Defining ‘Strategic Default’

One of the things the whole strategic default issue lacks is any set definition. There are words that get used with motives embedded in them, such abuse of language only exists when there is not a set meaning to the word. To call a default strategic is two very different things depending on who is talking about it.

To a bankers mind it might mean any loan unpaid where the person has a penny to spare, to a borrower it might only be where a person withholds all money from the lender and goes and lives the life of Reilly.

I’m asking for your help on this one, please use comments to add your thoughts and I’ll re-edit the post appropriately.

To start with I’ll attempt to define a strategic default on multi-investment properties, there are other types so feel free to give the example or way of defining it as you see it.

1. Multi-investment property investors: Where the person is collecting rent and paying interest only, then the bank look for capital and interest and the person goes from paying the interest to paying zero. In this instance the default is strategic. This would also include situations where the person defaults and uses several months of cash flow for some personal reason (albeit one that may be very important or necessary to them). A default is also strategic when they withhold money in order to advance negotiations. It is important to note that the occurrence of this is often bank lead, if a bank makes a demand which the borrower would have difficulty in adjusting to they might strategically default but you cannot absolve bank responsibility in that process.

2. Home owners: (undefined)

3. Home owners with another property, be it an investment or holiday home: (undefined)

 

One Comment

  1. Liam Ferrie

    The least contentious definition would be a home owner for whom the mortgage repayment is readily affordable but who has stopped paying completely and is engaging in a game of chicken with the bank. ‘Strategic’ is an indisputable description of this type of behaviour. There have been some high profile examples of home owners engaging in this type of behaviour but it probably isn’t widespread.
    It starts to get more complicated when you consider the case of a borrower who could, at a push, keep his mortgage payments current but actually pays less than the amount due each month or misses an occasional month. Or a borrower who cannot afford to keep his mortgage current, but who could afford to partially pay, but instead pays zero. To what extent this behaviour is ‘strategic’ will be almost impossible to define. There will certainly be a ‘strategic’ element in most cases because borrowers are aware that the risk of repossession and a painfully drawn out bankruptcy process have decreased dramatically over the past five years. So to some extent borrowers are making a judgement call that the risk of these negative outcomes are low enough to justify the benefit of paying less than they could towards their mortgage. But there will also be non-strategic cases where a borrower has just given up hope and whose non-payment of his mortgage is an absence of action rather than a thought out strategy. He wants to ignore the problem and so tries to avoid having any interaction with the bank. So you could have two borrowers in identical situations, exhibiting identical patterns of behaviour, but with very different thought processes, motivations and levels of mental resilience such that one could be accurately described as a strategically defaulting and the other not.
    In that case we probably need a better description that covers all those who are paying less than they could/should on their mortgages. And even with a more appropriate description the issue of what someone can actually pay is a contentious one. Some lobbyists now argue that private school fees should come ahead of mortgages and that grocery shopping habits and holidays should not be impacted by constrained circumstances. This is a very different mentality from that which prevailed in the 90s and earlier when every other class of expenditure would be pared back to the bone before a mortgage payment was missed. So where to set the bar now? Probably the ISI Reasonable Living Expense guidelines provide the least worst benchmark. They are overly proscriptive in terms of micromanaging the details but as a whole they are not ungenerous. In fact they are probably less restrictive than the self-imposed measures that a struggling borrower would have adhered to a decade or more ago. So the widest definition of strategic defaulter might be: “A borrower who pays less towards his mortgage than would be paid to creditors under an ISI arrangement”.

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