Secured vs. Unsecured Personal Loans: What's the Difference?

If you’re thinking of taking out a personal loan, you might feel like you’re lost in a sea of options. If so, it’s best to establish some background about this type of loan before moving forward with your research.

One thing to keep in mind is that there are two basic types of personal loans: secured and unsecured. Not sure what the difference is and which one might be right for you? Take a look at the details below!

What’s the difference between a secured and an unsecured personal loan?

You’re probably interested in taking out a personal loan because you need to borrow money for a purpose that isn’t neatly categorized by most banks. For instance, if you want to borrow money for a car, you would take out an auto loan. But if you need to borrow to fund a home improvement or a wedding or a debt consolidation, a personal loan fits the bill.

Most people immediately think of unsecured personal loans when they’re considering this product, meaning they’re looking for a loan that isn’t tied to any type of collateral (opens in a new tab). Conversely, a secured personal loan is one in which you put up something valuable (such as the equity in your car, for instance) to back the loan. In the event that you don’t pay, the lender can seize your asset to recover its losses.

Benefits and drawbacks to each type of personal loan

When it comes to personal loans, there are benefits and drawbacks to each loan option. Let’s take a look:

Unsecured personal loans – The major advantage to choosing an unsecured personal loan is that you don’t have to worry about something valuable being taken away from you if you don’t pay on the loan. Undoubtedly, you intend on making your payments on time and in full, but it’s almost always a good idea to avoid putting assets on the line whenever you can.

However, the drawback to unsecured personal loans is that you’ll likely pay a higher interest rate than you would with the secured version. Generally, all unsecured loans charge higher rates than loans with collateral attached – plus, you’ll need a pretty good credit score to qualify. Banks are usually wary of giving unsecured loans to customers with poor credit, so if yours isn’t in good shape, this type of personal loan might not be an option.

Secured personal loans – There are a few distinct benefits to taking out a secured personal loan. The pros of a secured loan are that the rate on the loan is generally less than that charged by a lender for an unsecured loan. The pledging of the collateral makes the loan more appealing to the lender, and therefore lenders generally charge a lower interest rate than on an unsecured loan. It is generally easier to get a secured loan, especially if the borrower has had credit challenges.

As for drawbacks to secured personal loans, the con is that if the borrower does not pay the loan as agreed, then the asset that was pledged as collateral would be repossessed by the lender.

The bottom line: Which type of personal loan is right for you?

Deciding between a secured and an unsecured personal loan might seem tricky. Ask yourself these questions to figure out which is right for you:

Do I have good credit? If your credit score is in poor shape, you may not qualify for an unsecured personal loan. In this case take steps to improve your credit, and start looking for secured personal loan options.
What kind of interest rate can I afford? Again, it’s usually better not to put an asset on the line if you can avoid it. If you can afford to pay a higher interest rate on your personal loan, unsecured is a better bet.
Do I have any collateral to offer to a lender? If you’re looking to avoid paying a high interest by putting up collateral, it’s essential that you have collateral to put up. Otherwise, you’ll need to opt for an unsecured personal loan.

No matter which type of personal loan you ultimately decide is right for you, remember to do your due diligence and shop around. Be sure to check out big banks, local banks, credit unions and online lenders before signing on the dotted line – you never know who will offer the best terms until you look!