Is A Secured Loan Right For You?
Sean Bryant5-minute read
UPDATED: October 28, 2022
Emergencies can pop up at any moment. If you’re not prepared, you’re left scrambling for ways to cover the unexpected costs. That’s when many people look to borrow money from a bank or other financial institution.
There are many different types of loans available, with most falling into two different categories - unsecured or secured. While both types of loans have a lot of similarities, they are also very different.
What Is A Secured Loan?
When you use a secured loan, you are guaranteeing the loan with some type of personal asset. This is also known as a lien or collateral. This lien will stay in place until the entire loan has been paid in full. If you miss a payment, you risk losing the asset you’ve used as collateral.
You might be wondering if the collateral would be forfeited after a single missed payment. Typically, that’s not the case but you should always look at the fine print for any financial transaction. Lenders will lay out the terms with the loan documents you receive.
What Assets Can Be Used As Collateral?
Secured loans require borrowers to use an asset as collateral. Some lenders are going to have specific requirements for what this asset needs to be. However, some of the most common forms of collateral include:
- Cars: You would need to hold the title.
- Bank Accounts: Savings accounts, checking accounts, money market accounts, certificate of deposit accounts.
- Investments: Stocks, mutual fund, ETFs.
- Insurance Policies: This would include life insurance policies.
- Real Estate: Equity that has built up in either your primary residence or investment property.
Secured Vs. Unsecured Loans
While secured loans are backed by the collateral a borrower offers to the lender, unsecured loans are not collateralized. Borrowers get approved for unsecured loans solely based on their income and credit history – while they won’t have collateral property seized by the lender if they default on the loan, though, lenders can still take them to court to pursue repayment.
When you take out a secured loan, you’re offering up collateral as backing. This tends to make the lending decision easier and it’s a more popular product for anyone with less than ideal credit. However, with an unsecured loan – like a student loan or a personal loan – the lending decision is made primarily based on your credit score and income. In some situations, you’ll find that secured loans are harder to get but also come with a lower interest rate. Before you apply for either a secured or unsecured loan, it’s best to understand which will be best for your situation.
Types Of Secured Loans
There are a few different types of secured loans. Some are used for the purpose of building up credit or working to fix credit that has been damaged. Other secured loans are used to purchase large assets that wouldn’t be available if it wasn’t for the collateral you offer with the loan. Here are three different types of secured loans.
Secured Credit Cards
Secured credit cards are credit cards frequently used by anyone with less than ideal credit or no credit history at all. When you take out a secured credit card, you’re required to put down a small cash deposit, typically anywhere from $200 – $500; however, it can be higher in some situations. If you’re unable to pay your card balance, the issuer will have the right to take the deposit to cover the debt. Some secured credit cards will return the deposit to cardholders after a certain amount of on-time payments, allowing them to graduate into an unsecured credit card.
Unless you’re going to be purchasing a home using all cash, you’ll be taking out a mortgage loan to finance a part of the transaction. Mortgage loans are considered a secured loan. When you take out the loan, you’re using the house itself as collateral. If you’re unable to make the mortgage payments, the lender will have the right to repossess the house in foreclosure.
An auto loan is going to be very similar to a mortgage. Unless you’re paying for the car with cash, you’ll need to finance the purchase. The car itself will act as collateral. If you fail to make the agreed-upon monthly payments, the lender has the right to take possession of the car.
Secured Loans For Bad Credit
If you have poor credit, the types of financing available to you are going to be limited. For many lenders, the risk is going to be too high. However, secured loans offer lenders a way to protect their investment and give riskier borrowers the opportunity to receive the money they need.
There are many different types of secured loans still available even if you have bad credit. You’ll have access to credit cards, auto loans, and secured personal loans. Just keep in mind that even though you have access to these products, the interest rate is going to be much higher than someone with good credit.
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Benefits Of Secured Loans
Other than mortgages and car loans, secured loans are meant for anyone who is unable to get approved for an unsecured loan. Depending on the type of secured loan, they can have a much higher approval rate because you’re backing the loan with some type of collateral. They’re also a great way to either build credit for the first time or build it back up after a negative credit event has occurred.
If you have a good credit history, secured loans like mortgages and car loans tend to have very low interest rates. That makes borrowing money inexpensive. However, the lower your credit score goes, the higher the rates will be.
Drawbacks Of Secured Loans
The biggest drawback to a secured loan is what you’ll lose your deposit or collateral if you can no longer make your payments. If you’re unable to pay the bill on a secured credit card, you’ll forfeit the deposit you made when you opened the card. But if you fail to make payments on either your mortgage or car loan, the lender can take possession of either your home or car. Additionally, certain secured loans, like credit cards, can come with very high interest rates.
How To Get A Secured Loan
Once you’ve decided to get a secured loan, there are a few things you need to do. You’ll need to decide what you want to use as collateral. If you’re applying for a mortgage, the home will be used. If you’re applying for a car loan, the car will be used. However, if you’re applying for a different type of loan, you’ll need to come up with an asset that will work for the lender. This could be investments you have, maybe it’s collectibles that have a high value. Once you know what you’ll be using to secure the loan, it’s time to decide on the lender to use.
One of the most well-known places to go for a secured loan is through a bank. Not all banks are going to offer secured loans, but the ones that do will typically consider many different types of collateral. If you’re using your savings account with the bank, you won’t have access to the money while there is still a balance on your loan.
Credit unions are a popular source for many different kinds of loans. Because they are more focused on covering their overhead costs and not making a profit, their loans typically have a lower interest rate. Credit unions are also going to be more willing to work with borrowers who have lower credit scores.
Over the past decade, online lenders have become a go-to source for lending. Technology has significantly reduced the time it takes to get from application to closing. Today, you can apply for most loans in just minutes and close on your loan within days.
The Bottom Line
Secured Loans make sense for many consumers. Unless you have a lot of cash on hand, you’ll probably need to finance your home and car. And if you have less-than-stellar credit, a secured loan will be your best first step to improving your finances. However, before you choose any loan product, do your research. Use Rocket HomesSM to check your credit score and use all the other financial resources available.
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