A debt is an outstanding loan amount payable to the owner for the use of money. Almost everyone encounters debt in some or the other form in their life. All debts are not created equally and some debts are considered better than others. All debts can be divided into four types such as
- Secured Debt
- Unsecured debts
- Revolving debts
- Mortgage debts
1. Secured Debt
A debt that is supported by an asset as collateral is called a secured debt. Usually, the lender will check the history of debt payments before issuing any loan to the borrower.
A credit report will provide a piece of good information about borrower payments history. In secured debt an asset is pledged as security for issuing a loan.
For suppose if a borrower has a good credit score and he defaults by not paying the debt, then the lender will have full right on the asset. If the loan is not paid back by the borrower collateral asset can be seized. The lender can sell the asset and realize money.
Secured debt requires collateral and it does not depend on individual creditworthiness. Secured assets are mortgage home loans that have 15 to 30 years of term period with a collateral asset as security.
For example- A loan is issued to a borrower with secured collateral of a car. The lender gives cash to purchase a car. The car is placed under a lien, which means the car ownership is in the hands of the issuer.
The owner’s name will be a loan issuer. If the borrower fails to repay the car loan, then the lender can sell and recoup funds. The interest rate on secured loans is very much reasonably low.
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2. Unsecured Debt
When a debt is issued without collateral it is called unsecured debt. Lender issues a loan without the asset as collateral. Only based on good faith, credit score, ability to repay and promise to repay the loan a lender issues a loan to the borrower.
Though there is no guarantee nor supporting collateral the borrower is in a contractual relationship with the lender to repay funds to the lender.
If the borrower goes default for any reason, the lender can take legal action against the borrower to reclaim the debt. This process is risky, time-consuming and expensive for the lender. This is the reason the interest rate on the unsecured loan is very high compared to secured loans.
Examples of unsecured debt are personal loans, credit cards and others.
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3. Revolving Debt
An agreement made between a lender and consumer which provides a facility to borrow money to a certain maximum limit on a recurring basis is called Revolving Debt.
The best example of revolving credit is a credit card.
A credit card has a certain limit and the cardholder can spend any amount of money between the credit card limit. The credit card amount limit and the type of credit card is issued by the credit card issuing company.
Revolving debt is based on credit card fund amounts on loan payments each month. Revolving debt can sometimes be unsecured debt and secured debt such as home equity line of credit.
4. Mortgage Debt
One of the largest debts and most common debts almost all borrowers carry is a Mortgage debt. A loan that is made to purchase an asset putting collateral as a security subject to certain conditions is called Mortgage Debt.
The home loan is a collateral mortgage debt that is subject to the real estate business.
Mortgage debt has the lowest interest rate among consumer loans. Mortgage loans are between 15-30 years to keep affordable homes for customers.
About the author
Vinay Kumar Goguru is a finance professional with more than 8 years of diverse experience as a researcher, instructor and Industry work experience with both public and private entities. Prior to MyMoneySouq, he spent 6 years in Berkadia, It's a commercial mortgage banking company. He has a "Doctoral Degree in Commerce" and two master's degrees with a specialization in Finance, one as Master of Commerce and other as Master of Business Administration. He has written several articles on personal finance, published by different International journals. He loves traveling, reading and writing is his passion. He has a dream of writing a book on his favorite finance topics.
