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If you don’t have the credit to qualify for an unsecured loan, or if you’re on the hunt for better rates, you might consider a secured personal loan. These personal loans are backed by collateral, which poses less risk to the lender. And because they often come with less strict borrowing requirements, even bad credit borrowers may find their terms favorable.
Here’s what to know.
What Is a Secured Loan?
Secured loans require you to put an asset up as collateral, thus “securing” your debt. If you default on a secured loan, the lender can seize your property to cover their losses. As such, lenders consider them less risky than unsecured loans and may offer better rates and terms.
How Do Secured Loans Work?
Many lenders offer secured loans, including traditional banks and credit unions, mortgage companies, and online institutions. When you apply with any of these lenders, they’ll ask for collateral to back your debt. They may also issue a hard credit check to examine your report for red flags and help set your interest rate.
However, if you struggle to pay your debt, the lender can put a lien on your property. Essentially, the lien stakes their legal claim to your asset and makes it difficult to sell or use against another loan. And if you default, the lender can seize your collateral to cover your debt.
What Can Be Used as Collateral on a Secured Loan?
You can use almost any (legal) asset to obtain a secured loan. However, some lenders may limit accepted collateral to items they can quickly sell. Note that generally, if you finance a house or car, your financed item serves as collateral.
Common collateral assets include:
- Real estate or land holdings
- Vehicles like cars, trucks, and boats
- Bank accounts, including checking, savings, and money market accounts
- Certificates of deposit (CDs)
- Investment accounts containing stocks, bonds, or other assets
- Insurance policies (particularly life insurance)
- Precious metals, gems, or jewelry
- Machinery equipment (such as farm equipment)
- Valuable art and collectibles
Types of Secured Loans
Secured loans take more forms than just personal loans. Let’s look at some of the most common types.
- Mortgages: Mortgagesare considered secured loans because borrowers use their houses as collateral. As such, if you default, the bank can foreclose on your property.
- Home Equity Line of Credit:HELOCslet you borrow against your home’s equity via a revolving credit line. These loans are considered second mortgages, as you can lose your home if you default.
- Home Equity Loans:Home equity loansare similar to HELOCs, except they pay out a lump sum that starts accruing interest immediately.
- Auto and Vehicle Loans: Cars, boats, motorcycles, and even private planes can be used as collateral for a loan. The lender will generally hold the title until you repay the debt to protect their interest in said collateral.
- Secured Personal Loans: Personal loans let you borrow money to use for all kinds of expenses. Securing a personal loan may qualify you for more favorable terms, but you risk losing your collateral if you default.
- Secured Credit Cards: Secured credit cards require you to place a deposit that acts as your credit line. Then, you use your card and make payments. If you default, the lender can seize your deposit to cover your debts.
- Pawn Shop Loans: With apawn shop loan, you exchange your valuables for a lump sum loan. If you return for your item, you can get it back – as long as you repay your loan plus interest. But if you don’t, the pawn shop will sell your item to cover their costs.
When Should You Consider Getting a Secured Loan?
Secured loans usually offer more favorable rates and terms thanunsecured loans. But before you take on any debt, you should consider whether you can afford it.
Defaulting on an unsecured loan can harm your credit score and sometimes incur a lien against your property. But defaulting on a secured loan definitely means you’ll lose your collateral if the lender doesn’t work with you.
Still, you may consider getting a secured loan if:
- You know you can afford the monthly payments
- You’re using the money to get out of high-interest debts
- You can’t qualify for an unsecured loan but need the funds
Where to Get Secured Loans
Many national and regional banks offer secured loans of varying descriptions, including mortgages, auto loans, and secured personal loans. Banks may also extend certain perks to existing customers, such as waived fees and rate discounts.
Online lenders combine the ease of online shopping with the perks of a secured loan. You can typically prequalify online for all kinds of loans, including mortgages and secured credit cards.
However, online lenders may not offer the same rates, terms, or maximums and minimums in every state. As such, you’ll want to check that your preferred lender can work with you before applying.
Credit unions may offer lower APRs compared to banks and online lenders. Specifically, federal credit unions generally cap their APR at 18%, which may suit you if you don’t qualify for better rates elsewhere. However, these lenders may impose membership requirements like:
- Living in a specified area
- Working in a given profession
- Or making a small donation
Pawn Shops (Stay Away)
Pawn shops offer small loans in exchange for your valuables. However, they tend to severely lowball you on price so they can maximize their profits if you don’t repay your loan. Plus, their interest rates can be high, as some charge a set fee that may come out to triple-digit APRs.
