Types of debt
By Yollander Millin
Ever wondered what debt is, and how it presents itself? Well debt is when you owe anyone money. Any time you don’t pay in full, that’s debt. If you are still making payments for something that you bought, you are also debt. If you purchased that dinner set before you had the cash or you borrowed from your mother-in-law because you didn’t have the cash, regardless of how you package it, debt means you’re at the mercy of someone else until you pay them back. This can be a common thing at household level, and often relatives avoid paying back debts without realizing that the borrower is always a slave to the lender.
When you have debt, you cease to work just for you or your family, and you start working for the people you owe money to, and that is not okay! You have more things to tend to in life other than just working to pay off debt. Debt will always hold you back no matter what type it is! What then are the types of debt that are out there so that one can know how to avoid the traps. According to an article by The Khadija Team there are so many different ways in which one can be in trouble with debt. In this article, we will look at the most common types of debts that we deal with on a daily basis.
1.Secured Debt
When a car dealer hands you the keys to a brand-new Ferrari, you rejoice, ululating as you drive home to show off the car you just bought. Only, you did not just buy it, you only financed it. The bank owns the car and you have to pay them to drive it each month. That’s secured debt. With this type of debt, any money you borrow is backed by a physical item. In other words, there is collateral. When you finance a car, boat, RV or even a home, the lender looks at your credit to check your borrowing history. That helps them determine your interest rate (money charged just for the act of borrowing).
The lender also places a claim of ownership (lien) on your assets, and if you stop making payments, they can take the item back either through repossession (they take back the Ferrari) or a foreclosure.
Secured debt is great for lenders because it means less risk for them, as they either get their money, or they get the item back to sell. However, to the individual, this means more risk. Once one fails to pay up, they will be faced with confiscation of the precious asset. Assets that depreciate in value (like cars), put people at greater risk as one could end owing more than the items is worth.
2. Unsecured debt
This type of debt has no collateral for the acquire loan. This includes such means of financing such as credit cards, student loans, medical bills, payday loans or personal loans. Simply put, this is money you’ve borrowed, but it is not directly tied to an item. Unsecured loans make it harder for the lender to get their money when one fails to pay up, so they come higher interest rates. This then translates to say one is more likely to face debt collectors or lawsuits should they miss payments.
This kind of debt can pile up quickly if one is not careful. With secured debt, one is more motivated to make payments because they may lose their car, home or something they use every day, and yet with unsecured debt, it is not transparent to see where the borrowed money is going, yet, it still has to be paid as soon as possible.
According to J. Egan and M.Strohm researchers from Forbes institute, there are generally two types of debt which are the ones we have looked at, secured and unsecured debt. The rest of the types of debts fall within the two categories though they present themselves differently. The following types of debt therefore fall within the latter, with a difference of cause.
3. Revolving debt
Revolving debt is an open line of credit. It’s when you enter into a cycle of borrowing money and paying back, just to borrow more money. The examples here include credit card, store cards, or even the tabs from local hardware stores, where one is always paying and borrowing continuously in a cycle. Revolving debt, makes it easy to feel like you have your credit under control, since the minimum payments one makes are usually super small compared to the credit limit. However, only paying the minimum each month means you still have to pay interest on the rest of your balance later and if you miss a payment, you’ll owe late fees on top of everything else.
4. Nonrevolving debt
Nonrevolving debt is a line of credit that cannot be used more than once. Here we will be looking at such things as car loans, business loans, student loans or mortgages. Here one borrows a specific amount of money, and pays it back in installments before a certain given date. The minimum payment for each month will depend the original amount. The moment one pays off the loan, the debt will be done, they can no longer get any funds to spend.
As established already, loans come with interests, but nonrevolving debt, usually these come in greater percentages meaning even if one makes the minimum payment every month, they are still going to have to pay interest on the remaining balance. For example, let’s say you took out a 30-year $250,000 at 3.8% interest on a mortgage loan, they may end up paying almost $420,000.
5. Sneaky debt
Well, this type of debt just hits one without realization. Its small amounts that accumulate fast. For example, the way one ends up in debt because the sales people enticed them with low interests or at a cheap price and one purchases (yet it was not planned for, or not even a need or a want). Salespeople are aware that most people will not be able to pay off owed amounts within the stipulated period, and they take advantage the moment that time is up, and crazy interest rates kick in with full force. People need to be wary and not fall for these debts disguised as deals. They’re not worth it!