What Is a Secured Loan?

A secured loan is a loan that is backed by collateral – something tangible the lender can take if the loan is not paid. The most common example of a secured loan is a mortgage, which is secured by the property it pays for. A vehicle loan is also usually secured by the vehicle.

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The lender gives you money based on the value of the item used to secure it, and if you don't make the payments as agreed, the lender can take the collateral. Since this makes the loan less risky for the lender, secured loans usually have lower interest rates than unsecured loans.

Types of Secured Loans

There are several different types of secured loans. Here are the most common, and what they're used for.

Mortgage Loans

When you buy a home, you usually take out a mortgage to pay for it. A mortgage is a secured loan, as the lender gets an interest in the property equal to the amount of the mortgage. Mortgages usually have long repayment terms — 30 years is common.

Since a mortgage is secured by your home, if you fail to make your payments as agreed, the lender can foreclose on your home. This means they can auction off your house and use the proceeds to pay off the balance of your mortgage.

Home Equity Loans and Lines of Credit

Homeowners who have equity in their home and need cash for home renovations or other purposes can take out a home equity loan or home equity line of credit. In the case of a loan, you get the borrowed amount in a lump sum. With a line of credit, you have a maximum amount you can borrow, but you can take it as you need it and you only pay interest on the outstanding balance.

Home equity loans and lines of credit are also secured by your home. If you fail to pay on time, the lender can foreclose, even if you've been paying your primary mortgage all along.

Auto Loans

It's common to take out a loan when you buy a new or used car or another vehicle. Auto loans are secured by the vehicle in the same way that a mortgage is secured by the home. If you fail to pay your loan as agreed, the lender can repossess your car and sell it to pay off the loan.

Secured Personal Loans

Personal loans can be secured or unsecured. For a secured personal loan, you may be able to use savings or other assets, such as your vehicle, as collateral. Since a secured loan typically has a lower interest rate than an unsecured loan, it may be wise to choose a secured loan if you need to borrow for an emergency or for debt consolidation.

Secured Credit Cards

Secured credit cards require a cash deposit, equal to the credit limit of the card, as collateral. The borrower can then use the card for purchases and make the payments according to the terms of the card. If the payments aren't made as agreed, the card issuer can take the deposit.

Secured credit cards are used for people with poor or no credit who do not qualify for an unsecured card. They are helpful is building or restoring credit.

Title Loans

A title loan is a short-term loan that uses your car title as collateral. They're often used for emergency car repairs. As with an auto loan, your vehicle can be repossessed if you don't make the payments as agreed.

Secured Lending vs. Unsecured Lending

All loans are either secured or unsecured. Secured loans require that the borrower put up something of value that the lender will then get ownership of if the loan is not paid. Since there is less risk to the lender, secured loans will typically have a lower interest rate than an unsecured loan of the same type.

The table below shows the differences between secured and unsecured loans.

Pros and Cons of Secured Loans

Secured loans have advantages and disadvantages. Here are the pros and cons.

Pros:

• Lower interest rates

• Easier to qualify, even with bad credit

• Can borrow more money

Cons:

• Risk of losing your collateral

• May have a longer application process, including appraisal of collateral

• Not ideal for small loan amounts

How To Apply for a Secured Loan

To apply for a secured loan, follow these steps.

1. Check your credit

2. Check the value of your collateral

3. Compare lenders — consider banks, credit unions, online lenders

4. Gather documents: ID, proof of income, documentation of collateral

5. Apply online or in person

6. Comply with any additional requests from the lender

7. Understand the repayment terms

8. Sign your loan documents and get your money

Is a Secured Loan Right for You?

A secured loan is the right choice in some — but not all — situations. Here's how to determine if a secured loan is a good fit for you.

Good fit if:

• You need a large loan.

• You have collateral.

• You have fair or poor credit.

Not ideal if:

• You have no valuable assets.

• You want quick, unsecured cash.

• You have very good or excellent credit.

Paying Off High-Interest Credit Card Debt: An Example

Jane had a lot of high-interest credit card debt she wanted to consolidate. Her credit was only fair, mostly because of her high credit usage. She had emergency savings, but didn't want to use it to pay off her credit card debt, as she feared that an unexpected bill would cause her to have to use her credit cards again,

Jane took out a loan secured by her emergency savings to pay off her high-interest credit card debt. Because the loan was secured, she had no trouble getting approved, and her interest rate was lower than it would have been for an unsecured loan.

Is a Secured Loan the Right Move?

A secured loan can be the right move if you're buying a home or a vehicle. It can also be smart if you have something of value to use as collateral, and if you can't or don't want to qualify for an unsecured loan. As with any loan, be sure to understand the risks before you agree to the loan, particularly the risk of losing your collateral.

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