Seeking a personal loan? Did you know you have at least two options regarding your potential loan? We compare secured vs unsecured loan options. When defining the difference, a secured loan is a collateral-backed term. This entails that in the event you fail to repay your loan; there is some form of surety that can be repossessed. This is to cover any loss on the loan and minimize risk when offered by the lender. The opposite is said for an unsecured personal loan, where the collateral is not required to qualify. Though with both loans, each may have benefits and disadvantages. However, which loan option is best for you? With so many potential loan options out there, it can be challenging to commit to one particular loan option. Understanding the difference between secured and unsecured loans is the first step to the best loan option.
Secured loans
Why choose a secured loan? Secured loans are namely used for those in need of larger funds. This could be for a home loan or vehicle finances. Credit providers will prefer individuals who offer some form of surety. As with secured loans, they are less of a risk to lenders. Those who borrow any amount through a secured loan can expect the interest rate to be lower than that of an unsecured loan. You can get rates to start as low as 3 to 6 percent for those with good credit and possibly up to 36% depending on how poor their credit rating is.
Types of secured loan options
Credit cards
A collateral cash deposit from the credit card holder backs a secured credit card. This gives the credit provider certainty and less risk if the cardholder fails to repay them.
Home loans
As with any home loan, the asset required is the home itself as collateral. If the borrower fails to honour the loan repayment plan, the house is listed as foreclosed and forfeited to the credit provider.
Vehicle Finance
Similar to a home loan, vehicle finance is for vehicles such as cars, trucks, motorcycles, and other modes of transport. Where the vehicle is used as collateral, failure to repay will result in the vehicle being repossessed and sold by the lender to cover any loss.
Pros of a secured loan
The requirements of a secured loan, where an asset is used as collateral, are less strict about qualifying for than an unsecured loan. With this secured loan, you can expect lower interest rates. The potential loan amount is higher than that of an unsecured loan.
Cons of a secured loan
There is risk associated with a secured loan, namely the repossession of collateral in the event of a default in repayment. In addition to this, those who fail to repay run the risk of damaging their credit rating.
Unsecured loans
Unlike a secured loan, there is no requirement to use collateral for this type of loan. However, the lender will assess your credit rating. Consequentially, failure to repay may result in damage to your credit score. In addition, the debt amount may be sent to a collection agency once the loan terms are breached.
Types of unsecured loans
Personal loan
A loan, as such, is paid in monthly instalments over a fixed period. The instalments are in equal amounts over the loan term.
Student loan
A loan as such is for tertiary education for students; those with little to no credit history or asset to secure a loan make use of such a loan.
Revolving loan
This loan is where the borrower may use and repay lent amounts repeatedly. This is through credit cards and personal lines of credit.
Pros of an unsecured loan
Unsecured loans make use of no collateral, meaning there is no risk of repossession. This type of loan will have lower loan amount limits.
Cons of an unsecured loan
The downside to an unsecured loan will be higher interest rates. If you fail to repay, you risk damaging your credit rating. In addition, this will significantly reduce the chances of future loans.
Where to get a secured and unsecured loan?
Several credit providers and financial institutions, namely banks, online lenders, and credit unions, offer varying secured and unsecured loans.
What are the different factors between secured vs unsecured loans?
Unsecured and secured loan options will significantly influence your chance of approval, as well as the possible interest rate or the need for collateral.
Collateral
The primary factor of a secured or unsecured loan is the use of collateral. A secured loan will use collateral. However, if you fail to repay the asset, the collateral may be repossessed. For an unsecured loan, no collateral is required. However, there is a risk that if one fails to make their repayments, they risk damaging their creditworthiness for future loans.
Interest rate
Those who use a secured loan have a higher chance of approval for a loan, as lenders deem them less of a risk in the event they fail to repay. In addition, collateral is repossessed to cover any potential loss to the lender. Though through a secured loan, you can expect a lower interest rate. Though for an unsecured loan, to attain a lower interest rate, you will need to have a credit score that is higher than 670.
Borrowing limit
The loan amounts differ in the case of a secured loan, where the potential loan amount or limit is higher than that of an unsecured loan.
Purpose and limitations of secured vs unsecured loans
With an unsecured loan, there are limitations on how the amount is spent. Namely, to not be used for anything illegal, used to gamble, or to pay off student debt. Apart from this, the amount can be spent relatively freely. On the other hand, secured loans have a specified purpose, such as vehicle finance. Usually, secured loans are more limited.
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How to qualify for a secured vs unsecured loan
Lenders may not offer any loans to those with bad credit. Although by making use of a secured loan, the requirements for your potential loan may be lower. There is a hard credit check for unsecured loans to assess your ability to repay the loan. Additionally, this will solely be based on your creditworthiness or credit rating.
Which is the best loan option?
As with most loans depending on your financial goals and your financial stance, these factors influence your potential loan options. The best choice between loans is in the case of a secured loan where you are confident that you can repay or have bad credit. An unsecured loan is for those who do not wish to use collateral; though interest rates are higher, they may be offered competitive interest rates if they possess a good credit rating.
The bottom line
Both secured and unsecured personal loans have distinctive benefits and drawbacks. Secured personal loans often come with lower interest rates, but your collateral can be seized if you default. With an unsecured personal loan, a lender can’t take your collateral without a court’s permission. But you may have to pay a higher interest rate.
Whether you take out a secured or unsecured personal loan, shop around with multiple lenders and compare their rates and fees to ensure you get the best rates for your financial need.
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