What is Debt?

If you’ve ever taken out a loan or used a credit card to cover a car repair, you’ve created debt. Debt is money you borrow and agree to pay back, usually with interest. Debt can be a useful tool, and if you handle it responsibly, it could help you build a positive credit history. But if you don’t manage it well, debt can make it harder to get a loan or credit card in the future and may put a strain on your budget.

Knowing how debt works — and the responsibility that comes with it — can help you make smart financial choices. Let’s go over different types of debt and how to handle it wisely, so you can stay on top of your finances and reach your financial goals.

What's the definition of debt?

Debt is an amount of money that a person has borrowed and is expected to repay, usually with interest.¹

Debt that a person owes is often called “consumer debt” or “personal debt.” Consumer debt may be used to cover unexpected emergencies like a leaking pipe or to make major purchases like a new car a little more manageable. Using a credit card for convenience or to make ends meet between paychecks is also a type of consumer debt.

How does debt work?

Every time you borrow money — even from a friend or family member — you create debt. Lenders, banks and credit unions usually have specific requirements for lending money. Since lenders can’t be certain if a borrower will repay their debt, they typically rely on an applicant’s credit history and financial information to make informed decisions about approval, the loan amount or credit limit and the interest rate.

Each loan or credit card comes with an interest rate, which is the cost of borrowing money. Interest is an amount, expressed as a percentage, that the lender applies to the full borrowed or owed amount (the principal for a loan or the balance for a credit card). An interest rate can be fixed, meaning it doesn’t change, or variable, meaning it may change with the market. The interest rate is used to calculate how much more you will be paying the lender in addition to paying back the loan principal or the credit card balance.

Each lender prioritizes different aspects of your financial background to decide whether to approve your application, what type of loan you qualify for, its interest rate and the amount of the loan or credit limit it will offer you. OneMain works with a wide range of credit scores and considers your whole financial picture to help you find a loan that’s right for you.

If you meet the lender’s requirements, they will offer you a loan or approve your application for a credit card. Before you can receive funds or your new credit card, you must agree to repay the debt according to a specific set of terms. If you don’t repay your debt as agreed, you may face financial and legal consequences.

Let’s take a closer look at the different types of debt and how they work.

What are the types of debt?

Consumer debt falls into one of two categories: installment debt or revolving debt. The main difference between them is how you borrow and repay the money.

What is installment debt?

When you take on installment debt, you borrow a fixed lump sum of money, called the principal. You are charged interest on that principal, and the interest is applied to the balance of your loan. You then pay off the principal and interest in regular installments until the loan balance is zero.

Installment debt works best when you know exactly how much money you need. Borrowing more than you think you’ll use can cause you to pay more in interest and could affect your ability to qualify for other forms of credit.

Some of the more common forms of installment debt are personal loans, debt consolidation loans, mortgages, auto loans and student loans. While some types of installment loans are designed for a specific purpose, such as buying a car or paying for college, personal loans may be used for almost anything. For example, if you’re moving into a new home, you may want to look into a moving loan, which is a personal loan the borrower uses to cover expenses like a rental truck or movers.

What is revolving debt?

Revolving debt is debt that results from using a line of credit that you borrow from as needed, up to your approved credit limit. It’s called revolving debt because when you repay your debt, that portion of your available credit is restored, and you can borrow again.

Credit cards, personal lines of credit and home equity lines of credit (HELOCs) are common examples of revolving debt.

With revolving debt, you don’t have to repay the full balance every month, but you must at least make the minimum monthly payment by the payment due date to keep your account in good standing.

For credit cards, there may also be a grace period between the end of the billing period and the payment due date. During the grace period, that month’s purchases won’t accrue interest as long as you paid your balance in full during the previous billing cycle.

It’s usually best to pay off the entire balance every month if you can. By paying the entire balance by the due date, you avoid having to pay interest. If you pay less than the full balance, the amount you don’t repay will carry over to the next month. The carried-over balance and your monthly payment will then start to include interest. Under these circumstances, you also lose your grace period

To give you a better idea of how revolving debt works, let’s look at an example. Suppose a credit card issuer offers you a credit card with a $1,000 limit. You can use your card for $100 worth of groceries, a $7 latte and a $50 pair of shoes in one weekend — a total of $157 — and still have $843 available to spend on your card.

If you pay the $157 in full before the payment due date and you aren’t carrying a balance from the previous month, you won’t owe interest. If you pay less than the full balance, you’ll owe interest on the rest and lose your grace period the next month.

What is secured vs. unsecured debt?

Both installment and revolving debt may be either secured or unsecured. Secured debt requires you to provide collateral, such as your car or another valuable item that you pledge to back the loan or credit limit. With secured debt, the lender could take possession of the collateral if you default on the loan. However, secured debt often comes with a lower annual percentage rate (APR) than an unsecured loan — and you may be able to boost your borrowing power, too.

Once a lender approves your application and you agree to take the loan, they place what’s called a “lien” on the collateral you’ve used to secure the loan. A lien gives the lender the legal right to claim the property used as collateral and potentially sell it if the borrower doesn’t repay the loan.

