what is a secured loan

A secured loan is a type of funding that requires the borrower to use collateral. Usually, lenders for secured personal loans are more interested in the equity in the collateral instead of the borrower’s credit score or financial history. Therefore, borrowers with bad or fair credit often turn to secured loans when they need quick cash. 

How Do Secured Personal Loans Work?

Secured loans work much like any other type of loan, except the borrower uses collateral instead of their credit history to lock down the loan agreement. Most other elements remain the same; the borrower will: 

  1. Fill out an application and apply
  2. Review the loan details the lender can offer
  3. Sign a loan contract and receive funds

What Is Collateral?

Collateral is an asset with equity that the owner is willing to use to secure a loan agreement. During the terms of the secured loan, the lender will hold partial ownership over the collateral until the borrower has repaid their loan. The specific loan type will determine if the borrower can keep their collateral while repaying their secured loan. Still, they can usually maintain possession as long as they keep up with their loan payments. 

Where Can I Find Secured Personal Loans?

Borrowers may access secured personal loans through financial institutions such as:

  • Banks 
  • A credit union, such as a local federal credit union 
  • Direct lenders online and in-person

What Can Be Used for Collateral for a Secured Personal Loan?

Most lenders will require a certain type of collateral. Auto loans use the borrower’s vehicles, mortgage lenders use the borrower’s home/real estate, etc. Some common types of collateral lenders may require for various secured personal loans are: 

  • Real estate
  • Cars or other vehicles (motorcycles, RVs, etc.)
  • Cash accounts
  • Machinery or equipment 
  • Investments or stock accounts 
  • Insurance policies 
  • Valuables such as collectibles or jewelry 

What Are Secured Loans Interest Rates? 

Specific interest rates for any type of loan, including secured loans, will vary based on the state the borrower lives in, as well as their income, credit history, and other financial information. 

Types of Secured Personal Loans

Auto Loans

Since cars are so expensive, it’s common for consumers to take out a loan to cover the cost. Auto loans are a form of financing for vehicle purchases, where the car being purchased is the collateral. According to the Consumer Financial Protection Bureau, Americans owe approximately $1.5 trillion in auto loan debt.1 While consumers may access auto loans through a bank, credit union, or direct lender, the best rates and terms are going to be reserved for consumers with a higher credit score. 

Mortgages

A mortgage is a loan consumers use to purchase a home. With mortgages, the home or real estate property is used as collateral. 

Home Equity Lines of Credit (HELOC)

Homeowners can use their real estate to secure other types of financing, such as a home equity line of credit. A home equity line of credit works similarly to a credit card, usually with a higher credit limit due to most homes’ high amount of equity.  

Car Title Loans

Car title loans are a type of secured loan that uses the borrower’s vehicle title as collateral. During the approval process, the lender will sign onto the borrower’s vehicle title as a lien holder, giving them partial ownership over the car while the borrower repays their loan. 

Secured Credit Cards 

Secured credit cards are a type of credit card where the borrower prepays their credit limit upfront. This type of line of credit is common for bad credit consumers looking to improve their credit utilization. 

Pawn Loans

With pawn loans, consumers take valuables such as jewelry or rare collectibles and use them as collateral for a loan through a pawn shop. While the consumer repays their loan, whatever item they offered as collateral will stay in possession of the pawn shop owner. 

Secured Loans vs. Unsecured Loans 

While the main difference between secured and unsecured personal loans is the use of collateral, they may vary slightly in other areas as well. Check out a quick comparison below: 

