It can be tough to keep up with debt payments in today's high-rate landscape, but defaulting on what's owed can be a risky route to take.
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It's clear that a large percentage of Americans are struggling due to an uptick in financial pressure right now. With numerous economic challenges looming — and stubborn inflation pushing up the prices on everything from housing to groceries — more people stuck are relying on their credit cards or other short-term borrowing options to help cover the essentials. As a result, credit card debt has surged to a record high nationwide, with the average cardholder owing close to $8,000 currently. Credit card delinquencies have also been rising, indicating that more people are falling behind on debt and, in some cases, sliding toward default.
Why is this happening now? The answer largely comes down to today's high-rate environment. Over the last few years, borrowing costs have ballooned across the board. In turn, the average rates on credit cards now hover near 22%, retail credit card rates are sitting near an average of 30% and personal loan rates exceed 12% on average. When these types of borrowing rates are combined with the high prices that are eating away at household budgets, it becomes clear why many people are struggling to keep up with their debt payments.
But while missing a debt payment or two is stressful, outright defaulting on your debt comes with far more serious and lasting consequences. If you're worried you might be heading down this road, it's essential to understand the risks and take action before things spiral out of control.
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What are the risks of defaulting on your debt?Defaulting on debt means you've failed to meet your repayment obligations. This typically happens after 90 to 180 days of missed payments (though it depends on the lender and the type of debt).
Once you reach this stage, the creditor usually marks the account as a charge-off and may hand it over to a collections agency to deal with instead. Here's why that matters:
It can result in serious credit damage: Defaulting is one of the most harmful events that can hit your credit report. When you default on your debt, your credit score can plummet by 100 points or more, making it harder (and much more expensive) to qualify for loans, credit cards, car financing or even a mortgage. Worse, a default stays on your credit report for up to seven years, dragging down your score long after you've addressed the debt.
You may face debt collections and legal action: Once a debt goes to collections, you'll start getting calls, letters and possibly even emails from debt collectors who are trying to recover the money you owe. If you continue to ignore the debt, the creditor or collection agency may take you to court and sue for the unpaid balance. If they win, they could secure a legal judgment that leads to wage garnishment, bank account levies or property liens.
There are added fees and costs to contend with: Defaulting on debt doesn't just freeze your balance in place; it makes it grow. Late fees, penalty interest rates, legal costs and collection fees can cause the amount you owe to balloon quickly. In some cases, you could end up owing significantly more than the original balance simply because of how fast these extra charges pile up.
It could result in extra financial stress: While not a direct financial penalty, the stress of defaulting on your debt can weigh heavily on you over time. The constant calls from collectors, the anxiety over potential lawsuits and the feeling of financial instability can take a serious toll on your well-being.
Perhaps the most challenging part of defaulting, though, is the long-term nature of the consequences of doing so. While negative information eventually falls off your credit report (typically after seven years), rebuilding financial stability after you default takes significant time and effort.
Explore the debt relief strategies available to you here.
What to do if you're falling behind on your debtIf you're falling behind on payments or seeing warning signs of potential default, taking prompt action can help minimize the damage and potentially prevent the worst consequences. The first step is to reach out to your creditors, preferably before you miss payments, if possible. Many lenders offer hardship programs that can temporarily reduce interest rates, lower minimum payments, or even defer payments for a period. These programs aren't advertised widely, so you'll need to contact your creditors directly and explain your situation.
If you're juggling multiple debts, it might be time to look into your structured debt relief options. A debt consolidation loan, for example, will allow you to roll several debts into one payment, ideally at a lower rate. Or, a debt management plan through a credit counseling agency can reduce your rates and fees while giving you a structured path to repayment. For more severe situations, debt forgiveness (also known as debt settlement) or even bankruptcy might be worth exploring.
For those with unmanageable debt burdens, bankruptcy might be worth considering after you've exhausted your other options. While bankruptcy has significant consequences for your credit, it also provides legal protections from collection actions and can provide a fresh start in extreme situations.
The bottom lineDefaulting on debt is one of the most damaging financial moves you can make, as it can have long-lasting consequences for your credit, your finances and your peace of mind. But the good news is that default is usually preventable if you act early. By recognizing the warning signs, reaching out for help and exploring your options, you can avoid the steep costs of default and set yourself up for a healthier financial future.
Angelica Leicht