While there are many categories of debt, they all boil down to two basic types. The first is secured debt, and the other is unsecured debt. Before you can resolve your debt problems, you need to understand the difference between these types of debt.
What is secured debt?
Secured debt is when a loan is made with adequate collateral to support the it. The two most common types of secured debt would be a mortgage and a car loan. However, large appliances, equipment, and a variety of other things can stand as collateral for a loan. In the banking industry, a collateral loan is often considered to be a loan against a person’s certificate of deposit or other cash reserves. Basically, the bank loans you your own money. Insurance companies make these loans also.
If you fail to pay a secured loan, you must forfeit the collateral.
Generally, this is a straightforward process. The bank or institution forecloses and sells your property to recover their money. This often results in a loss to the lender, but it usually lets the borrower off the hook for the loan.
What is unsecured debt?
Unsecured debt is most often a synonym for credit card. It is any amount that you borrow without having to provide collateral to back the loan. The lender rarely cares how you spend the money. Unlike secured debt, you cannot just give the lender the collateral and walk away. It requires a different set of steps to handle problems with unsecured debt. Unfortunately, not only is unsecured debt not covered by collateral, it frequently comes with a high interest rate and big penalties for late or missed payments.
How do people get into trouble with unsecured debt?
People begin with relatively good credit. This inspires lenders to be generous with issuing credit cards and raising credit limits. The debt is accumulated due to a number of issues. With all of this credit available, the borrower begins a pattern of buy now and pay later. It might be legitimate needs. Spending for car repairs, education costs, health expenses, and maybe even food can all figure into the increasing load of debt.
Anytime that unsecured debt cannot be retired in less than a year, the problem is building.
The dark side of the story unfolds when the creditors check the credit reports and see a growing mountain of unsecured debt. Credit limits are reduced while interest and payment amounts are increased. This unwieldy combination leads to huge credit issues for the borrower.
How do you deal with this debt?
You have four options for dealing with a heavy load of unsecured debt. None of the options are fun or easy. Some are more painful than others. In certain cases, the debt can be resolved in a matter of months, but most of the time it is long and arduous process to clear yourself of the debt problem.
You can pay off the debt one card at a time.
This is the old standard solution. Pick a card and pay it off. Usually, it is best to start with a small card and eliminated that debt. It feels good and hopefully inspires you to push harder. This method may require additional jobs and some sleepless nights. Since you already have debt problems, you will not have a credit cushion to bail you out in the hard times. This makes this option very difficult for many people.
Call a debt management company.
Debt management companies do not eliminate your debt directly. They negotiate with the creditors and lower your payments and interest rates. You pay one large payment per month. The debt management company distributes the big lump into small pieces to each of your creditors. You still get statements each month. The debt management company will send you a monthly list of your payments. You can also pay lump sums to your creditors if you get extra cash. Check with your specific debt management company about the procedure for doing this. You will generally be out of debt in five years or less. The fees are small for this service. They are less than $50 per month for most people.
You can use a debt relief agency.
These agencies will collect thousands of dollars in fees from you. They collect most of their money in the first six months of the payment process. You still make one large payment to them. However, they often do not begin paying your creditors for six months or more. The idea is to make the creditors believe that they will not ever be paid. This brings them to the bargaining table to accept an offer of about 1/3 to 1/2 of the balance. This can be painful for you because your creditors will continue to call and might take legal action against you. The debt relief agency will advise you to call them if you get hit with a summons.
The final way to deal with big debt is bankruptcy.
This is an extreme measure. You can usually keep your retirement account and your house (if you can afford it). You are left to start with almost nothing and try to rebuild your credit and your life. If it is your only option, then take it. Otherwise, there are more gentle ways available.
The rest of the story.
Both debt management and debt relief will reduce your monthly payments by hundreds of dollars if your debt is large. All four ways will keep your credit scores low for five or ten years because you have a bad credit history. With good practices of paying cash and keeping low or no debt, it is possible to recover and have a much stronger financial picture and future.