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Major Differences Between Secured and Unsecured Loans

Secured and Unsecured Loans

Secured and unsecured loans are two types of loans that are available to consumers. The main difference is that a secured loan is backed by collateral, while an unsecured loan isn’t. If you default on your payments, the lender can take possession of the collateral if they want to do so. You can use this information to decide which type of loan may be right for you.

What Is a Secured Loan?

A secured loan is backed by collateral or an asset that can be sold if you fail to repay the loan. For example, if you take out a 10-year car loan and make all of your payments on time, you can keep the car at the end of that period. If not, however, the lender may repossess it and sell it to recoup its losses.

What Is an Unsecured Loan?

Personal unsecured loans are those that are not backed by collateral. They’re used to finance large purchases or to pay off other debt, like credit cards. Unsecured loans don’t require a borrower to pledge valuable property as security for the loan. Instead, they rely on the borrower’s good faith and ability to repay the funds.

“You can use unsecured personal loans for just about anything you like (depending on the particular lender’s restrictions),” says advisors from Lantern by SoFi. 

Benefits of Secured Loans

Secured Loans are also known as collateral loans, which means you use something of value as collateral for the loan. The lender uses that collateral to protect their investment and ensure they get their money back.

Because of this arrangement, secured loans tend to have lower interest rates than unsecured loans, and you may be able to get a better monthly payment or repayment term.

Drawbacks of Secured Loans

While there are numerous advantages to taking out a secured loan, they’re not necessarily perfect. They tend to have higher interest rates and monthly payments than unsecured loans. Additionally, if you have bad credit or don’t have enough equity in your home or car to secure the loan, securing a loan with collateral can be difficult or even impossible.

Benefits of Unsecured Loans

Unsecured loans are popular because they come with a lower interest rate and repayment period, as well as fewer fees.

You can get a higher loan than you would with an unsecured loan, but this benefit is that you’ll pay more over time. If you have good credit, it might be worth taking out an unsecured loan instead of one with collateral because it will cost less for you in the long run.

Drawbacks of Unsecured Loans

  • The interest rate on an unsecured loan is higher than that of a secured loan.
  • Unsecured loans are more challenging to get than secured loans.
  • You will likely need a good credit score for an unsecured loan, and if you do not have one, it will be more challenging to qualify for an unsecured loan than it would be to qualify for a secured loan.
  • Repayment terms are typically longer with an unsecured loan; the repayment period can be anywhere from 12 months to 60 months or even longer (though 30 years is typical).

With unsecured loans, however, there is less risk involved because there’s no collateral involved at all—in other words, there’s no threat of losing anything if something goes wrong as long as payments are made regularly.

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