A debtor is an entity that owes money. In most cases, a debtor will be an individual, a business, or an organization. The title of “debtor” can be interchangeable with “borrower” or “issuer,” depending on the type of transaction that occurs. With loans, the debtor is referred to as a borrower, while with securities, the debtor is called the issuer. Lastly, you can become a debtor if you file for bankruptcy (other than Chapter 7).
Examples of Signing Up for the Role of Debtor
Three scenarios are listed below to clarify what the role of a debtor entails. One follows a cash advance loan, the other with a bond, and the last one with voluntary bankruptcy:
- Let’s say you take out a cash advance loan for $1000 from a financial institution. Once you sign the loan agreement and take the funds (regardless of how quickly you use them), you will be in debt for that $1000 loan, along with any interest or fees that are a part of the contract. As the borrower, it is up to you to repay the total owed amount on the agreed repayment terms.
- In this case, let’s say that you have a startup and use bonds to raise money. An investor comes in and purchases a $25,000 bond. You are now the bond’s issuer, and the investor is the bondholder. The bond’s maturity date is when you will have to pay the bondholder the $25,000. However, that is not the only cost; while the bond reaches maturity, you will have to pay periodic interest (interest amount and frequency will depend on the specific agreement).
- If you file for Chapter 11 or 13 bankruptcy, you will be continuing the role of a debtor with potential adjustments, and in some cases, relief. With these adjustments in place, you will need to continue paying your debts. Keep in mind that some payments are not discharged even with a Chapter 7 bankruptcy, such as child support, alimony, and student loans.
A Debtor’s Role Once They Enter an Agreement
Once a debtor enters an agreement, they will be legally obligated to repay the principal and any other incurred costs through the repayment period. If a debtor does not repay the entirety or portion of the debt, financial institutions have the right to take steps to collect any outstanding balance. Most lenders will use resources such as debt collection agencies, pursue claiming your collateral, and even take the debtor to court to pursue a repayment plan.
Roles When Co-signing and Co-borrowing on a Loan?
There are important differences when comparing a co-signer with a co-borrower, these differences also determine the assigned role of debtor:
- When a person cosigns for a loan, they only take on the role of the debtor if the primary borrower is unable to or chooses not to make their loan payments.
- While a co-borrower shares the responsibility of a primary borrower with someone else. In this case, they will be responsible for monthly payments jointly. If one co-borrower does not make payments, the debt will fall onto the other co-borrower.
What Protection Is Available for Debtors?
The Federal Government has established the CFPB (Consumer Financial Protection Bureau). This agency creates laws and regulations to protect debtors from unfair, deceptive, and abusive tactic—regardless of a debtor’s standing with repayment.
Additionally, although debtors can be summoned to court, they cannot be jailed for unpaid loans, bonds, credit cards, medical debt, etc. The only debt that can mean imprisonment is outstanding child support, tax evasion, and tax fraud.
When Are You Not Considered in Debt?
Anytime you pay for a product or service upfront, whether through electronic funds or cash, you will not be in debt. Paying upfront for purchases that are considered non-essential while using credit for necessities is one way to keep yourself out of unnecessary debt.
Can Owed Debt Be Used as a Source of Income
Let’s say that you are waiting to get a debt repaid and are asked about your income. In that case, you may be wondering whether you can add that Outstanding debt as a valid income source, as you expect it to be paid back to you. Unfortunately, owed debt cannot be used as a source of income, regardless of the amount of debt or the number of borrowers. However, any interest payments or fees paid to you can be shown as an income source.
Although debtors cannot be used as a source of income outright, creditors can use them when showing assets as an individual or company.
In Conclusion
A debtor can be an individual or business that owes money to a creditor. Once that money and other agreed-upon payments are made in full, the debtor is discharged from their role. There are practices and regulations in place to protect both creditors and debtors, regardless of how large or small a debt is.
References:
Investopedia—Debtor Definition
Chapter 7 – Bankruptcy Basics | United States Courts