When comparing secured loans versus unsecured personal loans, look at each loan’s pros, cons, risks and benefits. You’ll also want to look at how your financial needs, your situation and your personal goals can come into play. Understanding the differences between these two loan types is key, because you can make the best financial decision before you borrow money.
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What is a secured loan?
A secured loan is one that is backed by collateral using your assets. You can use your home, car or another piece of property you already own as a lien against the money you’re borrowing. If you default on the loan (meaning you don’t repay it), the lender, usually a financial institution, can take the asset you’ve put up as collateral.
This collateral reduces the risk of the bank or other lender losing that money, which ultimately means you can borrow a larger amount of money for a longer term, often at a lower interest rate, than you could with an unsecured loan. That’s because the lender isn’t taking a huge risk on you when they lend the money.
Getting a secured loan is good for bigger items like home renovations, a vacation (but we recommend saving for that), a wedding, and debt consolidation for high-interest debt like credit cards. A secured loan can also be used for post-secondary education if you don’t qualify for an education loan. An auto loan is one example of a secured loan—the car is the collateral.
What is an unsecured loan?
On the other hand, an unsecured loan doesn’t need collateral. There’s more risk to the lender because there is nothing to guarantee it will get its money back, so borrowing amounts tend to be lower and the interest rates tend to be higher. These loans are best reserved for expenses like emergency home repairs. A payday loan is an unsecured loan as there is no collateral and a high interest rate.
When done smartly, an unsecured personal loan can actually help you save money. If you hold a credit card (unsecured loan) with a high interest rate (22.99%!), a personal loan can help you pay off that debt faster. You’ll have to repay the personal loan, of course, but the lower interest rate means you’re paying less money for credit over time.
The pros and cons of secured loans
Like all loans, secured loans have advantages and disadvantages.
Pros
The advantages of a secured loan are: