When some people swear with a cash-only lifestyle, the truth is credit is inevitable at some point in their lifetime. Could be you are faced by an emergency that requires immediate financing and here is where a personal loan comes in handy. Also, you could be having a capital intensive project and you are unable to raise a 100% capital, then a credit facility at this point is inevitable.
When considering your credit option, you might have to decide between a secured or unsecured loan.
What is a Secured Loan?
A secured personal loan is one that is backed by collateral. This is where you take a loan against your asset or property. The most common types of secured loans are mortgage and car loan. In these types of loans, failure to honor your monthly installment calls for seizing the security and in some cases it may go to an extent of disposing of the asset so as to recover the outstanding loan.
Here are kind of assets that you can use to secure your loan
- Real estate properties
- Bank Account (Savings Account, CDs and Money Market Account)
- Motor Vehicle
- Stocks, Mutual Funds or Bond Investment
- Insurance policies
- High end collectibles such as precious metal etc
Characteristics of a Secured Loan
Require Security β A secured personal loan must be backed by a security. You are expected to attach a security to the loan which minimizes the risk on the part of the lender. On the other hand, it is detrimental to the borrower because you risk losing your property in the event you default on paying the loan.
Easier to Qualify β Secured loans are less risky for the lender because they can take up your property and recover the defaulted loan from it. The attached security gives the lender the confidence of advancing money to the borrower as they feel that their money is secure since they can recover from the provided security.
Cheaper than other loans β Because secured loans are less risky for the lenders, they often charge low interest rates than other types of loans. Offering security for your personal loan is one way to reduce the overall cost of your loan.
Higher Borrowing Limits β Lenders are willing to advance as much as you want, provided you have the ability to pay the monthly installments. The security gives them the confidence to lend a huge sum of money as they are covered by the security attached. In case you default on the loan they repossess the property and recover the outstanding loan amount.
What is an Unsecured Loan?
An unsecured personal loan is a loan that is not backed by collateral. So, if you donβt pay the loan the lender stands to lose all of the money they lend to you. For this reason, unsecured loans are more riskier for the lender which makes them more expensive in terms of the interest charged.
Characteristics ofΒ an unsecured loans
No Collateral β These loans are not backed by any security. Once you meet the lenderβs requirements the loan is advanced without attaching any property on it. Due to this reason the loans are risky on the part of the lender.
Tough to Qualify β Given that these loans are high risk loans, lenders put stringent rules which lock out many borrowers. They do thorough appraisal just to ensure they lend to a person who is able to repay back the loan.
High Interest Rates β Since the lender doesnβt have a way of recovering their money upon default they charge high interest rate
Smaller Amounts β Unlike the secured personal loans unsecured loans have smaller loan approval rates. This is because lenders are hesitant to lend money which they are not sure how theyβll recover in case of default.
Final Thought
The decision on whether to apply for a secured or unsecured loan depends on the situation at hand. With the information above, I am sure you are at a better place to evaluate the loan that fits you best.