FactorSecured Personal LoanUnsecured Loan
Approval RequirementsRequires collateral (e.g., home, car) as security.Does not require collateral. Approval based mainly on the borrower’s credit score and income.
Interest Rates Generally lower, as the lender has collateral to fall back on in case of default.Higher compared to secured loans due to the higher risk for the lender without any collateral.
Repayment TermsCan be longer, often up to 30 years for mortgages or 5-10 years for other loans.Usually shorter, typically not exceeding 7 years, with many personal loans ranging 1-5 years.
Loan AmountsCan be larger, as they are backed by the value of the collateral.Smaller in comparison, determined by the borrower’s creditworthiness and income.
PenaltiesMay include repossession of the collateral in addition to other financial penalties.Mainly financial penalties, such as late fees and higher interest rates, but no asset seizure.
Credit Score CriteriaGenerally more flexible. Lower credit scores may be accepted due to the presence of collateral.Typically requires a good to excellent credit score, as there’s no collateral to mitigate risk.
Loan TypesMortgages, auto loans, secured personal loans, and home equity loans.Credit cards, personal loans, student loans, and some home improvement loans.
Other Relevant Information – The value of the collateral must typically exceed the loan amount. – The loan-to-value (LTV) ratio is a critical factor.– Unsecured loans may have more stringent income requirements. – May include a co-signer option to improve approval chances.

Disclaimer: This comparison chart is provided for informational purposes only and does not constitute financial advice. Loan terms and conditions can vary significantly by lender, so it’s important to conduct thorough research or consult with a financial advisor before making any borrowing decisions.

Pros and Cons of Secured Personal Loans

There are advantages and disadvantages to even the best secured personal loans. Before applying for a secured loan, consider the pros and cons to make sure the acquired debt will be worth it. 

Pros of Secured Personal Loans

Easier Approval

The approval process for a secured personal loan may be slightly quicker than an unsecured personal loan since lenders don’t have to dig deep into the borrower’s credit history. The value of the collateral is usually more important to lenders than credit scores. So, borrowers with high equity collateral may be able to get approved right away even if they don’t meet the minimum credit score requirements for most other loans. 

Larger Loan Amounts for Bad Credit Borrowers

Since bad credit borrowers are usually considered a high lending risk, lenders are unlikely to approve them for higher loan amounts. However, with a secured personal loan, lenders have the collateral to back up their investment. Therefore, they may be more willing to lend higher loan amounts to borrowers with high equity collateral, even if they have a bad credit history. 

Can Usually Maintain Possession of Collateral

While pawn shop loans will require the borrower to leave their collateral at the shop, most other secured personal loans allow the borrower to maintain possession of their collateral while they pay back their loan. For example, title loan borrowers can keep their car and HELOC borrowers can still live in their homes as long as they stay current with their monthly payments. 

Cons of Secured Personal Loans

Risk of Losing Assets or Collateral

If you miss a certain amount of payments or default on a secured loan, the lender has the right to repossess whatever asset you used as collateral. That means possibly having to move out of your home if you default on a mortgage or home equity line of credit, or losing possession of your vehicle if you default on a title loan. In fact, according to the Consumer Financial Protection Bureau, one in five title loan borrowers have their vehicle repossessed because they can’t repay their loan.2 

If you do seek out secured personal loans, make sure you have a repayment plan set that you will be able to stick to. Also make sure you pay close attention to loan terms and interest rates to make sure you can afford your secured loan. If you feel the slightest bit of apprehension, you may want to hold off on applying and look for another solution.  

Can Be Expensive

As with most loans, interest rates are going to be higher for borrowers who have a lower credit score. And so, since secured loans are so popular with bad credit borrowers, they often come with higher interest rates. These rates often make secured loans an expensive form of borrowing money. 

How To Find the Best Secured Personal Loans

Finding the best secured personal loans can seem overwhelming at first. There are so many options and lenders out there. But with a little preparation, you can make sure you find the best loan for you and your financial situation. 

Check out the tips below on how you can find the best secured loan option for you. 

Have a Financial Plan

Ask yourself why you are applying for a loan in the first place. What are you looking to pay for? How long do you want to take to pay off your loan? Will you be able to afford to repay a loan while handling all your current financial responsibilities? You may even want to ask yourself if you can cover your expenses without taking out a loan at all. Non-loan options like dipping into a savings account or having a garage sale could be a great financial solution!  

Research Your Options

If you decide that getting a loan is your best option, start your loan search by reviewing multiple lenders and the different loan products they offer. Online lenders will most likely be the most convenient option. Visit lender websites and look at online reviews to get an idea of what working with different providers may be like. 

