What is an Undersecured Claim?

The topic of an unsecured claim tends to become relevant when a debtor files for bankruptcy or when a creditor seeks to take possession of a debtor’s possessions or income for the purposes of satisfying a debt, but not everyone can answer the question of “what is an unsecured claim?” Fortunately, the concept isn’t a difficult one, and it’s valuable information for the general public because financial trouble like bankruptcy could make the term quite relevant.

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What is an Unsecured Claim?

An unsecured claim is one where a lender can’t automatically take a debtor’s possessions in order to satisfy a past-due debt during the bankruptcy process. For example, a credit card account may be an unsecured debt, and the lender wouldn’t have the ability to take possession of the debtor’s car and sell it to pay the debt.

However, debtors filing chapter 7 bankruptcy could see their assets sold to pay for their debts due to the liquidation of assets commonly seen with that type of bankruptcy. The creditor of an unsecured claim wouldn’t literally get the keys to the debtor’s car but might receive money from the court-arranged sale of the debtor’s possessions after submitting the official Schedule E/F: Creditors Who Have Unsecured Claims during the bankruptcy proceedings.

An important fact to remember during the bankruptcy process is that the possible sale of a debtor’s assets to pay for unsecured claims isn’t one where every stick of furniture and item owned by a family would be sold to the highest bidder to satisfy debts. Bankruptcy law allows debtors to take exemptions, which are protections for some possessions.

Before the Bankruptcy Process Begins

Before the courts are involved, and a debtor has filed for bankruptcy, an unsecured claim may begin as an unsecured debt. Unsecured debts don’t have any collateral attached, which means they’re generally not houses, vehicles, and other items that a creditor could repossess to satisfy a debt.

To encourage a debtor to pay his or her debt, the lender may hire a debt collector to help with the collection process. Collection efforts are guided by federal law and may go on for years in some cases. If collection efforts are unsuccessful, a lender may decide to sue the debtor so as to receive a court judgment and a court-mandated payment for the debt.

Before a company can begin litigation, however, some debtors choose to file for bankruptcy, which stops all collection efforts and lawsuits and forces the creditors to work with a court-appointed representative to obtain payment. Creditors that have unsecured claims may be at a disadvantage versus creditors that have secured claims.

How Does a Secured Claim Differ from an Unsecured Claim?

The logical opposite of an unsecured claim is a secured claim. Lenders and creditors who may have secured claims include mortgage lenders, car loan lenders, and anyone who lent money to the debtor in exchange for real estate property.

Federal, state, and local governments are also allowed to make claims for unpaid property taxes or income taxes during the bankruptcy process, but those entities don’t necessarily need collateral to make a claim that acts like a secured claim.

Deciphering unsecured claims versus secured claims is an activity that debtors will undertake during the bankruptcy process. Answering the question of “what is an unsecured claim” is helpful before actually filing for bankruptcy because the types of claims made during the bankruptcy process may impact what type of bankruptcy filing the debtor pursues.