Late Fee: Definition, How They Work, and How to Avoid Them

What Is a Late Fee?

The term late fee refers to a charge that lenders and other companies often impose on consumers when they fail to make an on-time payment on a debt, such as a loan or credit card, or any other type of financial agreement, such as an insurance or rental contract.

Late fees encourage consumers to pay by the due date and should be specified in the contract or other agreement. Borrowers must be notified about any changes to late fees in advance, and in writing, by the lender.

How Late Fees Work

Lenders and other creditors make money in a variety of ways, including by charging consumers a wide assortment of fees. Late fees are one of those.

Late fees are imposed on people who don't pay a bill by a certain date. For instance, a credit card holder who fails to make their monthly payment—at least the minimum—by the due date can incur a late fee that will show up on their next statement. Or a landlord may charge a tenant a late fee for not paying their rent on time.

All late fees must be explicitly described in credit card agreements, leases, or any other type of contract. Creditors legally can't charge excessive late fees, which means they must be reasonable, although what constitutes a "reasonable" fee is open to debate. In most cases, late fees typically range between $25 and $50.

Some creditors may provide a grace period before they impose the late fee. For instance, rent may be due for an apartment on the first of every month. But the landlord might allow the tenant to pay their rent by the 10th of the month without incurring a late fee. If rent is paid on the 11th or any day after that, the landlord might charge the tenant a late fee in addition to the outstanding rent. As noted, this must be clearly stated in the lease agreement.

Some creditors may waive the late fee the first time a consumer misses the payment deadline, while others do not charge any late fees at all. Still other lenders offer no leniency and charge a late fee even if a borrower just misses the payment deadline, even by a matter of minutes or hours.

Late fees can increase a borrower's outstanding account balance. For example, a late fee may be added to the next month's credit card statement. Not only does that raise the balance by the amount of the late fee, but the borrower may now have to pay interest in the late fee, as well.

Missing a payment due date can also have a negative impact on a person's credit history and credit score. That's because payment history plays a major role in credit scoring models, making up about 35% of a person's FICO score, for example. So, the more payments a person misses, the more they will have to pay in late fees, and they can also expect their credit score to take a hit.

How to Avoid Late Fees and Other Penalties

In addition to paying close attention to when payments are due, consumers can often avoid late fees by arranging for their bills to be paid automatically from their bank account. This depends, of course, on their having enough money in the account to cover the payment.

It's always a good idea to pay a credit card on time and in full each month to avoid interest charges. But if a borrower can't pay off the full balance, making at least the minimum monthly payment on time will help them avoid a late fee.

In some cases, late payments can also trigger other charges. For example, if a borrower's checking account does not have enough money to cover a credit card payment, not only will the payment still be considered late, but the cardholder can also incur a returned payment fee from the credit card issuer as well as a non-sufficient funds (NSF) fee from the bank.

Lenders may also review and raise interest rates based on payment history. This is referred to as penalty repricing. When that happens, the lender will raise the borrower's interest rate to the penalty annual percentage rate (APR) described in the credit agreement, which may be considerably higher.

Late fees are just one of several fees banks and other companies charge consumers. For instance, credit card users can also be subject to annual fees, balance transfer fees, foreign transaction fees, and returned payment fees. These fees are avoidable if the cardholder carefully selects their credit cards in the first place (not all cards impose every fee), follows the contract terms, and avoids doing things that result in such fees.

Cracking Down on "Junk" Late Fees

In March 2023, the Consumer Financial Protection Bureau (CFPB) reported that excessive credit card late fees alone "cost American families about $12 billion each year."

Under the Credit Card Accountability Responsibility and Disclosure Act of 2009 (also known as the CARD Act), late fees must be "reasonable and proportional" to the costs that credit card issuers incur as a result of late payments. But the CFPB report, noting that late fees currently range as high as $41, estimates that "the income generated by the largest issuers from late fees is approximately five times greater than the collection costs that the companies incur." It is proposing that fees be capped at $8 and that they not exceed 25% of the consumer's required payment if that's less.

The CFPB report also described what it characterized as "junk fees" related to other types of borrowing. Some auto lenders, it said, illegally charged late fees in excess of the amount spelled out in their loan agreements. For example, an auto loan servicer might "assess a $25 late fee even though some consumers' loan notes capped late fees at no more than 5% of the monthly payment amount. The $25 late fee exceeded 5% of many consumers’ monthly payment amounts," the report noted.

In the case of mortgages, the CFPB reported that some servicers not only charged late fees in excess of the amount that the mortgage contract called for, but even "charged consumers late
fees after sending periodic statements representing that they would not charge late fees."

Student loan servicers had a different issue, according to the CFPB. Their customer service representatives would sometimes accept a loan payment by credit card over the phone , then reverse the payment after learning that the servicer did not accept credit card payments. At that point, the well-intentioned borrower would be slapped with a late fee.

The moral here: If you're charged a late fee, check your contract to make sure it isn't higher than it should be.

The Bottom Line

Late fees are annoying, often excessive, and sometimes illegal. To avoid them, try to pay all of your bills on time; arranging for automatic payments through your bank can help. If you incur a late fee by accident, and aren't habitually late with your payments, the creditor may be willing to waive it if you ask.