People borrow money for all kinds of purchases, from buying homes and paying for college to picking up food at the grocery store. Debts you take out fall into two basic categories: secured and unsecured. A secured debt is a loan where the lender has the right to take ownership of some asset, such as a home or vehicle, if you fail to make payments. A debt is considered unsecured if not backed by any form of collateral.
Personal loans or signature loans are unsecured debts that give you access to cash. Personal loans tend to carry higher interest rates than secured debts like home mortgages, home equity loans and auto loans, because they are more risky for lenders. As something of a trade-off for the higher interest rate, though, you have the freedom to spend the money however you like, not just on a hard asset like a car or home.
Credit Card Debt
Credit card charges are one of the most common forms of unsecured debt. Credit card debt tends to carry high interest rates, which can make it very costly to maintain a balance on credit card, particularly if you pay a minimum payment that's less than the accruing interest each month. Some banks offer secured credit cards, where you can borrow up to a limit equal to an amount you deposit in an account that acts as collateral for the card.
Amounts you owe to hospitals and other healthcare providers for medical services and drugs are unsecured debts. Medical debt can arise unexpectedly due to unforeseen illnesses and injuries, making it a common source of financial hardship. According to CNN, roughly 62 percent of bankruptcies in the U.S. were caused by medical debts in 2007. Carrying health insurance coverage with low out-of-pocket maximums can help limit the chances of being saddled with large medical bills.
Loans that you take out so that you can go to college or graduate school are typically unsecured. Student debt differs from other types of unsecured debt in that it typically cannot be discharged in a bankruptcy. Because there is less risk for the lender, interest rates tend to be lower than for other unsecured debts. Student loans also qualify for a tax break on interest: if your income isn't too high, the Internal Revenue Service lets you deduct up to $2,500 in interest paid on student loans on your annual income tax return.
- Federal Trade Commission: Coping With Debt
- Nolo: What is an Unsecured Debt?
- Forbes: 3 Debts to Consider Not Paying Off
- LendingTree: Personal Loan
- TIME: Why Can’t You Discharge Student Loans in Bankruptcy?
- CNN: Medical Bills Prompt More than 60 Percent of U.S. Bankruptcies
- Wells Fargo: Wells Fargo Secured Card
- Internal Revenue Service: Student Loan Interest Deduction
Gregory Hamel has been a writer since September 2008 and has also authored three novels. He has a Bachelor of Arts in economics from St. Olaf College. Hamel maintains a blog focused on massive open online courses and computer programming.