What is a Secured Loan?
A secured loan is a loan that’s secured by collateral - something the lender can take as compensation if you can’t pay your loan back. Just about anything valuable can be used to secure a loan, from personal items, like your home or vehicle, or business-related assets, like equipment or real estate. In theory, just about any kind of loan can be secured, although some loans require collateral by default. Construction loans, for example, can be secured by the property you’re building on, while traditional mortgages and auto loans operate on the agreement that, if you’re unable to make your payments, your house/vehicle will be repossessed. The advantages of securing a loan via collateral are lower interest rates and higher rates of approval since the guarantee of collateral puts the lender at less risk of losing money. In general, the more you can provide for collateral on a loan, the better your loan terms will be. These advantages can come in handy in a number of circumstances, like if your credit score doesn’t reflect your ability to pay back a loan. The downside of a secured loan is that, depending on what you use as collateral, there may be a lot at stake if you can’t make the payments. When something as valuable as your house or business is on the line, you’ll want to be sure to have a good plan in place for making payments.
Home Equity Line of Credit
Secured Business Loan
Secured Car/Vehicle Loan
Secured Home Loan
Secured Personal Loan
Secured Real Estate Loan
Although providing collateral is a way to lower the risk involved for the lender, secured loans do not always mean lower rates, since rates are also affected by the size and length of the loan and your creditworthiness. Traditional mortgages, for example, are usually for large amounts with long repayment periods and are secured by the property itself, and therefore come with APRs as low as 4.3%. Title loans, to go to the other extreme, are small, short-term loans with no credit check, and have an average APR of 300%. Generally, providing collateral for loans that aren’t automatically secured (unlike mortgages and title loans) will usually amount to rates that are lower than they’d be otherwise.
Just because a loan is secured does not always mean it will have low credit requirements. It’s true that the more collateral you can provide, the less important your credit score will be to a lender, but for loans that are large and naturally involve risk, lenders will have to take into account your credit score to some extent. While secured loans are a good option for borrowers with low credit scores, the impact of your credit score will really depend on the kind of loan you want to take out. Here are some average credit requirements based on loan types:
- Title Loans: No Credit Requirements
- Auto loans: 620 - 650
- Mortgages: 580 - 620
- Home Equity Loans: 620 - 680
- Construction Loans: 580 - 700
Another thing to consider about your credit score is how it will affect the terms of your loan. While collateral can mean easy approval for a loan (sometimes even with bad credit), it could be a better idea to take the time to build your credit before applying for your loan to ensure that you’ll get better terms.
Collateral vs No Collateral
Securing a loan with collateral is not only a handy way to sidestep credit requirements, it’s also a good option if your credit rating is not a true reflection of your financial situation. For example, if you’re a business owner, your credit score might be low from some unpaid bills but doesn’t take into account the amount of money your business actually makes. Even your tax papers might not take into account how much money you actually made since a lot of your expenses are deductible. Secured loans can also be used for debt consolidation, by taking advantage of their low interest rates to pay off another higher-interest debt. The downside to secured loans is that you risk losing something very valuable, depending on what you provide as collateral. When it comes to putting your home or business on the line, you’ll want to be sure you can afford your loan payments. In general, collateral loans are best used to improve your financial status in one way or another, for some kind of investment you’re confident you’ll profit from.
What Can be Used as Collateral?
Just about anything valuable can be used to secure a loan, though the kinds of assets that are usually accepted will depend on the kind of loan you’re taking out. Personal assets that can be used include real estate, home equity, vehicles (cars, motorcycles, RV’s, etc.), savings accounts, life insurance, or other valuables such as jewelry or fine art. You can also use your business-related assets to secure a loan, like commercial property, inventory, equipment, natural reserves, etc.
How to Get a Collateral Loan
With secured loans, your perceived ability to pay off the loan will not be as important to a lender as with unsecured loans. How much collateral you’ll need will depend on the type and size of loan you want to take out. To give a few examples: With title loans, you’ll be asked to put up the title to your car. For home equity loans, you’ll need to have at least 20% of your first mortgage paid off, and you’ll usually be eligible for an amount that’s worth 10% your home’s value. For business collateral loans, the value of your business affects the available loan limit, meaning lenders will be interested in your business credit history and will want to see a solid plan for how you intend to develop your business. Finally, for construction loans, you’ll need to provide a thorough construction plan, including a detailed budget and proof of a qualified, reputable builder, to secure your loan. In general, there’s a lot of different kinds of loans that can be secured by collateral. What kind if best for you, and what you should use as collateral, will be unique to your circumstance. Ultimately, it’s recommended that you talk to an expert who can give you professional advice on how best to handle your finances.