If you’re taking out a personal loan, chances are you’ve come across two main types: Secured and unsecured loans. While both loans let you borrow money, there are some key differences you should know.
Here’s a short guide explaining four crucial differences between secured and unsecured loans so you can make an informed decision:
1. Collateral
A secured loan is a type of personal loan backed by collateral. So if you take out an auto loan, the collateral is the vehicle being financed by the loan.
Other examples include mortgages and home loans, where you borrow money against your home equity. The lender can repossess your asset if you default on your monthly payments. You can also find secured credit cards and savings-secured loans.
In comparison, unsecured loans are not backed by any collateral. The lender can’t take away any of your assets (such as your vehicle or your house) if you fail to make payments. That said, late payments will negatively impact your credit score. People acquire unsecured loans to pay for a wedding, renovate their homes, or consolidate their debts.
2. Lender Risk
Lender risk is quite low with a secured personal loan. The lender can recover their money by possessing your asset. This isn’t the case with unsecured loans. Since lenders can’t recover their money, they bear high risk.
3. Interest Rate
Secured loans typically have lower interest rates than unsecured loans. Moreover, you can borrow a larger amount in case of a secured loan. The borrowing amount is based on collateral value and your credit score.
Always, always compare different lenders. Pay close attention to their advertised interest rates and watch out for any hidden fees. For instance, if you’re looking for the best caravan loans, assess the reputation and credibility of different lenders.
4. Repayment Term
The repayment term can make or break a loan contract. It is generally longer with secured loans. For instance, common mortgage repayment terms are 15 and 30 years, with the 30-year fixed-rate mortgage being the most popular choice.
In comparison, the repayment term for unsecured loans is shorter, usually 5-7 years. Caravan loans, for instance, have a repayment term of 1-7 years. You can pay off loans faster by making high monthly payments.
How to Choose Between Them
A lot of people wonder, Which loan is right for me? There is no one-size-fits-all approach. Secured loans are not inherently better than unsecured ones and vice versa. The best option depends on your financial situation and needs.
According to experts, you should borrow a secured loan if:
- You need to borrow a large amount of money and want an affordable interest rate.
- You are confident in your ability to make timely payments.
However, you should choose an unsecured loan if:
- You want to borrow a smaller amount.
- You don’t want to put your assets at risk.
- You need money quickly.
- You have a strong credit score to qualify for a reasonable interest rate.
Compare the pros and cons of both secured and unsecured loans to make an informed decision.