What Does It Mean to Be in Arrears?

Arrears refer to money that’s owed and overdue. It happens when a person or business falls behind on scheduled payments. This term often appears in legal and financial industries, with various implications depending on the context.

In finance, “arrears” usually describe missed payments on obligations like loans, rent, and credit cards. For example, if you owe money on your mortgage but haven’t paid it by the due date, your payment is considered “in arrears.” Missed payments can lead to late fees, additional interest, and other penalties, making it harder to catch up.

In legal settings, “arrears” often refer to court-ordered payments like child support or alimony. If someone fails to make payments as ordered, the amount due is classified as arrears, which can result in legal consequences like wage garnishment or asset seizure.

Being in debt could increase your chance of being in arrears, especially if you have high-interest loans from a payday loan lender. Here’s what happens if you don’t pay a payday loan.

Arrears can take different forms depending on the situation. Below are some common types of arrears in personal finance and investments:

1. Annuity in arrears

An annuity in arrears refers to a financial arrangement where payments are due at the end of each period rather than upfront. For example, rent is commonly paid in arrears, meaning you live in a property for a month and then pay at the end of the month.

This is one of the more common ways you may encounter the term arrears in your personal finances, though it may simply be called “past due” instead of the full legal term.

It’s possible to be in arrears on different types of loans and financial accounts.

2. Salary in arrears

At work, you may be paid what’s known as a salary in arrears. In this scenario, your paycheck is based on the hours you worked in the prior period rather than the current period.

That means your first paycheck may take longer to arrive, but in the long run, you receive the same earnings regardless of the pay cycle. Salary in arrears doesn’t mean you’re being paid late. It means the employer has a little more time to calculate and pay wages after the pay period ends.

3. Dividend in arrears

When a company owes dividends to its shareholders but hasn’t yet paid, they are said to be in arrears. For example, preferred stockholders, owners of a specific type of stock, are entitled to receive dividends before common stockholders if dividends are in arrears.

If this happens in your investment accounts, you don’t need to do anything to get the dividends. Your brokerage firm and the paying company work out the details, and the dividends should show up in your account when they’re paid.

4. Interest in arrears (bonds)

For bonds, interest in arrears refers to interest that has accrued but has not yet been paid to the bondholder. This can happen with certain fixed-income investments, leading to a lump sum payment later.

Again, this most commonly happens in a brokerage account. You like won’t need to do anything to get the funds when they’re paid.

5. Arrears swap

In finance, an arrears swap involves an interest rate swap where payments are calculated at the end of the interest period, creating an adjustment period between payment dates.

You’re unlikely to encounter this situation in your personal finances. It’s more common in large financial agreements between large companies.

There’s often confusion between “payment in advance” and payment in arrears.

Simply put, payment in advance happens when a payment is made before the service or product is received, while payment billed in arrears happens afterward.

For example, your utility bill might be an example of payment in arrears. You use the service for a month and then get charged for what you’ve used. On the other hand, rent can be either in arrears or in advance, depending on the lease terms.

Payment in arrears can be more common in certain industries where customers pay for usage after a billing cycle ends. In contrast, payment in advance is typical for subscriptions or other services where the cost is prepaid.

Scheduled payment in arrears isn’t the same as being late on a bill due date. With these types of bills, arrears means after the service is performed but not necessarily paid after the due date. For a tongue twister, it’s possible to be in arrears on a bill scheduled for payment in arrears.

To better understand arrears, let’s walk through a quick example:

Imagine you’re renting an apartment, and your rent is $1,800, due on the first of every month. If you fail to pay for January, you’re in arrears starting on January 2. Unless you make a payment before the next monthly due date, by February, you owe $3,600 for the two months. The longer it takes to make these payments, the more challenging it becomes to catch up.

This cycle can have significant consequences, such as late fees, negative impacts on your credit score, or even eviction. Managing arrears effectively is crucial to maintaining financial health.

Arrears happen when payments are missed and become overdue. Whether it’s a personal loan, credit card bill, or legal obligation, managing arrears is an important part of managing your personal finances. If you don’t, your credit score could drop, and late fees and additional interest could stack up.

Want to learn more about managing debt and loans? Find out the difference between secured vs. unsecured loans.