Secured debt is a guaranteed debt for which the borrower is personally responsible for repayment. If the borrower fails to pay the full amount, the lender can seize the collateral that secures the loan.
Definition and Examples of Secured Debt
All debts can be divided into two main categories: secured and unsecured debts. Known also as secured debt, it means that the borrower is personally responsible for the losses of the loan resulting from default. This type of debt is riskier for borrowers but less risky for lenders.
If a borrower defaults on a secured debt, the lender can seize any collateral that secures the loan. If this collateral is not sufficient to cover the remaining amount of the loan, the lender may also pursue other collection activities such as wage garnishment. In contrast, unsecured debts limit the lender’s efforts to collect. The lender can take any collateral securing the loan, but cannot pursue any other property or assets of the borrower.
Mortgage loans can either be secured or unsecured, depending on the state:
- In some states, deficiency judgments are allowed, and mortgages are considered secured debts. The mortgage lender can seize the home and force its sale. If the sale does not generate enough money to pay off the loan balance and the lender’s costs and fees, the lender can attempt to collect the remaining amount from the borrower. This could mean obtaining a deficiency judgment and trying to collect using techniques like wage garnishment or placing liens on the borrower’s bank accounts.
- In other states, deficiency judgments are not allowed, and mortgages are regarded as unsecured debts. The lender can seize the home and force its sale, but if that does not pay off the loan in full, they cannot pursue other collection efforts.
Note: Before borrowing any money, be sure to read the terms of the loan agreement to know whether you are signing a secured debt contract or not.
How Secured Debt Works
With secured debt, lenders have more options to recover their money in case of default.
When a borrower defaults, the lender can seize any collateral linked to the unpaid loan, such as a house or car. If the lender still faces an unpaid balance, they can take additional steps to collect money from the borrower.
For example, the lender can go to court and obtain an order for the borrower to personally pay any remaining loan balance. To enforce this judgment, the court can order wage garnishment or seize the borrower’s bank account.
Note: Even in the case of secured debt, there are rules that protect borrowers. For instance, federal laws limit the amount of wages that can be garnished during each pay period.
Alternatives to Secured Debt
Unsecured debt is an alternative to secured debt. With unsecured debt, the lender is limited to taking collateral to settle the outstanding debt balance. If the value of the collateral is insufficient to cover the amount owed, the lender may face a financial loss and will not be able to use other methods to collect the unpaid remaining balance.
Limited secured debt is also an alternative. With limited secured debt, the lender can only seize specific assets mentioned in the loan agreement but cannot pursue any other collection activities.
Advantages and Disadvantages of Secured Debt
Secured debt is considered less risky for lenders because they have more options to recover unpaid loan balances. As a result, it may sometimes be easier for borrowers to obtain secured debt or to get lower interest rates.
But
Full recourse debt is considered more dangerous for borrowers, who may face more aggressive collection efforts if they default on their loan. Most of their property and assets could be at risk.
Main takeaway: Full recourse debt provides lenders with more options to collect funds. If the borrower defaults on full recourse debt, they can be held personally liable for any remaining balance. The lender can seize the collateral for the full recourse debt and can also pursue other collection efforts like wage garnishment. Full recourse debt may be easier to qualify for and has a lower interest rate because it is less risky for lenders. Borrowers dealing with full recourse debt put many of their assets at risk.
Source: https://www.thebalancemoney.com/what-is-full-recourse-debt-5200985
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