What Is a Debtor?

Debtor definition

“Debtor” is a broad term that refers to any individual or entity that borrows money (a person who takes on a debt is also called a “borrower”). Once you take out a loan for something such as a car, home, educational expenses or medical bills, you become a debtor.

This article focuses on individuals, rather than governments or companies, as debtors. Below, we address types of debt you might accrue, as well as your rights and protections as a debtor and the consequences of not paying off your debts.

Debtor vs. creditor

A creditor is a person or entity that lends money or extends credit to another party. Once this happens, the other party becomes the debtor. So, a debtor borrows money or obtains credit from a creditor.

The debtor must repay the borrowed funds or fulfill their credit obligations to the creditor within the agreed-upon terms and conditions.

Debt examples

There are many types of debt, each with its own average interest rates, repayment schedule and terms. We’ve broken down some common types of debt below.

Personal loans

Personal loans are installment loans you can put toward almost any purchase. Common uses include home remodeling, paying off medical debt and wedding expenses. They’re typically unsecured, meaning you don’t need to provide collateral for your creditor to claim if you default. If you do fail to repay, however, you can expect your credit score to plummet.

Credit cards

Credit cards allow you access to a revolving line of credit. They usually have high interest rates and low monthly payment requirements, making them one of the hardest debts to pay back. Like personal loans, credit cards are usually unsecured. While secured credit cards exist, they usually require a cash deposit equal to the card’s credit limit at the time the card is opened.

Auto loans

An auto loan is almost always a secured loan, meaning collateral (which is usually the vehicle you’re buying) backs the debt. So, if you default on a car loan, your creditor can repossess the vehicle to cover the outstanding debt. Auto loans are typically installment loans, where you pay your creditor over the course of several months or years until you’ve paid in full.

Mortgages

A home loan is another type of secured debt, which means the creditor can foreclose on the home if you can’t make the agreed-upon payments. Mortgages account for the majority of the nation’s household debt, according to the Federal Reserve.

What creditors look for in a debtor

Before lending money, a creditor evaluates the likelihood that a debtor will pay back the debt. To do this, they conduct a thorough review of the potential borrower’s finances. This often includes getting a copy of the debtor’s credit report and evaluating factors such as the debtor’s:

• Credit score
• Employment history
• Income
• Debt-to-income ratio
• Payment history on other debts
• Bankruptcies and defaulted loans

High-risk debtors commonly encounter higher interest rates, lower loan limits and outright loan denial.

» MORE: How to get a personal loan with bad credit

Legal and financial consequences for debtors

The consequences for not paying off your debts vary by loan type. What should you expect if you’re unable to pay your debts? And what can you do about it?

Debtors in bankruptcy

Bankruptcy is a legal process that allows debtors to create a payment plan or liquify their assets to pay off what they owe. While it can be a good move in some situations and stops collection efforts, filing for bankruptcy can impact your credit score and may not include all your debts.

Bankruptcy cases are handled in federal courts, and you should consult with an attorney before filing a petition with a bankruptcy court. Because of this, you’ll also need to weigh the cost of legal fees associated with hiring an attorney.

Penalties and consequences

Not paying your secured debts typically leads to your collateral — such as your home or vehicle — being repossessed.

But what happens if you fail to pay unsecured debt? Can you go to jail for not paying a debt? Technically, no. If you don’t repay a consumer debt, you likely won’t face jail time — debtors’ prisons are a thing of the past. However, failing to pay a debt means it’s possible a creditor can sue you and you have to go to court. If you don’t show up for your court date, you could be arrested for contempt of court.

Your creditors may refer your account to a third-party debt collection agency, who will contact you via methods such as phone or mail to remind you of your outstanding debt and request payment.

In some situations, your debt collector may have court-ordered permission to take money directly from your paycheck to pay it toward what you owe, in a procedure known as wage garnishment.

You can also expect your credit score to take a major hit if you don’t pay your debts. This can make it difficult for you to be approved for loans in the future, or at least ones with low interest rates.

Debtor rights and protections

There are laws in place extending rights for debtors. Many of these laws focus on fair debt collection practices and lender’s responsibilities for fully disclosing important loan information, such as the Truth in Lending Act (TILA) and the Dodd-Frank Wall Street Reform and Consumer Protection Act.

“Every state or jurisdiction will have its own laws regulating lending, especially for consumer loans. For example, such a law may limit the maximum amount a lender can charge a borrower for interest,” explained attorney Nathan J. Brelsford of Azeros Legal, a firm in Phoenix that helps clients facing bankruptcy.

“These acts give the Consumer Financial Protection Bureau (CFPB) the authority to oversee lenders and make sure they're treating borrowers fairly. The CFPB can take action against lenders if they find that they're engaging in unfair, deceptive or abusive practices.”

How to be a responsible debtor

Before taking on debt, evaluate your current financial situation, including income, expenses and existing debts. This can help you ensure you can comfortably manage the new debt payments. Also, fully consider the purpose of the debt and whether it’s necessary and aligns with your long-term financial goals.

Taking on debt is a big decision, but the good news is you can successfully manage your debt with responsible habits.

Create a budget

Develop a comprehensive budget so you can track your income and expenses, ensuring you’re allocating enough funds to meet your debt obligations each month.

Make payments on time

Paying your debts on time not only helps you avoid late fees but also lessens the chance of a negative impact on your credit score. You can set reminders or automate payments for even easier payment management.

Avoid overborrowing

Borrow only what you genuinely need and can comfortably afford to repay. Avoid taking on excessive debt, which only leads to financial stress and difficulty maintaining payments.

Communicate with creditors

If you find yourself facing financial difficulties, be proactive and communicate with your creditors. They may offer temporary solutions or alternative payment plans so you can stay on track and avoid default.

Monitor your credit score

Regularly check your credit report and credit score. Being aware of your credit standing allows you to address any errors and work toward improving your creditworthiness, which may lead to better borrowing opportunities in the future.

» MORE: Good debt vs. bad debt

Bottom line

When you borrow money, you become a debtor — that means you’re indebted to the creditor you borrow from. There are protections in place for debtors, but understanding all the terms of a loan before signing helps you avoid taking on a debt you can’t handle.

If you find yourself defaulting on a debt, there are solutions, such as consolidating your debt into a lower-interest personal loan or seeking credit counseling and negotiating with creditors for different loan terms.