What Is the Default Rate?
The default rate is the percentage of all outstanding loans that a lender has written off after a prolonged period of missed payments. A loan is typically declared in default if payment is 270 days late. Defaulted loans are typically written off from an issuer’s financial statements and transferred to a collection agency.
The term default rate can also refer to the higher interest rate imposed on a borrower who has missed regular payments on a loan.
[Important: A default record stays on the consumer's credit report for six years, even if the amount is eventually paid.]
Understanding the Default Rate
Default rates are an important statistical measure used by lenders to determine their exposure to risk and by economists to evaluate the overall health of the economy.
Standard & Poor's (S&P) and the credit reporting agency Experian jointly produce a number of indexes that help lenders and economists track the levels of defaults on various types of loans over time. Indexes from S&P/Experian include the following:
- The S&P/Experian Consumer Credit Default Composite Index
- The S&P/Experian First Mortgage Default Index
- The S&P/Experian Second Mortgage Default Index
- The S&P/Experian Auto Default Index
- The S&P/Experian Bankcard Default Index
The S&P/Experian Consumer Credit Default Composite Index is the most comprehensive in the series. It includes data on first and second mortgages, auto loans, and bank credit cards. As of March 2019, the S&P/Experian Consumer Credit Default Composite Index reported a default rate of 0.92%. Its highest rate in the previous five years was in mid-February 2015 when it reached 1.12%.
Of all the components in the series, bank credit cards tend to have the highest default rate. The default rate on credit cards was at 3.68 in March 2019. It had hovered between 3.04% and 3.86% for the past five years.
The Process of Default
Lenders do not get overly concerned with missed payments until the second missed payment period is passed. When a borrower misses two consecutive loan payments and is thus 60 days late in making payments, the account is considered delinquent and the lender reports it to the credit reporting agencies.
The delinquent payment is then recorded as a black mark on the borrower's credit rating. The lender may also increase the borrower's interest rate as a penalty for late payment.
If the borrower continues to miss payments the lender will continue to report the delinquencies up until the loan is written off and declared to be in default. For federally-funded loans such as student loans, the default timeframe is 270 days. The timetable for all other loan types is established by state laws.
In any case, default on a debt damages the borrower’s credit score, making it difficult or impossible to get credit approval in the future. The record of default stays on the consumer's credit report for six years, even if the amount is eventually paid.
Recent Changes in Default Rate Law
The Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009 created new rules for the credit card market. Notably, the act prevents lenders from raising a card holder's interest rate because a borrower is delinquent on any other outstanding debt. In fact, a lender can only begin charging a higher default rate of interest when an account is 60 days past due.
- The default rate is the percentage of all outstanding loans that a lender has written off after a prolonged period of missed payments.
- A loan is typically declared in default if payment is 270 days late.
- Default rates are an important statistical measure used by economists to assess the overall health of the economy.