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Know the Difference, Especially When Loan Virgin
With all the overwhelming loaning options offered by financial entities, one would be bewildered. There is a lot of trade-offs and choices, but also many considerations to be aware of. One of the first considerations is the basis upon which one option of loaning is more feasible for certain borrowers than the other. To put it another way, what do borrowers pledge to get a certain amount of loan from a specific lender?
In fact, the type of guarantor is what matters equally to financial entities and borrowers. It is all about the willingness of taking risks and creating win-win situations. Otherwise, the chain gets broken, and all lose. Therefore, consumer loans are mainly segregated under two main categories: secured and unsecured loans. Whether personal, business, or any other, each loan falls under either one of these two categories. The loan provision, amount, period, interest rate, applicable fees, and, most significantly, the repercussions are all affected by the loan securing method.
What is a Secured Loan?
A secured loan is a loan that borrowers secure against an asset they own. With this collateral, they pledge the return of borrowed amount to the lender. This is in case the loaned amount is not repaid in a set period. Here one notices how the lender secures regaining the loaned amount if the borrower defaults. On the other hand, the pledge assures the borrower’s ability and willingness to pay the amount back. Examples of secured loans include vehicle loans, mortgages, savings loans, secured credit cards, and life insurance loans. Secured loans are commonly referred to as homeowners’ loans because they are typically guaranteed with the home owned by the borrower.
What Can Serve as a Collateral?
Lenders are more likely to offer you loans if you have a house. They will call and offer you loans themselves instead of waiting for you to dial their number. That is because they are confident in your repayment ability. They can reclaim the full value of the loan out of your property.
However, depending on the desired amount and loan provider, other assets may also serve as collateral. Examples include:
- Life insurance (the death benefit transfer to the lender)
- Valuables and precious collectibles
- Bank accounts
- Any type of vehicle (i.e., motorcycles, cars, boats, professional bikes, etc.)
- Bond investments
Advantages of Secured Loans
- Credit Score Leniency: Your collateral vouches for you in a way that makes a low credit score less of a factor in a lender’s mind.
- Longer Loan Repayment Periods: The reason many borrowers lean towards secured loans is the longer repayment timeframe. The timeframe advantage is vivid if compared with unsecured loaning options. Some lenders may allow repayment over 30 years if the house is used as collateral. That is because lenders consider the potential increment of collateral market price.
- Larger Loan Amounts: Secured loans are the way to go if you are looking to borrow a significant amount of money. Remember, the higher the value of the pledged asset, the larger the loan amount.
- Better Interest Rates: It is wise to take out a secured loan with lower interest rates than unsecured loans with high interests. However, Lower interest rates are associated with high credit scores.
With all the advantages mentioned, secured loans need to be dealt with caution to avoid any drawback possible.
The Downside of Secured Loans
- Damage of Credit History: Reluctance to pay the loan may lead to a default in the long run. This will harm your credit record and ability to borrow any new loan when required.
- Losing your Property or Assets: This is the biggest drawback of secured loans. If you are facing financial constraints and unable to keep track of your payments, the lender has the right to seize your property. Of course, no one likes to afford to be homeless.
What is an Unsecured Loan?
The unsecured loan is the loan that the borrower obtains without committing any asset as collateral for pledging the payments. Such loans, though moderate in their amounts, are more frequent than the secured loaning options. However, due to the higher risk that the lender takes, these loans come with higher interest and shorter repayment times. Examples of unsecured loans include credit cards, personal loans, instant loans online, student loans, and payday loans.
Is there Collateral for Unsecured Loans?
Unsecured loans do not involve tangible assets as means for collateral. However, since there is a need to arrive at a win-win situation, lenders must reduce the risk they handle. The approval of the loan amount and interest rate is contingent upon the credit history and level of income. In the case of student loans, the Federal Government supports the loan query.
Advantages of Unsecured Loans
- No Risk of Collateral Loss: Lenders do not have the legal right to seize the borrower’s property.
- Smaller Scale Amounts: Unsecured loans are better for smaller-scale financial hurdles. No need to risk any of your properties nor extend the payment period if you need a small scale amount. Instant loans online or personal loans for business may be the best solution.
- Shorter Repayment Periods: If you wish to cover your debts in a short period, unsecured loans should be your destiny. Short-period loans enable you to meet your immediate financial need and accomplish your commitment in the shortest time possible.
- Unsecured Loans for Bad Credit History Holders: True that interest rates get higher, but an unsecured loan would still be a viable option.
The Downside of Unsecured Loans
- Damage to Credit: Failing to repay an unsecured loan may not take away your property, but it harms your credit score.
- Legal Implications: If a debtor defaults, the lender has legal ways alternative to seizing property for debt collection.
- High Interest Rates: With no backup collateral, lenders usually charge higher interest rates. However, you should not deeply worry about this if you are planning to borrow a short-term loan. Remember, there is an inverse relationship between good credit history and high interest rates.
The Bottom Line
There are existing differences between secured and unsecured loans. While secured loans are ideal for loaning large amounts secured by collateral, unsecured loaning options are suitable for short-term small scale amounts. The latter does not necessarily require collateral. The decision between these two categories depends on a variety of factors. These include financial circumstances, repayment abilities, vision, credit history, and availability of collateral. Therefore, make your choice starting from your own needs and abilities.