Loans can simplify life by offering you immediate access to money. They can be used to cover a variety of financial needs like education expenses, travel costs, home or car purchases, business operations, as well as miscellaneous requirements like buying electronics, home renovation, and a lot more. There are also many different types of loans in the market with varying interest rates and tenures that you can choose. The right option can be selected based on your preferences and convenience. However, each loan can have a unique application process and eligibility criterion. One such requirement for some loans can be collateral. This single requirement classifies loans as secured and unsecured. Let’s find out more about this and how you can decide the right pick for you.
What are secured loans?
A secured loan is a loan where you offer security or collateral to the loan provider in exchange for the loan. However, the lender only keeps this collateral till the time you repay the entire loan amount. If you are unable to settle the loan, the lender reserves the right to take complete ownership of the collateral to recover the lost funds. For instance, if you use real estate as collateral and are unsuccessful in repaying the loan within the stipulated tenure, the lender can keep the property and sell it to get back the loan amount.
Collateral can be either a physical asset or an electronic investment like shares. Common examples of collaterals include gold, real estate, vehicles, mutual funds, fixed deposits (FDs), insurance policies, equity shares, and other similar items.
What are unsecured loans?
Unsecured loans do not require any collateral. So, you can avail of the funds without having to produce security. In the case of such loans, lenders assess your credit score, repayment capacity, income, and other similar aspects. Since there is no security, the lender uses these parameters to gauge your ability to settle the loan.
What are the differences between a secured and an unsecured loan?
There are quite a few distinctions between secured and unsecured loans other than the ones explained above. Understanding these is important as it can help you choose the right loan for your requirements. Let’s dive into what these are
|Points of difference||Secured loans||Unsecured loans|
|1.||Meaning||As explained above, secured loans are backed by a security, such as a physical commodity or an electronic/ legal right over an asset or investment. The lender then has the authority over the asset in the case of failure to repay the loan within the pre-fixed tenure.||Unsecured loans, on the other hand, do not involve any collateral and are given after evaluating aspects like your credit score, credit history, income, occupation, age, etc.|
|2.||Rate of interest||Secured loans may offer lower interest rates compared to unsecured loans. These loans cover up the risk with collateral and, therefore, do not charge high interest rates.||The interest rate on unsecured loans is relatively higher because the borrower has no collateral to rely on in case the loan is not repaid. So, if you apply for an unsecured loan, you may have to settle for a higher rate of interest in comparison.|
|3.||Basis of sanction||The loan is sanctioned on the basis of the value of the collateral. The higher the value, the higher can be the loan amount. Having said that, lenders also consider other factors like your age, income, credit score, the reason for taking the loan, and more.||The basis of the loan is simply your income, credit score, other existing loans, credit card debt, etc.|
|4.||Documentation||Secured loans can involve lengthy documentation.||Unsecured loans involve very little paperwork.|
|5.||Processing time||The processing time for a secured loan can be longer as the lender may take time to look at the collateral, assess its value, and check its suitability.||Since there is no collateral, loan providers have a faster turnaround time for unsecured loans. Many lenders also offer instant loans where the funds are disbursed in a matter of a few hours.|
|6.||Credit score||You may be able to get a secured loan even with a low credit score.||It may be hard to get an unsecured loan with a low credit score. Moreover, you can be stuck with a high rate of interest if your credit score is not favourable. So, you can benefit from maintaining a positive score.|
|7.||Loan amount||The loan amount can be relatively higher. However, as mentioned above, the final value will depend on the value of the collateral.||The loan amount can be low in comparison. However, the precise value will depend on your income and credit history.|
|8.||Loan tenure||The repayment term is generally longer.||The repayment term is shorterin comparison.|
|9.||Examples of loans||Secured loans include loans against gold, high-value education and business loans, mortgage, home equity loans, loans against FDs, etc.||Unsecured loans include personal loans, education and business loans of a certain amount, car loans, travel loans, and credit cards.|
So, which one should you choose?
The decision relies on you and you alone! While unsecured loans can have a simpler application procedure, they may not offer very high amounts orlonger repayment terms. Moreover, they also have higher interest rates. In contrast, secured loans can be used for high loan amount requirements and be paid off at a slower pace with longer tenures and lower interest rates. If you need a high-value loan and can produce collateral, you may go ahead with a secured loan. However, if your requirement is relatively small, you can consider an unsecured loan.
To sum it up
Now that you understand the differences between the two types of loans, you can analyse your requirements and pick an option that suits your needs the best. You can also use an online loan calculator to understand the intricacies of each option and then make a well-informed decision.
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