What is 'Unencumbered'
Unencumbered refers to an asset or property that is free and clear of any encumbrances, such as creditor claims or liens. An unencumbered asset is much easier to sell or transfer than one with an encumbrance. Examples of typical unencumbered assets are a house without an associated mortgage or other lien, a car on which the automobile loan has been paid off, or stocks purchased in a cash account.
BREAKING DOWN 'Unencumbered'Creditors do not have any claims to assets that are unencumbered, as there are no associated debts relating specifically to the assets. This results in these assets being the full property of the person, or persons, listed as the owners in an official capacity, such as on a title or deed. Unencumbered assets are not listed as collateral on any debt, and are not subject to competing claims, such as past due property taxes.
For the majority of consumers, especially young couples and recent graduates, high-value assets such as real estate and cars are unlikely to be unencumbered. This is because these purchases are often financed, leading to the acquisition of debt, with the asset as collateral. Over time, as the mortgage or car loan is paid off, these assets become unencumbered. A title search is a key part of the due diligence process for a buyer of real estate or a previously owned car, to confirm that the asset is indeed unencumbered or if it has outstanding liens.
Sale of Assets
Unencumbered assets are simpler to transfer, as the sale only has to be approved by the property owner, acting as the seller, and the party interested in purchasing the property, acting as the buyer. Further, there will be no predetermined required sale price, allowing the price to be set at the seller’s discretion.
Encumbered assets can be sold, but the sale process requires approval by both of the buyer and seller, as well as any other entity that has a claim to the asset, such as the bank that issued a loan in which the asset functions as collateral. This can lead to minimum sales price requirements, often in an amount equal to or above the collateralized debt amount against the property in question. This allows the debt to be effectively paid off as part of the sales transaction.
Assets and Bankruptcy
In most bankruptcy proceedings involving liquidations, encumbered assets are first considered the property of those holding rights to the property through the encumbrance, allowing the institution to recoup some of the losses through the acquisition, and possible later sale, of the assets in question.
In some cases, unencumbered assets do not have a predetermined owner if the assets are liquidated in bankruptcy. This allows the value of any liquidated unencumbered assets to be distributed to creditors who extended unsecured credit.