Unsecured debt don’t require collateral, but to qualify for an unsecured loan, you may need a stronger credit history and less total debt. A secured loan could be a good option if you have less favorable credit. OneMain works with borrowers with a wide range of credit scores to help you find a loan that works for you.

What are the pros and cons of debt?

Debt can help you access the funds you need or ease financial stress, and if handled well, help you build a better credit history. However, mismanaging debt can have harmful consequences on your credit.

Pros of debt

Used responsibly, debt may offer many benefits.

• Make larger expenses more manageable: Borrowing can help you spread out certain costs, like continuing your education or buying a home, over time when paying up front isn’t feasible.
• Potentially build your credit score: Well-managed debt can help build your credit score if you’re careful to make on-time payments and keep your credit utilization low.
• Create financial flexibility: Debt can help you handle unexpected household emergencies or expenses such as car repairs, funeral costs or medical bills if you don’t have the money on hand to cover these events.

Cons of debt

Mismanaged debt will cause a variety of long-lasting problems, so it’s important to use it wisely.

• Could harm your credit score if you miss payments: Missed payments or high balances could impact your credit score and make it harder for you to qualify for loans and credit cards in the future.
• Interest costs could be high: Because unpaid debt is subject to accruing interest, using credit instead of cash will cost you more.
• Too much debt could cause stress: Unmanageable debt can trigger emotional stress for individuals, couples and families that may spill over into other parts of your life.
• Debt payments could become difficult to manage: Changes in income or expenses could make keeping up with payments overwhelming — even if they weren’t before.

How can you manage debt?

Managing debt starts with knowing how much you can afford to borrow and having a plan to pay it back. If you take on too much debt, keeping up with payments can be tough and may cause financial stress. Here’s how to figure out how much debt you can handle and how to pay it off.

Step 1: Know what you can afford

Before borrowing money or using credit, take a look at your income and expenses. Ask yourself:

• How much do I spend each month on housing, food and other essentials? Check whether you would still have enough money left over to cover necessary expenses after making your monthly loan payment or paying your credit card bill.
• How much do I already owe on credit cards or loans? If you already have high balances, consider the financial impact of taking on even more debt.
• Can I afford another monthly payment without struggling to pay my other bills? Consider how much you could reasonably afford to pay each month without putting a significant strain on your budget.

A common guideline is to keep your debt-to-income ratio — the percentage of your gross monthly income spent on debt payments — below 36% of your gross monthly income. (Your gross monthly income is how much money you earn before taxes.) This helps you manage debt without it taking over your budget.²

Step 2: Create a plan to pay off debt

If you already have some debt and are concerned about it becoming unmanageable, making a plan to pay it off could help you stay on track. Start by listing everything you owe, including the balances, interest rates, and minimum payments for each debt. Then choose a repayment strategy. Two common ones are the debt snowball method and the debt avalanche method:

Debt snowball method

The debt snowball method prioritizes paying off the smallest debts first. For this approach, you put as much money as you can toward your smallest debt and continue making minimum payments for your other debts. After you’ve repaid the smallest debt, put the funds you’ve freed up toward the next smallest debt and so on.

With this tactic, you could make progress quickly and improve your financial confidence. After all, paying off a whole credit card balance or loan is a major accomplishment. However, you may pay more interest on the remaining outstanding balances using this method than you would with a different approach.

Debt avalanche method

The debt avalanche method focuses on paying off balances with the highest interest rates first. After you’ve repaid your highest-interest debt, you can move on to the one with the next highest interest rate. As with the debt snowball method, you must still pay the required minimum amount on all your other debts, too. Unlike the debt snowball method, this technique saves you money in interest, but you may not see results right away.

Debt consolidation

If you’re juggling multiple credit card balances or loan payments and having a hard time keeping up with those bills, don’t panic. A debt consolidation loan may help you get back on track. You can use a debt consolidation loan to pay off your other balances, turning multiple monthly payments into a single monthly payment and simplifying your debt payoff journey.

Ideally, a debt consolidation loan should make your debt fit your financial situation better. At OneMain, we work with you one-on-one to understand your needs and help you decide if a debt consolidation loan fits your budget.

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When managed responsibly, debt can be a helpful tool

Debt is a part of life for most people. What matters most is how you handle it. Debt could make it possible for you to buy a new car or plan a long-awaited family vacation, but it’s important to have a repayment plan before you take it on. A thoughtful approach to borrowing money could help you stay on track to achieving your money goals.

This article has been updated from a previous posting on May 15, 2025. Kim Gallagher contributed.

Sources

1 https://www.experian.com/blogs/ask-experian/what-is-debt/
2 https://www.investopedia.com/terms/t/twenty-eight-thirty-six-rule.asp

This article is for general education and informational purposes, without any express or implied warranty of any kind, including warranties of accuracy, completeness, or fitness for any purpose and is not intended to be and does not constitute financial, legal, tax, or any other advice. Parties (other than sponsored partners of OneMain Financial (OMF)) referenced in the article are not sponsors of, do not endorse, and are not otherwise affiliated with OMF.