case, you will default on the loan, and the following things will likely happen afterward-
What the Lender Does When a Borrower Defaults
First, the lender calls the borrower to inquire why they are yet to fulfill their end of the loan agreement terms. The borrower will have a chance to explain why they have defaulted on the loan. If they defaulted due to a transaction mistake or any other valid reason, the lender can understand and allow them to make the payment sooner.
However, if the borrower defaults due to financial constraints, the lender can take more drastic action. The lender will report late payments to the credit bureaus and renegotiate the loan agreement by offering the borrower a grace period. Other options include interest rate reductions, extending the loan repayment period, and other drastic debt collection measures.
Things Lenders Can Do to Collect Their Money Back
A few options outlined in the loan agreement and the law can help lenders collect their money from defaulters. Here are some of them:
Accelerate Interest Due
If it is a consumer loan, the lender can just increase the interest to the default rate. For instance, if the normal interest rate was 6%, the new interest rate (default rate) could be 12% or 18 %. The increase in the rate is the punishment the borrower suffers for defaulting.
Seize Collateral (For Secured Loans)
In secure loan transactions, borrowers usually outline collateral to secure the loan. The collateral can be a car, real estate, or other valuable assets. The lender can initiate a foreclosure proceeding to transfer ownership of the asset and sell it to recover their capital plus interest. However, this option may not work for the lender if the loan is unsecured.
Exercise Their ‘Right to Offset’
If you have defaulted on the loan and the lender has tried all options to make you pay, the financial lender can seize your bank balance to cover the debt. The bank will notify you about the loan default, and if you don’t act within a specific period, the bank will seize a portion or all of your bank balance to cover the debt.
Collect Debt from Guarantors
If a lender requires a personal recourse to award you the loan when you default and your assets cannot cover the debt, they will ask the guarantor to live up to the end of the loan agreement. However, in the case of a non-recourse loan, this option is not available to the lender, and they’ll have to absorb the loss. But they can hire debt collectors to recover their money.
If you are a lender, you should understand the options available to secure your money should the borrower default. And you can begin this process by securing our loan agreement and promissory note templates to simplify the lending process.
In case you are looking to create a loan agreement you may use our readymade forms in this regard.