What is Unsecured Debt?

By: Jordan McKenna

Unsecured debt is a loan not secured by an underlying asset or collateral. In case of unsecured debt, a lender loans money without the security that an underlying asset provides. For this reason, unsecured debt carries more risk for the lender, which in turn makes the loan more expensive. The more additional risk that a lender must take on, the higher the rate of interest a borrower must pay, making unsecured loans subject to higher rates.

Unsecured debt refers to a debt that is not tied to any item or property. A creditor does not have the right to grab property to satisfy the debt if you default. Unsecured debt relies only upon your promise to repay the debt. The most common types of unsecured debts are credit cards, department store cards, medical bills and personal loans.

Unsecured debt is where the creditor cannot take your property or car to pay off the debt you owe. It has its benefits; mainly for the fact that people feel less worried that, all their possessions will be taken away from them as a result of the debt they owe. Again, with unsecured debt, you borrow money without ‘collateral’, which is anything you own, basically.

Because an unsecured debt carries more risk for the creditor, he charges a higher interest rate than for secured debt. For example, when you take an unsecured debt with a credit card company, the credit card company does not have any collateral from you. That is why it is harder for the credit card companies to obtain payments from you. If you fall behind on this type of debt, the lender’s only way to get their money is to sue you.

The absence of collateral requirement means that it is easier for most people to get unsecured loans. However, an unsecured loan does require that the borrower have at least reasonable credit. Before a lender will consider you for an unsecured debt, they will be most likely ask for proof of income and your financial situation. And this is for obvious reasons. No one will just hand over money to you without checking whether you are in a position to return that money or not.

There are cases where someone who has assets may seek an unsecured loan rather than a secured one. For example- a homeowner might want to remodel his bathroom and might plan to repay the loan quickly by taking an unsecured debt.

Nearly all unsecured lenders will check an applicant’s credit and employment history before issuing a loan. For this reason, if you are planning to use unsecured debt, it is important to keep your credit score high so that you can get loans.

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