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The Different Types of Default

September 2, 2015 by · Leave a Comment 

By Phineas Upham

When a person breaches the terms of their loan contract, they are said to go into default. What about when countries or corporations do it? There is also the possibility that a default is not necessarily bad if the damage is contained in a strategic manner, which is one of the potential strategies being employed in Greece.

Although default falls into two basic types, these types can be applied to several instances. A debt service default is a problem with the scheduled payment on a loan, usually because the borrower did not make a payment. A technical default occurs when a contract is violated.

If a country enters into default, the result is known as “sovereign default” and has some consequences similar to what might happen to a consumer. For example, borrowing costs increase because the country’s credit rating decreases. Although, sovereign debt is a bit different and countries that lend to one another are more apt to enter into negotiations as long as its assumed that an adjusted payment plan will repay the debt in its entirety.

Sometimes, it works out to the borrowers benefit to stop paying a loan. This was a frequent occurrence during the housing bust, when multiple households found themselves with negative equity on their properties because values had brought them upside down. In these situations, the borrower executes what is known as a “strategic default”

In some cases, the debtor may just mail keys to the bank in the event of a strategic default in order to save time.

Phineas Upham is an investor from NYC and SF. You may contact Phin on his Phineas Upham website or Facebook page.