When it comes to debt, there are two major types: secured debt and unsecured debt. Knowing the difference is important for borrowing money and for prioritizing your debts during payoff.
Secured debts are tied to an asset that's considered collateral for the debt. Lenders place a lien on the asset, giving them the right to take the asset if you fall behind on your payments. If the lender has to take your asset because of you've become delinquent, the asset will be sold. If the selling price for the asset doesn't completely cover the debt, the lender may pursue you for the difference.
A mortgage and auto loan are both examples of secured debt. Your mortgage loan is secured by your home. Similarly, your auto loan is secured by your vehicle. If you become delinquent on these loan payments, the lender can foreclose or repossess the property.
With unsecured debts, lenders don't have rights to any collateral for the debt. If you fall behind on your payments, they don't have the right to take any of your assets. However, the lender may take other actions to get you to pay. For example, they will hire a debt collector to coax you to pay the debt. If that doesn't work, the lender may sue you and ask the court to garnish your wages, take an asset, or put a lien on another your assets until you've paid your debt. They'll also report the delinquent status to the credit bureaus so it can be reflected on your credit report.
Credit card debt is the most widely-held unsecured debt. Other unsecured debts include student loans, payday loans, medical bills, and court-ordered child support.
Prioritizing Secured and Unsecured Debts
If the debt is tied to a specific piece of property, then it's a secured debt. If you're strapped for cash and faced with the difficult decision of paying only some bills, the secured debts are typically the best choice. These payments are often harder to catch up with and you stand to lose essential assets - like shelter - if you fall behind on payments.
You might give more priority to unsecured debts if you're making extra payments to pay off some debt. Unsecured debts sometimes have higher interest rates that makes it expensive to spend a long time paying these off. Even when you're in debt repayment mode, it's important to keep up the minimum and installment payments on all your accounts.