Secured Personal Loans vs. Unsecured
When you’re short for cash, have a sudden expense, and low credit, you may be wondering what your financing options are. Taking out a loan can be an appealing option. It’s estimated that about 19.4 million Americans have personal loans in 2021. But if you have a poor credit history or no credit history, finding one with a fair interest rate can be challenging. There’s one option that you may be wondering about: a secured personal loan vs. an unsecured.
If you have equity or value in other possessions, even if you don’t have a huge safety net in your bank account, you may be considering a secured personal loan. In short, secured personal loans allow you to borrow against something that you have of value—such as your car, house, savings, or another item of similar worth. This is different from other loan types, in that it often does not rely very heavily on your credit score.
However, as you may have guessed, this strategy has some hazards associated with it. It’s worth considering the benefits, drawbacks, and asking yourself if a secured loan is really your best option.
Unsecured Personal Loans
Chances are that if you’re thinking of a personal loan, you’re thinking of an unsecured personal loan. Most personal loan options you will encounter are unsecured—meaning nothing is taken as collateral against the loan. In fact, many prominent lenders do not offer secured loans at all, such as Marcus by Goldman Sachs.
One of the benefits of unsecured personal loans is that they are usually a better option for borrowers who already have a strong credit score and an established credit history. You are not risking valuables, equity, or your transportation. For folks with good credit and a steady income, unsecured personal loans at fair interest rates are probably your best bet. A good rule of thumb is to avoid loans with APRs higher than 10%.
That doesn’t mean you should run around using them for non-essential things. All loans carry risk, and which one is right for you will depend on a number of factors.
What Sets Secured Personal Loans Apart
Secured personal loans are defined by the presence of some kind of collateral against the loan. This means that if you default on your loan, you are offering up something you own as a guarantee that the total can be paid no matter what. In short? If you fail to make your payments, you risk losing whatever you put up as collateral.
As stated, this can be a good option for some people, but as with any personal loan, it’s one that must be approached carefully.
Benefits Of A Secured Personal Loan
The lender receives compensation no matter what. Since it’s so reliable, it often means lower interest rates and no credit check. If you have poor credit, a loan against collateral is an option to increase your score again. A lower interest rate and a smaller loan makes it more likely that you will pay it off, meaning more loan options in the future.
Secured loans can also be a good option as there are usually no limits on how you spend the money that you receive. This can help with sudden expenses that you know you would be able to pay off if you had more time, but that don’t require you to drain your savings immediately. This can mean more financial stability initially.
Never Secure Anything You Can’t Afford to Lose
The most important thing to understand about a secured personal loan is this: the lender can claim whatever valuables or property you use to secure the loan as collateral. This means that the lender can possess heirloom jewelry, your car, or even your home if you default on your loan. Part of the reason why interest rates are so low is because they are generally less risky for lenders—however, the result is that they’re riskier for you as a borrower.
The loss of your car or your house could make it even harder to pay off your other debt long term, and put you in an even poorer position month to month. Especially since having a car increases access to work opportunities in most American cities. This also makes it all the more important to ask yourself if you need what you’re taking out the loan for more than you need your car or your house (unfortunately, we understand that sometimes the answer to this question is “yes.”)
One situation where a secured personal loan may be a good option is if you already have money in your savings to cover the loan. This can help with your month-to-month cash flow, keep more money in the bank for longer to help you build up your savings, and helps you improve your credit score. However, the key here is to already have the money to cover the loan set aside. While this is not always possible, it’s certainly the safest option.