What Is Debt and How to Handle It

At its simplest, debt is defined as money owed by one party to another. It has benefits and drawbacks.

Some pros: Debt with a relatively low interest rate and that helps pay for something that will accrue value — like a house or college education — can help achieve desirable goals. Another pro? Borrowing money and paying it back on time helps to build credit.

Now the cons. As your debt-to-income ratio climbs past 36%, it can be difficult to pay off. It may also make it harder to get approved for additional credit.

When interest rates rise, existing debt that doesn't have a fixed rate can get more costly and harder to repay.

The best way to handle your debt depends on what kind of debt you have and how much you owe. If you have too much debt, you may need to find debt relief.

There are two types of debt: secured and unsecured.

Secured debt means the borrower has pledged an asset as collateral for the loan. Auto loans and mortgages are common examples of secured debt. If you fail to repay as agreed, the creditor can seize the asset, for instance repossessing a car or foreclosing on a house.

Unsecured debt, on the other hand, is not backed by an asset. A common example is credit card debt. However, that doesn’t mean you get off scot-free if you fail to repay.

A credit card issuer, for instance, may have an internal collections department or might sell your delinquent debt to a third-party debt collector. Either way, collections efforts can lead to repeated contact about repayment. If you don’t pay the debt collector, it may sue you for payment, which can lead to wage garnishment.

Credit card debt is among the most common — and most expensive — form of unsecured debt.

Americans' total credit card debt reached an estimated $1.25 trillion as of March 2024, according to NerdWallet’s annual American household credit card debt study. Among people with revolving credit card debt, the average amount owed was $21,083.

Depending on your personal credit score, the annual percentage rates, or APRs, on your credit cards can be in the teens and 20s. Not paying off your full balance each month can get expensive, fast.

The two common paydown methods for credit card debt are the snowball and avalanche methods.

• The debt snowball method means paying off the smallest debts you owe first, working your way up to the largest. The objective is to get some quick payoff wins, which helps boost motivation to keep going.

• In contrast, the debt avalanche method means paying off debts with the highest interest rates first, regardless of balance totals. This can help reduce the amount of interest you pay overall.

If you’re having trouble paying off your credit card debt, here are a few ways to handle it:

• Consider a debt management plan from a nonprofit credit counseling agency.

• If you have multiple debts, see if you can consolidate them.

• Look into a 0% intro APR balance transfer credit card.

• Talk with a bankruptcy attorney to explore your options.

Medical bill debt can come from a routine visit to your doctor, or from an unexpected event like a broken bone or hospitalization. This type of debt can be expensive and, further complicating matters, there's not a clear-cut way to handle it if you can’t afford to pay it off all at once.

Here are a few ways to pay off your medical bills:

• Set up a payment plan.

• Negotiate the balance down.

• Hire a medical bill advocate.

No matter how strapped you are, avoid putting the medical bill on a credit card. Most medical providers don’t charge interest; moving that debt to a credit card wipes out that advantage and makes it more expensive. Not only that, medical debt is subject to some preferential treatment by the credit bureaus that you’ll lose if you convert it to regular credit card debt.

If you graduated from college in the past few years with student loan debt, chances are you’re carrying a sizable balance. On average, U.S. households that had student debt as of March 2024 carried a balance of $55,573.

Student loans are either federal or private, with a variety of loan types between the two. Regardless of where the debt came from, you’ll likely be paying your student loans off for years to come.

You have a few ways to get help with student loan debt:

• Call your student loan servicer to discuss relief options.

• Sign up for an income-driven repayment plan.

• Apply for forgiveness, if you qualify.

Be wary of any companies that promise full debt relief help — many are scams.

Personal loans can help consolidate credit card debt or provide cash flow for a specific reason, like a home remodel. Loan terms are generally two to seven years, with interest rates that range from about 7% to 36%.

If you’re having trouble paying back your personal loan:

• Call the lender to see if you can defer payments or go on a hardship plan.

• Consult the free help of a nonprofit credit counselor to better manage your budget.

• Talk with a bankruptcy attorney if you’re facing too much debt.

Car loans are a form of secured debt, meaning that if you don’t pay, the lender can take back the car that serves as collateral. Car loans are growing longer and more expensive, making them harder to pay off.

Here’s how to handle an expensive car loan:

• Refinance the loan.

• Downsize your car for a less expensive one.

• Find a way out of the loan.

Getting a mortgage is likely the biggest personal finance decision you’ll make. They generally last decades and cost hundreds of thousands of dollars. As of March, the average American carried a mortgage balance of $229,191, according to NerdWallet’s debt study. A mortgage is a secured loan, meaning the bank can take your house if you don’t pay as agreed.

But you have some recourse if you’re having trouble paying your mortgage:

• Consider refinancing your mortgage.

• Seek a loan modification or forbearance period.

Debt is often a necessary part of keeping a small business running. You can take out a loan or business line of credit to hire more employees or purchase new equipment. But too much debt can put a crimp in your business cash flow and potentially put your business at risk.

If you’re facing steep debt, there are several ways you can get your business out of debt. They include:

• Boosting your sales.

• Refinancing or consolidating your high-interest business debt.

It's common to have an account in collections. About one in five people had at least one collections on their credit report in the second quarter of 2022, ^[0]

Knowing how to handle a debt in collections can be tricky, though. Here are some steps to follow if you’re being hounded by debt collectors:

• Brush up on your debt collection rights.

• Don’t give in to pressure to make a quick payment.

• Gather information on the debt.

• Make a plan to handle the debt in collections — options include creating a payment plan, settling the debt or paying it in full.

» MORE: Understanding what debt is in Canada and the types of debt