If you’re in the market for a personal loan to finance your next big purchase or one of life’s unexpected expenditures, you may have come across the terms “secured” and “unsecured” in your search for the perfect lender. There are a few differences between secured and unsecured personal loans, each with their own benefits and disadvantages, depending on your situation and needs.
Secured Personal Loans
- Backed by collateral, affording the lender the opportunity to seize the asset put up as collateral in the event of default
- Borrowing limits are generally higher
- Interest rates are typically lower
- Loans may be available to borrowers with lower credit
- Funds may take longer to disburse, pending analysis of collateral
Unsecured Personal Loans
- Do not require collateral, but borrowers can be subject to wage garnishment in the event of default
- Are available based on borrower’s credit-worthiness
- Interest rates may be higher
- Amount of loan is typically lower
- Funds are generally available within a few business days
The main difference between secured and unsecured loans is that secured loans require collateral. Because lenders of secured loans have an asset to seize if you default on your payments, they are typically able to offer relatively favorable interest rates and lines of credit and are willing to lend to individuals with less-than-stellar credit scores. In contrast, because lenders of unsecured loans assume a higher risk by lending to borrowers with no collateral, they often protect themselves against potential losses by offering higher interest rates and lower credit lines.
Because of the collateral requirement for secured loans, it typically takes longer for the lender to disburse funds, although the amount which you are able to borrow will generally be greater than that of an unsecured loan, which is usually available within a few business days.
Another important difference between secured and unsecured loans is the flexibility with which you can use your borrowed funds. Secured loans are typically disbursed for specific purposes like the purchase of a home, car, or boat (mortgages and auto loans are examples of secured loans), whereas unsecured personal loans can be used to pay off debts, medical bills, home improvements, or stashed away in an emergency fund (credit cards are the most common type of unsecured loan).
Which Type of Personal Loan Should You Choose?
Like most decisions, the type of loan you ultimately choose depends on your specific circumstances. A few questions to ask yourself before deciding which type of loan to pursue:
- How much money do I need to borrow? How quickly do I need it?
- Is my credit score strong enough to take out a secured loan?
- Do I have an asset, like a car or a home that I’m willing to put up as collateral and possibly lose in the event of nonpayment? Am I equipped to handle the reality of possible wage garnishment in the event of nonpayment?
- Do I want to pay a higher interest rate and repay my loan within 3-5 years or spread payments over a longer period with a lower interest rate?
- Do I have someone who is willing to cosign a personal loan?
For individuals with a strong credit score and a stable income who require smaller, but immediate funding, an unsecured loan may be the preferred route. For those with lesser credit who are seeking a larger cash infusion for a specific expense, a secured loan may be the better option.
Get answers to more of your questions about personal loans by visiting our Personal Loan FAQ.