What Happens When You Default On A Business Loan And How to Avoid It

A business loan, like any other form of debt, has to be repaid with interest. But many a time, a business enterprise may face difficulties in repaying the loan.

A default could be due to a variety of reasons. It could be because of the failure of the enterprise to implement its plans successfully. It could also be because of external factors such as delays in receiving payments from clients, a sharp rise in input costs or other expenses, and a change in regulations.

Whatever the reason maybe, a business loan default is a breach of the loan terms. And it has consequences.

Consequences Of Defaulting

A debt default occurs when the borrower fails to make repayments for a certain period of time. Mostly, it means missed payments for successive months. Lenders usually allow a grace period in many cases, giving the debtor more time to avoid a default by making up for the missed payments. But sometimes, even that is not enough.

Often, banks and other financial institutions seek to restructure the loan. This could involve extending the tenor or change the interest rate to bring down monthly repayments and make it easier for the borrower to pay.

In many cases, creditors also keep a close watch on the business. They may require frequent reporting on the performance of the business and seek control over the defaulter’s bank accounts.

The default is also reported to the major credit bureaus. The default causes a drop in the debtor’s credit score, affecting their future borrowing capacity and the terms of any future loans.

In case of secured loans, the lender will take control of the asset pledged and auction it to recover the money. If the assets aren’t enough to cover the loan amount, the defaulter may be declared bankrupt and the creditors may start legal proceedings to recover the loan.

How To Avoid Defaulting On A Business Loan

Defaulting on a loan has serious implications and long-lasting effects. So, preventing the problem is the best remedy. Here are some ways to avoid a default.

• Talk to the lender: Borrowers must inform the lender about their financial situation and potential payment delays. They can renegotiate the terms of the loan, the interest rate and the tenor to reduce their burden.
• Refinancing: Refinancing an existing loan can help reduce the monthly payments. Refinancing can be done either with the original lender or a new one.
• Ensure a certain minimum bank account balance to cover periodic loan repayments.
• Set automatic reminders to keep track of the payment schedule.
• Sell non-core assets to clear off the debt.
• Reduce unnecessary expenses.

Conclusion

Defaulting on a business loan, even if unwillingly, is a serious financial matter. Hence, it is best to avoid it.

A default gets reflected on the credit report, which affects the credit score and hurts the chances of future borrowing. Even if lenders offer a loan in the future, they may charge a higher interest rate.

Above all, a default could mean losing the asset pledged as a collateral and, in many cases, facing legal hassles.