A secured loan may have a positive, negative, or neutral effect on your credit. How you handle the repayment of your secured loan will play a major role in determining the effect it will have on your overall financial history and credit score. Consistent and timely payments that eventually pay off the loan balance could help boost credit, while missed and late payments may end up hurting a consumer’s credit. Other factors, such as existing debt, financial history, payment history on other financial obligations, and credit utilization also play a role in determining a consumer’s creditworthiness.
Secured loans are a kind of funding that requires the borrower to offer collateral. Collateral is an asset, such as a vehicle or home, that has significant value. Borrowers use collateral to secure loan funding and show they have the means to pay back their balance. If the borrower fails to repay their loan, the lender then has the right to repossess whatever the borrower used as collateral in order to recover their loss.
Secured Personal Loans and Your Credit
A secured personal loan may end up having a positive effect on the borrower’s credit if they make their payments on time, practice financial responsibility in other areas of their life, and eventually pay off their loan balance. By doing this, the borrower has the ability to show a positive payment history, which is the most significant factor that determines credit scores, and reduce their overall debt.
Types of Secured Loans
Some popular types of secured personal loans include title loans and home equity loans. Title loans, also called car title loans or auto title loans, are a type of secured loan where the borrower uses their free-and-clear vehicle title as collateral. Approximately two million people use title loans every year.1 Financial experts often consider title loans as a risky lending option, similar to payday loans, because of their short loan terms and high interest rates. A home equity loan is a type of secured loan where the borrower uses their home as collateral. Since the equity in a piece of property is usually quite high, borrowers may be able to get higher loan amounts by using a home equity loan or home equity line of credit.
Secured Loan Alternatives
Consumers who don’t want to risk losing collateral on a loan may opt for an unsecured loan. Unsecured loans are personal loans that don’t require collateral, but may require the borrower to have a decent credit report. Since lenders don’t have the security of collateral, they will look into the borrower’s credit history to find out if they meet the requirements to get approved for an unsecured loan. Some unsecured personal loans, like payday loans, don’t require collateral and allow borrowers to have a less-than-perfect credit history. However, these loans almost always come with extremely high interest rates and short repayment terms, making them a high-risk funding option.
Borrowers can find the best deal on unsecured or secured loans by researching lenders, comparing loan offers, and assessing their financial situation prior to applying.
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References:
1. Auto Title Loans | The Pew Charitable Trust
Credit Education & Credit Reporting