Are you planning to borrow money soon? Wondering whether to use a secured or unsecured loan?
Both products provide money for you to use however you like but they work in very different ways.
If you’re planning to borrow, it’s important to know what those differences are as they can have implications for your future financial happiness.
Secured loan
A secured loan uses collateral, usually an asset like your home or car, to guarantee the loan.
If you default, the lender can seize that asset, sell it and recoup their money. It sounds harsh but this is how finance typically works.
Your mortgage is a secured loan which is why you see those ‘Your home is at risk if you miss payments’ messages everywhere.
Pros of secured loans
There are a few benefits to securing a loan:
Easier to qualify – As the loan is secured on an asset, you’re less likely to default, which means less risk for the lender, which makes them more likely to lend.
Lower interest – Less risk usually means lower interest rates to offset that risk.
Longer terms – Secured loans can often be for a longer term than an unsecured loan. This can work in your favour in specific circumstances.
Larger loans – As secured loans use collateral, lenders are often willing to loan you more as they know they will get their money back.
Cons of secured loans
There are downsides to secured loans too:
Your asset is at risk if you don’t pay – Secured loans use collateral a lender can seize and sell if you default. That’s riskier for you.
Can take longer to set up – As there are more legalities involved in a secured loan, they can take longer to arrange.
Increased costs – Someone has to pay for all those lawyers and loan experts, which often means higher fees to set up the loan.
Unsecured loans
An unsecured loan does not use collateral to guarantee the loan. The lender assumes the risk and will charge slightly higher interest to offset that risk.
Unsecured finance includes credit cards, store cards and specific unsecured personal loans.
You’ll need a good credit history to qualify for an unsecured loan as lenders are taking a risk.
Pros of unsecured loans
There are several upsides to unsecured loans:
Quick and easy to arrange – Unsecured loans can often be agreed in hours and the money can be with you in a couple of days.
Lower fees – As there are fewer expensive experts involved, fees for setting up an unsecured loan are often lower or even non-existent.
Your assets are safe – There is no collateral used in an unsecured loan so your house or car is safe unless things really get out of hand.
Lots of lenders – Most lenders offer unsecured loans because they are quick and easy and make them money.
Cons of unsecured loans
There are downsides to unsecured loans though:
Higher interest rates – As the lender assumes the risk, they will usually charger higher rates than unsecured loans.
Shorter loans – The repayment period is usually shorter, meaning higher monthly payments.
Borrow less – As the loan is unsecured, you usually cannot borrow as much as with a secured loan.
Your credit score and history play more of a part – While credit checks are relevant for all loans, they play more of a part in unsecured loans.
Secured and unsecured loan – Which is best?
As with most decisions like these, there is no ‘best’ option. There’s only the option that best for you in your present circumstances.
If you want to borrow a little over a short time and have a good credit score, an unsecured loan may work best.
If you want to borrow more, over a longer period and have an asset to secure it on, a secured loan may work best.
Unsecured loans are faster and easier to set up and come with lower costs. But interest rates tend to be higher.
Secured loans take longer to arrange and often have arrangement fees. But interest rates are usually lower.
The choice between a secured and unsecured loan will depend on your present circumstances, your current financial situation, credit score and what you want to use the loan for.
Both can work in their own way. As long as you compare loan rates and perform your due diligence, loans can be a viable way to raise money quickly.
