What Happens When You Skip a Payment?
March 8, 1999
"I wasn't able to make my April mortgage payment last year, the first time in two years that happened, and I have made every payment on time since then. But my lender sends me late charge notices every month since that happened. And when I applied recently for a credit card, I was told that I was a high-risk customer because of my mortgage payment delinquencies. I only skipped one payment, so what is going on? "
Your loan contract does not give you the right to skip a payment. The payment you skipped made you delinquent, and you have stayed delinquent ever since.
Under the accounting rules used for amortized mortgages, lenders always credit a payment against the earliest unpaid obligation. When you made your payment last May, you received credit for April, which meant that your May payment was late. When you made your payment in June, it was applied to May, leaving the June payment delinquent, and so on. The consequence is that a borrower who skips a payment but pays regularly thereafter stays delinquent (and accumulates late fees) until the skipped payment is made good.
The advantage of this method of accounting is that a delinquent payment is applied to both interest and principal just as it would have been if paid on time, despite the fact that some interest due has not been paid. For example, if your payment is $1,200 and interest due in April was $900, $300 of the payment made in May is used to reduce principal, even though another $900 of interest is due at that time. And this means that as soon as you become current by making a double payment, you are back on the amortization track -- the loan will pay off on schedule.
Accounting rules are man-made and there are several other plausible ways to deal with late payments. One way is to allow the borrower to skip a certain number of payments, say one per year, and add the unpaid interest for that month to the principal. This pre-authorized skipped payment would not be recorded as a delinquency and would provide a nice safety valve for consumers. However, skipped payments that added to the loan balance would result in the loan no longer paying off on schedule.
A way to provide this type of safety valve to borrowers without significantly affecting the pay off schedule is to increase the payment by a factor of 13/12. In the example, the borrower would pay $1300 instead of $1200 but could skip the payment in December to finance Christmas presents, or in June to take a trip. As far as I know, no lender has ever offered this option.
"I wasn't able to make my April mortgage payment last year, the first time in two years that happened, and I have made every payment on time since then. But my lender sends me late charge notices every month since that happened. And when I applied recently for a credit card, I was told that I was a high-risk customer because of my mortgage payment delinquencies. I only skipped one payment, so what is going on? "
Your loan contract does not give you the right to skip a payment. The payment you skipped made you delinquent, and you have stayed delinquent ever since.
Under the accounting rules used for amortized mortgages, lenders always credit a payment against the earliest unpaid obligation. When you made your payment last May, you received credit for April, which meant that your May payment was late. When you made your payment in June, it was applied to May, leaving the June payment delinquent, and so on. The consequence is that a borrower who skips a payment but pays regularly thereafter stays delinquent (and accumulates late fees) until the skipped payment is made good.
The advantage of this method of accounting is that a delinquent payment is applied to both interest and principal just as it would have been if paid on time, despite the fact that some interest due has not been paid. For example, if your payment is $1,200 and interest due in April was $900, $300 of the payment made in May is used to reduce principal, even though another $900 of interest is due at that time. And this means that as soon as you become current by making a double payment, you are back on the amortization track -- the loan will pay off on schedule.
Accounting rules are man-made and there are several other plausible ways to deal with late payments. One way is to allow the borrower to skip a certain number of payments, say one per year, and add the unpaid interest for that month to the principal. This pre-authorized skipped payment would not be recorded as a delinquency and would provide a nice safety valve for consumers. However, skipped payments that added to the loan balance would result in the loan no longer paying off on schedule.
A way to provide this type of safety valve to borrowers without significantly affecting the pay off schedule is to increase the payment by a factor of 13/12. In the example, the borrower would pay $1300 instead of $1200 but could skip the payment in December to finance Christmas presents, or in June to take a trip. As far as I know, no lender has ever offered this option.