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There are two main types of loans: secured loans and unsecured loans. The key difference is whether or not you’re required to put up collateral. Each type of loan also comes with different interest rates and terms, which means an unsecured loan will be a better fit for some borrowers, while a secured loan might better serve others.
So how can you decide whether you’re better off with a secured vs. unsecured loan? We put together this guide to help you make an informed financial decision.
What’s the difference between secured and unsecured loans?
Secured loans require a borrower to provide collateral, such as a house or car, which the lender can claim if the borrower defaults on the loan. With an unsecured loan, however, you won’t have to put up an asset as collateral. Instead, the lender looks at your credit history to determine whether or not you’re good for your debt.
Collateral provides the lender a guarantee that they’ll get at least some of their money back if the borrower fails to repay the loan. For that reason, secured loans typically come with lower interest rates and higher borrowing limits than unsecured loans. They may also be easier to obtain. However, secured loans often have more usage restrictions than unsecured loans as well.
Secured loans
Secured loans are loans that require collateral. Usually, the lender will let you borrow up to the value of the collateral, which means secured loans often offer higher borrowing limits than unsecured loans. For that reason, secured loans are popular for making larger purchases, such as buying a home or a vehicle. In these cases, the purchased home or vehicle usually becomes the collateral. However, borrowers can also offer up other assets, such as a business or a savings bank account, to secure some types of loans.
Secured loan examples
Secured loans are everywhere. Here are a few of the most common types.
Mortgage loans: These are loans used to finance the purchase of a property. The property serves as collateral until all the mortgage payments have been made.
Auto loans: Secured car loans are used to finance the purchase of a vehicle. If the borrower defaults, the lender has the right to claim the vehicle.
Secured personal loans: These loans can be used for almost any purpose. Collateral could be a personal savings account, a certificate of deposit (CD), or any other valuable asset.
Home equity loans: These loans allow homeowners to borrow against the equity they have built in a residential property, using the property as collateral. A Home Equity Line of Credit (HELOC) works similarly, though a HELOC is a revolving line of credit rather than a single lump sum loan.
Secured business loans: Collateral such as commercial real estate, equipment, or inventory can be used to secure a business loan.
Pawn shop loans: Valuable items such as jewelry, antiques, or electronic items can be brought to a pawn shop in exchange for cash. If the loan is not repaid, the pawn shop keeps the item.
Secured credit cards: Though not loans, credit cards can also be a source of secured debt. Secured credit cards require a security deposit and are a popular way for borrowers to build up their credit history.
Pros and cons of secured loans
Before you take out a secured loan, you’ll want to consider the advantages and disadvantages.
Pros of secured loans
Low interest rates: Because collateral provides a level of reassurance, lenders are often able to offer lower interest rates on secured loans than they would with unsecured loans.
Higher borrowing limits: Often, the maximum loan amount on a secured loan is equal to the value of the collateral. If that’s a house or car, the limit will be quite high.
Easier approval: Secured loans often have more lenient eligibility requirements, making them more attainable for borrowers with low credit scores.
Longer repayment terms: Secured loans may come with longer repayment periods. That lets borrowers spread out their payments over a longer period of time.
Cons of secured loans
Risk of collateral loss: If you default on your loan, the lender could seize your asset, leaving you without a house, car, or other essential item.
Lengthy application process: Secured loans may take longer to receive since the lender will need time to assess the value of the collateral before issuing the loan.
Limited use: Secured loans may come with usage restrictions. Mortgage loans can only be used to purchase residential property, for example, and auto loans can only be used to buy cars.
Unsecured loans
An unsecured loan is a type of loan that does not require any collateral. With an unsecured loan, the lender relies solely on the borrower’s credit report, current income, and other financial markers to determine whether or not to approve the loan. Since there is no collateral involved, the lender has no specific asset to claim in case of default. For that reason, the borrower may need a relatively high credit score to prove their creditworthiness. Unsecured loans also tend to have higher interest rates than secured loans.
Unsecured loan examples
Many smaller loans are unsecured. Here are a few of the most common unsecured loan options.
