Secured vs. Unsecured Loans
In today’s economy more and more Australians need to obtain loans for various reasons. The only problem many borrowers run into is that there are so many types of loans that it can become overwhelming trying to learn the differences and knowing the best type to choose. Half the battle of understanding loan types is learning the differences between secured and unsecured loans. The following article will explain the differences between the two types, discuss the pros and cons of each, and give you some examples of both kinds of loans.
What is a Secured Loan?
A secured loan is an asset-backed loan that is protected by collateral or an asset of some kind. In most cases the item being purchased, such as a car or home, is used as collateral for the loan. In this case, the lender simply places a lien on the deed or title for the item. The bank or finance company holds the title or deed until the loan is paid in full, including the applicable fees and interest. In other cases, the borrower can use things such as stocks, bonds, or even personal property as collateral to secure a loan.
In most cases, secured loans are the easiest way to borrow large amounts of money. The simple truth is that a lender is less likely to loan a large amount of money with no assurance that the loan is going to be repaid. By placing your house or other piece of property on the line, it is guarantee enough for the lender that you are serious about repaying the loan.
The best part is that secured loans are not only for making new purchases. Secured loans also include loan types such as home equity lines of credit and home equity loans. These loans are based on the amount of equity you currently have in your home. To determine this number you find the current market value of the home and subtract the amount you still owe. In the event that you stop making payments on these loan types, your home is considered the collateral and you can face losing it.
A secured loan generally offers lower interest rates, longer repayment terms, and higher borrowing amounts than unsecured loans. As the name implies, secured loans provide “security” to the lender that you will repay the loan according to the agreed upon conditions and terms. Just remember that in the event you are unable to repay the secured loan, the lender will claim the collateral as theirs and sell it to pay the loan off.
What is an Unsecured Loan?
Unsecured loans, on the other hand, are the complete opposite of secured loans. With an unsecured loan the lender is not asking for collateral or security, thus this is a higher risk type of loan for the lender. Unsecured loans can include types such as education loans, personal loans, and even credit cards. This type of loan is more risky for lenders, as they have no asset to recover in the case of nonpayment. Hence, lenders attempt to safeguard themselves in other ways. One way they do this is by asking for higher fees and interest rates on the loan.
Applying for an unsecured loan can be disappointing for some people. If you have defaulted on loan payments in the past, you probably will have a hard time finding a lender who will issue you an unsecured loan. When applying for an unsecured loan, the lender has much more stringent criteria that borrowers must meet. The first thing the lender will check is if you have the financial resources to repay the loan or not. Next, you will be judged on what they call the 5 C’s of credit. The 5 C’s are conditions, character, collateral, capacity, and capital. Each of these will allow the lender to assess the borrower’s creditworthiness.
Secured Loans – Pros and Cons
There are pros and cons with each loan type; first we will discuss the pros and cons of secured loans.
Secured loans can be issued for much higher amounts than unsecured loans. Depending on your individual situation, secured loans can go as high as $250,000 and more. If your credit history is less-than-satisfactory, you may not have any other choice because many lenders want collateral from borrowers with a bad credit history. The reason for this is when you use bonds, stocks, or property as a security, the lender knows the loan will be repaid one way or another.
Another pro associated with secured loans is that the repayment periods can span a longer amount of time. Also, the monthly payments are fixed, so it should be easier to budget the payment each month. The cons associated with secured loans are obvious – if you default on the loan payments, you lose the collateral placed on the loan. In most cases, this means the borrower either loses their car or their home.
Unsecured Loans – Pros and Cons
If you are looking for an easy way to get cash, unsecured personal loans can be a great option. These loans offer great flexibility in terms of repayment periods, with most borrowers opting for one to five years of payments. The other thing that is great about unsecured loans is that if you default on payments, you have no collateral to lose.
The downfall of using unsecured loans is that they tend to offer higher-than-normal interest rates and other fees. This is due to the fact that the borrower is giving you money with no collateral down. In other words, if you default on the loan, the lender has no way to recoup their losses other than turning you over to a collections agency.
Types of Secured Loans
As we discussed, secured loans are those backed by collateral. The following loan types are available if you are looking for a secured loan:
• Mortgage or Home Loan
• Auto Loan
• Home Equity Line of Credit
• Some Personal Loans
Types of Unsecured Loans
Unsecured loans are those that do not have a security or collateral backing them. There are several types of unsecured loans, and they include the following types:
• Most Personal Loans
• Student Loans
• Personal Lines of Credit
• Credit Cards
• Some Home Improvement Loans
In conclusion, there are many types of loans. The type you can obtain will depend on your personal situation, including your income, needs, and whether or not there is any collateral being placed down. The key to obtaining a loan is educating yourself on the various types and checking around with different lenders. The truth is that not every lender offers the same rates and fees. Therefore, it is in your best interest to shop around and choose the lender that fits your needs the best.