How to Get a Secured Loan (Step-by-Step)
#1. Review Your Credit Score
The first step in applying for any personal loan is reviewing and preparing your credit score, which significantly impacts your approval odds and interest rates. And while secured loans may have less stringent requirements than unsecured loans, it’s wise to know where you stand.
#2. Know Your Budget
Lenders often approve people for more than they can afford based solely on their debt-to-income ratio. Before taking a loan, you should ensure you can afford the payment by factoring in your rent, grocery bills, and savings contributions.
#3. Compare Lenders and Rates
Shopping lenders lets you compare rates and fees to find one that offers a loan you can afford. Many lenders also allow you to prequalify, so you can see what you may qualify for without impacting your credit score.
>> More: Best Personal Loans
#4. Decide on Collateral
If you’re seeking a secured personal loan, some lenders prefer some types of collateral over others. Knowing what a lender accepts before applying is crucial when shopping around. The asset’s value also determines your borrowing amount, so be prepared for the lender to request an official appraisal.
#4. Submit Your Secured Loan Application
When you’ve arranged your ducks, it’s time to apply to your preferred lender(s). Depending on the lender you choose, this may occur online or in person.
#5. Receive Funding
Next, you’ll receive your funding. Note that this typically takes longer for secured loans than unsecured loans.
#6. Make Monthly Payments
Lastly, it’s time to start making your monthly payments. Falling behind runs the risk of losing your collateral, so you may want to set up autopay (which may come with a rate discount) to keep on top of your payments.
Can You Get a Bad Credit Secured Loan?
It’s typically easier to get a secured loan when you have bad credit, as the lender can seize your collateral if you fall behind. That said, you may still pay a higher APR or receive lower loan amounts than someone with good credit. If you struggle to get any loan, period, you may use a secured credit card or credit-builder loanbefore applying again.
>> More: Best Bad Credit Loans
What Are the Advantages of Secured Loans?
Secured loans carry several advantages over unsecured loans, such as:
- Easier qualification requirements
- Lower interest rates
- Larger loan amounts
- Tax deductions on interest payments for certain types of loans (particularly mortgages)
- Better terms like longer repayment periods
Additionally, like most other types of personal loans, you can use a secured loan to build your credit score.
What Are the Disadvantages of Secured Loans?
Secured loans also come with one particularly nasty downside: you risk losing your collateral if you default on your personal loan. While losing jewelry or heirlooms is unfortunate, losing your house, car, or cash accounts can come with long-lasting financial consequences.
Additionally, even if the lender claims your collateral, your credit score will still take a hit if you default. And while some lenders will work with you during difficult periods, others may adhere to the original loan agreement, potentially forcing you into foreclosure or bankruptcy. Unfortunately, both of those bad marks remain on your credit report for 7-10 years.
Is a Secured Loan a Good Idea?
That depends on you and your financial situation. If you use the funds to finance a large purchase, such as a home or car, secured loans can help you get the item you need without savings for decades. Plus, if you need money and can afford the loan, securing your debt can get you a better interest rate.
That said, if your budget can’t handle the loan or you have past difficulties with credit, a secured loan may not be suitable for you.
Are Secured Loans Safe to Use?
Secured loans are only as safe as the borrower (or the lender). If you can afford your payments, there’s minimal risk and you may pay less than with other loans. But if you struggle with debt or can’t afford your loan, you may put your assets at risk.
What Should You Do If You Default on a Secured Loan?
If you miss a payment on a secured loan, you should contact your lender immediately. Some states offer a “right to cure,” which is essentially a second chance to catch up. Many lenders also work with borrowers who can pay the delinquent balance or a revised payment plan.
If you’re headed toward outright default, it may be time to reprioritize your finances or seek credit counseling. Under no circumstances should you avoid contacting the lender until your loan goes into default. By that stage, any goodwill the lender may have shown has likely run out.
Is Transferring Unsecured Debt to Secured Debt a Good Idea?
That depends entirely on you. While you may get better loan rates and terms with a secured loan, you put your collateral at risk. However, if you’ve never missed a payment and you’ll save tons on interest, it may not be a bad idea.
Bottom Line: What Is a Secured Loan?
Getting a secured loan can put your assets at risk – but it may also elevate your financial position, depending on how you use the funds. (For instance, if you buy a home in an appreciating neighborhood.) But before you apply, it’s important to prepare, plan, and select a lender who will work with you.