What Happens to a Business Loan if a Business Fails?

Here’s the thing : You are going to have to, at some point, pay the loan back. The only question is what that process looks like and much of this process depends on you. There are answers and systems set up to help you find the process that works best for you.

Key Points:

• Always have a plan to repay loans – don’t borrow money with the expectation that you can’t afford to repay it. 
• Mistakes damage your credit – even if you eventually repay the debt, missed or late payments can hurt your credit. 
• Watch out for personal guarantees – if you provided a personal guarantee, you’ll have to pay your company’s debts if it goes under.

What can I do if I can’t repay my loan?

If you know that you’re going to have some trouble repaying your debts, there are some things that you can do.

• Review late payment policies. Always start by reviewing the fine print of your loan documents. See what the late payment policies are and figure out what consequences you’ll face if you’re late or miss a payment. 
• Contact your lender. Reach out to the lender and let them know that you’re having some trouble making your required monthly payments. Your lender might be willing to work with you, extending your due date or letting you skip a payment without consequence. 
• Contact debt collectors. If you’ve reached the point where debt collectors are knocking on your door, reach out to them and try to negotiate. You might be able to set up a payment plan or settle your debt. 
• Look into refinancing. If you’re struggling to afford multiple monthly payments or one large payment on a short-term or long term loan, consider refinancing. You can also combine multiple loans into one or extend the term of your loan. This might make it more expensive overall but can reduce its monthly payment. 
• Defer Payment. Some loans and lenders will let you defer a payment here or there. See if there are terms for deferment in the loan documents or ask your lender if you can skip a payment. 
• Reduce EMI. Talk to your lender and see if you can adjust the terms of your loan to change the monthly payment, either temporarily or permanently. 
• Restructuring the Loan. Negotiate with your lender to restructure the loan. You might be able to convince the lender to extend its term or reduce the interest rate, lowering your monthly payment. 
• One-time settlement. If things are dire, you can try making an offer to the lender to settle your debt for less than you owe. If your lender perceives their options as getting nothing or getting at least a fraction of what they’re owed, they might accept a settlement. 

What does defaulting on a loan mean?

Default on a loan means failing to repay the loan properly. While a single late or missed payment won’t make a loan go into default, most lenders will consider a loan with two or three consecutive missed payments as in default. When this happens, they’ll report the default to the credit agencies.

Remember, even if you don’t fully go into default, one missed or late payment can really damage your credit.

Defaulting on a loan can result in the lender suing your business or sending your debt to collections. It also has a major impact on your business’s ability to get financing in the future. Even if you still have fair credit, a default on your record will make most lenders reconsider your applications.

Ways to Avoid Defaulting on a Business Loan

In a perfect world, you won’t have to worry about defaulting on business loans (such as short term business loans) or having to worry about making late payments. Proper preparation can make it much easier to stay on top of things and avoid default.

• Maintain Reserves. Just like everyone should have an emergency fund to handle unexpected expenses, businesses should keep some cash in reserve. These reserves can help businesses handle surprise expenses and ensure they have cash on hand to pay their bills. 
• Diligence About Due Dates. Be diligent about due dates for all of your bills. Don’t be afraid to send payment early if you have the cash available. The less room you leave for error, the less likely you are to miss a payment. 
• Refinancing. If you have multiple debts or a loan with a high payment, refinancing your debt before it becomes a problem can help you get your finances under control. 
• Reschedule Debt. Most lenders will let you adjust the due date for your loans. If your company has predictable income, such as getting most of its customer payments at the end of the month, you can set your due date to be shortly after you get paid to ensure you always have funds on hand. 
• Prioritize Debt Repayment. If your company has limited resources, try to prioritize debt repayment over other expenses. 
• Set reminders in your calendar. The last thing you want is to default on a loan because you simply forget to make payments. Set reminders so you know when it’s time to send a bill payment. 
• Speak to your lender. If all else fails, talk to your lender and see if they’re willing to negotiate. You might find they’re happy to help come up with a way to help you avoid default and ensure they get paid. 

Consequences of Defaulting on a Business Loan

The consequences of defaulting on a loan can depend on whether the loan is secured or unsecured. In general, defaulting on any loan will hurt your credit.

When Secured Loans Are Defaulted

Secured loans are loans backed by a collateral asset. For example, a mortgage is backed by the home it was used to buy.

If you default on a secured loan, the lender can foreclose and repossess the collateral. If your business uses a secured loan to buy a piece of real estate, the lender can foreclose and take that building away from you if you default. The lender can then sell the real estate to recoup its losses.

When Unsecured Loans Are Defaulted

Unsecured loans have no collateral for the lender to foreclose on or repossess when you default. Instead, the lender might choose to sue you or sell your debt to collections agencies that will pursue you for payment.

Tips for Recovering From Business Loan Defaults

Defaulting on a business loan is a very bad thing for your company. On top of the risk of lawsuits or losses of property, it damages your business’s credit and reputation.

Your first priority when defaulting on a loan should be trying to recover from the default and stabilize financially. Some things to do include:

• Get current on your debts. Work with your lender to get your loan out of default and get current. This can help avoid snowballing consequences like escalating late fees. 
• Rebuild your credit. Make sure you make all future payments on all debts by their due date. If you don’t have other loans, consider signing up for a bad credit or secured credit card to start rebuilding your credit. 
• Make plans to avoid future defaults. Think about what caused you to default this time, then come up with a plan to ensure it does not happen again. 

Check the terms of the loan before accepting

Before you accept a loan and sign on the dotted line, you should always read over the terms and fine print. Make sure you understand how the loan works, how payment works, and the consequences for a late or missed payment. 

If you’re unsure about anything or want to adjust the terms of the loan, consult with the lender. You might like to explore our list of the best short-term loan lenders to check their terms.

If you’re aware of the consequences of missed or late payments, such as fees and penalty interest rates, it’ll help you avoid surprises down the road. See small business loan terms for further details. 

Additional costs from missing payments

When you miss a payment on a loan, you can expect to deal with late payment fees and additional accrued interest. However, there can be other costs to consider.

• Penalty APR. Some loans increase the interest rate charged on the outstanding balance when you make late payments, increasing your future payment amounts. 
• Administrative costs. Some lenders will bill you for the cost of notifying you of your late payments or default. 
• Damaged credit. Defaulting will hurt your credit, increasing the cost of future loans. 

Credit Rating

Your business credit rating is one of the most important factors in determining how much your business pays to borrow money. Missing a single payment or making a late payment can have a major impact on your credit.

On top of making borrowing more expensive, poor credit can make it harder to qualify for loans at all. If you can’t qualify for loans, it can be hard to fund expansion for your business.

Do whatever you can to always make your required loan payments to avoid lowering your credit.

Frequently Asked Questions (FAQs)

It’s important for any business owner to understand what happens if you can’t pay back a business loan.