Unsecured Debt

Unsecured debt is a loan or financial obligation that is not backed by specific collateral. If the borrower defaults, the unsecured lender has no specific asset to seize — they must file a general creditor claim in bankruptcy and share recovery with other unsecured creditors based on whatever is left after secured lenders are paid. Because of this elevated risk, unsecured debt typically carries higher interest rates than secured debt and may be subject to stricter covenants or subordination agreements.

In M&A capital structures, unsecured debt appears in several forms. Seller notes are the most common unsecured debt in SMB acquisitions — the seller effectively loans part of the purchase price back to the buyer, with repayment scheduled over two to five years at a negotiated interest rate (typically 5–8%). Mezzanine debt (in larger transactions) is unsecured subordinated debt that fills the gap between senior secured debt and equity. High-yield bonds (in public markets) are unsecured debt issued by leveraged companies, trading on the open market, and carrying interest rates commensurate with default risk.

The priority waterfall in a distressed scenario is critical for unsecured debt holders. Senior secured lenders are repaid first from asset liquidation. After all secured claims are satisfied, unsecured creditors share equally in any remaining assets. For a SMB with $5M in secured debt and $1M in seller notes, if the business liquidates for $4M, the secured lenders recover $4M and the seller note holder receives nothing — despite their note having three years left to run.

Intercreditor agreements govern the relationship between secured and unsecured lenders, specifying conditions under which the unsecured holder can receive payments, take enforcement actions, or participate in restructuring discussions. Seller notes that lack intercreditor protections are often blocked from receiving payment during periods when the business is in covenant default with the senior lender.