What is 'Default Rate'

The default rate is most commonly referred to as the percentage of loans that have been charged off after a prolonged period of missed payments. Defaulted loans are typically written off from an issuer’s financial statements and transferred to a collection agency. In some cases a default rate may also be a higher interest rate charged to a borrower after a specified number of missed payments occur.

BREAKING DOWN 'Default Rate'

Default rates are an important statistical measure used by lenders to determine their risk exposure and economists to evaluate the health of the overall economy. S&P and credit reporting agency Experian have partnered to provide numerous indexes that help lenders and economists track the level of defaults over time. Indexes from S&P/Experian include: S&P/Experian Consumer Credit Default Composite Index, S&P/Experian First Mortgage Default Index, S&P/Experian Second Mortgage Default Index, S&P/Experian Auto Default Index and the S&P/Experian Bankcard Default Index. The S&P/Experian Consumer Credit Default Composite Index is the most comprehensive in the series with default data encompassing first and second mortgages, auto loans and bankcards. As of December 2017 the S&P/Experian Consumer Credit Default Composite Index reported a default rate of 0.91%. Of all the components in the series, bankcards had the highest default rate at 3.44%.

Process to Default

When a borrower misses two consecutive loan payments their late payment records will be submitted to credit reporting agencies for marks on the trade line credit account. Two consecutive missed payments is considered 60 days delinquent. If a borrower continues to miss payments the credit issuer will continue to report delinquencies up to a specified timeframe when it will be written off and considered in default. For federal loans the default timeframe is 270 days for other types of credit the timeframe is mandated by state laws. Default on a credit product will substantially affect a borrower’s credit score and the potential for future credit approvals. (See also: What are the differences between delinquency and default?)

Default Rate Penalties

When a borrower fails to make a loan payment there are a number of negative repercussions. Typically lenders are not concerned with missed payments until the second missed payment occurs. Once the second missed payment occurs lenders will begin reporting missed payments to credit reporting agencies and the borrower may have to pay a higher penalty rate of interest. The terms for increased penalty rates of interest are detailed in a borrower’s lending agreement. This rate may be called a default rate of interest or a delinquent rate of interest. Credit issuers have the option to include this penalty in their lending agreements and may establish their own parameters for when it is instituted and repealed.

CARD Act of 2009

The Credit Card Accountability, Responsibility and Disclosure (CARD) Act of 2009 created new legislations for the credit card market. Among other changes, this legislation halted lenders from instituting universal default rates which cause an interest rate increase when a borrower has delinquencies on any of their outstanding debt. According to the CARD Act of 2009 lenders can only begin charging a higher default rate of interest when an account has become 60 days past due. They cannot base the rate increase on other account activity but they are able to raise rates for a borrower who has more than one card with the company if delinquent activity occurs.

RELATED TERMS
  1. Default

    Default is the failure to promptly pay interest or principal ...
  2. Default Probability

    Default probability is the likelihood over a specified period, ...
  3. Notice of Default

    Notice of default is a public notice filed with a court stating ...
  4. Temporary Default

    Temporary default occurs when a debt issuer fails to meet loan ...
  5. Technical Default

    A technical default is a deficiency in a loan agreement that ...
  6. Event Of Default

    An event of default is a predefined circumstance that allows ...
Related Articles
  1. Insights

    Why and When Do Countries Default?

    Countries can default on their debt. This happens when the government is either unable or unwilling to make good on its fiscal promises.
  2. Investing

    How Credit Rating Risk Affects Corporate Bonds

    Credit migration risk is a vital part of the credit risk assessment, specifically with regard to corporate bonds which underlie numerous rating changes.
  3. Financial Advisor

    Emerging Market Defaults: Beware of Second Wave

    Emerging market corporate defaults have the potential to be the biggest risk to global markets.
  4. Investing

    High-Yield Bond ETFs: 3 Reasons to Avoid Them

    Examine high-yield bond performance in 2016. Why do rising default rates, falling recovery rates and Fed rate hikes make these securities worth avoiding?
  5. Investing

    Commercial Real Estate's $90B Debt Crunch

    Defaults on commercial real estate debt could skyrocket in 2017.
  6. Investing

    5 Ways To Avoid Foreclosure

    If you go into default on your mortgage payments, don't worry, there are still ways to save your home.
  7. Personal Finance

    What Lenders Look at on Your Credit Report

    What do lenders consider when they look at your credit report? Well, a lot of things.
  8. Personal Finance

    Consumer Credit Card Balances Are Down $19 Billion

    Rising balances and credit limits may be fine for now, but with household debt rising faster than GDP, there could be consequences in the next few years.
  9. Investing

    2 ETFs That Will Hurt From Rising Default Rates (HYG, JNK)

    Learn about two high-yield bond ETFs that could be adversely affected if the trend of increasing corporate default rates continues.
  10. Personal Finance

    Credit Card Debt: America’s Biggest Struggle?

    Dealing with credit card debt is a huge struggle for many American families. Here are some tips to get you started.
RELATED FAQS
  1. What factors are taken into account to quantify credit risk?

    Learn how probability of default, or PD; loss given default, or LGD; and exposure at default, or EAD, are used to help quantify ... Read Answer >>
Trading Center