These days, loans are considered as the best means of availing finance for any purpose like education, construction of a house, purchasing car or any other business requirement. In general, loans are of two types i.e. either you can go for a secured loan where you have to pledge an asset as security against the loan, or you can opt for an unsecured loan where there is no requirement of pledging assets for getting funds.
Many people have trouble in understanding that which of the two loans is better. In this article, we have compiled all the necessary differences between secured loan and unsecured loans. It can help you to decide, that which loan is best suited as per your needs.
Content: Secured Loan Vs Unsecured Loan
|Basis for Comparison||Secured Loan||Unsecured Loan|
|Meaning||The loan which is secured by an asset is known as a Secured Loan.||Unsecured loan is the loan in which there is no asset mortgaged as security.|
|Pledging of asset||Yes||No|
|Risk of Loss||Very less||High|
|Tenure||Long period||Short period|
|Expensive||No, due to low interest rates||Yes, because the interest rate is high|
|Borrowing limit||High||Comparatively less
|Right of lender in case borrower fails to pay||Forfeit the asset.||Can sue him for the money.|
Definition of Secured Loan
A type of loan in which the borrower pledges an asset as security against the loan amount, it is known as a Secured Loan. In the case of default in repayment the lender has the right to seize and sell the security to recover the amount lent. Here one thing should be kept in mind that the borrower need not transfer the asset for getting the loan amount approved instead he can possess the property until and unless he fails to pay the loan amount. In the event of failure to repay the loan, the asset is forfeited by the lending institution.
Under secured loan, the amount of debt sanctioned by the lending institution will be based on the collateral. Interest rates are low as the loan is protected by the property. The types of Secured Loans are:
- Mortgage Loan
- Non-recourse loan
Definition of Unsecured Loan
The loan agreement, in which the loan amount is not protected by an asset is Unsecured Loan. In this type of loan, there is no obligation of the borrower to pledge an asset as security. The loan is known as unsecured because there is no guarantee regarding payment and if the borrower defaults payment the financial institution can only sue him for the money but cannot recover the amount forcefully or by selling his property.
The risk is very high as the property does not support the amount. The loan amount will be approved on the basis of creditworthiness, financial status, character and ability to pay, of the borrower. This also becomes one of the criteria for deciding the rate of interest. For availing such loans, the borrower must possess high credit ratings.
In the case of bankruptcy of the borrower, the unsecured creditors have the right to realize the amount out of his assets. But first of all the secured creditors are given the asset collateral, thereafter the unsecured creditors are paid off, on a proportionate basis. One good example of such loan is a credit card.
Key Differences Between Secured Loan and Unsecured Loan
The following are the major differences between a secured loan and unsecured loan
- The type of loan in which collateral supports the loan amount is known as a Secured Loan. Unsecured Loan, on the other hand, are those in which there is no asset is held as collateral.
Secured loans are sanctioned on the basis of collateral, but creditworthiness is checked for approving unsecured loans.
- In secured loans, the asset is pledged whereas there in no pledging of assets in case of unsecured loans.
- The risk of loss is very low in the secured loan in comparison to an unsecured loan.
- The Secured loan is given for long term while the Unsecured loan is for short periods.
- The interest rate is low in the Secured loan due to the presence of collateral. Conversely, the interest rate is comparatively high in the Unsecured loan.
- The borrowing limit is high in the secured loan which is comparatively low in case of an unsecured loan.
- In the case of default by the debtor, the creditor has the right to seize and sell the asset hypothecated in Secured Loan. In contrast to, Unsecured Loan, the creditor can file a suit against him and claim the money.
Secured Loan and Unsecured Loan, both are good at their places. In a secured loan, there is a guarantee, which if the borrower defaults payment the lender can recover the amount by selling the asset that is why the term is long. Apart from that, the borrower has to pay the money within the stipulated time otherwise, the lender will exercise a lien over the asset. In the case of an unsecured loan, the risk is very high that is why the complete credit history is checked as well as the loan is given only to those who are having high credit scores. The loan is usually allowed for a short period, but they carry high-interest rates.