Often in our search for finance options, we are led into a crossroad where we have to make a choice between secured and unsecured loans. Both are equally alluring and put the borrower in a difficult spot. It is difficult to make up the mind regarding one particular finance option because each has their share of advantages and disadvantages. Depending on our financial situation, we will have to choose which loan is best for ourselves.
Lets understand the basic crux of secured and unsecured loans.
Secured Loan: A loan backed by assets (e.g. a car or property) belonging to the borrower in order to decrease the risk assumed by the lender. The assets may be forfeited to the lender if the borrower fails to make the necessary payments. From the creditor's perspective this is a category of debt in which a lender has been granted a portion of the bundle of rights to specified property. Usually in secured loans the end use of loan amount drawn is given.
Following are the examples of the secured loans:
• Car Loan is taken to buy a new/used car.
• Home Loan is taken to buy or construct or rennovate a home.
• Car Overdraft is taken as a loan against mortgaging your car, but you can use the amount taken for your any personal use.
• Loan Against Property is also a form of secured loan where your pledge your asset and use the amount needed for consolidating your debt or foe any other end use.
• Secured Business Loan can also be secured if any asset (machinery, stock, raw material, building etc) are pledged against the loan amount required.
Unsecured Loan: With this type of loan, you do not need to put your collateral against the loan. The loan is given on the basis of your income and expense behavior.
Following are the examples of the unsecured loans:
• Personal Loans is the most common form of unsecured loans, which is referred to as all-purpose loans; they are ideal to buy a product for which you do not have ready liquidity.
• Unsecured Business Loan, as the name explains is a type of loan that doesn't require a collateral. It is typically at a higher rate of interest and is taken for a comparatively smaller tenor.
• Credit Card loans Credit card is the most flexible form of short-term borrowings with easy repayment options.
• Bank Overdraft is also a form by which you can avail unsecured finance from your bank for your business.
Now lets understand how to make the choice between the two. Answer the following questions:
• Which type of loan I should opt for?
• Which type of loan will save me rate of interest?
• Do I have any asset to mortgage?
• For how much duration do I need the credit?
• What is the end use of the finance I need? Is it commercial or personal?
Lets take an example to clear the apprehension. Suppose you need loan / finance for your business. In that case, which loan you should go for secured business loan /unsecured business loan/ mortgage loan?
If you have any asset to pledge then you should make a choice between secured business loan and mortgage loan. Now we should compare on the following aspects:
Loan amount offered and needed in both the scenarios.
Rate of interest: Loan Against property will have comparatively lesser rate of interest than secured business loan.
End Use: In case of business loan the loan taken has to be specifically to be used for only business purpose as mentioned. But in Loan Against Property the loan taken can be used for any purpose like business, education, marriage etc.
Tenor is also a key point, which also varies for every type of loan.
Thus, Secured loans offer lower interest rates and better loan repayment terms, such as extended repayment options or variable interest rates. Secured loan borrowers can also often choose between a fixed and variable rate (Home Loan), as well as decide to pay nothing for the initial term of their loan. This ultimately means that secured loan applicants have greater financial flexibility and more savings options than unsecured borrowers.
Unsecured personal loan are better for those people who are in a need of instant financial assistance as these loans have a minimal paper work. The approval process is also very quick and there is no appraisal of the collateral item.
Before going any further and making any concrete decision you should be familiar to all the aspects of the both the type of loans. It all begins from choosing a suitable lender and deciding a fixed rate of interest, which you can repay comfortably. If all these factors go hand in hand then only the particular choice will be beneficial for you.