Unsecured loans versus secured loans
Looking to take out a loan and want to know the difference between the two main types? Here’s what you need to know.
Most loans can either be categorised as unsecured or secured.
Here’s a guide on what these terms mean, and how to choose which type is right for you.
What is an unsecured loan?
When you borrow money from a bank or another lender without any collateral attached to the loan, such as your property, this is what’s known as an unsecured loan.
The most common types of unsecured loan include personal loans, credit cards and student loans.
How does it work?
Unsecured loans are quite straightforward in how they work.
You borrow a set amount of money – which tends to be anywhere between £1,000 and £25,000 – and are then required to make regular repayments until the amount you borrowed is paid back in full.
On top of this you’ll usually be charged interest.
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To be eligible for an unsecured loan you’ll usually need a fair to good credit score.
And this tends to mean you’ll have had some credit in the past.
However, unlike with many secured loans, it’s not necessarily a requirement that you have to be a homeowner or own some other collateral such as a car.
What happens if I miss a payment?
In the event that you miss a payment, you can potentially incur additional charges or be hit with less favourable rates of interest.
What’s more, failing to make the set repayments may also harm your credit rating.
Pros of an unsecured loan
The loan isn’t attached to any collateral, such as your home or car.
When searching for an unsecured loan you usually have a good level of flexibility in terms of how long you want to repay the loan.
Some lenders will give you the option of a payment holiday, meaning you can take a break in repayments of a few months - typically one to three. Note, however, that you’ll need to arrange this in advance with the lender – you can’t simply decide to stop paying at any time.
Unsecured personal loans are available to a wide variety of people if they have at least a fair credit score.
The best loan rates are typically reserved for borrowers looking to take out a loan for between three and five years.
Cons of an unsecured loan
X Your credit rating will have an impact on your ability to get the top rates.
X The interest charges on larger or smaller amounts can prove expensive.
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What is a secured loan?
Secured loans tend to be used by people who wish to borrow larger sums of money – typically in the region of £10,000 upwards, although smaller secured loans are available.
They are called secured loans as the lender requires something of yours as security against the loan.
This tends to be something of a high value, like your home or car. And in fact mortgages and car loans are two of the most common types of secured loans.
How does it work?
Secured loans work in a similar way to unsecured loans.
You borrow a set amount of money and then repay that amount back over an agreed period of time, plus any interest.
However, because the lender has some form of security against the loan, they tend to be cheaper – as in offer lower rates of interest - than unsecured loans.
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To get a secured loan you’ll obviously need some security which the lender can use as collateral against the loan.
The exact details of your loan, including the amount you can borrow; the length of repayments; and the interest rate you’re offered, however, will all very much depend on your personal circumstances.
What happens if I miss a payment?
Secured loans are less risky for lenders, but are more risky for you as a borrower.
This is because the lender can repossess your car or home if you don’t keep up with repayments.
Pros of a secured loan
You can usually borrow a much larger amount than you can with an unsecured loan, which tend to max out at around £25,000.
An unsecured loan may be available to you if you have a less-than-perfect credit history.
The repayment periods on secured loans can be longer than unsecured loans.
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Cons of a secured loan
X If you fail to keep up with repayments you are at risk of losing your car or home.
X Some types of secured loans come with certain restrictions and fees, such as early repayment penalties, so you should check terms and conditions carefully.
Unsecured vs secured loans. Which is right for you?
There are a number of things to think about when deciding whether an unsecured or secured loan is right for you, most of which depend on your own financial circumstances.
For example, if you have a poor credit history, or you’re wanting to rebuild your credit profile, then a lender will be more likely to consider you for a secured loan.
The amount you wish to borrow too is another important factor to take into account as a secured loan tends to offer a higher borrowing limit.
On the other hand, if you wish to borrow a lower amount – typically less than £10,000, and have a fair to good credit profile, then an unsecured loan may be right for you.
Ultimately, you should do your research and decide which is right for you. You can compare unsecured loans and car finance options easily via Confused.com, for example.
And if you’re in any doubt as to what suits you best, you may wish to seek the services of a qualified financial advisor.