Otherwise known as secured debt, this is a type of loan that is backed or protected by collateral. Since the creditor or lender needs to mitigate risks associated with lending, the collateral serves as a way of paying back or recouping the debt whenever the borrower defaults on repayment.
The lending company or individual can place a lien on the asset or collateral until the entire loan amount is repaid in full. This kind of setup is usually seen in real estate mortgages where the property is considered the collateral.
The assets used as debt instrument provide more security compared to unsecured debt, which is considered a riskier form of investment.
Which Type of Loans Are Secured?
Creditors want to have leverage over the borrower. After placing the lien on the collateral, they want to be sure that the collateral will provide a greater sense of protection and security whenever the borrower defaults.
Unlike borrowing money from credit cards, which by the way is a form of an unsecured loan, secured loans require more than just a promise of repayment. Here are some examples:
- HELOCs or Home Equity Line of Credit
- Loan for land
- Business Loan
Secured loans are usually considered the only way – and probably, the best way – to obtain a huge amount of money. As long as it is legal, borrowers can use almost anything as collateral. However, most lenders prefer assets that are easy to collect and exchanged for cash. The following can be used as collateral.
- Real estate, including the equity of your home
- Cash accounts, except retirement accounts
- Large machinery and equipment
- Collectibles and other valuables
- Insurance policies
Unsecured Loans vs. Secured Loans
Unsecured loans will cost borrowers more money because of interest. Some predatory lenders or loan sharks will even charge rates of astronomical proportions. Most often, those who fall prey are borrowers with bad credits who can’t secure a loan. Therefore, it is highly important to keep one’s credit score in acceptable levels.