If you need money, you can always take a loan from a known person or from a bank. There are generally two types of loans – secured and unsecured. In this article, we take a look at what a secured loan is.
Secured vs. Unsecured loans
A secured loan is a loan backed by or taken against collateral. Whereas, an unsecured loan is one where there is no collateral. For instance, you borrow $500 from a friend. He loans you the money just like that without asking anything in return. This is an unsecured loan. Supposing he asks you to give him collateral, like your Rolex watch. Then the watch is collateral against which the loan is given. This makes the loan secured. If you do not repay the loan, your friend can sell your watch and recover the amount he loaned to you with the interest.
An unsecured loan is, as the name suggests, not secured against collateral. Consequently, it would carry a higher interest rate as compared to secured loans. If you have bad credit or don’t have anything as collateral, then you would find it difficult to get a secured loan. In such cases, you can choose an unsecured loan. But you have to pay much more interest for such unsecured loans.
Types of Secured loans
Following are some the common types of secured loans that take collateral:
- Mortgages: A mortgage is a secured loan given to buy a home. The home is the collateral against which you are given the loan. Till you repay the loan, the ownership would remain with the lender, which makes the loan highly secured.
- Vehicle loans: If you buy a car or a motorcycle and take a loan for it, that would be a secured loan. The ownership of the vehicle would remain with the lender and transferred to you only after you finish paying off the loan.
- Secured credit card: This is a type of secured loan, where you are asked to pay a deposit against the credit limit.
- Secured personal loans: Personal loans can be given against some collateral. It could be a property you own, your vehicle or any item of value to secure the loan.
Benefits of secured loans
Secured loans have benefits for both borrower and lender.
For a borrower, since there is collateral, he would get the loan at a lesser interest rate. The lender has the collateral as a backup, so the loan term or duration would be for a longer period. A longer period and lesser interest mean less money to be paid every month. This is highly beneficial for borrowers. The timely monthly payment would also help to improve your credit score. In unsecured loans, interest rates would be high and loan term shorter leading to more money to be paid every month.
The lender has collateral or security, which makes his loan secured. If the borrower defaults, he can sell the collateral any time to recover his loan. This is the main benefit for lenders.
Disadvantages of secured loans
The only disadvantage is that a valuable asset belonging to you is with the lender. Your home or car is not yours, you will get ownership of it only after clearing the loan. If you are unable to make your monthly payments for any reason, you risk losing the collateral. But the benefits of secured loans outweigh the disadvantages.
A secured loan is one, which is secured or backed against collateral like a home or a car loan. These loans are beneficial for both borrowers and lenders.