Compare Different Offers

After looking at a couple of lenders, compare your options. Look at loan amounts, interest rates, loan terms, as well as any qualification requirements you would have to meet for approval. You may also find it helpful to call and talk to a loan agent so you can get more specific details about how your personal loan might look.  

What Happens If I Don’t Pay Back My Secured Personal Loan?

Failing to make a payment on your secured loans can, unfortunately, come with some negative effects. Some of the most significant consequences are repossession and damage to your credit score. 

Repossession 

Since lenders hold partial ownership over the collateral during the terms of a secured loan, they have the legal right to repossess the asset if the borrower breaks the terms of that loan agreement. 

Credit Score Damage

Major credit bureaus hold payment history in high regard. Therefore, missing due payments or defaulting on any type of loan can lead to a major decline in your credit score. Actually, just one missed payment on a loan can bring down your credit score for up to seven years. 

How To Avoid Defaulting on Your Secured Personal Loan

Due to the credit damage and other inconveniences it can cause, consumers should avoid loan default at all costs. Here are some tips that may help you stay on track with your secured loans and avoid defaulting: 

  • Review your budget before applying – don’t sign up for a loan you can’t afford! Before you take out a loan, review your current bills and expenses to make sure you can fit another loan payment into your budget
  • Try to lower your expenses – after reviewing your budget, see if there are any areas you can cut expenses. For example, if you find yourself eating takeout for dinner frequently, try cooking at home to save some money. That way, you have some freed-up room in your budget to better afford your loan payments. 
  • See if you can increase your income – if lowering your expenses isn’t an option, see if you can increase your income in any way. Getting a temporary part-time job or having a garage sale could put some extra cash in your bank account that you can use to repay your loan! 
  • Talk to your lender if you think you can’t pay – if you find yourself in a situation where you don’t think you’ll be able to make your monthly loan payment, talk to your lender right away. They may have special refinancing options or term extension plans available that may help lower your payments and make them more affordable. Lenders will almost always work with a borrower if it saves them from defaulting on their loan. 

Secured Personal Loan FAQs

What is a savings secured loan, and how does it differ from other secured loans?

A savings secured loan is a specific type of secured loan where the borrower uses their savings account as collateral. Unlike other secured loans where assets like cars, homes, or investments are used as collateral, a savings secured loan directly ties the loan amount to the balance in a savings account. This type of loan is particularly beneficial for individuals looking to build or improve their credit score without the risk of losing a physical asset. It also typically offers lower interest rates compared to other loan types because the risk to the lender is minimized by the borrower’s savings.

How can individuals with bad credit benefit from bad credit secured loans?

Bad credit secured loans are designed for individuals with poor credit histories who may not qualify for unsecured loans. By offering collateral, lenders are more willing to offer loans to these individuals, as the collateral reduces the risk of loss to the lender. This makes it easier for someone with bad credit to not only get a loan but potentially secure a larger amount or a more favorable interest rate than they would with an unsecured loan. It’s a valuable option for those looking to rebuild their credit score, as timely payments on these loans can positively impact their credit history.

Why do lenders offer secured loans more readily than unsecured personal loans?

Lenders offer secured loans more readily because these loans are backed by collateral, reducing the financial risk to the lender in case of default. The presence of collateral provides a safety net, allowing the lender to recoup potential losses by seizing and selling the asset. This security enables lenders to offer larger loan amounts and lower interest rates compared to unsecured loans, which rely solely on the borrower’s creditworthiness and offer no such safety net. As a result, secured loans are more accessible to a broader range of borrowers, including those with less-than-perfect credit or those seeking higher loan amounts.

References: 

  1. More Than 40% of Americans Have Car Payments: Here’s How Much They’re Paying | Nasdaq
  2. CFPB Finds One-in-Five Auto Title Loan Borrowers Have Vehicle Seized for Failing to Repay Debt | Consumer Financial Protection Bureau
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