What is Unsecured Debt?
Unsecured debt refers to loans that are not backed by collateral. If the borrower defaults on the loan, the lender may not be able to recover their investment because the borrower is not required to pledge any specific assets as security for the loan.
Because unsecured loans are considered riskier for the lender, they generally carry higher interest rates than collateralized loans.
- Unsecured debts are loans that are not collateralized.
- They generally require higher interest rates, because they offer the lender limited protection against default.
- Lenders can mitigate this risk by reporting defaults to credit rating agencies, contracting with credit collection agencies, and selling their loans on the secondary market.
Understanding Unsecured Debt
A loan is unsecured if it is not backed by any underlying assets. Examples of unsecured debt include credit cards, medical bills, utility bills, and other instances in which credit was given without any collateral requirement.
Unsecured loans are particularly risky for lenders because the borrower might choose to default on the loan through bankruptcy. In this situation, the lender can seek to sue the borrower for repayment of the loan. However, if no specific assets were pledged as collateral, the lender may be unable to recover their initial investment.