Default

What triggers default

Different loan types have different definitions:

• Credit cards — typically default after 180 days of missed payments (charged off and reported to credit bureaus).
• Mortgages — default after 90 days of missed payments. Foreclosure proceedings can begin shortly after.
• Auto loans — repossession may begin after as little as 30-60 days of missed payments, though full default is later.
• Student loans — federal student loans default after 270 days of nonpayment.
• Bonds — default occurs when the issuer misses an interest payment or principal payment, with formal cure periods often 30-90 days.
• DeFi loans — no traditional default. Liquidation happens automatically when collateral falls below threshold.

Consequences

Default has cascading consequences for borrowers:

• Credit damage — appears on credit reports for 7+ years; severely lowers credit scores.
• Loss of collateral — secured loans can lead to repossession or foreclosure.
• Lawsuits and judgments — unsecured creditors can sue and obtain judgments enforceable through wage garnishment.
• Tax consequences — forgiven debt is generally taxable income in the US.
• Difficulty obtaining future credit — and when available, only at much higher rates.

Sovereign default

Countries occasionally default on their debt. Notable examples:

• Russia (1998) — defaulted on ruble-denominated debt. Triggered a global financial mini-crisis.
• Argentina — has defaulted multiple times, most prominently in 2001 and 2014.
• Greece (2012) — restructured private-sector holdings of its bonds with a 53.5% haircut.
• Sri Lanka (2022) — defaulted on foreign debt amid economic crisis.

Sovereign defaults differ from corporate defaults in important ways: there's no formal bankruptcy procedure, recovery values vary widely, and political dynamics often dominate negotiation. The IMF often plays a coordinating role.

Corporate default rates

Default frequencies depend heavily on credit rating:

• AAA-rated corporations — historical default rates near 0% over 10-year horizons.
• BBB (lowest investment grade) — around 2-4% over 10 years.
• BB (high yield) — around 10-20% over 10 years.
• CCC and below — 30%+ over 10 years; often 20-40% in any given year.

Default rates spike during recessions. The 2008 crisis saw high-yield default rates exceed 12% in 2009; the COVID-affected 2020 saw a milder spike to around 6-7%.

What happens after corporate default

The next steps depend on the issuer's situation:

• Restructuring — issuer and creditors negotiate new terms (lower principal, extended maturity, lower coupon, equity-for-debt swaps). Often happens through Chapter 11.
• Bankruptcy liquidation — Chapter 7 in the US. Assets are sold; creditors get a percentage of the proceeds.
• Recovery rates — vary enormously. Senior secured creditors might recover 70-90 cents on the dollar; subordinated unsecured might recover 5-20 cents; equity holders typically get nothing.

"Strategic default"

Some defaults are voluntary — the borrower can pay but chooses not to. Common scenarios:

• Underwater mortgages — homeowners walking away from properties worth less than the loan, especially in non-recourse states where the lender can only seize the property and not pursue other assets.
• Distressed corporate debt — companies sometimes file Chapter 11 strategically to restructure unsustainable debts even when they're not technically out of cash.

Strategic defaults are controversial. Lenders argue they breach implicit good-faith expectations; borrowers and economists argue they're rational responses to changed economic circumstances.

Avoiding default

Practical advice for borrowers in trouble:

• Communicate early. Most lenders prefer modification to default. Forbearance, deferral, or restructuring options are usually available before missed payments accumulate.
• Prioritize secured debt. Losing the home or car is worse than missing a credit-card payment.
• Consider professional help. Credit counselors, bankruptcy attorneys, and financial advisors can identify options that aren't obvious to stressed borrowers.
• Don't ignore notices. Default proceeds even when the borrower stops engaging. Engagement preserves options that disappear with silence.