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A “secured” personal loan is backed by an asset, called collateral, such as a home or car. An unsecured loan, on the other hand, is not collateralized, which means that no underlying asset is necessary to qualify for financing. Whether someone should pursue a secured or unsecured loan depends on a number of factors, such as their credit score and whether they have assets to put up as collateral.
If you’re planning to take out a loan, it’s important to do your research and find one that best fits your needs and financial situation. Learn more about when someone can and should take out a personal loan with collateral.
Key Points
• Secured personal loans require collateral, such as a home, vehicle, or investment account, which can help borrowers qualify for larger loan amounts and lower interest rates compared to unsecured loans.
• Collateral reduces the lender’s risk, allowing it to offer loans to a wider range of consumers, including those with lower credit scores or higher risk profiles.
• Common collateral options include real estate, vehicles, and financial accounts, but using these assets carries the risk of losing them if the borrower defaults on the loan.
• Secured loans may involve a more complex and time-consuming application process, as lenders need to verify the value and ownership of the collateral.
• Borrowers should carefully assess whether they can meet repayment obligations, as defaulting on a secured loan can lead to losing valuable assets, potentially impacting financial stability.
Why Secured Loans Require Collateral
With a secured personal loan, a lender is typically able to offer a larger amount, lower personal loan interest rate, and better terms. That’s because with loans using collateral, if the loan isn’t repaid as agreed, the lender can take possession of the collateral. This is not the case with an unsecured personal loan.
Collateral allows secured personal loans to be offered to a wider range of consumers, including those who are considered higher risk. The reason is that the lender’s risk is offset by the borrower’s assets.
Secured vs Unsecured Personal Loans
Personal loans with collateral differ from unsecured loans in important ways. Here’s a quick look at differences and similarities:
| Secured Loan | Unsecured Loan | Both |
|---|---|---|
| Requires collateral. | Does not require collateral. | Requires on-time payments to protect your credit score. |
| May be easier for borrowers with low credit scores to get. | May have more strict qualification criteria. | Borrowers can set up automatic payments to ensure bills are paid on time. |
| The lender can take your property if you default. | The lender can’t automatically take your property if you default. | Borrowers risk debt collection, legal judgment, and credit score damage if they default. |
| May have a lower interest rate than other personal loans. | More risky for lenders and so may have higher interest rates. |
Secured and unsecured aren’t the only terms you’ll encounter when choosing a loan type, so let’s review a few others as well.
Fixed-Rate vs. Variable-Rate Loans
There are other types of personal loans beyond secured versus unsecured. One important distinction is whether a loan has a fixed or variable interest rate. A fixed rate is just as it sounds: The interest rate stays fixed throughout the duration of the loan’s payback period, which means that each payment will be the same amount.
The interest on a variable-rate loan, on the other hand, fluctuates over time. These loans are tied to a benchmark interest rate — often the prime rate — that changes periodically. Usually, variable rates start lower than fixed rates because they come with the long-term risk that rates could increase over time.
A personal loan with collateral might be either a fixed-rate or a variable-rate loan, though fixed rates are more common.
Installment Loans vs. Revolving Credit
A personal loan is a type of installment loan. These loans are issued for a specific amount, to be repaid in installments over the duration of the loan. Installment loans are generally good for borrowers who need a lump sum.
An installment loan can be either secured or unsecured. A mortgage — another type of installment loan — is typically a secured loan that uses your house as collateral.
Revolving credit, on the other hand, allows a borrower to spend up to a designated amount on an as-needed basis. Credit cards and lines of credit are both forms of revolving credit. If you have a $10,000 home equity line of credit (HELOC), for example, you can spend up to that limit, using the credit line much the way you would a credit card.
Lines of credit are generally recommended for recurring expenses, such as medical bills or ongoing home-improvement projects, and also come in secured and unsecured varieties. A HELOC is secured using your house as collateral.
What Can Be Used as Collateral on Personal Loans?
Lenders may accept a variety of assets as collateral on a secured personal loan. Some examples include:
House or Other Real Estate
For many people, their largest source of equity (or value) is the home they live in. Even if someone doesn’t own their home outright, it is possible to use their partial equity to obtain a collateral loan.
When a home is used as collateral on a personal loan, the lender can seize the home if the loan is not repaid. Another downside to personal collateral loans is that the homeowner must supply a lot of paperwork so that the bank can verify the asset. As a result, your approval can be delayed.
Bank or Investment Accounts
Sometimes, borrowers can obtain personal loans with collateral by using investment accounts, CDs, or cash accounts as collateral. Every lender will have different collateral requirements for its loans. Using your personal bank account as collateral can be very risky, because it ties the money you use every day directly to your loan.
Recommended: Secured vs. Unsecured Personal Loans — What’s the Difference?
Vehicle
A vehicle is typically used as collateral for an auto title loan, though some lenders may consider using a vehicle as backing for other types of secured personal loans. A loan backed by a vehicle can be a better option than a short-term loan, such as a payday loan. However, you run the risk of losing your ride if you can’t make your monthly loan payments.
