Quick Answer
Standard events of default include payment failures, covenant breaches, representation breaches, cross-defaults to other debt, bankruptcy filings, material judgments, material adverse changes, change-of-control triggers, and ERISA events. A bankruptcy filing is automatic default with no grace period. Early refinancing typically costs the borrower a make-whole premium, soft-call premium, or prepayment penalty designed to compensate the lender for lost interest.
Default and prepayment economics drive most workout-versus-refinancing decisions. Knowing the standard list of triggers and the standard prepayment costs lets a banker evaluate whether a borrower can amend, refinance, or must file.
Standard Events of Default
| Event | Definition |
|---|---|
| Payment default | Failure to pay principal or interest when due (typically subject to a brief grace period for interest, none for principal) |
| Covenant breach | Failure to perform a maintenance covenant (typically with a cure period for non-financial covenants) or violation of an incurrence covenant test at the moment of action |
| Representation breach | Inaccuracy of borrower representations and warranties (typically with a materiality threshold) |
| Cross-default / cross-acceleration | Default under another material indebtedness above a threshold dollar amount triggers default under this agreement |
| Bankruptcy / insolvency | Voluntary or involuntary bankruptcy filing, appointment of receiver, insolvency proceedings; typically automatic and immediate (no grace period) |
| Material judgment | Money judgment in excess of a threshold and not stayed or paid within a cure period |
| Material Adverse Change (MAC) | Catch-all event triggered when borrower's financial condition or business has deteriorated materially |
| Change of control | Often a put right or mandatory prepayment trigger, not strictly an event of default |
| ERISA / pension | Material underfunding or termination events affecting a defined-benefit pension plan |
Exam Tip: Gotchas
- Bankruptcy filing is AUTOMATIC default. There is generally no grace period or cure right. The filing itself triggers default under almost every credit agreement and indenture, regardless of whether payments are current.
- Cross-default vs cross-acceleration is a meaningful distinction. A cross-default triggers if the OTHER debt is in default. A cross-acceleration triggers only if the other debt has been accelerated (declared immediately due). Cross-acceleration is borrower-friendlier because lenders must actually pull the trigger on the other instrument first.
- Change-of-control is usually a PUT, not a default. Bondholders can demand repayment at a premium but the bonds are not automatically accelerated and the company is not in technical default unless it fails to honor the put.
Consequences of an Event of Default
Once an event of default occurs and any grace period expires, lenders typically have a defined toolkit:
- Acceleration: lender can declare the entire principal balance plus accrued interest immediately due
- Default interest: interest rate steps up (often +2% or +3% over the contract rate)
- Drawing rights frozen: borrower loses access to undrawn revolver capacity
- Lien enforcement: secured lenders can foreclose on collateral
- Cross-default cascade: acceleration under one agreement can trigger default under others
The threat of acceleration is itself the leverage that brings borrowers to the workout table. Lenders rarely actually accelerate (foreclosure or bankruptcy follows immediately) because that destroys going-concern value, but the right to accelerate is what makes covenants enforceable.
Exam Tip: Gotchas
- The MOST IMMEDIATE effect of an event of default is usually loss of revolver access, not acceleration. Borrowers in early distress often lose committed-revolver liquidity at exactly the moment they need it most because draw conditions ("no default existing or continuing") cannot be satisfied.
- Default interest accrues automatically in many agreements the moment a default occurs, even if the lender does not accelerate. This can add to the workout bill quickly.
Consequences of Refinancing Early
A borrower that wants to repay before maturity typically owes the lender a premium that compensates the lender for the lost stream of interest:
| Consequence | Mechanism |
|---|---|
| Make-whole premium | Lender compensated for the net present value (NPV) of remaining interest payments, typically discounted at a benchmark Treasury rate plus a spread (for example, T+50 basis points) |
| Soft-call premium | Smaller premium (typically 1%) if the loan is repaid within a short window after issuance (for example, 6-12 months) |
| Hard non-call period | High-yield bonds typically have a 3-5 year non-call window; borrower cannot prepay at all during that window without paying the make-whole |
| Prepayment penalty | Some private-credit or mezzanine facilities charge a flat prepayment fee on a declining schedule |
| Loss of original-issue discount (OID) economics | Borrower forfeits any unamortized OID benefit |
| Tax consequences | Cancellation-of-indebtedness income (CODI) if debt is refinanced at a discount to par |
| Information / consent costs | Tender or consent solicitation fees, dealer-manager fees, and legal and printing costs |
The make-whole exists because the lender priced the loan assuming a defined coupon stream over a defined maturity; an early repayment cuts that stream off. The make-whole effectively reprices the loan as if it had run to maturity at the original coupon, discounted back to present value.
Exam Tip: Gotchas
- Make-whole = NPV of remaining interest at a benchmark rate. It is designed to make the lender economically whole as if the loan ran to maturity. After the non-call period, bonds typically switch to a fixed call schedule (for example, par plus half-coupon in Year 4, declining to par by Year 6).
- Hard non-call is exam-favorite vocabulary. During a hard non-call window, the bond CANNOT be redeemed at all (subject to a make-whole) regardless of the borrower's willingness to pay a premium. After the hard non-call expires, the bond becomes callable at the scheduled call prices.
- A discounted exchange (debt-for-debt swap below par) generates CODI tax exposure. This is a frequent surprise in out-of-court restructurings and is part of why exchange offers are often paired with tax-attribute preservation analysis.