Most (perhaps all) loans have somewhere in their contract a clause that permits the creditor to accellerate the installments in the event of non-payment by the debtor. The message is: can’t pay your monthly payment? Fine, we want the entire balance NOW!
Um, okay if I can’t afford to pay (for example) this month’s $800 mortgage payment, what makes you think I can cough up $80,000?
The most likely result would seem to be that the creditor still doesn’t get his money, and now the debtor, who was already bummed out with financial stress, now feels the full weight of tens of thousands of dollars along with the very reall possibility of losing his house and begins to consider suicide.
What does the creditor hope to achieve by making such an impossible demand?
If a loan payment is not made (after any grace or cure periods and after taking into account the willingness of the lender to negotiate a compromise or new payment schedule), the lender wants to be able to exercise its rights to enforce the loan. In the case of a mortgage, this usually means that it wants to be able to take back its collateral (the house) and sell it to someone else to recoup the loan balance plus costs. A note usually says that the borrower must pay $x of principal plus $x of interest on let’s say the first day of each month–the rest of the loan balance is NOT due at that time. If there is not an acceleration claue and the lender sues the borrower, the only amount the borrower “owes” is the one missed payment. Even if the lender seizes the house and sells it, the lender can only keep what it is owed–it’s only owed one payment (plus costs) (because the rest of the loan payments aren’t due until the note says they’re due) so the balance of the sale price must be returned to the borrower, who still has the obligation to keep making payments.
This just doesn’t work because when the borrower misses the next payment the lender will be forced to go through the process all over again. The lender insists that an acceleration clause be added to the mortgage so that it can settle up on the loan in one action–if a payment is missed, the acceleration clause makes the entire loan due now. The lender can sell the property and recoup its entire loan balance and get out of the deal. So, at least for a mortgage, the result IS that the creditor will often get its money.
You’re right–the debtor will likely not be able to suddenly pay the entire balance, but the purpose of an acceleration clause is to allow the lender to sell the collateral and pay off the entire balance of the loan from the proceeds. When a payment is missed, the lender has the prerogative to sell the property–working out anything short of a sale of the house is purely dependent on the good will of the lender.
Yes, this is somewhat redundant after Humble Servant’s reply, but I’d already typed it…
Well, I’d say the most likely result is either:
a reluctant debtor gets motivated to find a way to make the monthly payments*; or,
the debtor doesn’t pay, the creditor forecloses (in the case of a mortgage) and recovers their money from the subsequent sale.
In both cases, the creditor does get paid. The debtor either finds a way to pay or is released from an obligation he is unable to fulfill.
The relationship between the creditor and debtor is defined by the note and mortgage. If they were to remain in effect, the creditor could be sitting around waiting for 30 years without getting a penny. If they’re not in effect, the debtor has no obligation to pay anything. The creditor has to have a way to terminate their relationship to the debtor but still be able to recover the money they have loaned. The acceleration clause enables them to do just that; without it, they’d be at the mercy of debtors’ whims.
*All too often, people who are having financial problems think they’ll fix it soon, but find that “soon” keeps getting later and later. The acceleration clause can be a strong motivator, lighting a fire under debtors to actually take action (sell, refinance, borrow from friends, etc.) or lose the property. Otherwise, many people would just keep putting it off.