Other Types of Collateral
Loans using collateral may also employ other items of value to secure the borrowed funds. Boats, fine art, antiques, jewelry, precious metals, or valuable collections could be used as collateral depending on their value, the loan amount, and the lender’s policies. The borrower typically has the ability to use the item, such as a boat, while they are paying back the loan.
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Pros and Cons of Using Collateral on Personal Loans
Using collateral to secure a personal loan has pros and cons. While it can make it easier to get your personal loan approved by a lender, it’s important to review the loan terms in full before making a borrowing decision. Here are some things to consider:
Pros of Using Collateral
• It can help your chance of being approved for a personal loan.
• It can help you get approved for a larger sum, because the lender’s risk is mitigated.
• It can help borrowers secure lower average personal loan interest rates than they would obtain for an unsecured loan.
Cons of Using Collateral
• The application process can be more complex and time-consuming, because the lender must verify the asset used as collateral.
• If the borrower defaults on the loan, the asset being used as collateral can be seized by the lender.
• Some lenders restrict how borrowers can use the money from a secured personal loan.
How to Qualify for a Personal Collateral Loan
Common uses for personal loans include paying medical bills, unexpected home or car repairs, and consolidating high-interest credit card debt. With secured and unsecured personal loans, you’ll have to provide the lender with information on your financial standing, including your income, bank statements, and credit score. With most loans, the better your credit history, the better the rates and terms you’ll qualify for. The good news is that when you make scheduled payments on time, a personal loan can boost your credit score, which can help you qualify for other financing down the line.
If you’re considering taking out a loan — any kind of loan — in the near future, it can be helpful to work on building your credit score while making sure that your credit history is free from any errors.
Shop around for loans, checking out the offerings at multiple banks, credit unions, and online lenders. Each lender will offer different loan products that have different requirements and terms.
With each prospective loan and lender, make sure you understand all of the terms. This includes the interest rate, whether the rate is fixed or variable, and all additional fees (sometimes called “points”). Ask if there is any prepayment fee that will discourage you from paying back your loan faster than on the established timeline.
The loan that’s right for you will depend on how quickly you need the loan, what it’s for, and your desired payback terms. If you opt for an unsecured loan, it might allow you to expedite this process — and you have the added benefit of not putting your personal assets on the line.
What Lenders Look for in a Secured Loan Application
When you apply for a personal loan, lenders will be checking your application for a few key elements. Each lender will weigh these according to its individual policies:
Your credit score: A score of 610 or better is often needed for a personal loan, but if you are providing collateral, the lender may reduce this number.
Your income: Lenders like to see that a borrower has a reliable income source.
Your debts relative to your income: Your debt-to-income (DTI) ratio matters to lenders, but may be less important if you are securing the loan with your property.
In the case of a secured personal loan, you will also be asked to provide proof that you own the property and documentation of its value, which may require an appraisal.
Recommended: Is There a Minimum Credit Score for Getting a Personal Loan?
The Takeaway
Using collateral to secure a personal loan can help borrowers qualify for a lower interest rate, borrow a larger sum of money, or obtain a longer borrowing term. However, if there are any issues with repayment, the asset used as collateral can be seized by the lender.
The right choice for you will depend on your financial situation, including factors like your credit score and history, how much you want to borrow, and what assets you can use as collateral.
Looking for a personal loan that doesn’t require collateral? Check out SoFi Personal Loans, which have competitive rates and no-fee options. Apply for loans from $5K to $100K.
FAQ
What happens if you default on a personal loan with collateral?
Defaulting on a personal loan with collateral can lead to the lender taking possession of your collateral. If you find yourself struggling to keep current with your loan payments, reach out to your lender to ask about its payment deferral or forbearance policy.
Can you get a personal loan with collateral and bad credit?
It may be possible to obtain a personal loan with collateral if you have poor credit (a score below 580 or 600, depending on which credit agency the lender utilizes). Whether a lender will qualify you for a loan with bad credit will depend on what collateral you have to secure the loan, how much you wish to borrow, and how your other financial metrics look, including your income and debts.
How much can you borrow with a secured personal loan?
The amount you can borrow with a secured personal loan will depend in large part on the value of the item you are using as collateral for the loan. Many lenders have an upper limit on personal loans, however. For secured loans, it’s not unusual to find a ceiling of $50,000.
What is the difference between a secured loan and a title loan?
Secured loans use your property (which might be a vehicle title) as collateral for a personal loan that is otherwise similar to an unsecured personal loan. The lender will do a credit check. You might have up to seven years to pay off your loan. And if you make payments on time, it should reflect favorably on your credit score. A title loan is a shorter term loan (often just one month) that usually requires no credit check but which may have a significantly higher interest rate and is more risky for the borrower. Again, your vehicle title serves as collateral.
Are personal collateral loans better than unsecured personal loans?
Personal loans with collateral may offer lower interest rates and a higher borrowing ceiling than unsecured personal loans. Using collateral may also be your only option if you have a poor credit score or limited credit history. But if you can obtain the loan you need without putting your vehicle, home, investments, or other property up as collateral, that is usually preferable.
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