Secured vs. Unsecured Loans: What We Need to Know
Emergencies happen. It could be a major roof leak that requires immediate repair. Sickness in the family. School fees. A necessary purchase. And so on. Bills can easily go on top of each other.
It’s really hard to deal with these situations when you don’t have a cash buffer. Sometimes, the only way to go is to borrow money. Lucky you are if you have friends and family willing to lend you some. Otherwise, your only option is to take a loan from a bank or a local lender.
Speaking of loans, there are two types of personal loans that you will likely encounter – secured and unsecured loans. What’s the difference? And which one is best for you?
Unsecured Loans
The opposite of secured loans – unsecured loans don’t involve a collateral. Meaning, you can have peace of mind because your property or asset remains with you, whatever happens. Getting your application to an unsecured loan approved suggests that the lender believes you are in a good financial disposition to repay your debt. They know just by looking at your credit history. If your credit score is between 700 and 850, you have greater chances of getting an unsecured loan.
Examples of unsecured loans include credit cards, student loans, and car loans.
What’s the risk? Unsecured loans are high-risk loans for the lenders because repayment completely rests on the borrower. Thus, this type of loan usually has high-interest rates than secured loans, which range from 5% to 36%. While bank and credit unions often have competitive rates, online lenders tend to have much lower rates.
Secured Loans
Sometimes, it’s hard to convince a lender that you are capable of paying back the money you borrowed. That’s why many lenders, particularly banks, require borrowers to attach a collateral in their loan. Title loans are a very good example of secured loans. When you apply for auto title loans online, you give the title of your vehicle to the lender as the collateral but you can still use your car. They are short-term loans. Generally, lenders give borrowers 30 days to repay their debt.
It’s important to note that having a car doesn’t guarantee that you will get approved for a secured loan. There has to be at least some equity in your vehicle or you have already paid previous loans you used to purchase it.
Other examples of secured loans are mortgages, home equity loans, secured credit cards, and boat and RV loans.
Secured loans tend to have lower interest rates than unsecured loans because the lender runs a smaller risk. They are also a good way to build your credit as long as you’re able to repay the loan on time.
What’s the risk? Well, the greatest risk is the possibility of losing your car or home in case you fail to follow the terms and conditions of the loan. By attaching your property as a collateral, you are giving the lender the right to sell it to get the payment for your loan.
So which one should you get?
The answer will depend on several factors. There will be times when you will find a secured loan the best option and there will be times that you will prefer an unsecured loan. Here are some important things to do when deciding between a secured and unsecured loan:
- Check your credit score. Your credit score largely determines the type of loan that’s most suitable for you. If you have a good credit rating, you may be able to obtain a loan from high-risk lenders. If you have a poor rating or just trying to establish your credit, a secured loan might be best for you.
- Determine how much you need. If you’re looking to borrow a large amount of money, your approval rate is much bigger if you attach a collateral to your loan. If you only need additional cash to be able to get through the bills, unsecured loans are a better option. Whichever you choose, always be mindful of the interest rates, the payment period, and your monthly dues.
- Plan ahead. Loans are financial obligations that could have negative consequences in case of non-payment. It is important to plan ahead before taking a loan. Determine if you really need one and how much you actually need. It can be tempting to get a bigger loan than what you actually planned when you get approved but of course, the higher the loanable amount is, the bigger the interest.
At this point, you should already have a better understanding of the two most common types of loans, their pros, and cons, as well as the major differences. The type of loan you should get depends on your financial circumstances (largely determined by your credit score), how much you need, and the payment terms you prefer.
