“What is the worst that can happen if I don’t pay this loan?” – You may be asking yourself this when it comes to a car or vehicle loan. Unfortuantely a car loan default is a marking on your credit report that can stop you from obtaining finance for up to 5 years. This default has resulted from you not paying back your loan and acts as a warning to future lenders of bad credit behaviour.
What happens when you default on a car loan?
Defaulting on a car loan in Australia can have serious consequences for your financial situation and credit profile. Here’s what typically happens when you default on a car loan:
Impact on your credit score
- Your credit score can drop significantly, potentially by up to 350 points.
- The default will be recorded on your credit report and remain there for up to 5 years, even if you eventually pay off the outstanding amount.
- This negative impact on your credit score can make it difficult to obtain future loans or credit cards, and may result in higher interest rates on any credit you do secure.
Repossession
- The lender may repossess your car, as it serves as collateral for the loan.
- Repossession can occur as soon as you miss one loan payment in some states, without prior notice.
- After repossession, the lender typically sells the car at auction to recover the money owed on the loan.
Financial consequences
- You may be charged late fees and additional collection costs.
- If the car is sold for less than you owe, you’ll be responsible for making up the shortfall, known as a “deficiency balance”.
- The lender may pursue legal action to recover the remaining debt, potentially leading to wage garnishment.
Long-term impacts
- The default and any subsequent repossession will be reported to credit bureaus, severely impacting your credit history.
- This negative mark can remain on your credit report for up to 7 years, affecting your ability to obtain credit in the future.
- You may face difficulty securing favorable terms on future loans or credit applications.
How to avoid a car loan default
If you’re afraid you won’t be able to make your vehicle loan payments, don’t bury your head in the sand. Taking action can help safeguard your credit score. Here are some things to try first:
Make a deal with your lender
Lenders are often willing to work with borrowers to find solutions when they default on their loan, since this costs them time, money, and aggravation. Contact your lender as soon as you begin having difficulties making loan payments. Reaching out first indicates that you’re making a genuine effort to resolve the issue, which may make the lender more willing to negotiate. This is best done before your payment due date.
Make sure you understand what a car loan broker is and how to use them.
Refinancing your automobile loan is a smart idea
If you have a decent credit score and haven’t missed a car payment yet, but are concerned that you may do so in the future, refinancing your vehicle loan might be an option. It’s possible to refinance your loan, but you’ll need to contact several lenders. You can apply for a loan with one lender and have it refinanced by another. It’s a standard practice in the automobile sector. If you’re approved for an auto loan refinance, the new lender will take possession of your car from the original lender. Ideally, you’d like to refinancing to a loan with a lower interest rate, lower monthly payments, or both, which can make your debt more manageable.
However, refinancing won’t work for everyone. If your car loan has a prepayment penalty and you owe more on it than it’s worth, refinancing isn’t likely to save you any money. You may not be able to refinance if your automobile is older than five years old or your credit score is lower than it was when you got the loan you may not qualify for refinance.
Ask about deferment options
When you get a loan deferment, the lender agrees to let you skip a car payment or only pay the interest that is due in a month. You may be able to postpone up to three payments, but rarely more than that. If you have a deferment option in your loan agreement, you may simply select the “skip a payment” option online or in your payment coupon book to defer. If you do not qualify for deferment, you should submit a written hardship letter to the lender requesting deferment and providing your reasons.
If the lender approves your deferment, they’ll send you a forbearance agreement that outlines when you can resume payments and any costs or penalties associated with the deferment. Payments that you put off accrue interest on and are added to the end of your loan repayment schedule. Deferment is designed to be a short-term solution for individuals in financial difficulties. If you don’t think you’ll be able to handle your payments once the deferment is over, you might want to explore another option.
Find someone else to take over the loan
Although this is not advised, some lenders allow you to transfer your vehicle loan to a new holder. If you want the loan to be authorised, you’ll need to locate someone with a decent credit score and comparable borrowing standards. If you know someone who might be a good match, contact the lender to find out whether they offer this service.
Surrender the vehicle voluntarily
If you know repossession is a certainty, you may lessen the damage to your credit score by giving up the car voluntarily to the lender. This will be recorded as a negative entry on your credit history, indicating that you defaulted on a loan. Once you reach a loan agreement, you avoid the worst effects of foreclosure: your house becoming repossessed (if it hasn’t already) and potential damage to your credit history. However, as long as you comply with the conditions of your loan, this does not have a significant impact on your credit score.
Summary
When you’re in financial distress, defaulting on a car loan may appear to be a simple solution. However negative information on your credit report can have a long-term impact on your credit score, making it more difficult to achieve long-term financial objectives such as purchasing a home.
The first step in avoiding defaulting on your car loan is to contact your lender. Checking your credit score and report is essential since it will show you whether you qualify for refinancing or debt consolidation loans, which often need excellent credit.