Unsecured personal loans: A personal loan is a type of general-purpose installment loan. Unsecured personal loans are popular for everything from debt consolidation to financing home improvements.
Student loans: Student loans are designed to finance qualifying education expenses like tuition, fees, books, and supplies.
Medical loans: These loans cover medical bills for surgeries, medical treatments, and other healthcare-related costs.
Payday loans: A payday loan is a short-term loan that the borrower promises to repay with their next paycheck. Payday lenders often charge high interest rates and fees.
Credit cards: Though not loans, credit cards are among the most common types of unsecured debt. They provide a revolving personal line of credit that can be used for everyday purchases.
Pros and cons of unsecured loans
There are several advantages and disadvantages to unsecured loans. These include:
Pros of unsecured loans:
No collateral required: Unsecured loans do not require any collateral, which means there is no risk of losing your assets if you fail to make your loan payments.
Quick application and approval: The application process for unsecured loans is often faster and simpler compared to secured loans.
Flexible usage: You can use the funds from unsecured loans for various purposes, such as debt consolidation, home improvement, or personal expenses.
Cons of unsecured loans:
Higher interest rates: Unsecured debt typically comes with higher interest rates to compensate for the increased risk for the lender.
Lower borrowing limits: Since there is no collateral involved, lenders may be reluctant to let you borrow high loan amounts.
Stricter eligibility criteria: To get an unsecured loan, you’ll need a good credit score and financial stability. That can make it difficult for some borrowers to qualify.
Shorter loan terms: Unsecured loans typically have shorter repayment periods, which could mean higher monthly payments.
Should I get a secured loan or an unsecured loan?
Whether you choose a secured loan or an unsecured loan will depend on your financial situation and needs.
Consider a secured loan if:
You have valuable assets that can be used as collateral.
You need a larger loan amount.
You’d like lower rates.
You have a longer timeline in which to secure the loan.
You’d prefer a longer repayment term.
You have bad credit or limited credit history.
Consider an unsecured loan if:
You don’t have any assets you can put up as collateral.
You only want to borrow a small amount.
You need a loan relatively quickly and don’t want to deal with extensive paperwork.
You have a high credit score and a stable financial situation.
You can afford to pay higher interest rates.
Who offers secured and unsecured loans?
You can obtain both secured and unsecured loans from a variety of financial institutions, including:
Banks: Traditional banks are a popular source of mortgage and vehicle loans. Banks may also offer unsecured loans, such as personal loans.
Credit unions: Nonprofit credit unions often have lower credit score requirements than traditional banks. They’re a good option for lower-interest personal loans as well as various secured loans.
Online lenders: Many modern lending platforms offer online personal loans. These are typically unsecured loans, and come with a quick and easy application process.
Peer-to-peer lending platforms: This type of lending takes place on designated peer-to-peer platforms and mostly involves unsecured loans. These platforms connect individual borrowers with investors willing to provide funding.
Compare loans on Navient Marketplace
Whether you’re looking for a secured or unsecured personal loan, a loan marketplace is a great place to begin your search. Navient Marketplace collaborates with Fiona, a leading personal loan search tool, to help borrowers get swift access to cash. Explore your options, compare loan offers, and find personalized loan rates by visiting our marketplace today.
Disclaimer: This blog post provides personal finance educational information, and it is not intended to provide legal, financial, or tax advice.
Navient customers are invited to consider personal loan offers through our partner Fiona. Navient has not shared your information with Fiona and is not involved in the personal loan application process in any manner. All information is submitted directly to Fiona and any personal loan offers are made directly by participants in Fiona’s lending platform, powered by Even Financial. Even Financial, Inc. is the industry-leading embedded financial marketplace and independent subsidiary of MoneyLion Inc. (“MoneyLion”) (NYSE:ML). Checking your rate will not affect your credit score. Eligibility is not guaranteed and requires that a sufficient number of investors commit funds to your account and that you meet credit and other conditions.
Loan proceeds may not be used for postsecondary educational expenses, including refinancing federal or private student loans.