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Secured vs. Unsecured Loan: What’s the Difference?
Sure, you could mow your lawn with a weedeater or dig a hole with a spoon. However, you’d be turning an old adage on its head by working harder, instead of smarter. Like tools, loans are much more effective and easier to maintain when you wield the right loan product for the job at hand — whether that’s buying a new car, taking out a mortgage or consolidating high-interest credit card debt. Knowing what an unsecured loan is and how it compares to a secured loan can help you choose the right loan type. Both can help you do things like sand down high interest rates, hammer away at debt or take an ax to large expenses to chop them into manageable monthly payments.
So what is an unsecured loan exactly? What is a secured loan? And what’s the best way to take advantage of them?
In the shortest of terms, the biggest difference between secured and unsecured loans is that secured loans use collateral (like your home or car) to back up the loan. However, there are different reasons you would consider each type of loan.
Consider this your quick-start guide to the characteristics of secured vs. unsecured loans, as well as a primer on how you can use them to boost your finances.
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When you think of “secured loans,” think collateral. Collateral provides lenders security against non-payment, or “default.” Instead of having to navigate the legal system to recoup a loan that wasn’t paid in full, the lender can take possession of the collateral a borrower submitted to guarantee the loan.
Having to put up a car, real estate or other valuable assets as collateral for a loan is a sobering thought. But you can’t blame lenders for wanting to ensure an applicant is serious about repaying the loan.
Common types of collateral for secured loans include automobiles, real estate, investments, insurance policies and cash accounts.
Backing a loan with collateral not only affirms your commitment to repayment — it can also raise your chances of approval for that loan, especially if there’s plenty of room for your credit score to improve. With less risk to the lender, it’s often easier to land a secured loan than an unsecured loan, though the latter is still the most common type of personal loan.
Check out some of these common use cases for secured loans:
It’s what it sounds like, yet not exactly so.
Unsecured loans don’t require the security of collateral. Instead, a potential lender will review your creditworthiness to determine if they’ll extend you an unsecured loan.
While an unsecured loan doesn’t require you to put up collateral like a secured loan, the bank still has recourse to recoup the loan, should you fail to repay it in full. In their toolkits, banks have legal options, such as lawsuits and wage garnishment, which they can use to protect themselves against defaulted loans.
Here are some common use cases for taking out an unsecured loan:
Your long-term financial goals, monthly income and lifestyle can help you compare both types of loans side-by-side.
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Now that we’ve covered what exactly goes into each line of financing, it’s important to note that neither is perfect. Whenever you are considering a loan for a large amount of money, it’s important to understand the consequences should the loan become a financial burden for you.
But there’s good news, too. You can strategically use either to help you make large purchases or consolidate debt. You just need to understand the key differences between a secured versus unsecured loan.
If secured loans are looking appealing, take a look at the pros and cons of this particular loan. Always consult a professional for a complete understanding of your loan terms, but we’ll cover the basics here.
Pros
Cons
In the approval process for a secured loan, lenders also factor in your creditworthiness: Your debt-to-income ratio, credit scores, the value of your assets, employment status and the health of your accounts. These factors typically weigh more in the application process for unsecured loans.
If you’re short on assets or need money quickly, unsecured loans could be great in a pinch. Their flexibility also means you can take out smaller amounts, making large purchases easier if you don’t have all the cash at once. Be warned, however, that higher credit scores are required, and your repayment terms might be more aggressive than a secured loan. Consult a financial expert before you dive into an unsecured loan.
Pros
Cons
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Because it’s a soft credit pull, there’s no impact on your credit score for looking into either a secured loan or an unsecured loan. But once you actually apply, your credit score could take a mild to moderate hit. That hit to your credit scores may come from the hard inquiry to your credit file, as well as the rise in debt that comes from using the loan. In the long run, that hard inquiry will fall off your credit file. And if you keep up with your loan payments, your score could trend upward in a matter of months.
So, you might find it tempting to jump onto the first pre-approved offer from lenders with names you’ve heard of, especially if the terms are solid, but you could be doing yourself a disservice if you don’t compare offers.
You can compare secured loans, unsecured loans, lines of credit and more to find the best available option for you by using a loan-comparison tool like MoneyLion. MoneyLion searches the top online lenders to match you with a personalized loan offer in less than 60 seconds.
If your credit score is at least 620, its platform can help you borrow up to $100,000, with rates as low as 5.20%.
And don’t worry: Checking to see if you qualify won’t affect your credit score. Plus it’s free, and your information is totally safe — the website uses higher encryption security than many banks. After all is said and done, you could see your money in just a few days.
Just answer a few quick questions here to compare all the best available loan options for you.
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