A payday loan default can lead to a barrage of bank overdraft fees, constant collections calls, damage to your credit scores, a day in court and garnishment of your paycheck.
Don’t think it can’t happen because you borrowed only $300.
“If you have a valid, binding, legal agreement to pay that debt, and you’re in a state where they can sue you and attach your wages, you’re playing a game of chicken that you’re going to lose,” says Bruce McClary, spokesperson for the National Foundation for Credit Counseling.
You have options such as settling the debt for less than you owe or filing for bankruptcy if your debts are overwhelming. Here's what you can expect.
Bank withdrawals and collection calls
Payday lenders don’t waste time when the money you owe is due.
They’ll immediately initiate automatic withdrawals from your bank account if you've given them access as part of the loan agreement. If the debits don’t go through, they may break the charge into smaller chunks in an attempt to extract whatever money is in your account.
Each failed attempt can trigger a bank fee against you. Successful attempts could drain your bank account and cause other transactions to bounce, resulting in more fees.
At the same time, lenders will start calling, sending letters from lawyers and contacting the relatives or friends you used as references when you took out the loan. By federal law, lenders can only ask for help in locating you — they can’t reveal their identity or your debt situation to anyone.
Jail time? No — but threats are common
Failure to repay a loan is not a criminal offense. In fact, it's illegal for a lender to threaten a borrower with arrest or jail. Nonetheless, some payday lenders have succeeded in using bad-check laws to file criminal complaints against borrowers, with judges erroneously rubber-stamping the complaints.
The Consumer Financial Protection Bureau advises anyone threatened with arrest for nonpayment to contact his or her state attorney general's office. You should never ignore a court order to appear in court, even if the criminal complaint was filed mistakenly.
A chance to negotiate
A lender would rather collect money directly from you than sell your debt to an outside collections agency. Third-party debt collectors may pay just a few pennies on the dollar to buy your debt. If you can, start by offering 50% of what you owe to settle the debt.
“Tell the lender: ‘Look, I simply can’t pay you and I’m considering bankruptcy,’” says John Ulzheimer, a credit expert who has worked at credit scoring company FICO and credit bureau Equifax. “The minute you start using the BK word, they get real serious, because BK means they get nothing.”
Get any agreement in writing, and make sure the document states that your balance will be reduced to zero. In official terms, you want the debt “exhausted.”
If you fail to settle, make sure you know how to deal with debt collectors because their practices can be intense: collections agents showing up at your workplace, calling you 10 times a day, and threatening to sue or report your delinquency to the credit bureaus.
The court summons
If you think collections agencies don't bother to sue for small amounts, think again.
Nearly all lawsuits against consumers today are for relatively small amounts, says Michael Bovee, president of Consumer Recovery Network, a debt settlement company.
The lenders typically win because consumers don’t show up to court. The judge then enters a summary judgment, and the court can begin to collect the money you owe on behalf of the collections agency.
“Depending on your state law, you are exposed to property liens, bank account levies and wage garnishment,” Bovee says.
You should never ignore a lawsuit, says Lauren Saunders, associate director of the National Consumer Law Center.
“Show up in court and ask them for proof that you owe them the money, because often they show up without proof,” Saunders says. A CFPB review of one lender’s lawsuits found that 70% were dismissed for lack of proof.
Other options if you cannot pay a payday loan
“You should not prioritize paying the payday lender over putting food on the table” or paying the rent, Saunders says.
Cover basic needs first:
It’s not worth filing for bankruptcy over one small debt, but you may want to consider it if your unsecured debts — including payday loans, credit cards and medical bills — total half or more of your income.
Don’t delay and hope the debt will magically go away — it won’t. “Time never makes debt go away,” Ulzheimer says. “Bankruptcy does.”