Both secured and unsecured loans come with different features and serve different purposes. You should assess both the option thoroughly, with regards to your requirement, before picking one.
We all need to take a loan at some point in our lives for varied reasons. Loans make our life easier by giving us the option of buying now and paying later. Therefore, it becomes important that we are well versed with all the aspects of a loan before applying for one. There are two types of loan – secured and unsecured. A secured loan is a borrowing tool which is backed by a collateral security, whereas an unsecured loan is not backed by any security and is offered based on a borrower’s financial credibility.
Loan against security, gold loan, Home Loan, Car Loan, etc are secured loans while Personal Loan, Credit Card loan are some of the unsecured loans. Before you go for a loan that suits your needs, it is important to have a thorough understanding of the cost of borrowing, associated charges, your fund requirement and other important aspects.
Take a look at these five important points that can help you decide between a secured and unsecured loan.
Size Of The Loan
Which loan would be suitable for you depends on the amount you require. Normally the size of an unsecured loan is linked to your earning capacity, therefore you can’t exceed beyond a certain limit. Under secured loan, banks consider the collateral security to assess the maximum loan amount eligibility. So, normally secured loan is preferred for a higher loan amount requirement. If your loan requirement is not significant, then it’s better to avoid a secured loan. For small loan amount, you can prefer unsecured loan as there is no need of pledging a security and you can easily get a loan based on your creditworthiness.
Interest Rate And Charges
The interest rate is another important factor that you should consider while choosing between a secured and unsecured loan. Since an unsecured loan is not backed by any security and it is totally based on the credibility of the borrower, so default risk is high, therefore bank normally charges a high rate of interest and processing fees. A secured loan is backed by collateral security and if the borrower defaults on loan repayment, then banks have the option to recover money by liquidating the pledged asset. Therefore, interest on secured loans is comparatively lower than on unsecured loan. Normally associated charges on secured loan such as Home Loan, Car Loan, etc. are lower than unsecured loan such as a Personal Loan or Credit Card loan. Also, usually there is a penalty for prepayment of a loan under the unsecured loan, but you may not be penalized under the secured loan for making a prepayment (depending on the type of loan and bank’s term and condition).
When taking a loan, the repayment period is a big concern. Normally tenure allowed under the unsecured loan is much lower than the secured loan. You can get a maximum loan tenure of around 5 years under the unsecured loan, whereas for a secured loan you can get loan tenure of as long as 30 years (home loan) depending on the fulfilment of the eligibility norms and type of loan. So, if you are looking for a very long repayment period, then prefer a secured loan over an unsecured loan, provided you have a qualified asset to pledge with the bank.
Not paying the loan on time can impact the Credit Score negatively irrespective of a loan being secured or unsecured. However, since secured loan can be recovered by liquidating the pledged security, but unsecured loan requires legal action to recover the amount, therefore a default in the payment of unsecured loan reflects for a long period on the credit report and it can significantly diminish the future borrowing capacity.
Purpose And Flexibility
Purpose and flexibility can help you to determine which type of loan would be suitable according to your need. For example, you want to buy a home, and for that, you want to borrow money from the bank. Now, for buying a home if you take a Personal Loan it will cost you very high interest, the repayment period will be very less, and you won’t get the flexibility to repay early. Similarly, if you want to buy a mobile on loan, then it would be a big mistake if you mortgage your home to get a loan against security and pay for the mobile.
So, your loan should match with your purpose and flexibility requirement, like a Personal Loan or a Credit Card EMI for buying a mobile, loan against property for renovation or for a big fund requirement etc.
|Secured Vs Unsecured Loan|
|Points||Secured Loan||Unsecured Loan|
|Interest Rate||Normally low||High interest rate|
|Availability||Easily available depending on borrower’s capacity to pledge adequate security||Good Credit Score and banking relationship is important|
|Tenure||Short to very long term||Short to medium term|
|Size of loan||Available for big loan. The amount depends on the value of the pledged security||Usually amount is restricted according to repayment capacity calculated based on the income of the borrower|
|Processing time||Could be time taking due to processing and verification step||Quick loan processing|
|Rejection Chances||Less chance of rejection||High, due to inadequate credit score and insufficient income level|