If you need to borrow money, you may have to decide whether to pursue an unsecured loan vs a secured loan. Depending on your situation, both have their advantages and disadvantages. When possible, it’s best to opt for a secured loan.
While secured loans generally provide better repayment terms, they may not always be an option for some borrowers. When that is the case, borrowers can turn to unsecured loans as an alternative.
The most common types of unsecured loans are 1. Credit cards, 2. Personal loans, 3. Student loans, and 4. Home improvement loans.
The most common types of secured loans are 1. A mortgage 2. Home equity lines of credit, 3. Auto loans, both new and used, 4. Title loans, 5. Boat loans, and 6. Recreational vehicle loans.
Let’s look at the various types of unsecured loans vs secured loans and how the two differ from each other in general.
In recent years, a growing number of consumers have been taking out unsecured loans. Unsecured loans are popular among those who are facing a large expense in the near future but have little savings to rely on. These loans do not have to be borrowed against an asset like a car or house, and they can often be obtained by people with bad credit or no credit. Here are some common types of unsecured loans.
One of the most familiar types of unsecured loans is a credit card. Credit cards provide direct access to lending capital with required monthly payments. Some credit cards come with an annual fee while others do not. Terms and conditions vary from provider to provider. The amount that can be borrowed on a card is referred to as its “credit limit.”
Credit cards can be used in shops or online. They can also be used as a cash advance, meaning you take cash out of an ATM. Any charges made on a credit card will accrue interest if the balance is not paid in full at the end of each month. As of February 2018, The average interest on a credit card is 16.82%.
One benefit of using a credit card is that it builds credit. As long as you make timely payments every month and don’t sustain high balances for long periods of time, your credit score will generally improve.
A personal loan usually provides for a greater amount of debt than a credit card could offer, but less than a larger loan like a home equity loan.
Personal loans are considered somewhat of a “last resort” option. In other words, if you have the option of going for any other kind of loan, you should probably do it. Of course, if you’re looking into unsecured loans, you may not have the required capital to get a secured loan. But you can still get a credit card with a high credit limit and low interest if you have good credit.
Many personal loans start at $5,000 and come with interest rates in the 10% – 15% range. Note that this is a lower rate of interest than that of the average credit card. And like a credit card, a personal loan counts as an additional line of credit on your credit report, meaning it makes your credit score higher if you pay it off on time.
Student loans are just what they sound like – loans made for students. The most common type of student loan is an undergraduate loan, which is used for earning an undergraduate degree such as an Associate’s or Bachelor’s. While they are usually used to cover tuition expenses, student loans can be taken out for any education-related expense like books or computers.
Student loans cannot be discharged in bankruptcy without an “undue hardship” exception. Such an exception is only granted under rare circumstances. For most people, student loans will be a life-long burden, making this type of loan a prime example of the potential pitfalls of unsecured loans.
Homeowners have to maintain the quality of their home in order for it to remain valuable. If a home doesn’t receive regular upgrades for its basic functionality as well as interior and exterior design, it could decline in appraised price, reducing the homeowner’s equity in the property. For this reason, homeowners sometimes choose unsecured home improvement loans.
A home improvement loan can often be acquired with poor credit or no credit and is used to make upgrades to a home such as building a pool, remodeling a driveway, or putting up a new roof.
Unsecured loans can be beneficial if you have poor credit or need cash right away. But in most cases, secured loans offer a better means by which to take on debt. Mortgages and auto loans are the quintessential secured loans that most everyone has heard of. Here are a few of the most common types of secured loans.
Homes are expensive. Very few people have the savings to purchase a new home with cash. As a result, the most common way of purchasing a home is to get a home loan or mortgage. The typical mortgage will be paid back over a 30-year period.
As long as you can prove you have enough regular income to make timely payments and have well-established credit, you should be able to get a reasonable mortgage relative to your annual earnings.
Mortgages offer the property they are used to purchase as collateral. If you default on your debt obligations, your home will be foreclosed upon and the bank that issued the loan will repossess your house.
The average rate of interest on a 30-year fixed mortgage is 4.52%.
A loan made for a pre-determined amount that is secured by your home is referred to as a home equity loan. This kind of loan can be paid back over time with fixed monthly payments similar to a mortgage. If a home equity loan is not paid off as per its original agreement, your home could be put into foreclosure by the lender.
A home equity line of credit (HELOC) also uses your home as collateral. However, a HELOC functions more like a credit card with a revolving line of credit. You can borrow as you need instead of taking a fixed amount all at once. It can also come with certain tax advantages that other kinds of loans do not offer.
HELOCs sometimes come with a catch – a lump sum due at a later date. Loans that come with what’s known as “balloon payments”, or large lump sums due at the end of the loan, can cause a borrower to go into even more debt to pay off the loan.
The average rate of interest on a home equity loan is 5.66%
Similar to mortgages, auto loans provide a means by which people without the savings required to purchase a car or other vehicle outright can buy one slowly over time. Car dealerships let you finance your vehicle through their own preferred lenders. But there is a better option.
Getting pre-approved for a loan lets you establish financing terms directly with the lender beforehand. Not only does this allow you to avoid sales gimmicks that can trick you into paying more for a car than you ought to, but salespeople will sometimes offer you a better deal in an attempt to secure a new loan themselves!
To get pre-approved for an auto loan with a bank, credit union, or online lender, you only need a few standard pieces of information. These will include proof of your income, assets, employment, and identity. The process can take as little as twenty minutes.
The average rate of interest on an auto loan for a new car is 4.55%.
A title loan is a kind of collateralized loan that offers up a title of ownership as an asset to borrow against. The most common kind of title loan is a car title loan. A car title loan involves you agreeing to give up your car in case you can’t pay back the loan. The amount you can borrow will be in direct proportion to how much your car is worth.
Now you know the difference between unsecured loans and secured loans. When you consider an unsecured loan vs a secured loan, keep in mind that a secured loan will almost always be a better bet in the long-term. However, when a secured loan is not an option, you may have to opt for an unsecured loan. All things considered, secured loans provide more certainty and will serve borrowers better when making a determination between unsecured loans vs secured loans.