Secured vs Unsecured Loans Understanding the Differences

There are many circumstances where you may need access to a pool of money. Perhaps you are looking to purchase a car, invest in the stock market, finance an education, or maybe even purchase a home. A loan can assist you in acquiring the necessary capital for these projects.

There are many types of loans but they fall into two general categories: secured loans and unsecured loans. The difference between these two loan types is the collateral used to secure the loan.

Collateral is anything of value that you are willing to assign an interest in over to a loan company in order to acquire financing. Think of a mortgage, where in order to acquire the funds to purchase a home you give the bank (or mortgage company) a stake in your home.

They place a lien on the collateral and in the event that you are unable to repay the loan they can take possession of the asset. The assignment of an asset as collateral gives the lender a vested interest in the asset. They will be concerned about the condition of the asset and that you are properly caring for it.

When an asset is used as collateral to secure financing this is called securing the loan with the asset. Thus, any loan that has an asset of any sort as collateral is a secured loan.

An unsecured loan then is a loan that is given without your having pledged anything as collateral. Since you have not given the bank or finance company an interest or rights to anything in exchange for your loan the risk to the lender is typically greater.

For this reason an unsecured loan typically costs more in the way of fees and interest rate than a secured loan. This is also the reason why you may qualify for much more financing when the loan is secured.

In the event that you are unable to pay on an unsecured loan and stop doing so the financing company does not have a legal right to come and seize any particular asset; you never assigned to them an interest in any asset as collateral.

So the difference between a secured loan and an unsecured loan is the assignment of collateral. By securing a loan with collateral you can typically get a lower interest rate, lower fees, better terms and may even be approved to borrow a larger amount. The trade off though is that you must assign an asset to the lender and they may insist that you maintain and insure it.

Both loans can help you achieve your financial goals. Consider your personal loan needs before deciding which loan to apply for.