Before you take out a personal loan, you should know that there are two main types of loans – secured and unsecured ones. Learn about the particularities of different types of personal loans before you apply for a loan. Knowing the differences between secured and unsecured loans will allow you to choose the best possible option for you.
Loans are sometimes necessary to finance individual projects and businesses. Of course, there is a wide variety of loans that can be classified based on their intent, type, repayment approach, way of getting it. In this article, we will expound the basics of secured and unsecured loans so that our readers would be able to meet an informed decision when it will come to applying for a loan. Depending on the way loans are secured by an assets, they can be classified in secured vs. unsecured. Let's discover more about that.
What are Secured or Unsecured Loans
The main element for classifying a loan into the secured or the unsecured category is the presence or absence of collateral. A lender needs something to hold on to ensure that he will be able to cover the loan amount in case the borrower defaults. Taking this into account, 2 types of loans can be differentiated:
Secured Loans are the loans that are secured by a collateral (an asset that will be sold by the lender in case the borrower will not honor his obligations in terms of repaying the loan).
Unsecured Loans, on the other hand, are not collateralized. In other words, an unsecured loan is the borrowed amount which does not have any form of security against a property owned - like a car to serve as collateral and give the lender their money back in case the customer defaults. In this type of loans, lenders find it more difficult to recoup their losses in case the borrower refuses to pay back. What is the alternative for the lender then? A higher interest rate, of course.
In practice, unsecured loans are the easiest ones to get. Unsecured loans are majorly short-term borrowing, and they can include:
- Payday loans.
- Loans issued by Credit Union.
- Installment loans.
Keep in Mind! Strikingly, it is very much different from a secured loan, and one of its advantages is that it could be less risky. Conversely, one of its demerits is that it has higher interest rates than secured loans.
The Purposes of Secured & Unsecured Loans
Generally, consumers commonly take loans to acquire some goods or services, to pay for their general living expenses, finance home purchases, or to consolidate multiple debts. Depending on the purpose for which we need loans, the financing institutions (banks, online lenders, credit unions, etc) developed and thought of several types of loans that are available on the market.
We'll focus more on consumer loans, as these are the loans that are mainly inquired by our clients.
Consumer loans can be any of the following:
- Students loans
- Personal loans
- Auto loans
- Payday loans.
How Does a Lender Choose if a Loan is Secured or Unsecured?
Needless to say, all types of consumer loans can be designed both as secured and unsecured. The general rule is that the obligation to have a collateral for a loan depends on:
- The Loan Amount - the higher the loan amount - the higher the probability that the lender will request a collateral. This is the classical example of mortgages. Loans of lesser value won't impact the lender as much as a loan of several hundreds of thousands of Dollars in case they won't be repaid. From this derived the second factor.
- The Risk Appetite of the Lender - there are lenders that can accept higher amounts of loans without a collateral as per their internal procedures and policies. This means that they are consciously accepting a higher level of risk. This is good for the consumers because it will allow them to borrow a greater amount without a collateral. But there's a drawback. A huge drawback. The higher the risk a lender is willing to accept, the higher the interest rate related to the loan will be required. So, in this case an unsecured loan will be more costly as a secured one.
Differences Between Secured & Unsecured Personal Loans
When getting a loan, it is highly critical that you understand the disparities between secured and unsecured loans. This is to ensure that you make the right decision and especially one which suits your demand.
Keep in Mind! A condition that differentiates secured and unsecured loan is the protection by an asset. However, this is not the only difference.
Particularities of Unsecured Loans
- It does not require a collateral.
- You can borrow between $1,000 and $5,000.
- It has a heavy reliance on your financial history – credit score, credit report, debt-to-income ratio, and income stability.
Particularities of Secured Loans
- It comes with the promise of a valuable item in the form of collateral.
- It considers the value of the borrower’s collateral.
- It allows the borrower to borrow more money with longer periods of repayment.
- It can be used as an alternative in case you do not pass a credit check.
Case Study - Personal Loans - They can be Both Secured and Unsecured
Let's have a closer look at the Personal Loans, as they can be found both in a secured and an unsecured version on the market.
Personal loans are generally the most flexible type within the consumer lending market. Mortgages, student loans, or car loans are uniquely suited for a purpose, but personal loans can be obtained for debt consolidation, credit building, vacations, and day-to-day expenses. The terms attributed to personal loans vary with their uses even though their length of time is always generally less than ten years, with a maximum cap amount of $100,000.
Basic Features of Personal Loans
Additionally, the following are the basic features of personal loans:
- Can be used for various purposes.
- They have affordable interest rates. Currently, the lowest interest rate you can get is 10.89% per annum.
- The method of repayment is simple.
- The process is fast.
- It requires lesser documentation.
- It is available for anyone.
- The range of loan amount is wide.
- It is versatile and available on a long tenure.
- It is collateral-free.
- It is convenient.
Depending on the lender, personal loans can be secured or unsecured. Moreover, personal loans are provided by banks and non-banking financial organizations to meet the financing needs of interested consumers. Ideally, a lender of personal loan gives it out at some interest rate to the customers and for a timeframe. Once the borrower gets the loan, he can use it for whatever he desires, without necessarily answerable to the lender about its usage.
Where to Get Personal Loans?
You can get secured personal loans from banks, online lenders, and Credit Unions.
Many people consider online secured loans the best path to the quickest homeowner loan you could get around. Relatedly, we have witnessed a massive explosion of the online secured loans on the Internet in the last 15 years. In this way, consumers can choose from many options.
Moreover, because the online lending market is one which operates within a close community, and prompts most lender/broker relationships to be developed, the most viable way of achieving success when searching for online loans is to hire a broker that combines reputation with professionalism.
Keep in Mind!One of the advantages of taking an online secured loan is because of the flexibility of leveraging a relationship with the lender, which is critically necessary, especially when the loan is to cater to bad credit.
The Final Insights
Finally, before applying for personal loans, be sure to have a direction about how the funds will meet or enhance your financial goals. After that, it is important to consider and weigh the advantages against the risks.
Essentially, you have to do due diligence and think about credit score, interest rate, terms and purpose of the loan before concluding on the choice.