Secured and unsecured loans are very different indeed, and knowing the difference between the two is essential before you make a decision as to which is best for you and your personal circumstances before you make any application.
What is a secured loan?
A secured loan is one that requires you to put down an asset in the form of security such as your home, car or valuable item and you risk losing this if you cannot keep up with repayments. Examples include car loans, logbook loans, bridging loans and mortgages.
As the lender has security over the debt, interest rates tend to be lower than unsecured loans, but be warned; it can be a far riskier option so it’s important to understand exactly how secured loans work and what could happen if you can’t make the payments.
To put it simply, a secured loan is generally only available to property owners (or mortgage holders), where the lender can enforce the sale of your house if you fail to repay.
The amount you can borrow, the interest rate charged and the duration of your loan will be dependent on both your financial circumstances and often, the amount of equity you have in your property.
Personal loans from a bank or building society are unsecured, meaning that there’s no automatic link to your home.
However, lenders can get what’s called a ‘charging order‘ on your home even for unsecured loans. This effectively means they have a call on any cash from the sale of your house even though it may take a lengthy court action for them to be successful.
All things being equal though, an unsecured loan is almost always preferable to a secured one.
What is an unsecured loan?
An unsecured loan is one that does not require any security to borrow money and instead relies on your credit score, income and affordability when deciding if you are eligible. Examples include payday loans, personal loans and credit cards.
Because the loan isn’t secured on your property, the lender is, therefore, more at risk, so the interest rates tend to be higher.
If you fail to make your payments on time, you might incur additional charges and damage to your credit rating.
Also, the lender may choose enforce the agreement through court proceedings to get their money back which could involve you further costs.
Unsecured loans are, in almost all cases, cheaper for those with good credit scores, though some lenders will lend to those with poorer credit ratings at a higher cost.
In most cases, unsecured personal loans are available to borrowers who have at least a fair credit score regardless of whether they are a homeowner or not.
As in all cases, it is essential to check the terms and conditions for fees, charges and any early repayment penalties.
Pros of secured loans:
- Secured loans are more suitable for much larger amounts than personal loans (e.g mortgages)
- If you have a poor or blemished credit history, you may find that the only option available to you is to apply for a secured loan rather than a personal loan. The lender will use your property as security so it can be easier to qualify for. You may also consider guarantor loans where you have an additional person with good credit history to act as your security.
- The repayments on secured loans can also be over a longer period, and the fixed monthly payments can make it easy for you to manage your repayment plan.
Cons of secured loans:
- You must keep up repayments on a secured loan or risk losing your home.
- As with all loans, check the terms and conditions for fees and other charges such as set up charges and early repayment penalties as they could easily increase the cost of borrowing.
Pros of unsecured loans:
- Unsecured personal loans are available to a large number of people.
- They offer the flexibility for you to choose how long you have to repay them. Most borrowers make fixed repayments for a term of between one and five years.
- Some loans offer the option of payment holidays of say two or three months at the commencement of the agreement.
Cons of unsecured loans:
- The interest charges can prove expensive.
- The best deals are only available to those with good or high credit scores.
For more information, visit MoneyAdviceService.