Funded Debt
Definition:
Funded debt is a type of debt that is backed by a specific asset or collateral, such as a loan secured by a mortgage on a house. The asset is used as security for the debt, and if the borrower defaults, the lender can seize the asset and use it to recover their losses.
Types of Funded Debt:
- Mortgages: Loans secured by a mortgage on a house.
- Auto loans: Loans secured by a car.
- Secured credit cards: Credit cards that are secured by a deposit or collateral.
- Collateralized loans: Loans secured by other assets, such as machinery or inventory.
Key Features:
- Collateral: The debt is backed by a specific asset.
- Security: The asset is used as security for the debt.
- Secured: The debt is secured by a pledge of collateral.
- Liens: A lien is placed on the asset to secure the debt.
- Repossession: If the borrower defaults, the lender can repossess the asset.
Advantages:
- Lower interest rates: Funded debt typically has lower interest rates than unsecured debt.
- Lower risk: The collateral provides security for the debt, reducing the risk of default.
- Access to credit: Funded debt can help borrowers build their credit score.
Disadvantages:
- Higher fees: Some funded debt, such as mortgages, may have higher fees than unsecured debt.
- Less flexibility: The asset can be repossessed if the borrower defaults.
- Liens: Liens can affect the use of the asset.
Examples:
- A mortgage on a house is a funded debt. The house is the collateral for the debt.
- An auto loan is a funded debt. The car is the collateral for the debt.
- A secured credit card is a funded debt. The deposit is the collateral for the debt.
Conclusion:
Funded debt is a type of debt that is backed by collateral. It typically has lower interest rates than unsecured debt but also has higher fees and less flexibility.
FAQs
What is the difference between funded and unfunded debt?
Funded debt refers to long-term debt with a maturity of more than one year, like bonds or debentures. Unfunded debt, on the other hand, is short-term debt or obligations that must be paid within a year, like short-term loans or accounts payable.
What is funded and unfunded liabilities?
Funded liabilities are obligations for which assets have been set aside to meet future payments, like pension funds. Unfunded liabilities are obligations that do not have dedicated funds, meaning payments will come from future revenues.
What is the difference between funded debt and floating debt?
Funded debt is long-term, fixed-interest debt, while floating debt refers to short-term borrowing, often at variable interest rates, used to manage immediate financial needs.
Where is funded debt on a balance sheet?
Funded debt appears under the “long-term liabilities” section of the balance sheet, as it represents debt obligations that are due in more than one year.
What is floating debt?
Floating debt refers to short-term borrowing, often at variable interest rates, used to cover temporary cash flow shortages or to finance short-term business activities.
